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A project report submitted in partial fulfillment of the requirements for the program PGDM(2010-2012)
SUBMITTED BY : JEETENDRAA SINGH MANOJ PANJWANI NITESH KHANNA PRERNA BHADANI SANGEEV JHA
TITLE PAGE
DECLARATION
We hereby declare that all the work presented in the project report entitled India Securities Scam by Harshad Mehta of the subject Process Finance is an authentic record of our own work carried out under the guidance of Prof. Prashant Sipani.
Jiteendra Singh Manoj Panjwani Nitesh Khanna Prerna Bhadani Sangeev Jha
CERTIFICATE
This is to certify that project report entitled India Securities Scam by Harshad Mehtaof the subject Derivative which is submitted by Jeteendra Singh, Manoj Panjwani, itesh Khanna, Prerna Bhadani, Sangeev Jha is an authentic record of the candidates own work carried out by them under our guidance. The matter embodied in this thesis is original and has not been submitted for the award of any other degree.
ACKNOWLEDGEMENT
We express our deep gratitude to Prof. Prashant Sipani of Jaipuria Institute of Management, Jaipur for his constant support, guidance, and motivation which helped us immensely in completing this project. The project provided us an opportunity to understand theIndias biggest securities scam that aver happened in a better manner.
Group-2 Jeetendra Singh Manoj Panjwani Nitesh Khanna Prerna Bhadani Sangeev Jha
EXECUTIVE SUMMARY
A lot is heard in the past and till today we hear a lot about the financial markets scams. Financial Market Scams are the attempts by scam masters who indulge in crooked activities to fulfil the bellies of their own at the stake of common man. These scam masters through various fraudulent activities gather big chunks of money. Our report is one such initiative to highlight a capital market scam or say securities scam in India, how it was done and the money that was involved in these scams. In this project report we have studied about one of the most infamous scams that has been unearthed The Securities SCAM. The Securities Scam refers to a diversion of funds to the tune of Rs. 3,500 crores from the banking system to various stockbrokers in a series of transactions (primarily in Government securities) during the period April 1991 to May 1992.The Bank of Karad (BOK) and the Metropolitan Co-operative Bank (MCB) issued fake BRs, or BRs not backed by any government securities. Using the ready forward (RF) deal which is a secured short-term (typically 15-day) loan from one bank to another Harshad Mehta was an Indian Stockbroker and is alleged to have engineered the rise in the BSE stock exchange in the year 1992. Exploiting several loopholes in the banking system, Harshad Mehta and his associates siphoned off funds from inter bank transactions and bought shares heavily at a premium across many segments, triggering a rise in the Sensex. In an ever expanding ambit, the scam has engulfed top executives of large nationalized banks, foreign banks and financial institutions, brokers, bureaucrats and politicians. The functioning of the money market and the stock market has been thrown in disarray. A large number of agencies, namely, the Reserve Bank of India (RBI), the Central Bureau of Investigation (CBI), the Income Tax Department, the Directorate of Enforcement and the Joint Parliamentary Committee (JPC) are currently investigating various aspects of the scam.
