After Harshad Mehta and Lalit Modi conducting their ‘lucrative businesses’, it is now Nirav Modi’s turn to carry the legacy of economic frauds in India ahead, at the turn of yet another decade. But how much are we, being the average citizens, aware of the specifics, so that we may pass on the relevant information among our fellow investors, not blind panic.

  1. Who is Nirav Modi?

Ranked 57 in the Forbes list of India’s billionaires in 2017, Nirav Modi is a luxury diamond jewelry designer who is also the founder and creative director of Nirav Modi Retail Chain. He was in limelight when his designs have been worn at the Oscars by Taraji P Henson and to the Golden Globes by Dakota Johnson among others. Noted Indian actress, Priyanka Chopra has been the brand ambassador to Nirav Modi’s jewelry chain.

2. What is Buyer’s Credit?

Buyer’s credit is a short-term loan facility provided by the banks to an importer to finance the import of certain goods and services. In the context of international trade, it is a common method of transaction. Typically, a bank extends credit to the importer while a finance agency from the exporter’s country guarantees the loan.

3. How has the fraud been detected?

As per the complaint filed by Punjab National Bank with the CBI on January 28th 2018, the fraudulent issuance of LoUs (Letter of Undertaking) was red-flagged at the Brady House Mid Corporate Branch in Mumbai.

A partnership of firms, Diamond R US, Solar exports and Stellar diamonds have requested Punjab National Bank on January 16th 2018, for Buyer’s credit to make payments to their overseas suppliers, with a set of relevant import documents. Nirav Modi, his brother Nishal Modi, his wife Ami Nirav Modi and his uncle Mehul Chinubhai Chokshi were the partners in the above said firms.

As these firms had no amount whatsoever sanctioned to their name from PNB, the bankers requested them to furnish at least a 100% cash margin to issue the LoU for raising the Buyer’s credit. But the firms contested that they have been availing the Buyer’s credit facility since the past 6 years without providing the cash margins. However, PNB has found that their own bank records fail to corroborate this. Upon further investigation, the bank officials have discovered that two of its employees had fraudulently issued the said LoUs in the past without following the procedures for approvals. It has been discovered that the employees back then have transmitted the SWIFT instructions t the overseas branches of Indian banks to raise the firms with Buyer’s credit but deliberately haven’t made a bank record of these transactions to avoid being caught.

The complaint also states that the funds raised in this manner for the payment of Import bills have never been used for the same purpose in most cases. As per the FIR filed, five of the SWIFT messages (SWIFT is a messaging network used by financial institutions to securely send and receive instructions) were issued to the one branch of Allahabad Bank and three branches of Axis Bank in Hong Kong.

4. What is Indemnity?

To judge the responsibilities and liabilities of the involved parties in this fraud, we must first begin by understanding how the Section 124 of the Indian Contract Act (1872) defines ‘Indemnity’.

INDEMNITY simply means, security against loss or damages. The act defines it as a contract in which one party guarentees to save the other party from a loss caused to him by the action of the guarantor himself or by the action of any other person.

In the case of PNB vs Nirav Modi, the fraudulent transaction which was initiated on behalf of the bank now implies that PNB has agreed to indemnify the overseas Indian banks of any losses that may occur due to the liability of Buyer’s credit provided to Nirav Modi’s firms under the guarantee of PNB. Although Nirav Modi’s firms have been paying off these loans over time the fraud charges are on the key aspect that the Buyer’s credit has been authorized without a cash margin (basically, like approving a loan without a collateral). It is also important to be note that the indemnity in this scenario is non-funded, which indirectly derives monetary benefits through the guarantee of the bank. The monetary equivalents of the entire Buyer’s credit generated through such a guarantee accrued by Nirav Modi’s firms would sum up to USD 1.77 billion (approximately) as on date. These are the reasons why these transactions haven’t been red-flagged over these six years, until the officials looked into the history of the undocumented SWIFT transactions.

To learn more about Indemnity and it’s implication in India Contract Law, please refer the following:

Law relating to Indemnity in India

5. What happens next?

It is a common misconception that whenever banks faces the brunt of fraud, it immediately alarms the depositors and panics them with regards to their funds stashed within the banks. This is not the case always, for instance, in PNB vs Nirav Modi scenario. Following the fraudulent charges, the firms assets have already been seized and the balance pay outs would be have to be drawn from the market cap of the PNB.

Fortunately, PNB being the 2nd largest public sector lender in India has ample cash to bail themselves out of this hurdle which is raised by the shareholders. Please note that shareholders are NOT depositors, as the liabilities and rights of both these parties are entirely different.

6. What to take away?

The only good this entire incident does to the Public Sector Banking practices is that it forces us to reconsider the implementation of the banking laws by its officials with transparency and accountability. It also calls for the design of record maintenance systems that require multi-level security and approvals in the interest of safeguarding both the bank’s depositors and shareholders from potential collapses. Any system evolves by continuous learning from its mistakes and shortcomings.

Even more so, the only way to improve the economic models ranging from individual households to entire nations is to see how they stand the test of time and such failures. Therefore, as much as it is important for a banking official to be absolutely transparent in his/her undertakings regardless of their level in the bank’s hierarchy, it is equally necessary for the shareholders to judge a bank’s credibility based on its funding and non-funding indemnities apart frm it’s lending portfolio.

From this fraud, I personally draw a lesson in practicing judicious and informed investing and have understood by example, as to how quick it is in reality to lose your money when you just try to ride the wave in blind trust of any given financial institution.

After all, they are run by people like us, who are no less greedy than us.

Invest wisely, be it time or money!



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