Before the SC upheld Sebi’s order on Sahara this year, RBI had taken on the firm in 2008 and won
Mumbai: On the evening of 12 September, the Lucknow-headquartered Sahara group released a statement saying the capital market regulator had refused to accept documentation related to investors in securities sold by two group companies.
The statement seemed to imply that Sahara was struggling valiantly to cope with an order by the country’s highest court and the regulator was being cussedly officious. But there’s more to this story.
A truck laden with the documents wasn’t allowed to enter the headquarters of the Securities and Exchange Board of India (Sebi) at Mumbai’s Bandra-Kurla Complex on 10 September, the deadline set for submission by the Supreme Court.
While the first truck carried an Uttar Pradesh registration (UP-32-CZ-7837), a second truck that accompanied it on 12 and 13 September carried a Maharashtra number plate (MH-04-CP-2147).
Sebi was not willing to accept the data beyond office hours and in instalments.
The Supreme Court had on 31 August directed two Sahara companies—Sahara India Real Estate Corp. Ltd and Sahara Housing Investment Corp. Ltd—to refund all the money they had collected through the sale of optionally fully convertible debentures, or OFCDs, in three months, decisively ending a three-year tussle between the regulator and Subrata Roy-owned Sahara Parivar in favour of Sebi.
India’s highest court had upheld the order of the market regulator and that of its appellate tribunal directing the two firms to refund the money after accusing them of violating regulatory norms by raising money through the debentures from the public in the guise of private placements.
The 270-page court order directed the group, which has interests in real estate, infrastructure, media, hospitality, cricket and Formula One car racing besides finance, to hand over various documents to Sebi. These included payment vouchers, redemption letters, application forms and the approval and allotment of the bonds to around 30 million investors.
The 12 September Sahara statement said the documents had been stored in warehouses in Lucknow, the capital of Uttar Pradesh, India’s largest state. A few trucks left Lucknow on 7 September carrying the first consignment of papers but they were delayed due to monsoon rains and couldn’t reach the Sebi office before the deadline expired.
The statement also said Sebi was “authoritatively" asking for original vouchers but these couldn’t be provided as they would be needed while settling payments. Sahara said 500 people had been working in three shifts round the clock at its Lucknow warehouse with 20 photocopying machines. Even then, it would take years to finish making copies. It also offered the estimate that the exercise would take 275 days if there were 1,500 people and 50 photocopying machines engaged in the work.
Assuming that each of the 30 million investors has just one A4 size document each, stacked up the pile would be 3,800 metres tall or 52 times the height of the Qutub Minar. End to end they would form a 6,300km line, twice the distance between the northern and southern ends of the country. And the weight of these documents would be at least 120 tonnes, equivalent to 40 Indian elephants.
Sahara’s task appears difficult but that’s nothing compared with what Sebi may have let itself in for. Sahara has to refund ₹ 24,030 crore—collected in 2008 and 2009—along with 15% interest per year to Sebi within three months. A rough calculation puts the total at ₹ 40,000 crore. This will be deposited in a nationalized bank that offers the maximum rate of interest.
The company is said to have already redeemed OFCDs worth about ₹ 2,000 crore to around 75,000 investors. The supporting documentation for this has also needs to be furnished.
Sebi will need to check whether the documents are genuine, for which it can hire experts, consultants and even investigators, with Sahara paying for this. Once this is done, the money will be refunded to investors by Sebi.
The process promises to be a painful one. There is for instance, an investor known as Kalawati. The document related to her doesn’t list the names of her father or husband. Her address doesn’t include a number, street or locality. The name of her agent is given as Haridwar.
The Supreme Court order expressed its bemusement at some of these inexplicable gaps.
“In India, names of cities do not ever constitute the basis of individual names. One will never find Allahabad, Agra, Bangalore, Chennai or Tirupati as individual names," the court order observed.
If investors’ identities can’t be established, the money will go to the government’s investor education fund. B.N. Agrawal, a retired Supreme Court Judge, will oversee the entire process.
It’s understood that Sebi has told Agrawal that Sahara hasn’t complied with the court order. In the event of non-compliance, legal remedies open to the regulator include attachment and sale of property, besides the freezing of bank accounts.
