E&Y may be roped in the NSEL probe over a warehouse report, firm says it had flagged risks

MUMBAI: Ernst & Young (or E&Y), one of the world’s largest audit and consultancy firms, could find itself in an awkward position in the National Spot Exchange Ltd (NSEL) fiasco.

In a report dated September 2012 – by when several dubious deals had been cut by NSEL officials – E&Y said that all warehouses linked to the trades on the bourse were accredited by Warehousing Development & Regulatory Authority (WDRA), an entity under the ministry of consumer affairs.

Empty warehouses are at the epicentre of the NSEL scam. Investigations that followed NSEL’s default in end July revealed that none of 79 warehouses were registered with the central agency which inspects and lays down rules for warehouses it regulates. Many investors perceive that the fraud perpetrated by borrowers and the exchange authorities could have been averted if the warehouses were regulated by WDRA.

The E&Y report, prepared for the firm’s client Geojit, a south-based financial services group, also said that NSEL’s risk management included “daily mark to market of open positions” and issuance of margin calls in case there was a breach in pre-defined limits. According to a probe by the commodity market regulator Forward Markets Commission (FMC) and confessions by the exchange CEO, all risk management practices were thrown to the wind.

Responding to an email query, an EY spokesperson said, "We are confident of the quality of our work and have adequately flagged off the key risks/issues/concerns required as a part of this specific engagement. The report must be read comprehensively to gain a complete view of our assessment and recommendations thereof. We are bound by our confidentiality agreement with our client and are unable to provide any further comments."


The consultancy house had indeed pointed out that NSEL’s settlement guarantee fund was insufficient, investors should understand the risk and liability if the government bans the contract, and “contingent financial risk on account of potential fraud”. Nonetheless, it said that "limited counterparty risk on account of robust risk management framework adopted by the exchange for clearing & settlement of trades" and “all warehouses accredited under WDRA act enabling them to issue negotiable warehouse receipt.”

Significantly, SV Ghatalia & Associates, an affiliate of E&Y, was the NSEL auditor for 2011-12 when some of the defaults and irregular transactions were beginning to take place.

E&Y was hired by Geojit Credits Private Limited, a finance company that gave short-term loans to investors trading on NSEL. The trades were executed through Geojit Comtrade Limited, a trading-cum-clearing member with NSEL. While E&Y’s observations may be a typical example of how consultants in an advisory engagement handle things, its client is unlikely to take it lying down. Geojit has submitted the report to FMC and is exploring legal options against E&Y, a source familiar with the development told ET. C.P.Krishnan, whole-time director at the brokerage, did not respond to text messages from ET.

In the disclaimer at the end of the 50-page report on “Risk based review for commodity financing business”, E&Y said it “conducted a review of the process and held discussions with key people.” “We made specific efforts to verify the accuracy and authenticity of the information gathered only in those cases where it was felt necessary,” says the disclaimer, adding “as the basis of verification of specific records is purely judgemental in view of the time available, the outcome of the analysis may not be exhaustive and representing all possibilities, though we have taken reasonable care to cover the major eventualities”

It’s unclear as to what extent the report had influenced Geojit’s business decisions and its advice to investors. Geojit Credits, which funded investors, is trying to salvage about Rs 133 crore stuck at NSEL. The total amount stuck on the crisis-ridden exchange is around Rs 5500 crore.