A Classic Problem

It is the classic bailout for the Rs 315 crore ITC Classic Finance. Steeped in yet undisclosed losses and non-performing assets (NPA), the pumping of Rs 200 crore by parent ITC Ltd is only the beginning.

For ITC and its associate, the relationship has hit a new low. From a stage where financial services was consciously developed by ITC which has a 49 per cent stake in Classic as one of the key strengths, in line with major UK shareholder BATs worldwide activities, today ITC has no qualms about admitting it was a mistake. It has made it clear that it does not know the business of finance and therefore has no business running a company like Classic.

In the heady days when Classic was still very much the apple of ITCs eye, the relationship was further strengthened by adding the ITC prefix to the Classic name, which added greater brand equity to the company. Today, that prefix has become an embarrassment, forcing depositors and the public to ask uncomfortable questions about why ITC wants to shoulder the woes of Classic.

Much of these questions have their answers in the change which has taken place at ITC itself. In the earlier days, when Feroze Rustom Vevaina was the chairman of Classic, financial services were crucial to ITC and were being monitored from within the companys Financial Services Division (FSD). Vevaina, widely believed to be a BAT favourite, ensured that the UK shareholder was comfortable with the business of finance which ITC was in. Also undertaken were various investments, some of which are proving to be major problems.

Classics performance started showing signs of wear and tear from 1995-96 onwards, when its profit after tax fell from Rs 44.5 crore in 1994-95 to Rs 31.3 crore in 1995-96. In its directors report, the company cited adverse market conditions as the reasons why profits had declined. A change in market conditions, with a severe liquidity crunch and a depressed capital market, took their toll on Classic. High interest rates on borrowings also hit the company.

While bad deals were piling up on the leasing and hire purchase front, the stock markets also did not allow any room for the company to wriggle out of its troubles. Consequently, it was also left holding some stocks, notable among them a large chunk of Jaiprakash Industries purchased at Rs 54 crore, which quickly eroded in value. By the end of 1996, the company had wiped out most of its profits, and the first half of 1996-97 saw it register a paltry Rs 52 lakh profit, down from Rs 19 crore in the corresponding period of the previous fiscal.

Together with this, the problems faced by ITC Ltd on the Foreign Exchange Regulation Act (Fera) front in 1996 also took their toll on Classic, which promptly saw depositors queuing up to withdraw their money in panic. Classic managed to service the depositors and paid out over Rs 80 crore in the process. Deposits, consequently, dwindled from Rs 750 crore in 1995-96 to Rs 660 crore at present.

Says Ajit Day, a veteran Calcutta stockbroker and National Stock Exchange member, The ITC Classic problem is a pure case of overambitious exposure landing the company in trouble. It will be difficult for ITC to retrieve the company from this mess.

Day and other Classic-watchers point out that the investments in stocks and real estate, which Classic ventured into aggressively, landed it in big trouble. Coupled with that were the investments it made in group company shares, which are now being bought back by ITC as part of an effort to bail out Classic.

Financial experts have also blamed Classic for failing to put in place a stop-loss system. But a top Classic executive argues that the company did, in fact, sell whenever there was an opportunity. Had we not sold when we could, the problem would have been beyond repair, he says.

According to one estimate, Classic has NPAs anywhere upto Rs 300-400 crore, but no one is confirming the figure. NPAs are arrived at after taking a view together with the auditors. So it is not possible to quantify them at this stage, sources in Classic say. Besides, the manner in which provisioning is made could even reduce the losses substantially for the company, otherwise estimated at around Rs 100 crore for 1996-97. But Day feels only a dramatic turnaround in the stockmarkets could get Classic out of the mess. In fact, certain counters like Jaiprakash are depressed even now because the market fears Classic may offload its holdings, he says.

For ITC, the decision was now clear. It had to get out of financial services and, therefore, ITC Classic. BAT, which was sounded out, made it clear it was not interested in buying out ITCs 49 per cent in Classic, since leasing and hire purchase was not in sync with its financial services activities. BAT associate, Threadneedle, and ITC Classic have a joint venture mutual fund company. But the only financial services businesses the UK major was interested in were insurance and asset management.

ITC Classic was then offered to G E Capital which, after conducting a due diligence exercise, decided Classic was too much of a problem to have on hand. Back to square one, the only option before ITC was to look for a turnaround plan before identifying a strategic partner. Consequently, financial expert and former Bank of Baroda chairman A C Shah, who also figured on the Classic board, was commissioned to prepare a turnaround plan which was also placed before the ITC board.

But ITC had a problem. Having decided to move out of financial services, it could no longer afford to pump in large sums in reviving Classic on its own. Besides, the financial institutions, who hold shares in ITC, were not too comfortable with a situation where ITC would pump in money without knowing too much about the future of the company. ITCs chairman Y C Deveshwar was also candid in admitting that having a 49 per cent stake in the company, it had to respect the concept of limited liability. Which meant ITC could not go beyond what it could legally do for Classic.

Says a senior official at a leading financial institution, As shareholders in ITC, institutions would have to be comfortable that ITCs investments in reviving Classic would pay off. Otherwise, no shareholder can commit large funds. Therefore, a partner who would eventually run the company, is essential.

But even while the bailout was being debated and finetuned, ITC began to acquire certain assets and group company stocks held by Classic, among them ITC Bhadrachalam Paperboards. In all, ITC has already pumped in about Rs 60 crore into Classic during 1996-97, by buying out some of its holdings and real estate.

However, this was clearly not enough and there was still no sign of a partner. For Classics management team, the signs were ominous. With no partner in sight, ITC had also begun making it clear that Classic was a trade investment and not a subsidiary, since the holding was restricted to 49 per cent.

The June 15 board decision to pump in another Rs 200 crore to buy out the real estate, therefore, came as a major blessing for Classic. Besides, it was also clear that ITC would hold on to the company till a strategic partner was identified.

Why did ITC stick with Classic? Says an ITC board member, As a good shareholder, ITC decided to help out Classic for some more time. Hence the infusion, which is clearly through purchase of assets. Another reason: ITC has Rs 123 crore invested in Classics equity.

The ITC decision, however, was bad news for the stockmarkets, which saw the ITC stock drop sharply the very next day, since the markets do not feel Classic can pull it off. ITC-watchers also point out that once ITC buys out the real estate assets of Classic and all the group company stocks, there would be little left in Classic except for problematic leasing deals. Therefore, finding the strategic partner who would ultimately take over the company would be difficult, feels a section of the financial market.

For Classic, therefore, the ITC decision is merely a helping hand to get its act back together. No one, not even ITC board members, believe the tobacco major would hold Classics hand forever, which means Classic will quickly have to learn to fend for itself. Recovery of the NPAs, hence, is a key element to the revival. As is the ability to rid itself of the stocks which it is left holding.

On both fronts, Classic is said to be making major efforts. But in the interest of its own survival, the best investment Classic can now make is, perhaps, in a crystal ball.

OPTIONS AND THE FUTURE

Invest Rs 200 crore into Classic by buying out real estate assets

Back the company till a strategic partner is located

Implement the turnaround plan to improve recoveries and reduce NPAs

Gradually hand over the reins to the strategic partner

Get out of financial services