Last week, I wrote about how the Reserve Bank of India’s (RBI’s) inspection reports, procured by Girish Mittal under the Right to Information (RTI) Act, had all but identified the fraud that led to PMC Bank’s (Punjab and Maharashtra Cooperative Bank) eventual failure way back in 2014-15; but RBI failed to dig deep or follow it up. Three years later, RBI froze depositors’ funds and eight persons succumbed to the shock and stress of their hard-earned savings likely to go up in smoke.
The story repeats itself with City Cooperative Bank (CCB), which is much smaller, with only 10 branches and Rs440 crore of deposits. CCB has been placed under RBI directions since 17 April 2018 for six months. Depositors were allowed to withdraw only Rs1,000 of their hard-earned deposits. This was a tightening of RBI’s regulatory action which was already in place in 2015-16.
RBI has extended the restrictions three times, the latest on 17 October 2019. By then, PMC Bank had collapsed and, with CCB depositors also reviving their protests, RBI increased the amount they could withdraw from Rs1,000 to Rs5,000.
When RBI places a bank under directions, it suggests a possible revival. RBI’s statement accompanying the CCB action said, “The issue of directions should not per se be construed as cancellation of banking licence by the Reserve Bank of India. The bank will continue to undertake banking business with restrictions till its financial position improves.” The reality is diametrically different. In CCB’s case, RTI activist Girish Mittal’s application yielded inspection reports for three years: 2015-16, 2016-17 and 2017-18.
Even a cursory reading of the summary findings, as of 31 March 2016 (marked Secret), clearly show that the Bank “did not have adequate assets to meet its liabilities” and there were plenty of other irregularities as well.
RBI had also imposed a ‘Supervisory Action Framework’ (SAF) on 23 November 2016. But, instead of an improvement, things only deteriorated over the next three years. Interestingly, the number of depositors nearly halved, from over 96,000 to just over 50,000, indicating an exit of savvy persons.
What explains RBI’s failure to take steps to revive the Bank in 2016? Was it that this tiny bank was headed by Anandrao V Adsul, a four-time member of parliament (MP) from Amravati, representing the Shiv Sena which was part of the then ruling alliance in Maharashtra? Several members of the Adsul family were also a part of the board of directors.
Or, was it because RBI, completely blindsided by a much bigger scam at PMC Bank, actually believed that CCB would be taken over and no other action was required? When RBI put PMC Bank under strict restrictions, PMC Bank was in talks to acquire two loss-making banks in Goa --The Mapusa Urban Cooperative Bank and the Madgaum Urban Cooperative Bank. It had also submitted a proposal to RBI to acquire CCB.
This only establishes RBI’s poor supervision and inspection and complete lack of market intelligence. Let’s look at what the RBI inspection reports said.
Inspection Report 2015-16: The report says that CCB’s assets would not cover liabilities. Its capital to risk-weighted assets ratio (CRAR) was -5.2% against the minimum stipulated level of 9%. The Bank’s net-worth was fully eroded. The report says that the realisable value of assets after provisions and depreciation, at Rs522.89 crore, was less than outside liabilities assessed at Rs547.70 crore. The real value of paid-up capital and reserves (-Rs15 crore) was inadequate to meet liabilities.
There were instances of fraud that were “neither reported by the Bank nor adequate provisioning was made thereon,” it says. RBI asked for 100% provisioning of these loans which only increased losses. Its credit appraisal was ‘not satisfactory’ and was not based on the ‘genuine need of the borrower’. The post-disbursement supervision was also ‘not satisfactory’.
The Bank’s board was not bothered about addressing all the issues and non-compliances noted by RBI. As in PMC Bank’s case, the audit system was found deficient, wasn’t adhering to KYC (know your customer) policy and had not even allotted unique customer identification code (UCIC) to all customers.
The Bank’s reported gross NPAs (non-performing assets or bad loans) were 11.83% and net NPAs were 8.84%. As against this, the gross and net NPAs, as assessed by RBI, were massively higher at 46.24% and 44.50%, respectively.
Based on the financials, as assessed in the inspection report on 31 March 2015, RBI imposed SAF, which placed strict restrictions on the Bank’s operations, without any revival plan.
