A sudden surge in false documentation and spurious shipping transactions has maritime monitors alerting financial institutions in the region. The issue is one of non-existing cargo, missing vessels and of buyers, sellers and intermediaries colluding to defraud the banks or financing institutions, said an international maritime inspector who has been working with local banking authorities on this problem.
The persons involved in these transactions are the buyers, sellers and NVOCCs (Non-Vessel-Owning Cargo Carriers), said Captain P. Mukundan, director, ICC International Maritime Bureau (IMB) based in London.
The ICC IMB is a specialised division of the International Chamber of Commerce (ICC).
"There are a number of trade finance fraud enquiries that we are investigating currently," he said.
Growing menace
Trade financiers in Dubai said while there is risk of fraud everywhere the international average hovers around the six per cent mark. "Anything more than that has to set off alarm bells in the markets," said a banking source.
It is believed that Iranian companies seeking lower rates of interest outside Iran (where interest rates for corporate lending could be between 10 to 15 per cent), use shell companies based in Dubai and elsewhere to structure their financial requirements in the guise of trade finance transactions, said Capt. Mukundan.
The scheme works as follows: Letters of credit (LCs) are opened in Iran in favour of a beneficiary linked to the buyers.
The LC is advised by a bank in a commercial centre in the Middle East. These transactions are then offered to other trade finance banks for negotiation and discounting.
"There has for many decades been an active primary forfaiting market in the Middle East," he said.
Popular method
Forfaiting is a proven method of providing fixed rate finance for export transactions in cash instead of deferred payments.
"Recently however, as a result of the political uncertainties in the region, there appears to be a substantial rise in Iranian trade finance risk being off-loaded to banks in the Middle East," said Capt Mukundan.
"A secondary market in forfaiting Iranian risk is flourishing, with local Middle Eastern banks quite comfortable with taking on Iranian risk, because Iranian banks have always fulfilled their obligations," he said.
The appetite for the local banks to take on this business is spurred by the much higher interest rate for Iranian business, currently around two per cent above Libor (London Interbank Offered Rate). This compares, for example, with 0.5 per cent above Libor for Indian risk.
"The trade finance bank which receives and negotiates the documentation is distant from the transaction. The bank has little knowledge of the beneficiary, the applicant or the transaction itself other than as represented by the documents presented," he said.
On behalf of banks, the IMB has checked a number of transactions which have originated from this "secondary" market, said Capt. Mukundan.
"The investigations have confirmed that many of these transactions are fraudulent the goods do not exist. In others, the vessels do not exist or did not in fact load the cargoes stated on the bills of lading."
"One of the banks offered this business, found through checks with the IMB that around two thirds of the transactions were spurious. Other banks who have tried to verify these transactions report a similar proportion of false transactions," he said.
"The purpose of these fraudulent schemes would appear to be the pursuit of lower interest rate financing, the illegal transfer of local currency into hard currency outside Iran or other dubious activities," he said.
Encouraging factors
On the transport side, there are factors which encourage such activity. The trade of goods into Iran from the Caspian Sea is particularly difficult to verify, explained Capt Mukundan.
"There are large liner companies shipping goods into Iran who continue to issue shipped on board bills of lading for cargoes lying on the quayside at the load port or at one of the many intermediate ports in Asia and the Middle East," he said.
"From recent experience, banks are rightly suspicious of documents issued by some of these shipping companies. There are many NVOCCs prepared to issue bills of lading and other documents to facilitate these fraudulent transactions," he said.
Capt Mukundan addressed the issue at a seminar on better decisions in shipping organised by the Dubai branch of the Institute of Chartered Shipbrokers (ICS) recently.
Captain Jitendra Misra, chairman of ICS Dubai, stated that the seminar looked at current opportunities and problem areas in shipping.
"The ICS believes that education and awareness of the fraud risk is
vital for staff at the customer interface in organisations but it is for the organisations themselves to take the initiative.
"By identifying and discussing these issues, we make it much more difficult for those intent on manipulating the system. In this context it is perhaps very important to note that the institute's education programme is the ideal vehicle to bring about such awareness," he said.
Capt Mukundan said the IMB can provide vital intelligence and support in this difficult area. The IMB is a non-profit organisation established in 1981 to act as a focal point in the fight against all types of maritime crime and malpractice.
With the alarming levels of fraudulent transactions in the primary and so-called "secondary" forfaiting
markets in the Iranian trade, it is essential that banks adopt measures to verify the transactions they finance, he said.
Despite the rush to capture more of this lucrative market, Capt Mukundan urged banks to exercise caution.
DOCUMENTATION
How the process of forfaiting works in shipping industry
Originates from the French word 'a forfait' or to forfeit (in this case the rights in the debt).
A letter of credit (LC) may have a deferred date of payment, for example up to 180 days from the bill of lading (B/L) date.
This means that the seller/exporter would not receive payment under the LC until 180 days after the B/L date.
In order to expedite payment, the seller/exporter will try to get a forfaiter to discount his LC upon presentation.
Provided the documents are in order and the LC opening bank is considered a good credit risk, the forfaiter discounts (forfaits) the documents, that is, pays say 90 per cent of face value on day 1 and will then seek reimbursement from the issuing bank on day 180.
In the intervening period, for various reasons, the forfaiting bank itself may try to offload this risk to another bank in what is known as the secondary forfaiting market.
The secondary forfaiting bank may offer a discount on the documents to pay off the primary forfaiting bank and will in turn await final reimbursement from the issuing bank.
