lending risks to diamond industry in india - a case study

the credit risk of the exposure is substantial as the entire finance to the diamond industry may be considered to be quasi unsecured basis as PCFC is extended on stock which are not subjected to inspection and bill discounting is on house bills / direct bills where no bill of exchange is drawn and invoice is the only document. custom certification on the invoice was perfuctory. most bills were sent on collection basis and not negotiated by the bank. IECD circulars do not explicitly envisage extention of bill discounting limits in foreign currency for such bills not do they prohibit it.
The element of highly concessional finance being used for purposes other than exports or the banking channel being misused by the exporters to engage in arbitrage cannot be ruled out as the diamond exporters are also engaged in import and domestic sale of diamonds and jewellery and some are slso undertraking other activities like share broking and real estate. The balance sheets did not indicate separately turnover and earnings from different activities or export vs domestic sales. The diamond exporters were availing finance from one branch and were maintaining current accounts in another branch of the same bank leading to dilution of supevision. While setting up limits the lead time was uniformly accepted as 120/150 days irrespective of the acutal business cycle.
Considering the forex and credit risks it is not judicious to totally depend on the borrowing abroad for financing this activity in forex as the borrowing was without any limit for the bank.
The loan policy for diamonds had limitations like enhancing limits without considering the risk taking capapcity, allowing direct house bills without any safeguards for the enhanced risk, allowing uniform usance period of 150 days irespective of the actual experience for the company financed.The credit allowed by the overseas buyer is not taken into account. Risk mitigation measures are necessary for the direct bills business from the angle of safety, transparency, over invoicing, accommodation bills, misuse of concessinal credit being given.
There were many instances of frequent excess drawals, delayed reporting to the credit department of HO, allowing frequet TODs, cheque purchases, and reporting to lower than sanctioning authority . Many accounts had lower security coverage, waiver of presanction inspection, high gearing ratio, low current ratio, high proportion of direct bills to total sales, non certificaiton of sales / export earning by the statutory auditors, non obtention of kimberly process certrificate for conflict diamonds. Post sanction super vision revealed gaps like non conduct of stock audit, delay in submission of stock and receivables statement, absence of system of inspection of stock.