Will Zenith Infotech be wound up due to FCCB defaults?

In a case similar to Wockhardt, creditors of Zenith Infotech filed a winding up petition in the Bombay High Court due to defaults in payment of about Rs450 crore

They represent the Gen Next at India Inc and can be found talking about corporate governance and transparency at various forums. Unfortunately, one of them has been found to doing exactly opposite and has not been paying dues to its creditors so much so that this may shut down the company.

Creditors, including hedge funds, are waiting for a Bombay High Court judgement to wind up Zenith Infotech, a business continuity and cloud computing services provider from the Raj Saraf group. The case is scheduled for hearing on Wednesday (21 March 2012), where Zenith Infotech is expected to file its reply.

In 2006, Zenith Infotech, run by Akash Saraf as managing director and chief executive, issued foreign currency convertible bonds (FCCBs) worth $33 million at a conversion price of Rs310 per share due in September 2011. Next year, the company again issued FCCBs worth $50 million at a conversion price of Rs522 per share and due to mature in August 2012. The first tranche of $33 million came up for repayment as Zenith's share price at that time was below the conversion price on the maturity date.

However, in a regulatory filing, the company admitted that it has defaulted on its $33 million FCCB and was in negotiations with the bondholders to extend time for repayment. Since there was a default in payment of the first tranche, it triggered a cross default provision under which the second tranche also was considered defaulted. This made the total defaults of around $83 million.

According to the creditors, Zenith Infotech owes them more than $90 million or about Rs450 crore. "We tried contacting both, Akash and Raj Saraf but could not get any satisfactory answers from them. In fact, we found out that at the time of the maturity of first tranche, the company had shown Rs150 crore as cash in its balance sheet," said one representative of the creditors, who did not want to be identified.

He said, “Despite having the cash, Zenith Infotech has not paid our dues at that time. Later on 26 September 2011, it decided to sell one of its two divisions, called managed services division (MSD) through a newly incorporated vehicle Zenith RMM LLC in Delaware to US-based private equity fund Summit Partners via an asset purchase agreement."

Surprisingly, on 5 January 2011 Zenith Infotech informed the BSE that it would call an extra ordinary general meeting (EGM) on 29 January 2011. The notice dated 27 December 2011, said it would borrow Rs1,500 crore from the domestic markets and or through external commercial borrowings (ECB). The notice also said, "To sell and / or lease the business and/or divisions including the subsidiaries (wholly and part) of the company and for that purpose to issue debt securities/ bonds etc in the domestic or international markets as permitted by law so as to redeem /re-pay the outstanding foreign currency convertible bonds which would come for re-payment/redemption in August 2011 and August 2012."

Subsequently, in September 2011, after the default, the company sold its division for an undisclosed sum. "When we contacted Akash and asked about the deal value, he told us a very small amount contrary to the valuation and earnings of the MSD business. We then approached the high court, which directed both Zenith and Summit Partners to disclose details," the creditors said.

Following the court orders, it was discovered that Zenith received $54 million or about Rs250 crore in cash for selling 85% of its MSD business and would also retain 15% ownership in Zenith RMM with Summit Partners holding the rest.

According to the representative of the creditors, they were shocked when they come to know that Zenith Infotech, despite owing the business, received only half of the payment. He said, "Shockingly, it was revealed that Zenith UAE received about $27 million and Zenith Infotech received $21 million with a provision for $6 million to be placed in an escrow account and be paid over two years, even though the business was held by Zenith Infotech. The company claimed that Zenith UAE held some very critical software component but when asked by the court to show the valuation on what basis Zenith UAE received 50% of the proceeds, both Zenith and Summit Partners failed to provide an answer."

Zenith UAE, which received $27 million or about Rs133 crore from the deal is a very small entity. For the year to end-March 2011, its sales were just $100,000 or around Rs50 lakh. "It is believed that Zenith Infotech took half the payment in UAE to save itself from paying taxes in India and for not repaying the FCCB bondholders. Furthermore, Zenith UAE has been allotted 14% shares in Zenith RMM and therefore all economic benefits in relation to those shares will vest with Zenith Infotech UAE depriving creditors the benefits accruing on the shares," the representative said.

In an affidavit filed before the court, Zenith also revealed that it transferred about $15 million from the proceeds to Vu Technologies, a company run by Devita Saraf, the daughter of Raj Saraf and sister of Akash Saraf. However, till date Zenith failed to explain what happened to the Rs150 crore it showed on its balance sheet and why it did not cleared its dues or repaid money to FCCB holders.

"Interestingly in spite of the Rs150 crore ($ 30 million) plus cash reserves and the new money received by the sale of the MSD business amounting to Rs250 crore (or $51 million), Zenith has not cleared any of its dues to its FCCB holders, especially given that the FCCB holders are the only creditors to this company," he added.

The FCCB holders, anticipating that Zenith might siphon off its other profit making division, the cloud computing business, filed a petition in the high court. The court in an order dated 14th February, restrained Zenith, from selling or transferring its cloud computing business to anyone. According to Ernst & Young (E&Y), the court appointed valuer, the cloud computing business is worth over Rs598 crore.

"The company had shown money in its balance sheets only to back-track in the court saying that it was an error. Zenith's both division are earning good revenues and yet we found that the promoters are unwilling to pay our dues that too when we are the only creditors of the company. This is not a question of corporate governance but a malafide intention of not paying dues," said the representative.

He said due to this kind of behaviour from a well-known and reputed corporate like Raj Saraf, several creditors from overseas are looking to countries other than India. He said, several of bondholders are busy scouting places like Indonesia for lending money rather than India.
Officials from Zenith Infotech, including Raj Saraf and Akash Saraf, were not immediately available for comments. An email sent to the company's press relations in-charge bounced.  

In a similar case last year, the Bombay High Court asked Wockhardt to clear its foreign currency convertible bonds (FCCBs) dues by 31 August 2012. The court asked Wockhardt to pay Rs3.15 billion to the FCCB bondholders, including the US hedge fund QVT Financial LP and Sun Pharma Global Inc. Wockhardt owed Rs4.21 billion, including interest and redemption premium to FCCB holders.

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