(Recasts with decision to stop selling debt; adds comment and detail from controlling stakeholder, background )
By Axel Bugge
LISBON May 29 (Reuters) - Portugal's Espirito Santo Group (ESG) said on Thursday it will stop selling non-financial debt to retail clients at Banco Espirito Santo (BES) after finding "material irregularities" at one of its holding companies.
The unusual statement came after BES, Portugal's largest listed bank, sold debt issued by troubled holding company Espirito Santo International (ESI) through its branch network to clients in the past few years.
The sale and unearthing of financial troubles at ESI prompted BES to warn of "reputational risks" in the prospectus it released last week ahead of a capital increase.
That has resulted in a focus on Portugal's Espirito Santo family, which is one of the country's richest and controls BES and many other assets through a number of complicated holding companies. Members of the family sit on many different boards of the various companies.
Espirito Santo Financial Group, which holds the family's stake in BES, issued Thursday's statement and said it would introduce changes across the group, including eliminating common directors at ESI and other group companies.
It promised "total and final separation of the brands used by each branch of the Espirito Santo Group and refraining from selling to retail clients, directly or indirectly, any debt issued by entities from the non-financial branch of GES."
The statement said a second audit of ESI's accounts has just been concluded, which found an "extremely negative financial situation."
It said the irregularities found affect "the completeness and trustworthiness of its accounting records, consisting notably in omissions in the accounting of liabilities in a relevant amount, overvaluation of assets, non-recognition of provisions for risks."
Among the changes to fix the situation, ESI will start yearly consolidated accounts from 2014 onwards, it said.
ESI is a non-listed company registered in Luxembourg.
ESFG has guaranteed ESI's debt and took on a provision of 700 million euros last year to cover it. It said it was not necessary to take on any further provisions.
"It is also important to note that the second phase of the limited audit has not revealed any facts that would imply a reinforcement of the above mentioned provision of 700 million euros," ESFG said in the statement.
It said that at the end of December 2013 "the indirect exposure of EFSG to ESI," through debt instruments, stood at 6.039 billion euros. (Reporting by Axel Bugge; Editing by Leslie Adler)