The absence of an external auditor doing a concurrent audit on IndusInd Bank‘s marked to market (MTM) derivative losses has hit the bank hard, putting the spotlight on resultant vulnerability from an evident process gap that might not be limited to the private lender alone.
In IndusInd Bank‘s case, although the treasury transactions faced an internal scrutiny, there was no external examination of the trading transactions. An external scrutiny could have exposed the bank’s treasury to questions on its hedging positions, bankers and analysts said.
“Concurrent audit, if done, would have flagged risks on MTM losses to the bank and brought it into focus,” said a risk management consultant at one of the big four firms. “This was, perhaps, the biggest gap in the bank’s processes because this large MTM loss was probably ignored, despite the rupee having changed course.
IndusInd Bank did not respond to ET’s mailed query for a comment.
Concurrent audits are real-time parallel checks done mostly by external auditors. Every transaction is audited thoroughly rather than a sample check, shortening the recovery timeline in case of an anomaly or a loss.
IndusInd Bank’s initial estimates of the loss come to about Rs 1,600 crore – about 2.35% of its net worth.
Former banker and treasury veteran Manoj Rane, who was a part of the founding team at IndusInd, raised some important questions in a LinkedIn post on Saturday.
Control Segregation
He pointed out that the asset liability management (ALM) and trading business at the bank were not separated and they reported to the same person. Also, if the hedges were indeed appropriate, there was no question of this loss suddenly being realized or arising due to a change in Reserve Bank of India (RBI) guidelines.
“Once hedged internally with the trading book, the loss would still hit IndusInd, only if the trading book did not hedge the trades externally or suppressed / failed to disclose or account for the losses in the trading book,” Rane wrote in his post.
He questioned how the bank’s heads of market risk, global markets, CFO and auditors missed such a big hole.
Analysts said any sharp uptick from the estimated numbers so far could deepen the crisis of trust the bank is going through.
“While the reported loss, though sizable, is unlikely to materially impact the bank’s capital position, the broader concern is one of trust,” said Prakash Agarwal, partner, Gefion Capital. “Banks operate with public money, leaving little room for error. This incident once again raises questions about the robustness of internal systems, processes, and management oversight. Moreover, given IndusInd Bank’s heavy reliance on large wholesale depositors—who are known to be more volatile—such lapses could have implications for depositor confidence.”
The problem is more magnified in the case of banks like IndusInd for whom large corporate and institutional deposits make a big chunk of their liabilities. About 54% of IndusInd’s Rs 4.09 lakh crore deposit base is from wholesale depositors, who typically look for higher returns and can move large chunks of their money in case they perceive a higher risk. Moreover, 15% of its total deposits are in foreign currency, and these deposits need to be paid back in the original currency.
Adequate Capital Buffers
To be sure, the RBI has mitigated depositor concerns saying the lender is well-capitalised with a capital adequacy ratio of 16.46% and is satisfactorily placed financially. It has a provision coverage ratio of more than 70%.
The RBI has asked the banks to take the full impact of its unhedged forex exposure at once in the fourth quarter. But questions are also being raised on the regulator’s own oversight.
“The fact is that the bank just underwent risk-based supervision by the RBI a few months ago. If that did not throw up any questions, then the regulator also needs to relook at its own processes. It’s fine that the RBI will now scrutinise the bank’s books more thoroughly but this should have been done earlier. Need for a concurrent audit of banks’ trading books has never been felt more acutely,” said the former head of compliance at a private sector bank.
The new IND-AS system of accounting that is yet to be implemented for banks could also have minimized the financial impact, since it takes into account MTM losses.
The PWC-led external audit of the bank is likely to be placed before the bank board only by the end of March which means a clear picture is likely only by the first week of April or whenever the bank releases its fourth quarter and FY 25 results.
Meanwhile the RBI will scrutinise both the trading as well as ALM books of the bank to ensure that any losses are not hidden and are fully accounted for.
