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LATEST NEWS UPDATES | The fall of Saradha group revives old ghosts of ponzi schemes going bust -Atmadip Ray

The fall of Saradha group revives old ghosts of ponzi schemes going bust -Atmadip Ray

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published Published on Apr 24, 2013   modified Modified on Apr 24, 2013
-The Economic Times


For many, it is a sense of deja vu. Fifteen years ago, the government and India's financial regulators came under fire after hundreds of crores were cleaned up by a few individuals and entities from gullible investors, who were promised fabulous returns from plantation schemes. In the uproar that followed, the government and the regulators sought to palm off the responsibility of regulation of such schemes on each other, be it the ministry of company affairs, as it was known then, the Reserve Bank of India and the Securities and Exchange Board of India. Ultimately, the government mandated Sebi to monitor collective investment schemes, announce regulations and make legislative changes to ensure oversight of such schemes.

Over a decade later, it appears that little has changed. Multi-level marketing or Ponzi schemes, which promise hefty returns to investors, have returned to haunt them, the government, as well as the regulator as the blow up of the West Bengal-based Saradha Group of Companies shows. The group is the latest in a series of entities which have raised thousands of crores from investors through fixed deposits or collective investment schemes or potato farming, goat rearing or emu-farm schemes. Up against the challenges posed by fleet-footed scamsters, Sebi has now sought changes in the law and greater oversight powers to exercise greater control over collective investment schemes, which were defined narrowly in the past.

The Saradha Group, which had diversified into real estate, education, construction and the travel and tour industry, issued closure notices on several of its newspapers and TV channels in March following an apparent financial crunch. Saradha faced a run on its offices, while thousands of agents have sought a bailout package from the government after failing to repay depositors. The group is perceived to be close to the ruling Mamata government, but now it is trying to distance itself from the mess and has issued an arrest order against its chairman and managing director Sudipta Sen.

This is bound to snowball into a major crisis in the state as thousands of investors have now started demanding their money back from companies involved in multi-marketing or Ponzi schemes. Ponzi schemes typically promise high returns to investors and existing investors are paid from the money invested by a fresh set rather than from the profits through operations. So, when this investment chain snaps and thousands of investors scramble to get their money back within ashort period, inevitably they collapse.

The crisis in West Bengal could blow up into something bigger than what happened in Andhra Pradesh in 2010 when borrowers stopped repaying microfinance companies after the government issued an ordinance to regulate them, leading to a virtual collapse of the MFI sector in the state. For good reasons.

Last month, corporate affairs minister Sachin Pilot said in the Lok Sabha that his ministry has received complaints against West Bengal's Chakra Infrastructure, icore E-Service, MPS Group, Prayag Group, Rose Valley Group, Tower Infotech, Vibgyor Group, URO Group, Saradha Group and many others for their involvement in Ponzi or multi-layer-marketing schemes. They lured investors with interest rates ranging from 12% to 16% when banks offer a maximum of 9.5% for deposits of one-year maturity.

A state government official says that these companies spend Rs50-60 to raiseRs100, leaving less than 40% for any productive investment. This makes it virtually impossible to generate returns of 12-16% "There is no legal business available where one can generate such high returns. It's a matter of time when these companies will fail," says Vinod Kothari, an expert on NBFC.

India's securities market regulator Sebi has had its hands full over the past few years trying to police those promoting such Ponzi schemes. Earlier this month, Sebi barred agri-marketing firm Sumangal Industries from raising money in bonds based on the purchase of potatoes. Sumangal was offering a 20-100% return within 15 months. In another case, the market regulator imposed a Rs1-crore penalty on Rose Valley Real Estates and Constructions in March for not providing details sought by it for an investigation related to illegal issue of debentures. In 2011, RBI had issued a public notice against Amazon Capital and Suraha Micro Finance of Sunmarg group for illegally raising deposits.

