On a sunny valentine's day, when the entire world

was busy sharing romantic gifts with each other,

letters worth 11,300 Cr Rs. shook the world.

What were these letters ?

Who wrote them to whom ?
CASE What Really Happened ??

It began with diamond firms approaching PNB for opening “letters of credit(LC)”
for import of rough stones. As per the terms of the LC, a common banking tool,
PNB would pay the overseas suppliers on behalf on Nirav Modi's firms within a
certain period (typically three months) and recover the money from Modi. It's a
market practice to extend the LC if the client (i.e, Nirav Modi) is unable to cough
up the money at the end of the LC tenure.

State-owned lender Punjab National Bank (PNB) has informed the BSE that it has
detected fraudulent transactions worth $ 1,771.7 million (over Rs 11,000 crore)
in its mid-corporate branch at Brady House, South Mumbai. PNB has alleged that
two employees had “fraudulently issued Letters of Undertaking (LoUs) and
transmitted SWIFT instructions to the overseas branches of Indian Banks” to raise
buyers credit for companies of billionaire diamond jeweller Nirav Modi without
entering into the banking system.
 A letter that caused the damage
An LoU is an assurance given by one bank to another to meet a
liability on behalf of a customer(Nirav Modi). The LoU is akin to
letter of credit or a guarantee.

LoU are used in international banking transactions and is issued for

overseas import remittances and involves four parties –
1. An Isssuing bank (PNB,In this case)
2. Receiving bank (Allahabad,Axis,Union,Canara,BOI)
3. An importer (Nirav Modi)
4. A Beneficiary entity overseas (supplier of Raw material)

According to norms, the term of LoU is 90 days, and can be rolled over once for
Six months. Since LoU are a form of lending , they are typically backed by security.
 Society for Worldwide Interbank Financial Telecommunication

SWIFT is a global tool which represents a bank’s consent.

LoUs are conveyed from bank to bank through SWIFT instructions,

which pass through a triple layer of checks before it is sent across.

It is cleared by -
1. a maker
2. a checker
3. a verifier (in order to ensure No UNWARRANTED and MONEY laundering txn)

In using SWIFT, one has to log into the network to fill up fields like the account number
and SWIFT code, The process is completed when the bank receiving the message confirms
and the details are validated.
All this is done using SWIFT passwords.

SWIFT being a global tool would bypass the local banking tool (Finacle in this case)
and hence wouldn't be traced.
Okay cool ! But what went wrong ?

PNB has alleged that two of its employees “fraudulently” issued LoUs (i.e. fake LoUs)
and “transmitted SWIFT instructions to the overseas branches of Indian Banks” to raise
buyers’ credit for Nirav Modi’s firms, Diamond R US, Solar Exports, and Stellar Diamonds,
without making entries in the bank system

The bank has alleged that one such fraudulent LoU issuance took place on
January 16, 2018, for and on behalf of Modi’s firms, which allegedly presented a
set of import documents to the branch, with a request to allow buyers’ credit for
making payments to suppliers overseas.

When bank officials requested the firms to furnish 100% cash margin for the LoU, the
firms argued that they had availed this facility in the past as well. And that is when they
had to pay the price for being over smart !
However, branch records did not have the details of any such facility having been granted
to the firms. An internal probe by the bank then found that a few of its employees had
fraudulently issued LoUs for Hong Kong branches of two Indian banks
(Axis and Allahbad Bank) for and on behalf of Modi’s firms. PNB has alleged that the
buyers’ credit based on the fake LOUs may also have been paid through a Nostro account —
which is an account that a bank holds in a foreign currency in another bank.

And where did the money go ?

According to PNB’s statement to enforcement agencies, the funds so raised for payment
of import bills haven’t been utilized for such purposes(paying the overseas suppliers of
diamonds) in many case.
HOW WAS THE FRAUD UNEARTHED?

