Chase Bank CEO Paul Njaga, Deloitte EA CEO Sammy Onyango and CBK
Governor Patrick Njoroge. Lender says auditor’s conversion of Sharia
banking property to loans is to blame for panic and closure. PHOTOS |
FILE
By BD Team
In Summary
- The Business Daily has reliably learned that the outcome of the two-week audit row is what pushed the SME-focused bank over the cliff, leading to its closure on April 7.
- An exchange of emails between Chase Bank executives and Deloitte shows that sharp differences emerged over the classification of assets from Chase Bank’s Islamic window.
- Chase Bank found itself in a tight position after CBK directed it to restate its financial results to show the significant changes in its insider lending position that arose from the differences over the method of accounting for the lender’s Islamic banking assets.
Sharp differences between senior managers of Chase
Bank and auditing firm Deloitte on how to handle assets in the lender’s
possession under the Islamic banking window triggered a rapid-fire
series of events that led to the bank’s collapse.
The Business Daily has reliably learned that the
outcome of the two-week audit row is what pushed the SME-focused bank
over the cliff, leading to its closure on April 7.
Chase Bank found itself in a tight position after
the Central Bank of Kenya (CBK) directed it to restate its financial
results to show the significant changes in its insider lending position
that arose from the differences over the method of accounting for the
lender’s Islamic banking assets.
Chase Bank’s restated figures showed it had
under-reported insider loans by a whopping Sh8 billion, casting doubts
over the financial health of the lender, which also reported a surprise
Sh743 million loss.
The bank’s former group managing director, Duncan
Kabui, last week told criminal investigators that Deloitte was yet to
complete its audit of the bank and submit a report to the board as is
standard practice when the restated financial results were published on
April 6.
“The final audit report does not exist and has not
been completed. The bank’s auditors have not submitted the audit report
to the board’s audit and risk committee for discussion and approval and
to the full board as is practice,” Mr Kabui told investigators — raising
questions as to the basis of the CBK’s action against the bank.
The CBK moved in to take charge of Chase Bank last Thursday
— a day after Mr Kabui and Zafrullah Khan, the bank’s chairman, were
forced out following revelations of massive irregular insider lending
that precipitated a run on the bank.
The CBK said Chase Bank had experienced liquidity
difficulties that rendered it incapable of meeting its financial
obligations on April 6.
Mr Kabui says in his statement to the police that
the so-called insider loans were assets held in Chase Iman’s joint
ventures financed under Musharakah – a sharia-compliant investment
platform where partners are entitled to a share of profits in a ratio
that is mutually agreed.
Mr Kabui says it was Deloitte’s about-turn on how
to treat those assets that led to their classification as insider loans
that caused panic in the market and led to massive withdrawal of
deposits that ultimately sunk the bank.
An exchange of emails between Chase Bank executives
and Deloitte shows that sharp differences emerged over the
classification of assets from Chase Bank’s Islamic window.
“During the course of the audit and inexplicably
the auditor changed his interpretation of these assets to loans to
related parties. The auditor claimed lack of technical capacity to
understand Islamic contracts yet it had been handling the bank for more
than 18 years,” said Mr Kabui.
An earlier draft of Chase Bank’s financials prepared
by Deloitte shows that the disputed Sh7.9 billion was classified as
‘other assets and interest receivable’ in the balance sheet only to
emerge in the restated financial statement as loans advanced to an
unnamed director and associated companies.
The exchange of emails show that Fredrick Aloo, an audit
partner at Deloitte in charge of Chase Bank’s account, surprised the
bank’s executives with his demand that the Islamic assets held in
special purpose vehicles (SPVs) be charged for purposes of proper
accounting.
Chase Bank, responding through its head of legal,
Sevastone Makanda, warned of the danger of charging the assets, saying
the action would turn them into loans that would then have to be
provided for.
Mr Makanda further warned that registering a charge
on the properties and turning into loans would run afoul of Islamic
financing.
“The bank will become a lender and the special
purpose vehicles (SPVs) borrowers obligated to make monthly repayments
plus interest which will be in breach of the existing obligations,
ownership,” Mr Makanda said in an email dated March 14, 2016.
Mr Aloo rejected Mr Makanda’s proposals through an
email dated March 24, 2016, insisting that he had sought independent
counsel from a lawyer and a banker and that he had come to the
conclusion that the proposed trust deed for the SPVs would not suffice.
Mr Makanda had proposed that Chase Bank creates
long-term leases over the properties receiving sharia-compliant
financing as a strategy to register the bank’s interests.
The list of assets held under the SPVs included a
business park in Karen, a three-acre parking lot in Nairobi, some 240
acres of land on Mombasa Road, a three-acre plot next to the German
Embassy in Riverside Drive and various properties in Dubai.
Mr Kabui told the police that he did not understand
the auditor’s sudden demand for a change in treatment of the Islamic
assets insisting that they were fully charged to the bank.
“Even in this auditor’s midway change of accounting
treatment, the properties were either fully charged to the bank or
pending charging where the new titles were being processed,” he said.
Deloitte’s statement of account, dated March 16,
2016, shows the auditors had suppressed Chase Bank’s loan loss
provisions at Sh527 million, resulting in a net profit of Sh2.6 billion.
But after the change in treatment of the Islamic
assets, Chase Bank was forced to increase its loan impairment costs
nearly threefold to Sh2.09 billion from Sh757 million in 2014, a move
that wiped out the lender’s earnings.
Deloitte did not respond to questions on its audit
actions citing customer confidentiality rules and that the responses may
prejudice ongoing investigations.
“The matter is under investigation and therefore we
cannot comment on this. We are bound by client confidentiality and
therefore we cannot respond to this,” said Sammy Onyango, the chief
executive at Deloitte East Africa.
Mr Kabui disclosed that the SPVs, where he is a
director, were formed to capture the letter and spirit of Musharakah and
that he only held the position in trust for the bank
“It is not true that I advanced to myself the said
loans as these were mere auditor-induced adjustments from previous years
when they treated the properties correctly as investments,” he said.
Dr Njoroge last week said the Sh7.9 billion associated with
the Islamic assets were irregularly lent to an unnamed Chase Bank
director, raising questions as to the regulator’s dealings with
commercial banks that are licensed to offer Islamic products.
It was the disagreement over the treatment of
Islamic assets that saw Deloitte make a U-turn to issue Chase Bank a
qualified audit opinion and a surprise full-year loss from an earlier
unqualified position where the lender was in the profit zone.
The restatement of the financial results was done
in response to the CBK directive that set in motion a chain reaction
that finally resulted in a run on the bank.
“The errors noted were there was no mention of a
bank’s auditors and whether the auditors issued a qualified or
unqualified opinion,” said CBK director of bank supervision Gerald
Nyaoma in a leaked letter dated April 4, 2016.
“The purpose of this letter therefore is to direct
the institution (Chase Bank) to republish its audited financial
statements and disclosures as at December 31, 2015.”
Chase Bank established Chase Iman in May 2009 to
offer a bouquet of Islamic banking products and had since built a rich
portfolio of properties to service it.
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