How Nirav Modi pulled off the great Indian bank robbery

Mumbai: On the morning of St. Valentine’s Day when many young Indians were preparing to exchange roses and presents, a horror was unfolding at Punjab National Bank (PNB), the nation’s second largest lender.

Three minutes after 9 am on 14 February, when the local stock markets opened for trading, the government-owned lender informed the stock exchanges that it had detected a fraud of $1.8 billion (around Rs11,400 crore), shaking the financial community and the nation at large. As the day progressed, it became clear that the PNB fraud was engineered by companies of diamond tycoon Nirav Modi, helped along by bank officials at its Brady House branch in Mumbai, the country’s financial capital.

Punjab National Bank’s Brady House branch in South Mumbai, the epicentre of the $1.8 billion PNB fraud, now bears the look of a makeshift jail, with shutters down and the branch sealed. Photo: Abhijit Bhatlekar/Mint

Punjab National Bank’s Brady House branch in South Mumbai, the epicentre of the $1.8 billion PNB fraud, now bears the look of a makeshift jail, with shutters down and the branch sealed. Photo: Abhijit Bhatlekar/Mint

At BSE, Asia’s oldest stock exchange located a stone’s throw away from Brady House, shares of the bank fell 9.81% by the end of the day, dragging down shares of other state-owned banks as well. In the week since then, PNB shares have lost 28%, while the BSE’s benchmark Sensex has slipped 1.33%. For Indian banks creaking under a mountain of bad loans, the news could not have come at a worse time.

Modus operandi

According to the bank’s complaint, the PNB fraud surfaced after one of the key accused bank officials retired. When Modi’s executives came calling for a letter of undertaking, or LoU (essentially a bank guarantee against which another lender gives a foreign currency loan), the new official in charge demanded the mandatory collateral. Modi’s executives insisted they had never given collateral before, raising a red flag. An internal investigation showed the bank had issued hundreds of unauthorized PNB LoUs to Modi and his uncle, Mehul Choksi of Gitanjali Gems Ltd, baring the bank fraud that proceeded undetected for the past seven years.

“Nobody seems to be talking about what precisely needs to be done. This is important because the scam clearly shows that supervisory process at public sector banks failed to detect the fraud and, hence, it needs to be improved,” said Abizer Diwanji, partner and national leader (financial services) at EY India.

The scam clearly shows that supervisory process at public sector banks failed to detect the fraud and, hence, it needs to be improved– Abizer Diwanji, partner and national leader (financial services) at EY India

On Monday, 19 February, when a MintAsia reporter visited the Brady House branch, the branch that was at the epicentre of the PNB fraud, bore the look of a makeshift jail, with shutters down and the branch sealed. The Brady House branch that exclusively serves mid-sized corporates barred entry to customers, while  inside, officials from the Central Bureau of Investigation (CBI), India’s federal detective agency, pored over papers and questioned bank officials.

Financial frauds are not rare in India. The central bank’s June 2017 Financial Stability Report says losses from financial sector frauds rose 72% in the five years to fiscal 2017 to Rs16,770 crore. Banks have filed recovery suits worth Rs64,743 crore against wilful defaulters. Wilful defaulters are those defaulting on bank loans even though they or their promoters have the ability to repay, or they have siphoned off money, or put it some other use than was agreed on.

Still, PNB’s innocuously worded stock exchange notice stunned the nation. The bank fraud is the second largest in India after government-owned UCO Bank was found to have advanced $3.2 billion in export advances to Iran against overseas sales that were never made. The PNB fraud showed the ease with which fraudsters could game the system.

The PNB fraud is the second largest in India after UCO Bank was found to have advanced $3.2 billion in export advances to Iran against overseas sales that were never made

The PNB notice to the stock exchanges, without naming anyone, said it had detected fraudulent and unauthorized transactions “for the benefit of a few select account holders, with their apparent connivance”. The bank termed it a contingent liability.

Things became clearer during the day, when it emerged that the fraud the bank was referring to was the same one it had flagged two weeks earlier.

On 1 February, CBI had registered a case against Modi and some related entities for allegedly cheating PNB of Rs 280 crore through unauthorized transactions. The bank had said at that time that it was investigating further to see whether there were more such transactions. The Rs280 crore turned out to be just the tip of an iceberg.

