PNB’s road to recovery 

When you think of state-run banks, the image that leaps to your mind is that of stodgy behemoths where time almost stands still.For many Indians, Punjab National Bank (PNB) is also just another sarkari bank with file-pushing babus and mindless layers of bureaucracy. But what few know is that PNB is India’s first private bank that was created with nationalistic fervour in Lahore nearly 125 years ago. Its client list included several prominent Indians like Mahatma Gandhi, Jawaharlal Nehru, and Lal Bahadur Shastri, who chose to bank with it as the spirit of swadeshi surged during the independence struggle. And for years it was seen as a trusted people’s bank that helped many Partition refugees with their banking needs when they moved after Independence in 1947.

But last year, the storied lender suddenly lost its sheen when it was hit by the biggest banking scandal in the country’s history.India’s third-biggest state-owned lender stunned the financial world in February last year when it announced that it had uncovered fraudulent transactions worth ₹11,400 crore at one of its Mumbai branches. It wasn’t just the business world but millions of ordinary Indians too who were shaken by the revelation that two jewellery groups—associated with Mumbai-based jeweller Nirav Modi and his uncle Mehul Choksi—had raised crores of rupees in overseas credit by using fake bank guarantees issued by some bank employees.

The scam had an immediate impact on PNB’s financial health. Its stock plunged andit also suffered its worst-ever loss of ₹12,283 crore in the year ended March 2018 because of fraud-related provisioning. It suffered three straight quarters of losses after the scam and was also forced to sell a few of its assets—including its stake in its profitable and fast-growing housing finance arm PNB Housing—to venture capital investors. The timing of the scandal couldn’t have been worse as PNB was already groaning under the weight of massive bad loans. Of 21 government-owned public sector banks, its gross non-performing assets (NPAs) at ₹22,577 crore were next only to those of State Bank of India (SBI), the country’s largest bank.Its gross income had been flat for four years in a row.

A year after the financial scandal—dubbed the “great Indian bank robbery” by media—PNB seems to be on the mend. And at the heart of the turnaround is the ₹57,608 crore bank’s managing director and CEO, Sunil Mehta, who suddenly found himself staring at the country’s worst banking fraud barely eight months into the job. The 59-year-old Mehta was a career banker, but managing PNB was a different kettle of fish altogether. Before PNB, he was the executive director of another public sector bank, Corporation Bank, which was much smaller though also weighed down by enormous NPAs. “It was so sudden that I did not know how to react. It was like walking in the forest and suddenly coming face to face with a dinosaur,” Mehta tells Fortune India.

The bank’s recent financial results suggest he is taming the dinosaur: Though it was still in the red in the first nine months of the last financial year, PNB posted a surprise profit of ₹247 crore in the third quarter ended December 2018 as it stepped up its drive for the recovery of bad loans. Even though it is still expected to post a full-year loss—an Edelweiss research report in February estimated PNB’s loss in FY19 at ₹5,813 crore—it is back on the recovery track and some analysts even expect it to post a profit in FY20. A Reuters report, quoting Refinitiv data, said the bank is expected to clock a net profit of ₹2,266 crore for the year ending March 2020, which would be its highest annual profit in five years. And its stock price, which slid 66% toa low of ₹58.45 in September last year, has risen 60% in the last six months.

It’s true that PNB isn’t out of the woods yet, but it’s still come a long distance. Initially, Mehta didn’t seem to have any idea about the extent of the scam when it unfurled at PNB’s high-profile Brady House branch in a heritage Mumbai precinct. When the bank first reported the fraud, its earliest press release pegged itat less than ₹300 crore, but the number snowballed rapidly to over ₹10,000 crore as several banks which had lent to Modi—mostly SBI and Axis Bank—revealed their outstandings. At the heart of the audacious scam was the global payments network SWIFT which some junior officials at the branch misused. Here’s how it worked: They issued unauthorised “letters of undertaking” (LOUs) via SWIFT for firms linked with Modi and Choksi which then used the undertakings to obtain credit from overseas branches of Indian lenders. The Reserve Bank of India (RBI) had told PNB to comply with integrating the SWIFT system with its core banking system in August 2016 after it found some discrepancies. Later theRBI filed a case of false information against bank officials and late in March 2019, a court summoned 11 officials, including Mehta in that case.

Mehta had initially said PNB would not make good themonies other banks had lent but had to quickly go back as PNB had guaranteed the loans.When it became evident that PNB would have to bear the brunt, he said the bank had the heft to absorb the losses and began paying other banks when the loans fell due. In August 2018, Mehta told business daily Financial Chronicle that the bank would be back in the black by March 2019.