The first hint about a fraud came when Nirav

Modi's team started looking for avenues to get a
fresh extension for the LOUs. Since their pet
officials had retired, the request went to a new
team which questioned the need for "rolling over"
the LOUs.
A PNB official reportedly flagged the matter to the
bank headquarters. Subsequently, the hidden
records on old LOUs came tumblinout.
 WHY WAS THE FRAUD NOT DETECTED?
1. No inter connection between SWIFT and PNB’s core banking system
2. Gokulnath setty remained on the same desk for years, against the bank’s transfer
policy.
3. SWIFT being a global tool bypassed the local banking tool (Finacle in this case) and
hence wouldn’t be traced.
4. Bank’s internal Auditors and RBI inspection failed to detect any irregularities
5. The SWIFT messages were audited at prescribed intervals but since the log book did
not mention the LOUs issued to Nirav Modi companies, the fraud could not be
detected.
PNB deputy general manager Gokulnath Shetty retired in May 2017. Finance Ministry
sources allege that just before his retirement, Gokulnath Shetty rolled over the LOUs
not for the usual 90 days but for 365 days so that Nirav Modi and his associates could
continue with their "fraud" without worry of detection.

The Reserve Bank of India too faces credibility challenge as the fraud was not detected
during the annual audits of the banks or the CBS since 2011.
Bank’s Exposure !!
 *Overall Impact*
In total 30 banks are affected due to this fraud among various state owned banks and
PSUs’,
some private lenders are also involved such as ICICI, Axis, IndusInd and Standard
Chartered Bank

Companies involved in exports sector may also get affected as lenders might do more
scrutiny and be more cautious ahead while issuing LOU’s and LC’s
 ACTIONS TAKEN BY BANK
1. On 25th January – Submitted report to HO (DELHI)
2. On 29th January - Approached to CBI and ED(Directorate of Enforcement)
3. On 31st January – CBI filed FIR
4. On 5th February – first public disclosure of fraud of 280 Cr.
5. Up to February 12th - PNB scanned records of its branches
6. By 14th February - Informed SEBI and BSE about 11300 Cr. As an Estimate of fraud

ACTIONS TAKEN BY Govt.

1. Issued look out notice
2. Revoked passports of Nirav Modi, Nishal Modi and Mehul Modi
3. Income Tax raid on 31st january at home and several other locations.
Nirav Modi (Dimond King)
Mehul Choksi (Jewelry king)
Chairman – Geetanjali gems

Ami Modi Nishal Modi Gokulnath Setty

(PNB employee)
Some interesting Questions ,left unanswered…

1. 1. All LOUs (letter of undertakings) issued by any bank in India is supposed to be

reported to the RBI on a quarterly interval. Why is it that when the first LOU which
was issued way back in 2011, purportedly without entering the transactions in the
Core Banking System, was ignored by the RBI and the PNB top management despite
the amount being so huge??

2. 2. Whenever a SWIFT message is sent, even though it might have been originated
at the branch level, the same is verified at various checkpoints by personnel in
various capacities in order to ensure no unwarranted transaction takes place,
especially not a money laundering one. Why no one from the Forex Department of
PNB not raise an alarm or at least ask for permission from higher-ups for processing
the transactions? Or was it that the higher-ups intentionally "shut upped" their
juniors and orally coerced them to process it nonetheless??
3. The reason given by PNB Management that SWIFT message of nearly 11,500 Cr was
sent through the branch in an unauthorized manner "without entering in CBS" is also
not digestible. Whenever such transactions take place, normally there is an alarm
system which generates daily reports regarding transactions sent through SWIFT
without entering in Core Banking. Why nobody bothered to verify the reports?
What were the concurrent auditors of PNB doing??

4. Normally when a letter of undertaking or a letter of credit is issued by any bank to

another bank, the receiving bank (Allahabad Bank and Axis Bank in this case) sends a
letter of confirmation to the issuing bank just to be double sure. The letters are sent
normally to the issuing branch (PNB in this case) as well as the controlling office like
Regional or Zonal Office of the issuing bank which is a normal practice of risk
mitigation just in case some mischievous or fraudulent or unintended or mistaken
letter might have been issued by the issuing bank. This also serves to confirm the
name and identity of the customer/party on whose behalf the issuing bank is giving
LOU or LC. Whether such practice was followed by the receiving banks? And if yes,
why no one was alerted when such confirmation letters were received by
the issuing bank?
 - High Risk
The Biggest Scams Of 2018 - Low risk

1. PNB SCANDAL involved 11,345 Cr of Scam

2. Priya Prakash Varrier ;)

Perception V/S Reality

THANK YOU !!

Saiyam Jain
CA Finalist, Article at
BCP Jain & Co. BHOPAL
Ias.symjn89@gmail.com
Mob- 8602531581