At this time, CCB had deposits of Rs534 crore, of which Rs409 crore were high-cost term deposits (over 76.7%), and only Rs124.45 crore were current and saving accounts (CASA). Bad loans jumped in 2015-16 from Rs42 crore to Rs167.65 crore (gross NPAs) and the Bank did not have adequate provision for loan losses.
Inspection Report 2016-17: The Bank continued to remain under SAF that year. Yet, it’s paid-up capital increased by Rs11 lakh to Rs10.62 crore due to ‘new members’. However, CRAR declined dramatically from -5.12% to -28.68% “mainly due to high level of divergence in the loan portfolio of the bank,” says the inspection report.
The realisable value of assets, at Rs531 crore, was less than its outside liabilities assessed at Rs600 crore. Real value of paid-up capital deteriorated further. The report says, value of deposits as well as capital and reserves were fully eroded to the extent of 11.89%.
In simple terms, this means that the Bank was already eating up customers’ deposits. And, yet, there was nothing from the RBI to warn ordinary persons who were depositing more money into the Bank.
The inspection report says that total deposits increased from Rs534 crore to Rs586 crore; of these, term deposits had increased from Rs409 crore to Rs433 crore. The biggest jump of 22% was in CASA accounts which rose from Rs124 crore to Rs152 crore.
With RBI restrictions in place, the Bank’s loans and advances declined from Rs362 crore to Rs343 crore. Although the Bank was under RBI’s close watch, the insipid inspection report has no significant violations to report, except weaknesses in certain processes and absence of a policy on identifying bad loans, followed by a routine narration of the management structure and operations. The only negative observation is that the functioning of the audit committee, the loan and scrutiny committee and recovery committee needed improvement. The CEO (chief executive officer) of the Bank had resigned in July 2017 on health grounds; but RBI has no comment on management continuity or efficiency.
Interestingly, CCB’s operating income jumped a massive 103% due to profit earned from trading in securities (trading profit alone was up 341%). This, along with lower operating expenses (staff, etc), still led to a declared a net loss of Rs20.03 crore. However, RBI assessed the net loss for 2016-17 at Rs94.82 crore.
The report makes it clear that RBI imposed restrictions and hobbled operations with absolutely no turnaround plan. Meanwhile, innocent depositors were clueless that the Bank was sliding dangerously.
Inspection Report 2017-18: As is obvious, CCB’s position had deteriorated further by 31 March 2018, even under the SAF. Accumulated losses led to a decline in capital and the assessed CRAR declined from -28.68% to -65.46% on 31 March 2018. The Bank’s own estimate was much lower.
Finally, on 17 April 2018, RBI tightened restrictions by imposing more stringent ‘all inclusive directions’ on the Bank. This only confiscated depositors’ money and prevented them from withdrawing more than Rs1,000 from their accounts, with no revival plan. The inspection report notes that CCB’s real net-worth declined to -Rs120.19 crore, while the assessed net-worth fell 72%, to Rs50.48 crore.
This report also indicates a big drop in bulk deposits and savings accounts. Deposits dropped a hefty 24.20% (see table). Although RBI had prohibited premature withdrawal of deposits, and CCB also did not accept fresh deposits, people were allowed to take away term deposits on maturity.
Since CCB was made to reduce interest to the level offered by State Bank of India (SBI), as part of RBI directions, this too could have led to the withdrawal by alert depositors. The rest of the inspection report is a wishy-washy narration of routine markers. What is clear is that CCB had been forced into a zombie state due to RBI’s directions; the Bank had no leeway to improve profitability.
None of the three reports has any comment on quality of management; nor do they indicate whether CCB’s downfall was due to political interference, behest lending or sheer incompetence. These insipid reports call into question the very purpose of RBI’s annual inspections, which seem to add no value, but, in fact, precipitate the downfall of the Bank once it goes into the red.
All this holds important lessons for PMC Bank, where RBI is promising a turnaround, based on the sale of collateral security offered by the HDIL (Housing Development and Infrastructure Ltd) group against the massive Rs6,500 crore of fraudulent borrowings. With no independent assessment of the security, or the claims of other banks and creditors, the PMC Bank will remain in a zombie state, swallowing up depositors’ money. It is already a zombie on a path of slow decay with a running cost of Rs1crore a day!
