Eco Project Sem 3.docx

DR. RAM MONOHAR LOHIYA NATIONAL LAW UNIVERSITY, LUCKNOW.

Economics Project: Topic: Nirav Modi Fraud or PNB Banking Fraud Submitted to:

Submitted by:

Dr. Mitali Tiwari

Sameer Srivastava

Asst. Professor

Enroll.No-170101115

RMLNLU 1

Semester-III Sec-B

ACKNOWLEDGEMENT: I take this opportunity to express my profound gratitude and deep regards to my guide Dean (Academics), Professor C.M. Jariwala and Assistant Professor Dr. Mitali Tiwari for their exemplary guidance, monitoring and constant encouragement to give shape to this project. The blessing, help and guidance given by them time to time shall carry me a long way in the journey of life on which I am about to embark. I also take this opportunity to express a deep sense of gratitude to my respected seniors who share their cordial support, valuable information and guidance, which helped me in completing this task through various stages. Lastly, I thank the almighty, my parents, brother, sister and friends for their constant encouragement without which this assignment would not have been possible.

-Sameer Srivastava

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TABLE OF CONTENTS:

    

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Background Introduction Investigation Reforms in Law Conclusion

CHAPTER 1: Background Nirav Deepak Modi (born 27 February 1971) is an Indian fugitive businessman and is wanted by the Interpol for criminal conspiracy, criminal breach of trust, cheating and dishonesty including delivery of property, corruption, money laundering, fraud, embezzlement and breach of contract since August 2018. Modi made international headlines again in October 2018 when Los Angeles entrepreneur, Paul Alfonso, filed a US$4.2 million lawsuit in Los Angeles against Modi and two of his now defunct companies namely Firestar Diamond Inc. and A. Jaffe Inc. According to court records from the Superior Court of California, Modi fraudulently sold two custom diamond engagement rings to Alfonso that turned out to be lab diamonds. The value of both diamond rings were US$200,000. Modi's younger brother Neeshal Deepak Modi and manager and close aide Parab Subhash Shankhar are also wanted by Interpol since August 2018 in connection with the same crimes as Nirav Modi.

Modi is being investigated in a $2 billion fraud case of Punjab National Bank (PNB) and is also being sued in the State of California for US$4.2 million for defrauding Los Angeles entrepreneur, Paul Alfonso, over two custom diamond engagement rings that turned out to be lab diamonds. In March 2018, Modi applied for bankruptcy protection in Manhattan, New York. In June 2018, Modi was reported to be in the UK and has applied for political asylum in Britain.

Nirav Modi is the founder of "Nirav Modi Global Diamond Jewellery House", established in 2010. He was the first Indian jeweller to have been featured on the covers of Christie’s and Sotheby’s Catalogues. The company has its headquarters in Mumbai, India.

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CHAPTER 2: Introduction The Punjab National Bank Fraud Case relates to fraudulent letter of undertaking worth ₹14,356.84 crores (US$ 2.1 billion) issued by the Punjab National Bank at its Brady House branch in Fort, Mumbai; making Punjab National Bank liable for the amount. The fraud was allegedly orchestrated by jeweller and designer Nirav Modi. Nirav, his wife Ami Modi, brother-in-law Nishal Modi and uncle Mehul Choksi, all partners of the firms, M/s Diamond R US, M/s Solar Exports and M/s Stellar Diamonds; along with PNB officials and employees, and directors of Nirav Modi and Mehul Choksi's firms have all been named in a charge sheet by the CBI. Nirav Modi and his family absconded in early 2018, days before the news of the scam broke in India.

Nirav Modi is currently in the United Kingdom and is seeking political asylum in Britain though the Indian government has officially asked for his extradition. The Enforcement Directorate has begun attaching assets of the accused and is seeking to immediate confiscation under the Fugitive Economic Offenders Ordinance.

Modi is on the Interpol's wanted list for criminal conspiracy, criminal breach of trust, cheating and dishonesty including delivery of property, corruption, money laundering since February 2018.