Before this, in 2008, the Reserve Bank of India (RBI) had taken on Sahara and won against the diversified conglomerate, which is reputedly well-connected. At that time, RBI had ordered Sahara India FinancialCorp. Ltd not to accept fresh deposits and wind up the ₹ 20,000 crore of public deposits it had in seven years. It also banned the company from accepting fresh deposits maturing beyond June 2011.
RBI had directed Sahara India Financial to repay the deposits as and when they mature and bring down the aggregate liability to depositors to zero on or before 30 June 2015, after it found irregularities in the functioning of the company. That move protected the interests of millions of investors and put paid to a critical avenue through which the group raised money.
But in its home base of Uttar Pradesh, Sahara seems to be a trusted name among those investors. To his champions, 64-year-old Roy is a “staunch nationalist" who has been doing a great job of financial inclusion, expanding the reach of such services in the hinterland of Asia’s third-largest economy, where half the adult population doesn’t have access to banking services. (This lack of access was part of the justification used by finance minister Pranab Mukherjee in his budget speech of February 2010, when he announced the opening up of the banking sector to private companies. RBI is yet to announce the new bank licensing norms.) Again, there’s more to this financial inclusion story than meets the eye as a close examination of the campaign RBI waged against Sahara makes clear.
Roy, the self-proclaimed “managing worker" of the group, made his start in Gorakhpur in eastern Uttar Pradesh, close to the India-Nepal border and around 266km away from the state capital, Lucknow.
After the death of his father Sudhir Chandra, who used to work at a sugar mill in Uttar Pradesh, Roy, the eldest son, first tried his hand at making salted snacks (Jaya Products) and later experimented with another venture along with his wife Sapna Roy. Both failed, according to Roy’s 2003 biography Bangalir Vitta Sadhana: Saharar Itikatha (A Bengali’s Practice of Finance: The Sahara Story) by well-known Bengali novelist Sankar.
In 1978, he started the so-called para-banking venture, which took deposits from investors—sometimes of as little as ₹ 1 a day. By 2008, Sahara India Financial was India’s largest residuary non-banking company, or RNBC. In July that year, Sahara India Financial made public its unaudited financial results for the first time. This happened after RBI imposed a three-year sunset window on Sahara, allowing it to accept fresh deposits maturing until June 2011.
RBI was forced to act because of the allegedly persistent violation of investment norms. The banking regulator said Sahara India Financial didn’t follow rules regarding payment of the prescribed minimum rate of interest to depositors, asset-liability management guidelines, know your customer (KYC) norms for opening deposits and failed to tell investors when deposits matured.
The fact sheet published by Sahara in July 2008 said the company had capital and reserves worth ₹ 1,711.12 crore on 30 June 2008. Its non-performing assets (NPAs) were a minuscule 0.04% of its aggregate deposit liabilities. Since inception, it had redeemed deposits and interest worth ₹ 41,563 crore and its deposit (and interest) liability in June 2008 was ₹ 17,513 crore.
The firm had invested ₹ 17,584 crore in government securities, government-guaranteed bonds, bank deposits and rated bonds and debentures of listed corporations, in accordance with RBI norms, which require an RNBC to invest 100% of its deposits in such securities. Sahara had invested its entire deposit portfolio and more in such securities.
This has to be read along with the caveat that an RNBC’s investments are calculated with a six-month lag. For instance, for the quarter ending 30 September 2012, an RNBC’s directed investments will be based on the amount of deposits collected until 31 March 2012. Within these six months, a company can raise deposits that can be invested where it wants. So, Sahara didn’t need to invest all its deposits in approved securities every quarter. The six-month lag could have been used to aggressively mobilize fresh deposits and invest new money in instruments of its choice, according to people familiar with the way RNBCs function.
Unlike non-banking finance companies (NBFCs), which are required to follow strict regulations in terms of raising and investing money, RNBCs enjoy greater freedom. Apart from the capital adequacy ratio, which does not allow an NBFC to embark on unbridled asset creation without raising its capital base, these financial intermediaries also need to follow norms on deposit mobilisation as well as giving loans to firms.
For RNBCs, created by an RBI directive in 1987, investment norms form the sole regulatory framework. The 1987 directive was the result of a legal battle RBI fought with Kolkata-based Peerless General Finance and Investment Co. Ltd, India’s oldest RNBC. Between 1987 and the mid-1990s, RBI engaged in battle with Peerless three times in the Supreme Court. The cases changed the way so-called para-banks work. RBI first banned Peerless from accepting deposits but the company moved the Calcutta high court as well as the Supreme Court against the order.
