On the morning of 14th February 2018, PNB informed the stock exchange that it has detected “fraudulent and unauthorized transactions” worth Rs. 11,400 crores. The news shook the entire financial community and the entire nation at large. On further investigation during the day, it was further found that the entire fraud was carried out by Nirav Modi’s diamond companies with the help of a few insiders of the PNB at the Brady House Branch in Mumbai. Further, the shares of the bank fell by nearly 9.81 percent as the day ended. The impact was not only limited to PNB, but the shares of all the state-owned banks fell and this continued for days after. PNB lost around 28% on shares in that week and Sensex lost 1.33%.
Who is Nirav Modi and Co
Born in Antwerp, Belgium and with his family being in diamond business since generations, Nirav Modi moved to Mumbai when he was 19 to carry forward the legacy of his family. He worked with his uncle, Mehul Choksi, in the initial years in his business. He studied at Wharton but did not complete his studies.
Nirav was interested in art and design since a young age by visiting various museums in Europe. After moving to India, he took training in all aspects of the diamond trading business from his uncle. He founded Firestar (Formerly known as Firestone), a diamond sourcing and trading company in 1999 which became the exclusive distributor of Rio Tinto’s Argyle pink diamonds in India. In 2005, he acquired Frederick Goldman and then Sandberg & Sikorski and A.Jaffe in 2007 in the USA.
Nirav Modi first rose to fame when he got featured on the cover of a Christie’s auction catalogue in 2010 for a Golconda diamond necklace that fetched $3.56 million at its Hong Kong auction. He was the first Indian to be featured on the catalogue. In 2014, Modi opened his first outlet in defense colony in Delhi and then in Mumbai in 2015. Nirav Modi holds a chain of Nirav Modi Boutique shops which, apart from India, currently has three stores in Hong Kong and one in New York.
How did they manage to pull the scam for 7 years?
PNB realized the scam when executives from Modi came calling for a Letter of Understanding. The new officer in charge of the transaction asked for collateral that was mandatory. The executives said that they had never been asked for the same, this raised a red flag in the officer’s mind. He initiated an internal investigation that revealed that PNB had issued hundreds of LoUs to Nirav Modi and his uncle Mehul Choksi without any collateral bringing the scam upfront that was going undetected for past seven years.
CBI had registered a case on Nirav Modi on February 1, 2018, against unauthorized transactions worth Rs. 280 crores but later found it to be just a tip of the iceberg. In an internally carried investigation, PNB found two of its junior branch officials named Gokulnath Shetty, the deputy manager in the foreign exchange department and Manoj Kharat, operator of the financial messaging system called SWIFT. Both were arrested by CBI.
LoUs, as mentioned in a statement by PNB, were given without any proper approvals and entries were not made into the CBS (Core Banking System) of the bank. CBS also works as a record keeper for the bank and keeps account of the most common transactions of the bank. This was the primary reason that the scam happening via SWIFT went undetected and checks failed at various levels. When an importer goes to a bank for such a guarantee, the bank either asks him for a collateral or the bank sanctions a credit limit after a credit appraisal. In case of Nirav Modi and Co., neither of these procedures were followed. The bank also alleges Modi of not using the funds in an appropriate manner for appropriate proposes, they claim that the funds were used to settle earlier loans taken by Modi instead of paying for the import bills.
Instead, it was further found that all the transactions were done to settle such loans only, means whenever Modi-related firms asked for a bank guarantee, it was just to settle a loan taken through a previous bank guarantee. CBI went to Interpol to issue a diffusion notice; a diffusion notice is a request to locate or arrest an individual or to provide additional details on the case. The notice was against Nirav Modi, Ami Modi (his wife), Nishal Modi (his brother) and Uncle Mehul Choksi. All four of them left India in January this year. The Ministry of External Affairs also suspended the passports of Modi and Choksi for four weeks.
Modi’s Statement & Future ahead for PNB
In a letter, Nirav Modi blamed PNB’s “overzealousness” and said that the premature actions taken by the bank have shut all the doors on his ability to pay the dues. According to Modi, his relatives that have been mentioned in the list has nothing to do with the firms under the scanner and his companies owe only Rs. 5000 crores on which there have been no defaults till date.
The Enforcement Directorate, which comes under Ministry of Finance, have seized around Rs. 5300 crore worth assets of Nirav Modi from 35 different locations across the country. The CBI till now has arrested 12 people involved in this case. CBI arrested the president (finance) of Nirav Modi’s Firestar Diamond Vipul Ambani.
The Central Bank announced a panel under the chairmanship of Y H Malegam, a former member of the central board of directors of RBI. To study rising cases of fraud and set out a blueprint to curb them. The ministry of corporate affairs has also directed the Serious Fraud Investigation Officer (SFIO) to investigate the issue and report in next 6 months. The Central Vigilance Commission has issued a guidance note to all PSU lender to transfer senior officers after every 3 years and clerical staff at the same post to transfer in 5 years. ICAI has set up a panel to check if there were any audit lapses.
For PNB, the path is not so simple. Putting the case simply, 30 banks around the world gave money to Modi and related entities against PNB LoUs. Since these funds were issued against PNB guarantees, the lender has to pay the money lost by these banks in the issue.
PNB has promised to honor its commitments but has also blamed banks over the issue of not checking the LoUs properly. PNB says that the LoUs were issued for one year period which is much higher than the RBI guidelines of 90 days for the diamond industry.
The central bank’s report suggests that financial frauds have risen by around 72% amounting to a sum of Rs. 16770 crores in 2017 in last 5 years. Banks has filed suits against willful defaulters amounting to Rs. 64743 crores. The last such recorded fraud was by UCO bank that amounts to $3.2 billion.
The case remains undecided and the investigations would reveal more loopholes in the banking system as it goes further.