As it investigated the case internally, before the public revelation, PNB found two junior branch officials had issued LoUs to foreign branches of Indian lenders, on behalf of firms associated with Nirav Modi and his uncle, Mehul Choksi. These bank guarantees were essentially to help these firms raise buyer’s credit from these overseas banks to pay for their imports.

Gitanjali Gems promoter Mehul Choksi, uncle to Nirav Modi, is a co-accused in the PNB fraud case. Photo: Priyanka Parashar/Mint

Gitanjali Gems promoter Mehul Choksi, uncle to Nirav Modi, is a co-accused in the PNB fraud case. Photo: Priyanka Parashar/Mint

PNB’s complaint to CBI named two bank officials—Gokulnath Shetty, a deputy manager in its foreign exchange department; and Manoj Kharat, who operated the financial messaging system SWIFT. Both have since been arrested. These individuals, says PNB, had issued LoUs without getting proper approvals and without making entries in the core banking system (CBS), the software used to support a bank’s most common transactions. It also acts as a record keeper. SWIFT stands for the Society for Worldwide Interbank Financial Telecommunication. The scam happening via SWIFT went undetected since it was not linked to CBS and because checks failed at several levels, said experts

In the normal course, when an importer goes to a bank for such a guarantee, one of two things happens. One, the bank asks him for collateral, which could be land or a fixed deposit. Two, the bank sanctions a credit limit after a credit appraisal. Here, neither of these procedures were followed.

The bank claimed Modi did not use the funds obtained through this method for the intended purpose of paying import bills. In many cases, PNB alleged, the funds were used to settle earlier loans. In effect, every time a Modi-related firm asked for a bank guarantee, it was to settle an older loan taken through a previous bank guarantee. According to the PNB complaint, the scam had been going on for about seven years. When the new man at the bank spotted it, the amount had ballooned to around Rs11,400 crore.

Gokulnath Shetty (centre), between 2011 and early 2017, issued authorized PNB LoUs to Nirav Modi firms without making any entries in the bank’s books or its core banking system. Photo: AFP

Gokulnath Shetty (centre), between 2011 and early 2017, issued authorized PNB LoUs to Nirav Modi firms without making any entries in the bank’s books or its core banking system. Photo: AFP

“There is tendency among bankers to only monitor and supervise funded exposures. Processes related to transfers must also be made more transparent, and banks must have a grip on technology controls,” said Diwanji of EY India.

“Additionally, certain disciplines such as centralized processing of SWIFT messages only through CBS, must be put in place. Unless these changes take place, it is difficult to prevent such incidences.”

As federal investigative agencies stepped in and skeletons started tumbling out of the cupboard, it emerged that Modi and his family were no longer in India.

The CBI approached Interpol to issue a so-called diffusion notice against Modi, his wife Ami Nirav Modi, brother Nishal Modi as well as uncle Choksi, all four of whom had left India in the first week of January. A diffusion notice is a request for arresting or locating an individual, or providing additional information in relation to a police investigation. Separately, the ministry of external affairs suspended the passports of Modi and Choksi for four weeks.

A Congress supporter during a protest against the NIrav Modi-engineered PNB fraud, Mumbai on 17 February. Photo: Chandan Khanna/Mint

A Congress supporter during a protest against the NIrav Modi-engineered PNB fraud, Mumbai on 17 February. Photo: Chandan Khanna/Mint

The PNB fraud has snowballed into a political controversy, with the opposition Congress party, which led a coalition government for 10 years until 2014, and the Bharatiya Janata Party (BJP), which came to power that year on promises of ending corruption, trading charges. The Congress claims the actual size of the PNB fraud is Rs21,306 crore, and has turned up the heat on the prime minister and his government for Modi’s escape.

But just who is Nirav Modi, the man at the centre of the scam?

The man

Modi, 47, shot to prominence in the past decade when he became the first Indian to feature on the cover of a Christie’s auction catalogue in 2010 for a Golconda diamond necklace that fetched $3.56 million at its auction in Hong Kong.