The bank initially said that two of its employees at the branch were involved in the scam, as the bank's core banking system was bypassed when the corrupt employees issued LOUs to overseas branches of other Indian banks, including Allahabad Bank, Axis Bank, and Union Bank of India, using the international financial communication system, SWIFT. The transactions were noticed by a new employee of the bank. The bank then complained to the CBI, who are currently investigating the scam apart from ED and RBI. On a later date, CBI named key officials Usha Anantha Subramanian, former CEO of PNB, executive directors KV Brahmaji Rao and Sanjiv Sharan in a charge sheet holding them responsible for failure to implement several circular and caution notices issued by the RBI regarding the reconciliation of SWIFT messages and core banking systems. 5

CHAPTER 3: Investigation Punjab National Bank (PNB) alleges associates of three firms - Diamond R US, M/s Solar Exports and M/s Stellar Diamonds- approached PNB on 16 January 2018, with a request for LoUs to make payment to its overseas suppliers. The bank demanded at least a 100 percent cash margin for issuing LoUs, but the firms contested that they had received LoUs without any such guarantee in the past. Branch records did not show any such facility having been granted to the firms, PNB suspected fraud and began digging into transaction history. On 29 January 2018, PNB filed a complaint with the CBI, wherein it was alleged that Nirav, Ami Modi, Nishal Modi and Mehul Choksi, all partners of M/s Diamond R US, M/s Solar Exports and M/s Stellar Diamonds, in collusion with two bank officials committed the offence of cheating against PNB and caused a wrongful loss. The PNB official in his complaint had informed the agency that at the Bank’s branch office at Brady House in Fort, Mumbai, two of its employees, Gokulnath Shetty, retired Deputy Manager of PNB and another bank official Manoj Kharat, issued fraudulent LoUs to Hong Kong based creditors on behalf of three firms associated with Nirav Modi and the Gitanjali Group. “The public servants committed abuse of official position to cause pecuniary advantage to Diamonds R US, Solar Exports and Stellar Diamonds and wrongful loss of Rs 280.70 crore to PNB during 2017,” said the first information report (FIR) filed by CBI.

As of 18 May 2018, the scam has ballooned ₹14,356.84 crores to (US$2.1 billion) and Nirav Modi is said to be hiding in London, allegedly travelling on a fake passport.

On 13 June 2018 the CBI approached the Interpol to issue a red corner notice (RCN) against Nirav Modi's brother Nishal and one of his executives in connection with its probe into the Punjab National Bank (PNB) fraud. The CBI sent a request to the Interpol to issue a RCN against Nirav Modi and his uncle Mehul Choksi of the Gitanjali Group.

On 20 August 2018 former MD and CEO of Allahabad Bank, Usha Anantha Subramanian was granted bail on a surety bond of Rs 1 lakhs by Special CBI 6

court in Mumbai. A week earlier, the government had dismissed Usha on the last day of her work. Anantha Subramanian was MD of Punjab National Bank between August 2015 and May 2017 and had also served as its executive director. She was dismissed with immediate effect. On 7 September 2018 one of the accused of the Punjab National Bank (PNB) fraud, Nitin Shahi filed an application in a special Central Bureau of Investigation (CBI) court to book PNB as an additional accused in the case. The hearing on the matter is scheduled to be held on September 21. The application filed by Shahi stated that, although the PNB has not been charge sheeted on the fraud case, there are materials available for prima facie proceeding against the bank.

In February 2018, the Indian Government’s Central Bureau of Investigation launched an investigation on Modi, acting on a complaint from the Punjab National Bank that alleges Modi and his partners defrauded the bank for ₹280 Crore (approximately USD 40 million) by conspiring with bank officials to fraudulently obtain Letters of Undertaking (LoUs are undertaking provided by one bank to another bank) for making payments to overseas suppliers. While ₹280 Crore is the fraud that has devolved to date, the potential liability of loss to Punjab National Bank goes up to ₹11000 crores. The Enforcement Directorate (ED) is looking into the case of fraud that the CBI has registered against Nirav Modi.

A few of the Nirav Modi's stores remained open with business is as usual around the globe including the one at Marina Bay Sands in Singapore. However they have gradually all closed. On 7 March 2018, Modi's firm Firestar Diamond Inc. applied for bankruptcy protection at a Manhattan bankruptcy court, in order to protect its assets in the United States and their revolving credit facility with Israel Discount Bank.