TABLE OF CONTENT
S.No. Chapter Name 1 2 3 4 4.1 4.2 4.3 5 6 7 8 9 9.1 9.2 9.3 9.4 10 11 12 13 14 Introduction About Harshad Mehta Overview Of The Scam Ready Forward (RF) Modus Operandi
Settlement Process Payment Cheques Dispensing Of Securities
Pg.No 8 8 9 10 11 11 12 12 13 13 13 14 14 14 14 14 15 15 16 16 16 17
Bank Receipts Control Systems Disappearance Of Money Unethical Issues In Mehta Scam After The Scandal
Immediate Impact Impact On The Indian Economy Impact On The Bank Response Of The Government
Policy Measures Action Taken By The Government Role Of The SEBI In The End Conclusion References
1. INTRODUCTION:
Various scams, scandals and stigmas have surfaced in the recent years. These may not all be attributable to the antics and bungling of politicians, but they have been facilitated largely because of the vitiated atmosphere that the politicians and the political system have created in the country.Some of the most famous SCAMS that have surfaced during the time are: The 1200 crores fodder scam relating to the procurement of non-existent fodder on payments from the state exchequer. The Scam in printing & selling of stamp papers, which is used for recording documents for registration purpose. This scam is of about Rs. 2200 crores & involves fraudulent printing & sale of stamp papers in the various parts of the country. There is the famous Bofors scam, which was about the purchase of important defense equipment from foreign markets
The list goes on & on & moreover there are continuous additions to the same. The Securities Scam refers to a diversion of funds to the tune of Rs. 5,000 crores from the banking system to various stockbrokers in a series of transactions (primarily in Government securities) during the period April 1991 to May 1992
On April 23, 1992, journalist Sucheta Dalal in a column in The Times of India, exposed the dubious ways of Harshad Mehta He was later charged with 72 criminal offenses and more than 600 civil action suits were filed against him He died in 2002 of a massive heart attack in a jail in Thane, with many litigations still pending against him.
The above graph shows the rise in the Sensex during the period when Harshad Mehta was operational and putting in loads of money in the stock exchange increasing the liquidity and thus arbitrary increase in the prices of some shares.
1. Settlement Process 2. Payment cheques 3. Dispensing of securities 4.1. SETTLEMENT PROCESS The normal settlement process in government securities is that the transacting banks make payments and deliver the securities directly to each other. During the scam, however, the banks or at least some banks adopted an alternative settlement process which was similar to the process used for settling transactions in the stock market. In this settlement process, deliveries of securities and payments are made through the broker. That is, the seller hands over the securities to the broker who passes them on to the buyer, while the buyer gives the cheque to the broker who then makes the payment to the seller. In this settlement process, the buyer and the seller may not even know whom they have traded with, both being known only to the broker. There were two important reasons why the broker intermediated settlement began to be used in the government securities markets: The brokers instead of merely bringing buyers and sellers together started taking positions in the market. In other words, they started trading on their own account, and in a sense became market makers in some securities thereby imparting greater liquidity to the markets. When a bank wanted to conceal the fact that it was doing an RF deal, the broker came in handy. The broker provided contract notes for this purpose with fictitious counter parties, but arranged for the actual settlement to take place with the correct counter party. 4.2. PAYMENT CHEQUES A broker intermediated settlement allowed the broker to lay his hands on the cheque as it went from one bank to another through him. The hurdle now was to find a way of crediting the cheque to his account though it was drawn in favor of a bank and was crossed account payee. As it happens, it is purely a matter of banking custom that an account payee cheque is paid only to the payee mentioned on the cheque. In fact, exceptions were being made to this norm, well before the scam came to light. Privileged (corporate) customers were routinely allowed to credit account payee cheques in favour of a bank into their own accounts to avoid clearing delays, thereby reducing the interest lost on the amount.Normally, if a customer obtains a cheque in his own favour and deposits it into his own account, it may take a day or two for the cheque to be cleared and for the funds to become available to the customer. At 15% interest, the interest loss on a clearing delay of two days for a Rs. 100 crores cheque is about Rs. 8 lakhs.
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On the other hand, when banks make payments to each other by writing cheques on their account with the RBI, these cheques are cleared on the same day. The practice which thus emerged was that a customer would obtain a cheque drawn on the RBI favoring not himself but his bank. The bank would get the money and credit his account the same day. The brokers asked the banks to give the cheques in their own name claiming that they will pay to the other party on their own. The practice thus emerged was that the broker would obtain a cheque drawn on the RBI favouring not himself but his bank and the bank would get the money and transfer it to the broker account on the same day. This helped the brokers to get the money as soon as the transaction is made which could further be used to be channelled into the stock market. 4.3. DISPENSING OF SECURITIES Here the brokers used their credibility to persuade the banks to part with the cheques without actually receiving the securities with the promise that they will get the securities the next day with a 15% interest for one day. Bank officials were bribed to accomplish this task as this was illegal on the part of the banks to let go of their money without any assurance. This was Harshad Mehta and his associates were able to use the money of the banks which was eventually used for speculating in the stock market.
