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Nedungadi Bank and the saga of RBI inaction

This week, the Reserve Bank of India finally made a decisive effort to free Nedungadi Bank from the grip of a leading stockbroker who controls nearly 40 per cent of its equity by asking him to step down from the board of directors. Rajendra Banthia, a former crony of Harshad Mehta, was known as the Bombay Dyeing bull in the 1992 stock scam. He emerged relatively unscathed and went on to become a director, then treasurer and later vice-president of the Bombay Stock Exchange.

The RBI action followed the discovery that three broking firms had run up transactions worth Rs 13.50 billion between September 1999 and March 2000. The brokers were Harvest Deal Securities, Shrikant G Mantri and First Custodian Fund (India) Ltd. The bank also had an outstanding exposure of Rs 200 million by Shrikant Mantri. In fact, Banthia, a director of the bank and an interested party, controls all three broking firms. The flip side of Banthia's control over Nedungadi Bank is the horror story of RBI's regulatory failure.

Banthia's influence is neither new nor sudden. He has been consolidating his hold over the bank for an entire decade and there have been several occasions when the alarm bells clanged loudly enough, but the RBI had chosen to ignore them. It similarly ignored letters from depositors and shareholders of the bank detailing its strange policies and practices.

The story starts in the early 1990s. Nedungadi was a sleepy, Calicut-based bank which attracted the attention of B Ratnakar, the late former chairman of Canara Bank and promoter-chairman of Fairgrowth Financial Services Ltd. In 1991, the dynamic Ratnakar had secured control of Nedungadi Bank through a disguised takeover. RBI rules did not permit any individual to control more than one per cent of the voting stock, so Ratnakar's holding was distributed among several of his supporters and brokers. In his last interview ever, given to Business Today magazine, Ratnakar had articulated his vision: it was to convert Fairgrowth Financial Services into a massive financial services conglomerate of which Nedungadi would be the banking pivot.

When Ratnakar passed away in 1991, a big chunk of Nedungadi's equity partly remained with his buddy brokers and his family. In 1992, during the securities scam, Nedungadi was also caught in the crossfire due to its relationship with Fairgrowth; and this led to disciplinary action against five of its officials.

Over the next few years, Banthia slowly acquired Nedungadi shares held by Ratnakar's friends and family. He effectively bypassed RBI's stringent licensing norms and avoided the Rs 1 billion minimum capital requirements to control a bank by buying up the equity for just around Rs 300-odd million. The shareholding pattern of Nedungadi Bank itself ought to have worried the central bank. The shareholders comprised an extraordinarily large number of brokers, brokerage firms, finance companies and leasing outfits who clearly control the bank. Other than Banthia and his family, or Shrikant Mantri, the list includes former BSE president M G Damani and others.

Damani's role in Nedungadi is also vital. Banthia and A R Moorthy, chairman and CEO of Nedungadi, invited Damani and Suresh Vaidya, a public representative on the BSE board, to be the bank's directors in 1997. (Moorthy resigned last week when the RBI began to turn on the heat. On May 9, 2001, the RBI announced it was rejecting his resignation and was sacking him instead, because it had clinching evidence of his involvement in the recent share scam).

The outspoken Damani assumed directorship on January 1, 1998 and in his usual style announced that Nedungadi's reputation was that of a 'stagnant bank confined to its shell.' He categorically stated that unless the bank management had a 'mindset to emerge out of the shell and to acquire the stature of an all-India bank, it would be below my stature to join the board.' Part of the plans to give it all-India stature was to make it a clearing bank of the BSE. However, Damani's term ended soon after and he alleges that the chairman made no push to complete the requisite formalities.

By June 1998, the BSE was in turmoil. Harshad Mehta's comeback bid had failed, threatening to turn scores of brokers into defaulters. It was also discovered that Banthia and his companies, including Harvest Deal were among the big speculators in BPL, Videocon and Sterlite -- the three scrips that Harshad had been rigging. The BSE top brass was forced to resign as a part of Sebi's investigation into the scandalous hushing up of the payment crisis. Banthia too had to go and inquiries against him are still pending.

Incidentally, Damani claims his appointment to the board should be cleared by RBI. Last week, the RBI decided to frown on brokers being directors of banks, but when it cleared Damani's appointment it obviously never examined the possibility that a broker on the board would have access to precise financial data about the banks's borrowers and may use it in his trades.

On September 27, 2000, Damani resigned. He wrote an eight-page resignation letter, which detailed various acts of commission and omission by A R Moorthy.

His letter claims he had 'conveyed, in no uncertain terms, that the quality of borrowers chosen by the bank, was hopelessly poor and that most of the units were absolutely unviable.' Far from paying heed to his comments, the bank gave further loans to the same borrowers even though they were 'haunting the bank as non-performing assets.'

Damani accused the chairman of insulting the directors and listed out 22 specific charges against him. These include mishandling of employee problems, re-introducing proposals rejected by the full board after some directors had left the meeting and even fudging minutes of meetings. He said 'the reputation of the bank is so bad that most people talked of corruption in the bank even in the head office.'

Damani's resignation, including his tabulation of the bank's NPAs was submitted to the entire board of directors, which included an RBI nominee. Yet the central bank studiously looked the other way. At each stage, the central bank was happy to accept the explanations offered by A R Moorthy, which deflected the blame to everybody but himself.

Curiously, Damani's letter is completely silent about the role of his friend Banthia although he was crucial to the action at the bank. Soon after Damani resigned, Banthia became a director of Nedungadi bank in December 2000. Again, RBI maintained a thundering silence, despite Banthia's track record and the fact that an investigation was being conducted by the Securities and Exchange Board of India. Coincidentally, S P Talwar, the RBI deputy governor who heads supervision, is also on the SEBI board. In fact, the Nedungadi story makes one wonder if the RBI conducts any supervisory function at all.

It is only in March after the Ketan Parekh bubble had burst, that the RBI suddenly swung into action and began to go through Nedungadi's books with a toothcomb. Nedungadi is by no means the only bank whose capital market shenanigans have yet to face the regulatory spotlight. In the past, another Calcutta-based operator called Vinod Baid had acquired a big chunk of shares in the Bank of Sikkim and extracted funds from the bank.

At that time too, an eventual collapse had led to RBI investigation and action. Similarly, many private banks continue to hide their losses in the recent market debacle very successfully. If a regulator will only perform its supervisory duties during a crisis then one can be sure the country will only lurch from one scam to another.

Sucheta Dalal

Money