Nirav Modi responded to the bank on February 15/16, 2018, stating that “In the anxiety to recover your dues immediately, despite my offer (on February 13, a day before the public announcement, and on 15) your actions have destroyed my brand and the business and have now restricted your ability to recover all the dues leaving a trail of unpaid debts”. Nirav Modi estimated his domestic business at around Rs 6,500 crore, and said "this could have helped reduce/discharge the debt to the banking system," but claimed that this is now impossible as all his bank accounts have been frozen and assets have been seized. Nirav Modi bought a Rs 7

900 crore sea-facing property in Mumbai's coveted Samudra Mahal properties with his wife Ami Modi. His properties in India, including jewellery, paintings, and real estate, worth about Rs 523 crore (about $100 million) have been attached by the Enforcement Directorate.

The Enforcement Directorate (ED) attached four wind power plants, owned by Nirav Modi, in Rajasthan with a total capacity of 9.6 megawatt (MW). The plants earn up to Rs 5 crore a year due to share purchase agreement with Rajasthan's state electricity board. These wind power plants have been operational since 2014-15. In March 2018, the ED had attached a 5.24 MW solar power plant spread over 135 acres in Karjat in Ahmednagar district worth Rs 60 crore. In May 2018, the CBI and the ED had registered two FIRs each to probe the case. Both Nirav Modi and Mehul Choksi are said to have left the country before criminal cases were lodged against them. Nirav Modi is absconding and has not joined the ED probe.

With the collapse of his brand, Nirav Modi's fortune has collapsed. Forbes removed him from their annual billionaires list, and on March 9, 2018, estimated his current wealth to be less than $100 million. As a result of the fiasco, the RBI has stopped issuing LoUs and LoCs for imports, resulting in limiting the financial flexibility of importers. His company, A.JAFFE, acquired through his Synergies Corporation, was auctioned in May 2018 and has been purchased by Parag Diamond. All the stores have been since shut down.

In April 2018, it was alleged Nirav Modi had found safe haven in Hong Kong. In June 2018, Nirav Modi was reported to have arrived to the UK where he applied for asylum with Britain’s Home Office stating he was a victim of "political persecution" and denied any wrongdoing.

On August 31, 2018, Los Angeles entrepreneur, Paul Alfonso, filed a US$4.2million-dollar civil lawsuit (Case No. 30-2018-01016380-CU-BC-CJC) in the Superior Court of California against Nirav Modi, Firestone Diamond, Inc. and A. Jaffe, Inc. for fraud, embezzlement and breach of contract. According to court records, Mr. Alfonso hired Nirav Modi to commission two custom diamond engagement rings worth in excess of US$200,000 that turned out to be fraudulent. Due to the complexity of the case, a case management conference is scheduled 8

for January 11, 2019 at 9am in Department C19 at the Superior Court of California in Orange County. The presiding judge is Honourable Walter Schwarm. Mr. Alfonso also subsequently filed criminal complaints against Nirav Modi in Los Angeles and New York. The District Attorney's office in Los Angeles and New York have not filed criminal charges against Nirav Modi but are expected to do so in the coming weeks. 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. 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 crores. Banks have filed recovery suits worth Rs64,743 crores 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 9

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 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. 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

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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 crores. 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. 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 crores, and has turned up the heat on the prime minister and his government for Modi’s escape.

CHAPTER 4: Reforms in Law 11

On 1 March 2018, the Modi government approved the Fugitive Economic Offenders Bill to deter economic offenders from evading the process of Indian law by giving powers to the government to confiscate assets of a fugitive, including Benami assets of absconding loan defaulters. The bill covers a wide range of economic offenders which include: loan defaulters, fraudsters, individuals who violate laws governing taxes, black money, benami properties, financial sector, and corruption. On 12 March2018, the government introduced the bill in the Lok Sabha.

In March 2018, the Reserve Bank of India scrapped banking instruments such as the Letter of understanding (LoU) and Letter of Comfort (LoC) that in an attempt to plug a loophole and improve banks’ due diligence in trade credit. Some bankers said that LoUs and LoCs led to receiving banks depending completely on the issuing bank on creditworthiness.

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CONCLUSION: There’s an old saying that goes: “Fool me once, shame on you; fool me twice, shame on me.” That adage, when applied to Indian banking, would probably be: “Fool banks once—oh these things happen; fool them twice—catch a few lowlevel minions and jail them after a trial lasting twenty-five years; fool them for the umpteenth time—allow the fraudster to escape abroad, recapitalise the banks and continue with business as usual.” Contrary to what Abraham Lincoln was supposed to have said, it seems entirely possible to fool all the people all the time.