Born in India and raised in the Belgian city of Antwerp, the diamond capital of the world, Modi is a third-generation diamantaire. After dropping out of the University of Pennsylvania’s Wharton School, he joined the family business of his maternal uncle Choksi at Gitanjali Gems. Choksi, director at Gitanjali Gems, is also one of the accused in the ongoing CBI investigation. It was his initial nine years at Gitanjali Gems in the 1990s that laid the foundation for Modi’s own jewellery business. Incidentally, a PNB complaint said the Gitanjali Gems group companies used the same methods as the Modi companies to secure guarantees or comfort letters.

Since 2010, Nirav Modi’s fame only increased as he became a jeweller to the rich and famous. Many of India’s biggest business families have been buying diamonds from him for years. Photo:

Since 2010, Nirav Modi’s fame only increased as he became a jeweller to the rich and famous. Many of India’s biggest business families have been buying diamonds from him for years. Photo:

Since 2010, Modi’s fame only increased as he became a jeweller to the rich and famous. Many of India’s biggest business families have been buying diamonds from him for years.

In October 2012, his Riviere Diamond Necklace was sold for $5.1 million at a Sotheby’s auction in Hong Kong. In 2013, Modi entered the Forbes list of billionaires. Competing with the likes of pedigreed luxury jewellers such as Tiffany and Co. and Cartier, Modi went on to set up Nirav Modi boutique shops around the  world. His clients include Hollywood star Kate Winslet, who wore diamond creations by the jewellery designer for her red-carpet walk at the 2016 Oscars.

All the shine and glitter had a grimy side, too. Since 2014, a year after his debut in the Forbes billionaire list, Modi has been under the scanner of law enforcement agencies—the Central Bureau of Investigation (CBI) and Enforcement Directorate (ED)—as well as the income tax department for alleged illegal transactions and frauds. In 2014, the Directorate of Revenue Intelligence (DRI) investigated him for alleged diversion of imported, duty-free, cut and polished diamonds and pearls to the domestic market. The DRI called it a violation of import-export norms. Modi settled with the agency by paying dues, penalty and interest.

Mails sent to Modi’s spokesperson have bounced. However, since the PNB fraud broke out, the businessman has twice written to banks. On 13 February, he had written to banks offering to repay all his dues by selling his flagship company Firestar Diamond, which is valued at Rs6,435 crore, in the next three-to-six months, said the chief executive of a state-owned bank on condition of anonymity.

Nirav Modi’s clients include Hollywood star Kate Winslet, who wore diamond creations by the jewellery designer for her red-carpet walk at the 2016 Oscars. Photo: Steve Granitz/WireImage

Nirav Modi’s clients include Hollywood star Kate Winslet, who wore diamond creations by the jewellery designer for her red-carpet walk at the 2016 Oscars. Photo: Steve Granitz/WireImage

What Modi says

On the night of 19 February, when CBI officials were still holed up at the Brady House branch, a WhatsApp message started doing the rounds. It was a letter purportedly written by Modi to PNB. MintAsia could not verify the authenticity of the letter, but a person familiar with Modi’s legal strategy said it could be genuine.

In the letter, Modi blamed PNB’s “overzealousness”. He said the bank’s premature action has shut the doors on his ability to clear his dues. He said his companies owe only about Rs5,000 crore and his relatives named in the complaint had nothing to do with the operations of the firms under the scanner. He also emphasized that there had been no default on part of any of these firms over all these years. The letter also refers to the extended discussions between him, and between his representatives and the bank officers, besides his emails of 13 and 15 February, according to a Press Trust of India report.

On its part, PNB had said in response to Modi’s first letter, that he had made only vague commitments on repayment. While Modi’s commitment may have been vague, investigative agencies have claimed to have seized a good portion of his assets.

Search and seizure

As the scale of the PNB fraud became evident, a plethora of government agencies, regulators and self-regulatory agencies swung into action.

The Enforcement Directorate (ED), which comes under India’s finance ministry, has searched at least 35 locations across the country and claimed to have seized Modi’s assets—gems and jewellery stocks—worth at least Rs5,300 crore. A senior ED official said on condition of anonymity that the agency was “trying to establish whether there was any case of breach in policy and regulatory lapses”.