The Supreme Court allowed Peerless to continue its business, but told RBI to take steps to “prevent exploitation of ignorant subscribers" (to Peerless’ deposit schemes).
In May 1987, RBI issued its RNBC directive, asking Peerless to invest its deposits in government bonds and other securities to protect depositors’ interests. Peerless challenged this, but the Supreme Court found nothing wrong in the RBI move. The RNBC then started treating part of the deposits as “processing charges" and “maintenance charges" to avoid investing its entire deposit liability in approved securities.
In 1993, RBI plugged the loopholes by amending its 1987 directions. Peerless again moved the Calcutta high court and got a ruling in its favour, but the Supreme Court did not find fault with the RBI norms. Peerless took eight years to toe the RBI line in 1995.
RBI first banned Sahara from accepting public deposits in the first week of June 2008 but the Lucknow bench of the Allahabad high court stayed the order the very next day. The banking regulator swiftly moved the Supreme Court to lift the stay and was told to hear Sahara once again before arriving at a final decision. After a meeting between the central bank and Sahara executives, RBI on 17 June allowed Sahara to accept fresh deposits only with a three-year maturity and repay all deposits in the next seven years. Sahara has cleared all deposits much ahead of the deadline, people familiar with the company said.
When Peerless was big and thriving in West Bengal (it was even a lender to the state government), Sahara was small. RBI was always wary of the opacity of their operations. It wanted to shut them down but could not do so because the law of the land did not allow it. So it found ways to make them non-viable.
The directed lending norm was one such way but it had its negative side too. As investment in government bonds are subject to mark-to-market (MTM) losses, if a company wants to redeem bonds ahead of maturity to pay off depositors, there could be asset-liability mismatches because of value erosion. MTM is an accounting practice of valuing a financial asset in accordance with its market value and not the price at which it was bought. In a rising interest-rate scenario, bond values drop as prices move in the opposite direction of yield.
Neither the then RBI governor Y.V. Reddy nor his deputy V. Leeladhar attended the eight-hour long meeting that ended at midnight in June 2008. Subrata Roy attended that meeting at RBI’s Mumbai headquarters along with one of his trusted lieutenants. He took a break at about 9pm for dinner. Roy wanted to continue to take deposits at least for one more year and wind down after seven years but he had eventually caved in to the RBI pressure. Roy signed off on the closure deal at midnight.
Reddy and Leeladhar were both aware of the meeting’s importance and were keenly awaiting the outcome. Shortly after midnight, Leeladhar sent a text message to the governor, who was still awake, telling him about the result. The reply came back: “Great job, God bless you."
TV channels were waiting, hoping either side would talk. Both Leeladhar and Roy maintained their silence. As his wont, Leeladhar didn’t want to talk and Roy preferred to keep quiet as he was eyeing a banking licence at some point in the future and considered discretion to be the better part of valour.
Following this meeting, RBI appointed three independent directors on the Sahara board—H.N. Sinor, former managing director of ICICI Bank Ltd; T.N. Manoharan, a chartered accountant who was the founding partner of accounting firm Manohar Chowdhry and Associates and a former president of the Institute of Chartered Accountants of India or ICAI; and IAS officer Arvind K.D. Jadhav, former mining secretary and chairman of the Maharashtra Water Resources Regulatory Authority.
Jadhav quit after eight months but the other two remained on the board for three years until 2010. After Jadhav’s resignation, one of Roy’s relatives also left the board to maintain the balance between insiders and outsiders. From the Sahara side, the board members were Roy and his friend and colleague from the early days of the group, Om Prakash Srivastava, an MA in Indian history from Gorakhpur University.
Among other things, RBI also forced Sahara to change its auditors for 25 years—DS Shukla and Co. and Chaturvedi and Co. New auditors GP Apte and Co. and Kalyaniwalla and Mistry, both based in Pune, were appointed.
In 2008, immediately after taking over as a deputy govenor, Leeladhar, former chairman of Union Bank of India, had signed a directive allowing RNBCs to classify disputed income tax refunds (due from the government) as directed lending. Till that time, it had been part of discretionary lending. This meant the actual quantum of directed lending fell as the money was not with the company. As a result of this, the quantum of indirect lending rose. Once he realized this, Leeladhar went on overdrive to correct the move.