We clearly need a different way of dealing with loss-making cooperative banks that are eating away people’s savings.
Here is the copy of RBI Inspection Report on The City Cooperative Bank as on 31 March 2016...
Here is the copy of RBI Inspection Report on The city Cooperative Bank as on 31 March 2017...
Here is the copy of RBI Inspection Report on The city Cooperative Bank as on 31 March 2018...
The economic offences wing (EOW) of Mumbai police has arrested Jayesh Sanghani and Ketan Lakdawala, the two auditors who did the statutory audit of fraud-hit Punjab and Maharashtra Cooperative Bank (PMC Bank).
In a statement, the police says, "Jayesh Dhirajlal Sanghani and Ketan Pravinchand Lakdawala were called for investigation… during the course of investigation, their association with Housing Development Infrastructure Ltd (HDIL) came into light and both could not provide convincing explanation regarding their role as statutory auditors of PMC Bank. Hence both were arrested for further investigation..."
Jayesh Sanghani is partner in Ashok Jayesh & Associates, while Ketan Lakdawala is partner in Lakdawala & Co.
As per PMC Bank's annual report for FY18-19, the lender had used services of three auditors, Lakdawala & Co, Ashok Jayesh & Associates and DB Ketkar & Co since FY10-11. Lakdawala & Co had conducted the statutory audit of PMC Bank for FY17-18 and FY18-19, while Ashok Jayesh & Associates did it for three years FY10-11, FY14-15 and FY16-17 and DB Ketkar & Co for FY11-12 and FY12-13.
Interestingly, Joy Thomas, the former managing director (MD) of PMC Bank had tried to exonerate the statutory auditors in his confession letter. "Since the bank was growing, the statutory auditors, due to their time constraints, were checking only the incremental advances and not the entire operations in all the accounts. They validated the incremental loans and advances and scrutinised the accounts, which were shown by us," he had said.
On 2 October 2019, the Institute of Chartered Accountants of India (ICAI) issued a press release claiming to have initiated disciplinary action against Lakdawala & Co. Moneylife was told by Mumbai-based chartered accountants (CA) active in professional CA bodies that they had not come across the firm in their interactions.
Brajesh Mishra of Zee News, however, tracked down the firm's office address, only to find it locked and located in a housing society in Borivali with no board or nameplate to indicate its existence.
As Moneylife had pointed out, Lakdawala & Co and its CA partner KP Lakdawala (Membership No.035633) have their fingers in many more dangerously sticky deals which need a full investigation.
Mumbai-based Ashok Jayesh & Associates claims to be carrying out statutory audit of branches of nationalised banks as well as cooperative banks. It claims that it was "engaged as a Concurrent Auditor of a co-operative bank for about 10 years."
Ashok Jayesh & Associates has its head office in HDIL Towers at Bandra in Mumbai. However, except for an email ID of Ashok Jayesh, there is no mention of any team member of the firm on its website.
On Monday, Sanjay Barve, commissioner of Mumbai police, had told PMC Bank depositors that they are probing the auditors and directors of the Bank and would take necessary action.
The EOW is probing the Rs4,355 crore fraud committed by PMC Bank officials, directors and promoters of HDIL and its group companies.
So far, the EOW (economic offences wing) had arrested five persons, including promoters of HDIL and Bank's top management.
The proposal of the high level advisory group (HLAG), set up by the minister of commerce, for an amnesty scheme to bring black money back into India via the issuance of elephant bonds has drawn very few responses. This is not the first time such an effort has been made; but this proposal needs closer scrutiny because it has important macroeconomic implications.
To start with, the proposal is to bring the Indian monies parked in offshore financial centres or in the tax havens, in foreign currency. The proposal involves amnesty from persecution. However, for every $100 declared, the declarant will pay $15 as tax and invest $40 in a 20-year to 30-year bond.
The nature of these bonds, as discussed in the HLAG report, can be of two types—London Inter Bank Offered Rate (LIBOR) + 500bps (basis points) coupon bonds (Para 7.2.4) or a 5% fixed coupon bond. The coupon payment earned will be taxed at 75%.
What appears from a plain reading is that the bonds can be foreign currency denominated. The remaining $45 now becomes legitimate asset of the declarant which can/has to be invested in India. The money will be routed through the National Infrastructure Investment Fund (NIIF).