West Bengal has been a fertile ground for raising public money through collective investment schemes, non-convertible debentures and preference shares, or instruments such as teak bonds or potato bonds! Some of the promoters of such schemes have built huge business empires thanks to political patronage under both the Left and the Trinamool regimes. They have diversified interests ranging from entertainment to manufacturing, and from hotels to infotech, besides realty and tourism. Coupled with this, there are countless small entities which have mushroomed in the districts and who short-change investors through Ponzi schemes.

"The lack of industrial activity for a long time gives space for pseudo profitmaking and speculative ventures," says economist Dipankar Dasgupta, a former professor at Indian Statistical Institute. "They may have some short-term impact on the service industry, but it will be difficult for them to survive for long as they face a huge gap between the liabilities raised from public and their productive assets," he says.

What has also contributed to this is a lack of financial literacy. Banks hardly have a branch presence in the rural areas and the absence of strong laws to curb proliferation of such entities has stoked their growth. Many of them started operations in mid-2000 and flourished under the Left rule. These groups have been quick to change their allegiance after Mamata Banerjee came to power. There is no official data on how much these companies have raised through Ponzi Schemes in the past few years.

Leader of Opposition Suryakanta Mishra recently said some multi-level marketing companies raised Rs15,000-16,000 crore in the past few years and have invested in real estate and media organisations. Shyamal Chakraborty, the state president of CITU, said that over 60 chit fund companies are operating here and have mobilised an estimated Rs15,000 crore from small investors. Recently, corporate affairs minister Sachin Pilot said Sebi had detected that as many as 700 entities had duped investors of Rs7,435 crore by floating illegal schemes across India.

The diversion of money to such get-rich schemes is reflected in the small savings collection in West Bengal - once a major contributor to total collections. Gross small savings collection in Post Offices dipped to Rs23,000 crore in 2011-12 fromRs32,000 crore in 2010-11 as many poor depositors were lured by Ponzi schemes, offering high returns in a short period. It is perhaps not just a coincidence that many of these schemes started flourishing after the RBI forced Peerless Group to phase out its deposit-taking business, leaving many of its customers, mostly migrant labourers, daily-wage earners, and rickshaw-pullers, with few options. Ponzi schemes have been in operation across India in various forms before states like Maharashtra, Karnataka and Tamil Nadu enacted laws to protect depositors.

West Bengal passed the Protection of Interest of Depositors in Financial Institutions Bill on December 23, 2009, but for reasons unknown, it is yet to obtain the President's nod. The Bill proposes a life term for convicts.

"At present, there is no strong legal course available here to nab the unscrupulous companies. This is one of the reasons why chit funds or other money circulating companies mushroomed in this part of the country," a state government official says. But there are plenty of central laws to regulate deposits and collective investment schemes, says Kothari, who also deals with corporate law. "Law making is the least of the remedies for such scams. The issue here is how can one ensure effective implementation." In 1980, about a lakh depositors lost overRs120 crore in Sanchayita Investments, ruining many families and forcing many to commit suicide. The ghost of Sanchayita appears to be haunting many investors, considering the experience of the Overland Investment Company, Verona Credit and Commercial Investment Company and Shanchayani Investment Company.

Millions of depositors lost their life-savings in these scams, but the companies used the gaps in laws and regulation to have a free run. Some are in the chit funds business and are supposedly registered with state governments, some are collective investment schemes, which fall under the purview of Sebi, while a few others just unincorporated entities offering deposit products and debentures to mobilise ahuge amount of money. Multi-level marketing schemes run on sales agents earning a hefty commission by recruiting other agents. The RBI has washed its hands off from this saying it does not regulate collective investment schemes and neither does it grant licences to chit funds. With regulation of collective investment schemes part of its mandate, Sebi is now seeking to plug some gaps. It wants the government to mandate it to have oversight over any firm, entity or individual floating schemes with an investment contract and pooling Rs100 crore or more. Coupled with this, the regulator also plans to promote campaigns to enhance investor awareness.

The Economic Times, 24 April, 2013, http://economictimes.indiatimes.com/markets/regulation/the-fall-of-saradha-group-revives-old-ghosts-of-ponzi-schemes-going-bust/articleshow/19702901.cms


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