Both Reddy and his deputy also realized that the fight against Sahara would have to be waged in the form of a campaign. When they realized that information was being leaked, they moved to plug the sources within the regulator. Suspected informers were taken off all Sahara-related matters and a crack team was formed. Parallel to this, RBI launched its attack against Sahara India Financial by tightening the directed lending norm progressively—from 80% to 100%—and holding quarterly meetings.
A high-profile panel headed by former RBI deputy governor S.S. Tarapore, which had been appointed to make a performance audit of public services, was asked to take a closer look at RNBCs even though this wasn’t part of its official mandate. The panel’s report formed the bedrock of RBI’s action against Sahara India Financial. Not too many people have seen the report and it was never placed in the public domain. Sinor, former Sebi chairman C.B. Bhave, former Bank of India chairman M.G. Bhide and Mukund Manohar Chitale, partner of chartered account firm Mukund M. Chitale and Co., were the other members of the panel.
The key finding of the report, I was told by a few of those who know its contents, was that the RNBC business model is essentially a play on liabilities (deposits) and not assets (loans and investments). Typically, the forfeiture clauses are the main sources of income as defaulters don’t get interest and in some cases even the principal amount.
Interest is forfeited if there’s a delay of a day, even if the agent doesn’t turn up to collect the money. It also found that KYC norms were not being followed and that many politicians could be parking their money with Sahara.
Overall, RBI held 11 quarterly meetings that tightened the noose around Sahara India Financial and led to a forensic audit by KPMG. At every meeting, RBI convinced Roy about certain issues and made him sign on a piece of plain paper. When he returned to his office, he would send a note under his letter-head agreeing to the new terms and conditions imposed by RBI besides circulating the minutes of the meetings.
Sahara used to outsource all cash collections to a partnership firm run by Roy and his relatives. Mint could not ascertain whether this firm was Sahara India. The company in question is registered as a partnership firm under the Indian Partnership Act, 1932, and is housed in Sahara India Bhawan, 1, Kapoorthala Complex, Aliganj, Lucknow. (The group has another partnership firm known as Sahara India Mass Communication.)
The cash-collection partnership firm used to operate out of Sahara India Financial branch premises but RBI could not inspect the books as technically they belonged to a separate company over which the banking regulator’s writ didn’t run. There was at least a 60-day delay between collection of the money and the transfer of the money to Sahara India Financial.
RBI forced Sahara to terminate this outsourcing agreement, giving the regulator’s team direct access to Sahara India Financial branches and order the introduction of KYC norms.
At the 10th quarterly meeting, RBI made Roy agree to conduct a forensic audit as it would ostensibly help Sahara prevent fraud, a probability as KYC norms hadn’t been followed. KPMG audited Sahara India Financial while another multinational consultancy firm checked the books of Peerless in Kolkata. In one Delhi branch, it was found that a Bihar politician had at least 200 accounts of ₹ 19,500 each with Sahara India Financial. It was one of many such accounts. Under the norms, up to ₹ 20,000 can be kept in cash with a financial intermediary. Unaccounted money kept this way can’t be detected as there are no cheque transactions.
ICAI, India’s apex audit body, however didn’t allow RBI to use the forensic report as it had been conducted by a multinational not affiliated to it. RBI then had to conduct its own inspection and validate the KPMG findings.
Three RBI officials, under a chief general manager, audited 15 Sahara India Financial branches within a week.
Their findings were presented at the board for financial supervision (BFS), a part of the high-profile RBI board. A senior RBI executive also took the KPMG findings one evening to then finance minister P. Chidambaram’s Delhi office in March 2008. A few days later, then finance secretary Vinod Rai (now India’s comptroller and auditor general) asked for the report but by that time it was already with the ministry.
An hour before RBI officially took the decision to ask Sahara to stop business with immediate effect, an official at the regulator called up the Uttar Pradesh chief secretary and warned him about it. The bureaucrat complained that he should have been informed earlier because such a decision could result in violence breaking out. The RBI official said the information couldn’t have been shared that far in advance because it was confidential. Next morning, then Uttar Pradesh chief minister Mayawati began dismantling structures at the unauthorized properties of the Sahara group.