5. BANK RECEIPTS
Another instrument used in this scam was the bank receipt (BR). In an RF deal, securities were not moved back and forth in actuality. Instead, the borrower, who is the seller of securities, gave the buyer of the securities a BR. In practice, borrowing bank gives a Bank Receipt (BR) instead of delivering the actual securities to the lender. Bank receipts serve three functions It confirms the sale of securities Promises to deliver the securities to the buyer. It states that the securities are held by the seller in trust for the buyer. Acts as a receipt for the received money by the selling bank A BR means that the issuer holds the securities in trust for the buyer, but there is a possibility that the issuer may not have the securities at all. Following are the reasons for a bank to issue a BR which is not backed by actual securities A bank may also short sell securities, i.e. bank will sell securities it doesnt have. This will be done if the bank anticipates fall in prices. Bank buys securities at lower prices when they fall in value and discharges the BR. Bank may do an RF deal and issue a fake BR (not backed by securities) if banks simply want an unsecured loan , where a lending bank would be under the
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impression that its dealing with a secured loan but in reality its advancing an unsecured loan. Though, lenders should have taken measures to protect themselves . During the scam, brokers were so perfect in the art of using fake BRs and obtained unsecured loans from various banks. They managed to persuade little known bank s like the Bank of Karad (BOK) and the metropolitan Cooperative Bank (MCB) to issue BRs and then these BRs were used to do RF deals with other banks. This way several large banks made huge unsecured loans to these banks and thus it created money for the brokers.
6. CONTROL SYSTEMS
There was a complete breakdown of the control system within the commercial banks and that of RBI. Following features are involved in the internal control system: Whenever an RF deal is done by using BRs rather than actual securities, the lending bank has to contend with the possibility that it may be making an unsecured loan. This requires assigning credit limit to the borrower by assessing the creditworthiness of the borrower. The different aspects of securities transactions of a bank are carried out by different persons
7. DISAPPEARANCE OF MONEY
It is becoming increasingly clear that despite the intensive efforts by several investigating agencies, it would be impossible to trace all the money swindled from the banks. At this stage we can only conjecture about where the money has gone and what part of the misappropriated amount would be recovered.
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first step by the government, the case was handed over to Central Bureau of Investigation and the Joint Parliamentary Committee (JPC). Then a special court was set up to facilitate speedy trial. The special court declared an ordinance for the attached the properties of all individuals accused in the scam. Further, all transactions done by the accused after March 31, 1991 were considered void. To reform the system further, the government banned RF deals and slowed down the liberalization process.
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The main motive behind punishing the offenders is more to prevent future offenders to not to try this type of scam. The government must ensure that not only the obviously guilty (the brokers) but also the not so obviously guilty (the bank executives, the bureaucrats and perhaps the politicians) are identified and brought to book. These types of investigations are not only very time consuming but also very expensive.
14. CONCLUSION
Corporate Governance is the value framework, ethical framework and moral framework within which businesses make decisions .When large sums of money are involved, greed causes people to become unethical There was a total lack of transparency in the money market.Irregularities of all kind were so common that no suspicion aroused even by highly irregular transactions. This is the ideal environment for a scam to germinate and grow to alarming proportions
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REFERENCES
http://en.wikipedia.org/wiki/Harshad_Mehta http://www.bullrider.in/harshad-mehta-stock-scam/ http://investmentpark.blogspot.com/2007/02/harshad-mehta-scam-1992.html http://www.scribd.com/doc/17227215/Harshad-Mehta-Scam http://wiki.answers.com/Q/Can_you_give_the_details_about_the_Harshad_Mehta_sca m http://www.authorstream.com/Presentation/pratm_18-486267-harshad-mehta-andketan-parekh-scam/ http://www.slideserve.com/PPTFiles/insights_investing_jul08_29542_32424.ppt
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