Jewelry magnate on the run after fraud exposed

Nirav Modi supposedly was one of the richest men in India. He came from a respected family and had close connections to the government. Could he really have pulled off a huge banking fraud to finance his business ventures?

On the surface, Nirav Modi had it all. Among his many awards and accolades, Town & Country magazine in 2016 named him India’s most innovative jeweler — the country’s “diamond king.” (See Meet Nirav Modi, India’s Most Innovative and Elaborate Jeweler, by Sarah Bray, Town & Country, July 15, 2016.) Modi was considered a man with the Midas touch. His jewelry company, Nirav Modi Global Diamond Jewellery House, became an international example of his business prowess and vision by opening flagship stores across the globe and attracting top celebrities to promote the brand. In 2017, Forbes estimated his net worth at $1.8 billion. If he wasn’t attending a red-carpet gala with Bollywood stars, he could be shaking hands with prime ministers and other global leaders in places like Davos, Switzerland. (See Congress targets PM over Davos photo with Nirav Modi, The Hindu, Feb. 15.)

His Michelin star chef-catered parties were legendary, and he had no shortage of friends in high places looking to court a man who apparently could never fail. (See Nirav Modi’s Ultra-Luxe Parties Included 7-Course Meals By Michelin Chefs, by Suntra Choudhury, NDTV, Feb. 15.)

However, sometimes a story’s just too good to be true. It can even be difficult for us to believe our own eyes, especially when the press, public opinion and social media subconsciously influence us. That’s when a bank employee stumbled across what could be the largest banking fraud in Indian history. And then we have to ask, could Modi — the owner of a successful international business who comes from a well-known family and has close connections to the government — really be a huge swindler?

As reported by Reuters, on March 8, Punjab National Bank (PNB), India’s second-largest bank, filed a criminal complaint with India’s Federal Investigative Agency accusing Modi, along with multiple bank employees, of defrauding the bank to the tune of approximately $1.8 billion. (See Developments in the $2 billion Punjab National Bank fraud case, Reuters, March 8.)

PNB’s stock price plummeted. The alleged fraud has ballooned into an international conspiracy involving billionaires, diamond and gold shipments, bribes and multiple international manhunts coordinated by the Indian Central Bureau of Investigation (CBI) and Interpol. Let’s dissect this developing story and how it came to be. (See Eyes wide shut: the $1.8 billion Indian bank fraud that went unnoticed, by Krishna N. Das, Aditya Kalra, Devidutta Tripathy, Tom Lasseter, Reuters, Feb. 18, and Jeweller Nirav Modi nowhere to be seen as $2bn fraud alleged, by Amy Kazmin, Financial Times, March 21.)

The family business

Modi was born into a family of diamond merchants. After growing up in Antwerp, Belgium, he moved to Mumbai at 19 to work for his uncle, Mehul Choksi, who was the head of the Gitanjali Group, a retail jewelry company with more than 4,000 stores across India. (See Nirav Modi: Who is India’s scandal-linked billionaire? by BBC News, Nov. 16.)

After he worked for his uncle for almost a decade, Modi established his first company, Firestar Diamonds, in 1999 as a diamond sorter and manufacturer. According to Kazmin’s Financial Times article, Modi didn’t begin selling ultra-luxury jewelry pieces under the Nirav Modi brand until 2010. His rise to stardom began with the sale of the 12.29 carat Indian diamond Golconda Necklace by Christie’s in Hong Kong for $3.75 million, Kazmin wrote.

Modi’s name now was synonymous with expansion and success. Modi began supplying jewelry from his newly opened boutique in Mumbai to some of India’s most famous Bollywood stars and western celebrities, such as Priyanka Chopra and Naomi Watts, who became his brand ambassadors, according to Did This Jeweler to the Stars Commit the Biggest Bank Fraud in India’s History? by Samanth Subramanian, Bloomberg Businessweek, June 28. He quickly opened more domestic shops and began his international expansion into Hong Kong, London and New York.

According to the Financial Times article, even though the Indian jewelry industry knew Modi as a tireless self-promoter, the speed and breadth of his ultra-luxury retail brand expansion surprised many. However, since he came from a well-known family in the diamond trade, most industry insiders assumed Modi was using family money to fund the rapid expansion. “I was stunned at the magnitude of the money involved,” the article quotes Vinod Nair, a former fashion journalist who now organizes luxury events and consults for brands. “I had no inkling that he was playing with someone else’s money.”

