Baba’s Explainer – DHFL SCAM

• Infrastructure Leasing & Financial Services Limited(IL&FS) is an Indian state-funded infrastructure development and finance company. It was created by public sector banks and insurance companies.
• IL&FS, a systemically important non-deposit accepting Core Investment Company, went bust in 2018. It defaulted on its debt payments, including bank loan repayments and commercial paper (CP) redemption obligations.
• This event surely sent shock waves across the country’s shadow lending i.e. NBFC sector. Creditors, mostly scheduled commercial banks (SCBs), rushed to tighten lending norms against NBFCs. This sparked a brutal liquidity crisis that affected all NBFCs, big and small. One of those was Dewan Housing Finance Corporation (DHFL).

• DHFL was a major player in the NBFC space for many years.
• As once India’s fourth largest mortgage financier, it primarily dealt with long-term housing loans. And as a shadow lender, it borrowed from financial institutions such as insurance companies and mutual funds by issuing Commercial Papers (CPs) to lend to the public.
• The IL&FS crisis meant there were now fewer takers for DHFL’s CPs.
• DHFL was also reeling under high NPAs and hit by a series of allegations of financial mismanagement, including siphoning of funds by promoters.
• A default was impending, but credit rating agencies continued to issue high safety ratings for its financial products.
• Then on June 4th 2019, the inevitable happened. DHFL defaulted on ₹900cr ($122.6m) worth of due payments. Its CPs’ rating was downgraded to “D” overnight which has sent its share price into a tailspin.
• To add to the DHFL woes, allegations of dubious financial transactions continued to emerge against Kapil Wadhawan (the then Chairman and MD) and Dheeraj Wadhawan (then a non-executive director).
• Finally, on November 29th 2019, the RBI initiated insolvency proceedings against DHFL – the first NBFC to undergo a corporate insolvency resolution process (CIRP)

• The Union Bank of India has alleged that Kapil and Dheeraj Wadhawan in criminal conspiracy with others misrepresented and concealed facts, committed criminal breach of trust and abused public funds to cheat the consortium to the tune of Rs 34,614 crore by defaulting on loan repayments from May 2019 onwards.

Let’s have a look at the alleged way in which DHFL was able to siphon off money which was provided to it by public sector banks for the purpose of lending to others.

1. Loans to Shell Companies:

• It is alleged that DHFL has made dubious loans to shell companies.
• Shell companies are pass-through entities. This means that they are not the final destination of the money. Instead, they are just a stop on the complex route which is generally created to confuse tax and other regulatory authorities.
• Nearly 34 such corporations have been identified. These corporations have indirect links to the promoters of the DHFL group, and reports indicate that DHFL has lent out close to $1.5 billion in unsecured loans to these companies.
• The problem is that DHFL has lent money to these companies without taking adequate security.
• In the Indian banking industry, loans given to companies are secured via taking assets as collateral. Also, promoters are supposed to give personal guarantees to further ensure the safety of these loans.
• DHFL has not followed these processes. As a result, public money has been lent out to people without collateral. Since there is no collateral, this money cannot be easily recovered.
• It has been alleged that a lot of these loans given to shell companies have now become non-performing assets (NPA’s).
• The scrutiny of account books showed that 66 entities having commonalities with DHFL promoters were disbursed Rs 29,100 crore against which Rs 29,849 crore remained outstanding.

2. Round Tripping:

• Loaning public money without following the proper process is just a part of the problem.
• The bigger problem is that the money which was loaned out has later flown back into entities which were owned by the DHFL group. In financial parlance, this is known as round-tripping. Hence, in effect, DHFL gave an unsecured loan to its promoters.
• The shell companies and other transactions were just used to cover up these blatantly illegal transactions.
• Without round-tripping DHFL is just guilty of negligence. With round-tripping, DHFL has a malafide intent and therefore becomes guilty of fraud.

3. Purchasing Assets:

• Lastly, the money acquired by round tripping was used by DHFL in order to purchase assets in other countries. It is a known fact that DHFL has invested money in startup companies in the United Kingdom.
• It is also known that DHFL has purchased a cricket team in the Sri Lankan Premier League. It is alleged that the proceeds of these loans were used to make these transactions.
• It is also alleged that other personal assets have also been created in countries like Mauritius and Dubai by the owners of DHFL.
• Once again, this seems like a scam because all the assets have been created in other jurisdictions. Hence the Indian government or the tax authority will not be able to acquire the same.

• ABG Shipyard created a web of transactions to cheat a consortium of 28 banks of Rs 22,842 crores between 2012 and 2017
  • The CBI said that the account of ABG Shipyard was declared a non-profitable asset (NPA) in 2013.
  • The CBI has booked ABG Shipyard Ltd and its former chairman and managing director Rishi Kamlesh Agarwal along with others for the fraud.
• Diamond trader Nirav Modi and his uncle Mehul Choksi were accused of allegedly defrauding Punjab National Bank of nearly Rs 14,000 crore.
  • The scam relates to fraudulent letter of undertaking issued by the bank
  • Nirav Modi and his relatives escaped India in early 2018, days before the news of the scam became public.
• Business tycoon Vijay Mallya is accused of defaulting over Rs 10,000 crore from more than a dozen Indian banks after his venture Kingfisher Airlines Lt failed in 2013.
  • Mallya left the country on 2 March, 2016, the day a clutch of public-sector banks moved the Debt Recovery Tribunal against him.
  • In January 2019, he was declared a fugitive economic offender under the Fugitive Economic Offenders Act.
• In the Bank of Baroda foreign exchange scam, loopholes in the remittance rules to bring back illegal money from abroad were exploited.
  • The scamsters transferred money to Hong Kong claiming that to be advance payments to vendors.
  • Employees of various banks including Oriental Bank of Commerce and Bank of Baroda were allegedly party to the scam that amounted to over Rs 6,000 crore.
• In September 2019, the Reserve Bank of India discovered that PMC Bank had allegedly created fictitious accounts to hide over Rs 4,355 crore of loans extended to Housing Development and Infrastructure Limited (HDIL) which was at the time almost bankrupt.