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What a paradox?

Akhilesh Bhargava

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banking

In any society, banks are the primary agency/organisation, engaged in the business of lending money. In a most critical function that they perform, they pool in and aggregate domestic household savings (thus enabling them to earn interest), which they then lend to various borrowers, which could be individuals, small traders or large corporates, thus providing credit/funds to the economy. Both these functions viz. savings and lending are crucial for the growth and prosperity of a nation. The lending function of the bank, needs the expertise, experience and skills of risk analysis, by way of credit appraisal and due diligence. The purpose is to minimise errors of judgement and lend to a creditworthy borrower only. It ensures the provision of funds to the most deserving borrowers, such that bank loans do not go bad. The key expertise of a banker in his lending responsibilities thus lies in his ability to appraise and spot creditworthy borrowers, who do not default/defraud bank loans.

This ability of bankers to do credit appraisal and risk analysis, has clearly diminished in recent years. With state-owned banks, which monopolise the Indian banking industry, being willing victims of political/bureaucratic meddling in their state of affairs, lending decisions of banks as have often been dictated by babus/netas and not by an impartial and objective assessment of the credibility of the borrowers and their credit needs by the borrowers, by the bankers per se. In many big ticket loans, bankers have taken orders from their political masters, rather than do detailed credit appraisals and then decide, whether to lend or not. It has been often found that papers were cooked up by bankers thereafter, to justify loans given to unworthy crooked borrowers in this manner. It was thus not a reasoned credit decision to lend, but was a mere execution of a corrupt politicians order. In this process, the infectious bug of corruption, widely infected the bankers too, collectively resulting in the giant mountain of over Rs. 10 lakh crores of bank NPAs. This huge banking crisis stands as a loud shameful testimony to the degradation and deterioration of the skills of bankers in India.

India thus faces a deficit of professional skills among its banking fraternity. Lending decisions have come to a grinding halt in banks, reflecting in the below 10% bank credit growth in India this year. Banks cannot refrain from the lending responsibility or else the liquidity in the economy runs dry. So we are witnessing a strange paradox in the Indian banking & finance industry. Instead of doing direct lending to borrowers, banks are buying the loan portfolios of NBFCs. SBI itself has earmarked a sum of Rs. 45000 crores towards purchasing NBFC loan portfolios this year. It means that the credit appraisal and decision to lend to borrowers, at the inception has been that of the NBFC whose skills have been relied upon/trusted by the banks. On the other hand, banks are desperately seeking to sell their rotten NPA loans to NBFCs at huge discounts, again betraying their poor lending skills. Interestingly while NBFCs sell their loan portfolio to banks, they have been demanding a premium, but when they purchase the loan portfolio of banks, they demand a discount. That’s the sorry state of banks in India, and the denuded skills of bankers.

 

Business Tit-Bits

RATING AGENCIES HAVE BEEN INCOMPETENT AND NEGLIGENT

Akhilesh Bhargava

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SEBI

The giant ILFS scam was not an overnite creation. It started in 2012 and continued for years, becoming bigger and bigger with each passing year. It is the stark negligence of the credit rating agencies (CRAs), that has been responsible for the ILFS scam, ballooning to such a big one, whose very size in terms of loans taken, still remains a mystrey. Had the CRAs exercised just ordinary vigilance and had not shut their eyes to the most obvious signals of distress and default by ILFS, the scam would have been nipped in the bud, much earlier in the day and its size would have been a fraction of what it is today. There were obvious signals of losses and financial fatigue in the ILFS group, starting from 2012 itself. These very apparent signals that the CRAs ignored were that the liabilities of the ILFS group increased year after year, with no matching increase in the assets, its disputes over claims with the likes of NHAI kept increasing and remained unresolved, its holding company had started incurring losses and cashflows were receding, the support of its investor shareholders like LIC, SBI etc. on which basis ILFS was given AAA ratings, was clearly missing, that in the June 2018 board meeting of ILFS, the directors warned these shareholders that if they did not immediately infuse an additional equity of Rs.4500 crores in ILFS, its collapse was imminent and yet right upto Aug.2018, these rating agencies gave a AAA rating to ILFS.