The Bank Management Consider Punjab National Bank (PNB), in the eye of the current storm. It has on its website the list of “wilful defaulters” to the bank as on 31 January 2018, the total amount being Rs14,593 crores.

“Wilful defaulters” is a euphemism for frauds. The point is that, even before the Nirav Modi scam, PNB had lost substantial amounts to bank fraud.

Pride of place in PNB’s defaulter list goes to Winsome Diamonds & Jewellery Ltd, which owes the bank Rs899.70 crores. Close behind is Forever Precious Jewellery & Diamonds Ltd, which owes it Rs747.98 crores. Zoom Developers Ltd owes it Rs410 crore.

The overall list of wilful defaulters against whom lawsuits had been filed as on 31 December 2017, on the CIBIL website, shows that among nationalized banks, PNB had the highest number of wilful defaulters as well as the largest amount outstanding from these accounts.

Indeed, it accounted for almost 30% of the amount outstanding from nationalized banks. Both the number of frauds and the amounts involved should have been a wake-up call for the bank management.

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What’s more, many of the wilful defaulters in the PNB list are diamond or jewellery companies. Bankers know that lending to the sector is fraught with risk and more than usual caution and market intelligence is needed. Yet the PNB management hasn’t learnt much even after burning its fingers badly.

To be sure, the current scam seems to have been a failure of the most elementary checks and balances in operations. But regardless of whether it is operational risk or credit risk, the bigger picture is of a total failure of risk management in the bank. PNB may be a particularly egregious example, but risk management in the entire public sector banking system leaves much to be desired. As on 30 September 2017, data from CIBIL shows that the amount outstanding on account of wilful defaulters at nationalized banks together with the State Bank group was Rs93,359 crores. This was 83.6% of the entire outstanding on account of wilful default in the banking system, including foreign banks. That percentage is well above the share of public sector banks in loans and advances. And it’s not just frauds that are a problem—public sector banks also account for a disproportionate share of total stressed assets. Not all of this is due to poor risk management systems. Public sector banks have long been subject to political interference and politicians have often viewed them as gold mines for dispensing patronage. They have also been used and abused to carry out government objectives, whether they are loan waivers or lending to risky infrastructure projects. Small wonder then that public sector banks have become the weak underbelly of India’s financial system. As the P.J. Nayak committee report said almost four years ago, “It is unclear that the boards of most of these banks have the required sense of purpose, in terms of their focus on business strategy and risk management, in being able to provide oversight to steer the banks through their present difficult position.” That said, fraud is no respecter of bank ownership. Massive frauds, many times bigger than the current PNB fraud, occur regularly in banks abroad. The global financial crisis was not caused by state-owned banks. Frauds will always be with us—as the irrepressible K.C. Chakrabarty, former RBI deputy governor, pointed out, even Kautilya had described forty ways of embezzlement in the Arthashastra. But surely, given their spotty track record, banks in India need to be extra cautious about risks? They do not seem to have learnt their lessons.

REFERENCES: 14

 https://www.livemint.com/Companies/7zQvBwuOrZh88hxwvC30 9J/PNB-fraud-How-Nirav-Modi-pulled-off-the-great-Indian-bankr.html  https://en.wikipedia.org/wiki/Nirav_Modi  https://www.ndtv.com/india-news/pnb-scam-how-fedex-eddiamonds-fuelled-massive-nirav-modi-bank-fraud-report-1908408  https://www.livemint.com/Opinion/xmchEVqQ2LsLjv4V1sQSeJ/ Whos-responsible-for-the-PNB-fraud.html  https://economictimes.indiatimes.com/topic/Nirav-Modi-scam  https://en.wikipedia.org/wiki/Punjab_National_Bank_Scam  https://www.hindustantimes.com/india-news/nirav-modi-bankfraud-case-sleuths-caught-in-legal-tangle/storyAL4VLrMGX6tRdePyRn3GaP.html  https://thewire.in/business/pnb-scam-nirav-modi-mehul-choksi  https://www.financialexpress.com/industry/aftermath-of-niravmodi-fraud-pnb-recovers-record-rs-11378-in-5-months/1307873/  https://indianexpress.com/article/business/before-pnb-scam-brokenirav-modi-tried-for-citizenship-of-vanuatu-was-rejected-5353494/

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