Gaming the system

As stated in the CBI complaint, complicit employees in the Brady House branch of PNB in Mumbai issued hundreds of fraudulent, unauthorized bank guarantees, called “letters of undertaking” (LoUs) or letters of credit, to companies controlled by Modi and Choksi without the requisite import documents or collateral, according to the Financial Times article. Indian companies commonly use LoUs as forms of payment to international suppliers, according to the FT article. An LoU is a guarantee by the issuing bank that the funds paid by an overseas branch of another bank will be fulfilled by the bank issuing the LoU on behalf of a client.

Normally, the bank issuing an LoU requires its client to pay a portion into a reserve collateral deposit account to lower the issuing bank’s exposure, according to BloombergQuint.

PNB employees transmitted the fraudulently issued LoUs from the Modi-controlled firms to foreign branches of State Bank of India, Axis Bank, Allahabad Bank and Canara Bank using instructions via the international SWIFT (Society for Worldwide Interbank Financial Telecommunications) payment messaging system, according to the FT article.

But PNB never recorded the guarantees into its core banking system, so its top management didn’t know of the mounting obligations, according to the CBI complaint. The fraudsters repeated this fraud hundreds of times from 2011 to 2017 and emptied the banks’ accounts of nearly $2 billion. (See How Nirav Modi Pulled Off The PNB Fraud, by Sharleen Dsouza, BloombergQuint, June 28.)

Once the money transferred, Modi’s companies used the funds to pay suppliers in exchange for goods. Or, as reported by BloombergQuint, Modi used 12 companies in India and 15 dummy companies overseas (nine in Dubai and six in Hong Kong) to create a complex web of transactions so that they could borrow more money through fraudulent LoUs.

According to the Indian business magazine Business Today, the elaborate scheme came to a crashing end when Modi’s first inside man, Gokulnath Shetty, the deputy manager of the Brady House branch of PNB in Mumbai, retired. Shetty’s successor discovered the unrecorded fraudulent LoUs, which Shetty was secretly rolling forward. PNB immediately contacted law enforcement.

Shetty confessed that he’d issued the first LoU to Nirav Modi, in 2010, and all subsequent fraudulent LoUs, according to Business Today. He said he didn’t benefit from his misconduct, but Modi and Choksi blackmailed him after Shetty issued the first LoU. Shetty also implicated his boss, Rajesh Jindal, the general manager at PNB’s Brady House branch, who he said directed him to issue the LoUs to Nirav Modi without securities and collateral. (See PNB fraud: Gokulnath Shetty confesses he issued all LoUs; alleges Modi, Choksi blackmailed him, by Virendrasingh D. Ghunawat, Business Today, April 9.)

Billionaire on the run

Although both Modi and Choksi reportedly left India before PNB filed its complaint, Indian authorities have arrested 17 individuals related to the case, according to Reuters. (See Developments in the $2 billion Punjab National Bank fraud case, Reuters, March 8.)

The Indian government canceled the passports of Modi, Choksi and other family members and close associates, and asked Interpol to issue “red notices” — international arrest warrants — for them. (See Interpol seeks arrest of Indian billionaire jeweler Nirav Modi, Reuters, July 1.)

As reported in The Economic Times, Modi is using fake passports to stay on the move and out of the grasp of the international dragnet. (See Passport revoked but Nirav Modi still travels freely, by Raghav Ohri, The Economic Times, June 19.)

Lessons learned

We know that those in positions of influence and power can use their positions to manipulate others for financial gain, but Modi and Choksi took manipulation to the extreme by creating larger-than-life success stories that were fed into select media outlets around the globe.

Bank management, regulators and auditors missed detecting the $2 billion fraud for seven years. As reported in the BloombergQuint article, managerial complacency at the PNB led to the processing of thousands of fraudulent transactions, sometimes even with incorrect, incomplete and missing information. (Read about an example of a bank executive charged in the fraud in Centre gives CBI permission to act against Usha Ananthasubramanian in PNB case, Economic Times, Aug. 14.)

Does the LoU process have an inherent risk of fraud? Of course. However, functioning internal controls, unless circumvented, could’ve prevented this simple fraud. Shetty’s successor discovering the fraud only after Shetty’s retirement reinforces the importance of division of duties, mandatory vacations and job rotations for critical positions.

Also, allowing a major bank like PNB to operate with two non-integrated systems —its internal core and SWIFT — provided bank insiders opportunities to hide their unauthorized transactions. Apparently, either the bank’s auditors didn’t detect the differences when reconciling the two systems, or, if they did, the internal fraudsters gave them reasonable explanations for the discrepancies.

Be vigilant when investigating prominent people because they often can hide fraud under a perfectly crafted image of success and prosperity. Just because it glitters doesn’t mean it’s gold. Especially if they seem to have the Midas touch.

Steve C. Morang, CFE, is a senior manager at a Northern California-based CPA firm and president of the ACFE’s San Francisco Chapter. Contact him at steve.morang@yahoo.com.