Decoding the PNB muddle: How they pulled off Rs 11,400 crore loan fraud?

NEW DELHI: The financial bungling at state-owned lender Punjab National Bank (PNB) has left a bitter aftertaste with the industry. PSU banking stocks are under siege as more details have been tumbling out suggesting that foreign branches of a few lenders have advanced money to PNB customers abroad.

The scale of the fraud strikes you in your face, pegged at $1.77 billion, or Rs 11,400 crore.

More skeletons are likely to come out of the cupboard in this whole saga, warn analysts, who have advised investors to stay clear of the PSU banking space altogether until clarity emerges. The story so far.


PNB reports fraud to exchanges

On February 14, PNB in a regulatory filing flagged fraudulent transactions in favour of select jeweller companies amounting to $1.77 billion. While the exchange filing did not name anybody, the bank has reportedly filed cases against diamond jeweller Nirav Modi and companies linked to him.

The modus operandi, who committed it

The allegation is the entities concerned were in collusion with certain PNB staffers in securing buyers credit for payment of diamond imports. It has also been alleged that when select Nirav Modi's firms approached PNB for opening of letters of credit (LC) for import of rough stones, the bank staff issued fake letter of undertakings (LoUs) which helped the firms raise credit.

An LoU is an inter-bank contract that ensures an issuing bank (PNB) will honour the promise or discharge the liability of a third person in the case of a default.

With fake LoUs, the bank employees allegedly misused the SWIFT messaging network to transmit messages for fund requirement, following which foreign branches of a few Indian banks advanced dollar loans to PNB. These dollar loans funded PNB's Nostro accounts with overseas banks. It is from there the funds moved to certain overseas parties.

It is believed that such transactions were never recorded in the bank's core system and the PNB management came to know about the same after a long time.

"It is quite shocking that when these messages were going on, they were not linked to the core banking solution. Investors are going to have such apprehensions for all PSU banks," said Abhimanyu Sofat, VP-Research at IIFL.

Key beneficiaries

Nirav Modi and companies linked to him are in the eye of the PNB storm. Besides, a confidential PNB note to banks suggests that a similar modus operandi was used by the PNB officials while dealing with companies belonging to Mehul Choksi-promoted Gitanjali Gems, Gili India and Nakshatra. The transactions were initially routed through the CBS system, but subsequently changes were made in the LCs by substantially increasing the amount and transmitted through SWIFT without reporting this to CBS, ET reported. PNB has alleged "clear criminal connivance" of group companies of Modi and Gitanjali with some officials of PNB and other banks.

Banks that may take a hit

It is believed that Allahabad Bank, Union Bank of India and Axis Bank had offered credit based on letters of undertaking (LOUs) issued by PNB. Sources told ET Now that PNB was negotiating with those lenders, the quantum of liability under the letter of comfort given to them, noting that PNB is liable to reimburse the full amount.

Meanwhile, Axis Bank has clarified to stock exchanges that it did undertake such transactions with PNB against their authenticated SWIFT LOUs.

What market watchers say

Jaikishan J Parmar, Research Analyst at Angel Broking, noted that the case is critical because based on these transactions other banks had advanced loans to these clients abroad.

"This is related to the two complaints that PNB has already filed against Nirav Modi, a prominent diamond merchant. PNB has also involved the Enforcement Directorate to track the audit trail of the money. This dampens the sentiments around PNB, which had seen a marginal improvement in its asset quality in this quarter," he said.

"Considering the magnitude of the fraud, it would make sense to give PSU stocks a wide berth and look at more corrections. Only enter stocks which have decent capital adequacy," Sofat of IIFL said.