Sahara got a reprieve from the Allahabad high court but that proved to be short-lived as mentioned above.
For the new directors nominated by RBI on Sahara’s board, the challenge was to monitor asset-liability mismatches. With the erosion in the value of the bonds (due to interest rate increases and/or premature redemptions), there wasn’t enough money to be paid to depositors. With new deposit collection stopped, there was no fresh cash flow.
Sahara was forced to sell some assets to generate liquidity but even that wasn’t enough. By 2010, Sahara got a ₹ 1,800 crore refund from the income-tax authorities—a levy it had paid under protest. The money offered it a welcome cushion against redemptions. By the time Sinor and Manohar left the board, very little money was left to be repaid. A 1 September Sahara advertisement this year said that it had repaid all depositors.
The first thing that the new board members had done was tighten KYC norms—photographs were taken of all depositors, branches were audited and random checks (or “in-person verifications") were conducted. To be sure, not a single violation was detected, I was told.
They also forced the company to stop the practice of forfeiture of interest and Sahara India Financial was asked to pay at least what a savings bank deposit earns (this was pegged at 4% until 2011, it has been freed since). This burdened Sahara with an additional cost of ₹ 400 crore. The board also made it mandatory that all deposits unclaimed for seven years should go to the government.
The board members, I was told, received Sahara’s full cooperation. No funds belonging to politicians were discovered. One of them said Sahara was a unique laboratory for financial inclusion, inculcating the savings habit among poor people. There was also a benevolent effect—alcoholism was supposedly reined in and Sahara even offered money when families needed to get daughters married.
With about 600,000 agents, about 2.4 million people could arguably be said to have been depending on Sahara for their livelihood (assuming an average four-person family). Roy, it is said, also makes it a point to attend family functions of depositors and behaves with traditional Indian deference to elders. The board also didn’t come across a single complaint of a customer losing money.
That could be because of the financial illiteracy of the poor, most of whom will just be happy to get their principal back. As for politicians, if there were such funds, they wouldn’t have bothered about interest income—the priority would have been to hide the pile and not flaunt it.
Roy has challenged regulators and while he has lost, that hasn’t stopped him from keeping the cash flowing—through retail merchandise, cooperative societies and housing projects among others. When one avenue shuts, another one seems to open. He’s bought posh hotels, sponsored the national cricket team, owns an Indian Premier League cricket team, helped widows of soldiers who died in the Kargil War and is regularly seen in the company of Bollywood actors. His political support may have ebbed though, which may be why he gave up the RNBC business tamely. He met his nemesis in Reddy, whose prime focus as a central banker was to keep the banks strong and ensure that nobody lost money.
On 1 September this year, after the Supreme Court judgement, Sahara advertised in the national newspapers. “In the last 33 years there is not a single complaint of non-payment, whereas we have paid around ₹ 1,40,000 crores maturity/redemption and against the enrolment of around 12 crore investors."
It went on to say that the group’s ambitions were intact: “Through our expansion programmes in next two to three years we shall provide permanent salaried employment of around 3 lakh people apart from around 5 lakh new introduction of field workers."
Indeed, Sahara will offer employment to many more people. And it will also be able to pay back what it owes as it has already launched new businesses where cash is the prime raw material. Its agents are in the process of raising money under various schemes of the Sahara Credit Coop Society—a space that’s not regulated by RBI or Sebi. Similarly, under the Sahara Q Shop direct-selling plan, the company is recruiting customers who pay ₹ 12,250 in advance to purchase merchandise from the retail venture. The advance payment will be locked in with the company for five years and every month 3.5% of the amount spent by a customer will be adjusted against this. At the end of the five years, the company will refund the residual money, if any, with interest.
Mint spoke to scores of bankers, officials of the capital market regulator and RBI besides professionals who know how the Sahara group operates but none of them was willing to be named. An email sent to the Sahara group’s communication agency on Wednesday and repeated follow-up phone calls did not elicit any response.
Sahara group’s Hindi language newspaper competes in some markets with the Hindustan, published by Hindustan Media Ventures Ltd, a unit of HT Media Ltd, which publishes Mint.
Sahara has filed a defamation case in Patna court against Mint’s editor and some reporters over the newspaper’s coverage of the company’s dispute with Sebi. Mint is contesting the case.