The Central Vigilance Commission (CVC) recently came out with a report that analyses the top 100 bank frauds in 13 sectors. Bank frauds have been in public focus of late because of the cases involving Vijay Mallya, Nirav Modi, and other leading businessmen who have gone fugitive. The CVC report, however, does not name any individual or company involved in the cases it has analysed. The analysis deals only with frauds on public sector banks. The report has been given to the RBI, which has acknowledged it as useful and circulated it among public sector banks. A look at the CVC’s findings on frauds involving some of the 13 sectors covered, which include gems & jewellery, aviation, and media:
Gems & jewellery
The CVC analyses three cases of fraud in this sector, committed after taking bank loans. About the nature of the fraud, it says: “The companies deliberately inflated the valuation of diamonds with the mala fide intention to avail higher credit facilities from the lenders and also to indicate the security coverage available with the lenders. Export bills which remained unpaid on due date were purchased by the consortium Banks. The details of debtors submitted by the companies to the bank in order to avail credit facilities appeared to be manipulated, false and fabricated. They also resorted to availing post-shipment finance by discounting ‘Export Bills’ from one of the member banks, while pre-shipment finance was obtained from another member bank by way of Standby Letter of Credit (SBLC), leading to double financing.”
About lapses on the part of the bank, it says, “Due diligence report on borrowers were not obtained before submitting the renewal proposal. No credit assessment was done for these customers. There was no evidence for proof of delivery of the goods to customers… In the absence of any effective mechanism to monitor the movement of discounted Export bill proceeds towards liquidation of SBLCs across member banks, the companies manipulatively diverted and round tripped the funds to their shell companies.”
The report says that the lead bank in the lending consortium did not share the areas of concern, and did not take note of warning signals mentioned in business rating reports.
The report examines one company, which began commercial operations in May 2005 and was a leading company with a 21% market share in domestic operations. The company was promoted by another group which had a presence in several countries. According to the CVC report, the company cheated the lending bank by suppressing facts in financial statements and diverting the funds to related entities for purposes other than those for which financing was done. The company ran its operations mostly on leased aircraft for which an overseas entity (vendor) was created, which in turn created fictitious invoices with inflated bills, the report says. Whatever money the company owed to the leasing company would be disbursed, and the rest parked with the entity. This transaction was done through proper banking channels. However, the vendor submitted invoices and created intermediaries which had nothing to do with the leasing of aircraft, the report says.
The report notes that the company’s balance sheet was never strong and its credit rating was lower than required for sanctioning loans. All banks under the consortium financed the company on the basis of “brand capitalisation”. Valuation was done through a private company, which was much higher than the valuation by other valuers. The CVC says the practice of granting a loan based on the basis of a brand name, which does not form any tangible security for the purpose of recovery, should not be continued. The past track record of the borrower, or the length of his satisfactory association with the bank, should be among the considerations, it says.
The report goes into bank fraud cases involving five manufacturing companies — in pharmacy, textile, ferrous metals, pharmaceutical products, and various ranges of steel products. These cases were clubbed together. The firms availed credit facilities in the form of working capital from banks under a consortium arrangement led by one of the banks.
According to the report, one of the companies exported goods against shipping bills and discounted export bills. Since the bills were long outstanding, the lead bank requested the commissioner of customs duty to verify these. The commissioner’s report stated that only a small number of the bills were genuine and the rest forged.
Another company made purchases of fancy shirting, but a review of invoices and stock records showed that the invoices did not define any code, grade or make, the report says. It was unable to confirm physical movement of fancy shirting material. In case of another company, there was no actual purchase or movement of stocks as depicted in the company’s books of accounts and financial statements.
Yet another firm was engaged in import of pharmaceutical products and chemicals from Singapore and exporting these to Hong Kong and Singapore, with a branch office at Dubai. The exporting company was owned by the same proprietor as the supplier company. The report says that the company was sending computers and peripherals to its branch office at Dubai by way of branch transfers. It says the export and import documents submitted to the bank, purported to be relating to pharmaceutical and allied products, were falsified.
The report says the banks should have conducted due diligence of major debtors by direct visits, direct balance confirmation, engaging agencies and comparing the realisation of receivables as per stock with routing of funds through lending banks to ascertain diversion through non-lending banks.
Cases of fraud involving three companies were analysed; these were engaged in processing basmati rice, manufacturing sandalwood oil and producing castor oil. They availed credit facilities from banks under a consortium arrangement led by one of the banks. The report found that one of the companies gave advances to three vendors without any purchase transactions, and these vendors used the advances for investing in the shares of another company. The report also found that sales had been made to debtors throughout the year without any amount having been realised from them.
Another company obtained drawing powers in their account against debts outstanding in their books, the majority of which were found to be nonexistent and based on fake invoices and debtors. In another case, a firm initiated an alternate procurement model whereby pre-harvest loans were extended to farmers. The report says this led to embezzlement of funds.
Pointing to round-tripping of funds, the report says investigation should be done to find out the trail of diversion so as to find as to where the money has gone and whether any money has been parked abroad.
Two cases in this sector were analysed. Projects were financed by banks under a consortium led by one of the banks. One media company also availed other credit facilities from various banks. As per the CVC report, the funds disbursed were transferred from no lien account to various suppliers and group accounts by way of demand drafts or RTGS. These funds were again transferred to other companies, which were connected to the accounts of the borrowing companies. Further, there was a huge difference in the cost of equipment as per investigation reports, and the invoices submitted by the party — the report says the company submitted inflated invoices. One media company had submitted a certificate from a chartered accountant regarding infusion of capital; the CA later denied in writing having issued the certificate.
The CVC examined cases of fraud involving three companies engaged in providing corporate logistic services, industrial and engineering projects, plants & machinery, equipment etc under lease agreements. The companies availed working capital from a consortium of banks. One company got a loan for 2,804 vehicles for the company and its employees and drivers on the basis of false assurances and forged vehicle registration documents, the CVC report says. Loans availed for new trucks, too, were diverted and the trucks never purchased. In most instances, even registration documents were not submitted to the bank; in other instances, old vehicles were passed off as new.
“The facts of the case reveal that the fraud occurred due to dishonesty on the part of company who got the limit sanctioned by misrepresenting & concealment of facts coupled with lapses in pre-sanction appraisal and post sanction follow up,” the report says.
For improvement, the CVC says, “Genuineness of quotations should be verified through visits and direct contact with dealers. In case of vehicle loans visit to the dealer must be performed to check genuineness of dealership.”
The other sectors examined were discounting of cheques, trading, information technology, export business, fixed deposit, demand loan, and letter of comfort.