The Indian economy and stock markets have, time and again, had their experiments with truth. Over the last few decades, the word “scam” has entered the economic jargon and become synonymous with the word economy itself. As per RBI reports- ₹71,500 crores is the amount that has been defrauded in the financial year 2019 alone. When we dissect these, we can observe that some of these “scams” are just a way by which smart people use the loopholes of the system to defeat the system. The case we examine today is of the ‘Big Bull’ of the Indian Stock Market - Harshad Mehta.
The story dates back to the 20th century when the laws in India were more restrictive and the chances of having a successful business were bleak. It is no secret that the regimes of the 1980s - 1990s discouraged economic participation and even banks weren’t allowed to invest in the stock markets. So imagine in an economy so rigid, Harshad Mehta pulled off a scam which would now amount to ₹24,000 crores.
Who was Harshad Mehta?
Before jumping into the story let’s meet our characters. Harshad Mehta. His journey to fame only began when he landed a job as a sales manager at The New India Assurance Company. His interest in the stock market spiked and eventually, he gave up his job to join a brokerage firm in the 1980s. Over a decade starting in 1980, he not only worked at various brokerage firms, but in fact, he was able to establish his own firm- GrowMore Research and Asset Management.
Alongside Mehta, we have the Indian Banking System. As mentioned earlier, this entire story happened pre-liberalization of the economy. So safe to say, the economy was controlled and restricted. The banks in India have never been secure enough to ward off trouble, each decade brings its new challenges and scams. We have to remember that at the time, the RBI was not in favour of giving new bank licenses and nationalizing was the trend. The response of RBI to any bank crisis since ever has been to tighten the rules and regulations.
What was the securities scam?
Now that we have been introduced to the characters, let’s delve into the story. As stated earlier, the banking system was on a tight leash. The banks were mandated by the government to invest above a certain threshold in government bonds and securities. While the amount could vary, by the end of the week the banks had to meet the said threshold limit.
The pressure on the smaller banks to maintain and meet these limits was quite high. The smaller banks were to buy the securities from the banks which had a surplus of them. This understanding was given effect by the concept of the ready forward deal. In simple terms, government securities were issued by means of a “bank receipt” as collateral. The bank receipt was a trusted means of exchange wherein a borrowing bank gave the receipt as a security that they would return the amount loaned within a period of 15 days.
However, the banks did not exactly interact directly during the said exchange. They appointed brokers who would conduct the transaction. The job of the transaction was to find a bank willing to lend to a bank which wished to sell and vice versa. Mehta was one such broker. He borrowed for banks willing to sell their securities and vice versa. It was all well and good as long as he was merely trading, however, he decided to use the anonymity between the banks to his rescue and took the banking system for a ride.
Modus Operandi
Mehta convinced two banks, Bank of Karad and Metropolitan Co-operative Bank, to issue fake bank receipts. One may ask what is a fake bank receipt? Basically, receipts that don’t have any securities backing them, they're just mere pieces of paper, so to say.
To understand clearly, let’s assume there are two banks Bank ‘A’ and Bank ‘B’ and the Broker is Mehta. Bank A is looking for someone to sell the government bonds to meet the limits therefore, bank A approaches Mehta (the broker). Now Mehta takes the bank receipts to Bank B and borrows loans presenting the receipts as security and promising to return the loan amount within 15 days. Then from the money received, he invests the amount in the stock market. Always being cautious to keep money in hand to pay the banks, he made sure not to get noticed. This was all pretty legal until Mehta decided to issue fake receipts. Thereby, having no liability to actually repay the amount.
The money generated from this was continuously pumped into the market. To imagine how much money was being pumped in, ACC, Mehta’s favourite company, had its share price increased from ₹200/share to ₹9000/ share, in 1990 money.
Discovery of Scam
Mehta had a Midas touch, some would say. Whatever he touched turned to gold, quite literally. The Bombay Stock Exchange (BSE) rose from 2000 points in January to 4467 points in April that very year. Mehta had everything and was not afraid to show it. He never was subtle in his lifestyle. To assess his value, in 1992 money, he paid ₹26 crores as taxes to the government.
It makes one wonder: how did such a smart and illustrious person get caught then? His lifestyle was a tipping factor to various watchful eyes. One such pair of eyes was that of Sucheta Dalal, who not only figured this out but also published an article in the Times of India, exposing his M.O. She detailed that he had siphoned nearly ₹500 crores from SBI alone. A tip followed, saying that he was summoned by the SBI chair to pay off the said amount. Reportedly, he did arrive and pay the amount in his luxury car worth ₹40 lakhs at the time.
This led to both realization and panic in the markets. Banks realized that they held nothing but fake securities that had no value and there was panic amongst investors. The markets dipped suddenly by nearly 2000 points. People realized that the RBI was failing in its job of being the supervisor and the utter carelessness of the banks, while lending loans, was appalling. Safe to say this was a scam of an unprecedented scale.
Aftermath
After analyzing the merits of the case, the courts levelled about 72 criminal charges and 600 civil petitions against him. After the discovery came to light, the income tax department conducted various raids. The CBI got involved to seize the properties, checking the previous year's statements and carrying out search operations. Mehta was even arrested initially for a brief period but got bail. In an interview subsequent to the bail, Mehta showed the suitcases in which he allegedly paid a bribe to the PV Narasimha Rao government, claims which were vehemently denied.
When his case came to the High Court, the judgment went against him and he was imprisoned. Tragically, he died at the age of 47 in prison of a heart attack, in 2003. As a result, all criminal charges were dropped, but the civil suits continue. In 1992, the value of his assets was fixed at ₹1000 crores, approximately, not enough to even cover half of the amount he owed.
His legal representatives claim that the assets were heavily undervalued. The case continues to date, however, by now his legal reps have paid about half the sum he owed. Despite all, they maintain that even now if the assets are properly valued and attached they would be able to repay the amount owed and have some ₹1000 crores left.
Conclusion
The case of Harshad Mehta is an interesting one, not just legally but otherwise too. Had he not been exposed, he would be a case study as the most successful person, of all time. The bane of the legal system is that even today nearly 27 years later, there is no conclusion to, perhaps, one of the most interesting scams in the country.