If the CRAs were sleeping and gave no downgrade ratings/warnings to the lenders to ILFS, they were also very incompetent in their job. They failed to spot that ILFS had borrowed far in excess of its repayment capability, its liquidity was shrinking rapidly, it was incurring more and more losses by padding up project costs (called gold plating), its own investment in projects was actually NIL and that it had indulged in money laundering and siphoning of funds. The CRAs were also very willingly hoodwinked by the smart/oblique Ravi Parthasarathy and his team of highly paid executives and were also overpowered by the gang of top notch very well connected, retired bureaucrats at his disposal. The rating agencies thus were clearly negligent and incompetent, who compromised their integrity, whether intentionally or otherwise and are now being questioned for their failure, by the likes of SFIO.

The CRAs in India are regulated/governed by SEBI, and unsurprisingly SEBI has got into action only after the loot took place. SEBI too is guilty of being reactive and not proactive, that enabled the negligence of the CRAs. SEBI has now tightened the rating agency regulations, primarily entailing more and more disclosures, particularly in respect of liquidity position, asset-liability mismatches, rationale for any expectations of support from the promoters, adequacy of cashflows for servicing maturing debt obligations, and the extent of consolidation in the case of subsidiaries to understand the overall financial position of a company.

These additional SEBI requirements are anyway a must and it is surprising that mandatory regulations are needed to enforce them. These should have anyway been a part of routine rating procedures and methodology. Rating is not a tick in the box job. It needs an intense vigilance/alertness to look out for early warning signals, which was missing in the case of ILFS. Higher disclosure norms are no substitute for basic human common sense/due diligence that CRAs failed to exercise in the case of ILFS and that needs a detailed investigation.

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Business Tit-Bits

The bogus turnover business

Akhilesh Bhargava

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The hawala operators had a business turnover consisted of giving bogus bills of purchase and sale, for almost any item and of almost any company too. These fake bills helped companies not just to show a rosy picture of performance, but to also evade taxes, by booking bogus expenses. In this episode of Business Tit-Bits, our Business Editor Akhilesh Bhargava discusses how implementation of GST led to crackdown on this bogus turnover.

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Business Tit-Bits

THE BOGUS TURNOVER BUSINESS

Akhilesh Bhargava

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business

It was about a decade ago, when a big havala dealer was raided by the sales tax and income tax authorities in Mumbai. He ran his shady operations from a small room, situated in a ‘galli’, in the old congested markets of Kalbadevi, Mumbai. From this one room office, furnished with a table and chair, he conducted turnover of thousands of crores. His so called business turnover consisted of giving bogus bills of purchase and sale, for almost any item and of almost any company too. He issued such bogus bills, received payment by cheque, which with the connivance of bankers he refunded back in cash, after deducting his commission of 3%. His fake turnover involved bogus sales and purchase of matching amount, resulting in no profit to him on paper, which was a fact, since his real income was the mere 3% commission that he charged. But he is said to have issued bills of over Rs.10000 crores (of popular items like cement, steel and metal products), giving him an income of Rs.300 crores, in this manner.

These fake bills helped companies not just to show a rosy picture of performance, but to also evade taxes, by booking bogus expenses. These bogus bills were at the root of the window dressing and the rampant manipulation of books of account by corporate India and both big listed companies, as well as small enterprises a were involved in this racket. Due to such a rosy performance that these corporates showed, with the help of these bogus bills, they not just became eligible for higher bank loans, many of which have gone bad, but they also hoodwinked investors on the stock markets, through higher share prices of their manipulated scrips. In order to avoid paying income tax, these corporates who took bogus sale bills, also took a matching amount of purchase invoices, such that there was no profit on their books of account.

This was a pan India practice and each commercial centre in India, whether it be Mumbai, Delhi, Kolkata, Ahmedabad, Indore etc. was found to have such racketeers, who were issuing such bogus bills for a paltry commission, but that helped huge tax evasion. These racketeers of hawala bills, chose to operate below the radar, by not paying direct or indirect taxes and not filing any tax returns, and were difficult to detect.

With the onset of the GST and the collection/integration of extensive data by the Income Tax Department and its real time analysis, the earlier flourishing business of these hawala men, has come to a grinding halt. All those who had taken such bogus bills were also raided/penalised/prosecuted by the tax authorities, thus killing the market for such illegal activities. While this action has ensured better tax compliance, it has also ensured that corporate financial statements are cleaner and more genuine. It is no longer easy for a corporate, to show a rosy picture of performance, on the basis of bogus bills. More than the stringent action by the tax sleuths, it has been the advent of technology that has helped to spot these racketeers and destroy their business.

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