Enforcement Directorate (ED) personnel conducted raids at jewellery shops in Viviana Mall in relation to the Nirav Modi scam, in Thane on 19 February 2018. Photo: PTI

Enforcement Directorate (ED) personnel conducted raids at jewellery shops in Viviana Mall in relation to the Nirav Modi scam, in Thane on 19 February 2018. Photo: PTI

“We are still to arrive at a conclusion whether senior officials of the bank were involved in the scam or not. The first letters of undertaking (LoUs) were issued in March 2011 and were then rolled over from 2011 to 2017. We will soon move the PMLA court in Mumbai (a court set up under the Prevention of Money Laundering Act) for attachment of the seized assets,” the senior ED official added.

So far, CBI has arrested 12 people across PNB, the Nirav Modi group as well as Gitanjali gems, including Shetty, the former deputy manager at PNB; Kharat, the single-window operator at the branch; Hemant Bhat, the authorized signatory of the Nirav Modi group; Bechu Tiwari, chief manager in charge of the forex department; Yashwant Joshi, a manager in the same department; and officer Praful Sawant.

In a high-profile arrest, CBI on Tuesday arrested Vipul Ambani, the president (finance) of Nirav Modi’s Firestar Diamond.

The finance ministry has sought the Reserve Bank of India’s (RBI’s) response on the PNB fraud, two ministry officials said, requesting anonymity. The ministry, particularly the department of financial services (DFS), has asked RBI whether there are systemic concerns in the banking system,” said one of the two ministry officials.

On Tuesday, the central bank announced the setting up of the 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 bank frauds and set out a blueprint to curb them.

The ministry of corporate affairs has also directed the Serious Fraud Investigation Office (SFIO) to look into the issue and report in six months. The Central Vigilance Commission has summoned senior PNB officials to question them on alleged vigilance lapses. It has also issued a guidance note to all PSU lenders, asking them to transfer senior officers who have been in the same post for three years and clerical staff who have been at the same post for five years as of 31 December.

Vipul Ambani (left), former president (finance) of Firestar Diamond, being taken to a special CBI court on Wednesday. Photo: PTI

Vipul Ambani (left), former president (finance) of Firestar Diamond, being taken to a special CBI court on Wednesday. Photo: PTI

Separately, the Institute of Chartered Accountants of India has set up a panel to check whether there were any audit lapses.

“Technology has enabled processes in the banking system to be more efficient. However, technology in itself cannot lead to the desired results. Hence, there is an element of manual intervention for betterment of business and also as check. The PNB case highlights that this can be a big problem area. Hopefully, PNB episode will lead to better supervision on employee engagement with borrowers, especially when it is non-fund based exposure. This has its own implication on capital as well as overall balance sheet,” a senior partner with one of big four audit firms said, requesting anonymity.

While the flurry of action to arrest the offenders and seize assets happens in the background, the key question remains: Where did the money go, and who will bear the liability?

The liability

At the heart of the PNB fraud is the fact that some foreign branches of Indian lenders lent money to Modi and related entities against PNB LoUs.

This money was supposed to be used to settle import bills, but was used to settle old LoUs, the complaint said. But since this was issued against PNB guarantees, the state-run lender essentially has to make good the money to these banks.

PNB has promised to honour its commitments, but has also blamed other banks for not doing proper due diligence. In a caution notice to the chiefs of 30 other banks, it said that some of them had sanctioned loans against these guarantees without considering the fact that the said guarantees were for one year, much above the RBI cap of 90 days for the diamond industry.

“The funds were credited based on the SWIFT message from PNB. It was difficult to ascertain whether the LoU was fraudulent or not, because it is given that all regulations were followed for undertaking the transaction. Ultimately, the funds were credited to PNB’s nostro account and not to the client. The fraud took place by surpassing so many check points and red flags. So, there is no question of other banks sharing the liability,” an executive director of a Mumbai-based public sector bank said on condition of anonymity.

However, this remains a grey area, and it’s likely to be decided by settlement talks rather than litigation to preserve the credibility of the banking system, bankers and legal experts said.

“If the banks don’t settle, then it will have to be adjudicated. What is more important is that everybody takes such action which doesn’t impact the credibility of the banking system,” Rajnish Kumar, chairman, State Bank of India, said in an interview. “This is not a negotiated settlement. On the basis of documents, whoever is not compliant with regulatory guidelines, they should take responsibility.”livemint