In India, to import something from abroad, you could either pay directly to the foreign exporter or ask a bank to pay on your behalf (Buyer’s Credit).
For the buyer’s credit, most Indian importers prefer foreign banks because of their low loan interest rates.
But you can approach a foreign bank only if you get a local bank to be your guarantor (i.e., the local bank should guarantee payment to the foreign bank in case you default).
To be your guarantor, the local bank would ask you to submit a security deposit along with an invoice & other relevant documents from the exporter.
If you submit everything, the local bank—after due diligence—would issue an LOU (Letter of Undertaking) to the foreign bank stating that the foreign bank can pay the exporter on your behalf.
Now, Nirav Modi (a diamond merchant) and his uncle Mehul Choksi (a renowned jeweller) are said to have bribed a few PNB (Punjab National Bank) officials at Brady House Branch (Mumbai) to issue LOUs without any security deposit.
And over seven years, PNB issued several LOUs (without any security deposit) to foreign banks, which paid exporters a sum of INR 11,000+ crores ($1.8 billion).
In 2017-18, one of the “bribed” officials retired, and when Nirav Modi’s company asked for issuance of another LOU, the new officer that had replaced the retiree asked for the security deposit.
When the company told this employee that they never had, in the past, deposited any security deposit, an investigation was initiated, and this fraud came to the surface.
It was then found that it was not only the security deposit that was missing; even principal and interest were also never paid to PNB, which—being the guarantor—was making these payments to the foreign bank.
In the ideal situation, issuing LOU and payments to foreign banks should automatically get updated into a bank’s Core Banking System (CBS)—a back-end system that processes daily banking transactions.
But at PNB, it wasn’t happening automatically, and the staff was required to record the transactions in CBS manually.
The “bribed officials” took advantage of this gap and never made any entry in the CBS, and so, these transactions never came to the notice of the bank auditors.
Before CBI could start its proceedings in 2018, Nirav Modi and Mehul Choksi fled the country.