It is claimed that if a sizable mobilisation happens, say to the tune of $500 billion or more, the real interest rates will fall, rupee will strengthen and savings investment gap will be narrowed.
The proposal must be evaluated on two dimensions, namely, its impact on the external situation of India and the domestic impact on interest rates and public finances.
On the external front, a convenient staring point will be to gauge how India’s international investment position (IIP) which records changes in financial assets and liabilities vis-à-vis rest of the world, will be impacted, assuming that, say, $100 billion is mobilised.
One of the main implications of incorporating foreign parked monies in standard IIP accounts is the insight that the assets recorded under IIP are grossly understated.
Thus, depending upon the estimate of the foreign parked monies—which is in the range of $500 billion to $1 trillion—India’s IIP position can change from being net borrower to a net lender to the rest of the world.
If one plugs the figures from the proposed scheme, $15 billion (or Rs1.06 lakh crore @ Rs71 per US dollar) will add to the FX reserves directly; $40 billion (Rs2.84 lakh crore) will add to other liabilities under the assumption that elephant bonds are FX denominated and $45 will be placed under other assets. These changes are depicted in the table below with March 2019 IIP figures as the baseline.
Is this good or bad? It is better to evaluate the post-mobilisation outcome through the lens of the Bimal Jalan Committee Report on the economic capital framework of the Reserve Bank of India.
The Committee had noted that “… given the expanding net negative… IIP of India, the magnitude of foreign exchange reserves provides confidence in international financial markets. At present, the foreign exchange reserves (more than $400 billion) are significantly lower than the country’s total external liabilities ($1 trillion) and even lower than total external debt ($500 billion). This position is in contrast to that in 2008 when India’s foreign exchange reserves, at $310 billion, exceeded the then total external debt of about US$224 billion and provided a much larger coverage of total external liabilities that amounted to about $426 billion. This needs to be taken into account in assessing the external risk being faced by the country …”
With due respects, the proposal fails to address the external risk mentioned in the RBI report.
The improvement achieved in net IIP is just $10 billion for a mobilisation of $100 billion. The very design that foreign money will be brought in by issuing debt should be a point of concern.
National security advisor (NSA) Ajit Doval had estimated in 2011 that 60% of the foreign money originates from bribes, 15%-20% from business malpractices, 10%-12% from mafia and the rest 8%-9% simply parked abroad to avoid taxes in India.
So, a maximum of 10% of foreign money is from legitimate activity but not repatriated to avoid taxation. For such money, amnesty may be justified. For the rest, the ethics and morality of creating an external (public) liability out of such money needs to be revisited.
How will the domestic debt be impacted? The proposed scheme will lead to one-time net revenue of Rs1.06 lakh crore which is around one-third of gross primary deficit as of March 2019. When the NIIF issues elephant bonds, public borrowing will increase by Rs2.84 lakh crore via off balance sheet route in foreign currency.
By combining the two facets discussed above the proposal, by itself, does not appear to address the twin deficit problem, i.e., simultaneous current account deficit (CAD) and fiscal deficit.
The changes in IIP reflect in finance account of the balance of payment and have no bearing on the CAD (=savings investment gap). Likewise, increase in the public debt via NIIF does not resolve the structural aspects of the fiscal position.
The presumption that mobilisation through the scheme will reduce interest rate is premature. The appreciation in rupee will shrink the existing tax base even after the one-time windfall.
Similarly, reckoning of uncounted foreign assets under finance account does not lead to structural adjustments in CAD in which case it is farfetched to assume that the rupee will reverse its present course in the long-run.
Then some other issues, which are mentioned but not elaborated, include the choice of LIBOR as a benchmark for the coupon when it is certain that LIBOR will be discontinued after 2021.
What the impact of this scheme will be on sovereign rating and domestic asset markets and domestic bank credit, needs to be thought out.
It would have been better if the flow of foreign money was through the UN Convention route in which case the IIP will be impacted only on the asset side.
The government must stake its claim on unclaimed deposits in the Swiss Bank before they are confiscated by the Swiss government. It is advisable to issue elephant bonds in rupee only so that no corresponding external liability is created.
(The author is an economist in the banking sector. Views are personal)