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Lacunae in surveillance, technology platform; ₹ 105 crore paid to bogus entities
BS REPORTER Mumbai, 29 April Multi- Commodity Exchange (MCX) had made a payment of ₹ 105 crore to entities that were either " bogus" or whose identities had not been verified, PricewaterhouseCoopers ( PwC) has said in its final audit report. It added the exchange's surveillance system was weak and manual. The report, made public by MCX after initial reluctance, said some, including the senior management of the exchange, were aware of the trading activities of related parties, in which certain patterns had been found to indicate aportion of these might have been performed in a systematic and synchronised manner. Also, several lapses were found in the exchange's surveillance mechanism. MCX, in a BSE filing of the summary of the report, said it didn't certify the correctness of the report, adding it shouldn't be treated as verified by the exchange. It said regarding those named in the report, due legal processes would be followed. According to PwC's findings, MCX had to make huge payments on its technology platform, which had many weaknesses. The Forward Markets Commission ( FMC) has directed MCX to inform it by 5 pm on Monday what action it was taking on the PwC report. The report, initiated on FMC's instructions in the wake of the ₹ 5,600- crore payment crisis at National Spot Exchange Ltd, also said five related party entities had been paid donations of ₹ 18.34 crore. PwC has highlighted several related- party deals, through which MCX had made payments without having underlying contracts or proper documentation. Financial Technologies India Ltd ( FTIL), MCX's promoter, had received ₹ 667 crore from the exchange, under various agreements. The PwC report found though MCX contributed to 25 per cent of FTIL's revenue, the exchange lacked bargaining power. In the case of technology contracts, the terms of the 33- 50- year agreement favoured FTIL. Also, there was a provision of significant financial penalties in case MCX wanted to terminate the contract. Such a long- term contract with FTIL led to huge commercial risks, the report said, adding the exchange hadn't stated how it would manage these risks. Another key issue the PwC report pointed to was weakness in the technology platform, for which the exchange had committed such substantial funds. The weaknesses, as highlighted by PwC, included potential dilution of its ability to detect manipulations. Also, key surveillance alerts were limited or inactive. Infrastructure controls were weak, as generic email IDs were used for critical tasks so that accountabilities could not be fixed; operating systems weren't sufficient to identify unauthorised use; and the technology platform didn't prohibit wash trades and open interest alerts. The report found cases of huge trades where no fresh positions were created through ' buy' and ' sell' orders, placed at 5- 60 seconds. The report also said MCX's management was dependent on FTIL, whose intervention was common, even after the exchange was listed. Several decisions were taken according to the instructions of the FTIL chairman. Several cases of client code modifications also came to light, including in proprietary trades, despite the FMC prohibiting such practices. Wash trades, which appear to be genuine, but aren't, were converted into normal trade by changing codes. The report said two members debarred by the Securities and Exchange Board of India in 2006 continued to trade on MCX till 2011, despite the FMC saying such members couldn't be allowed to do so. Potential violations of FMC guidelines on clubbing of open positions were also noted. The report also pointed to lacuna in the surveillance mechanism, which was manual and not in sync with the growth in trading. Even abnormal trades of identified parties weren't scrutinised thoroughly—₹ 1,856- crore trades were carried out in ' buy' and ' sell' within 60 seconds, without a change in position and ₹ 1,181 crore of trades were carried out by buyers and sellers who were part of the same group of companies. The way members were selected, too, was flawed, the report said. The membership team didn't check disclosures provided by applicants and several parties admitted members with their own clearing accounts, in contravention of MCX rules. Though FTIL maintained mark- ups in hardware supply to MCX ( this was about 20 per cent), there was nothing to suggest FTIL carried out any value- addition to MCX, in return for such mark- ups. The money paid by MCX to National Bulk handling Corporation ( NBHC) for unused warehouse facilities, in the form of rent, without physically verifying the existence of the warehouse, was ₹ 42 crore. There was, however, no competitive bidding for the payment to NBHC. FTIL threatens legal action againstMCX, PwC Financial Technologies India Ltd (FTIL) on Tuesday said it had neither received the PricewaterhouseCoopers (PwC) report, nor had PwC consulted or sought a clarification on its report. An FTIL statement, issued before MCX made the PwC report public, said Multi- Commodity Exchange (MCX) had violated the principle of natural justice by not sharing the report and not allowing FTIL to provide its clarification on the PwC findings. " This report is intentionally leaked at the time when FTIL is in the process of divestment of equity shares of MCX. FTIL sees such selective leakages as malicious, highly defamatory and motivated with vested interests," the statement said. It said none of its transactions with MCX had violated any legal provisions of corporate law or taxation, adding it would vehemently pursue legal action against MCX and PwC for painting awrong picture in the audit report. In fact, all necessary disclosures were made by MCX in its prospectus, including those on related- party contracts entered into between the parties during MCX's public issue, it said. FTIL said for the last 10 years, MCX's finances and operations had been audited by reputed statutory auditors such as Deloitte Haskins and Touché and KPMG. It had also been regularly audited by the Forward Markets Commission, it said. All transactions carried out between MCX and FTIL are based on commercial agreements with FTIL creating long- term infrastructure platform in terms of technology back- bone and support for the exchange. The question of transfer pricing is not at all applicable. FTIL has paid all the necessary taxes for the services performed and revenue earned by the company. BS REPORTER | 
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