Not everybody might be convinced, but Mehta doesn’t show any signs of worry today as he steers the bank back on the road to stability. Its retail banking business, or deposit in current accounts and savings accounts (CASA), has seen robust growth. These low-cost deposits, usually sticky in nature, give banks a bigger lending spread and enhance profitability. The bank, having been forced to make provisions for additional losses, has also stepped up its drive for recoveries of loans that had slipped into NPAs. The biggest advantage it has is the sheer scale of its business: PNB has an enormous network of 7,000 branches spread across the country and does ₹11 lakh crore worth of business each year with 10 million customers.

Its financial metrics and efficiency are still poor compared to private sector banks as is evident from its profitability ratio and it still hasn’t recovered the monies from the scam, but PNB is looking to restore people’s confidence. As part of the efforts to clean up the bank and prevent financial scams in the future, the bank suspended 22 employees after the fraud. Even though competition from high-profile private banks is intense, Mehta has succeeded in putting his house in order. How did he do it? His answer almost sounds a bit simplistic: “The problem was injust one branch and our balance sheet had the strength to absorb all the losses. We only needed to quickly resolve that problem and leave it behind as quickly as possible.”

However simplistic that might sound, to be fair, even before the Nirav Modi scam surfaced,Mehta had started making improvements at the bank. He says that at his interview with a government-appointed bank board, which chooses senior executives at public sector banks, he said his goal was to make PNB a preferred bank amongst its stakeholders. He joined in May 2017 and hit the ground running. His end goal was to reduce the NPAs, push up the bank’s profitability, boost its retail presence,and get growth in lending back. Since all public sector banks were reeling under NPAs, his first focus was on recoveries. He was able to draw on his experience from the early days of his career when he focussed on lending to the agricultural sector as an agricultural officer at Allahabad Bank.

In his new role as PNB chief, he focused on retail banking and built the bank’s bread-and-butter CASA deposits. In December 2017, six months after he took over, the bank posted a marginal decline in gross and net NPAs. These were impressive achievements for a state-run bank, especially as an increasing number of urban customers were turning to private banks that are considered less bureaucratic and more efficient. Says Rakesh Kumar, a banking analyst at research firm Elara Capital: “Over the years, investors don’t expect anything much from public sector banks as there is a feeling that CEOs can bring in very little change during their terms.But some segments, like say CASA deposits,are worth keeping track of as they play on the margins of these banks.”

Analysts like Yuvraj Choudhary at Mumbai-based broking firm Anand Rathi Securities say that apart from SBI and to an extent Bank of Baroda, there is little or no differentiation between the rest of the dozen or so public sector banks. Pushed out by private banks in metros and increasingly in towns,they are forced to compete in rural and semi-urban areas. Transforming these banks is a tough job and not easily possible within the short terms, usually three years, that government-chosen CEOs get.

Even so, Mehta came to PNB with a view to move the needle. He didn’t have any unrealistic transformational goals, unlike his Bank of Baroda counterpart, P.S. Jayakumar, a former Citibanker who wanted to change his bank’s“public sector” image. Mehta began well,but whatever plans he had came shuddering to a halt briefly when the Nirav Modi scam hit. Mehta says scams are always a part of banking and there are always errant individuals who take the system for a ride but he has never seen anything of this kind.

Soon after Mehta wrapped up initial formalities such as informing the Central Bureau of Investigation, the Enforcement Directorate, and the Serious Fraud Investigation Office, he got down to unearthing how the fraud occurred. He soon realised that the problem was limited to the one branch—Brady House in Mumbai—and the reason it had gone unnoticed so for long was that those involved had found loopholes that allowed them to bypass several procedures that would have exposed them. Says Mehta: “These officials had sent email messages over the system using stolen passwords. Now, nobody checks the sent messages box especially if you trust the employees around.” Mehta also quickly realised that the scandal had seriously dented the bank’s image and people’s faith in its operations. Worried customers were asking if their money was safe. “Despite its ability to withstand the loss, there was a lot of uncertainty around,” says Mehta. “There was a realisation that if we wanted to recover quickly and get back to profitability we had to restore employee confidence quickly.”

That’s where Mehta took a step back. He decided that the problem had presented an opportunity to push changes at PNB that wouldn’t have otherwise been possible in the normal course of business. He brainstormed with his employees and came up with a multi-pronged project called Mission Parivartan. Drawn from the Hindi word for change, Parivartan’s goals were simple and aimed at resolving every problem faced by PNB: P stood for profitability, A for asset quality, R for recovery, I for an increase in credit, V for vigilant, A for alternative delivery channels, again R for retail banking, T for turnaround time, again A for ambience, and finally, N for new business relationship.

The plan he drafted was slick and probably not very different from what he would have got if PNB had paid top dollar to a consultant like McKinsey or Accenture to come with upa change plan. The big challenge, of course,was implementation.

The simple interpretation of Parivartan also helped in realigning the bank’s resources. For example, recovery became a big focus for Mehta to bring the troubled bank back to profitability. So a focussed team of 3,000 employees was formed and Mehta used innovative methods like “Gandhigiri” to stage peaceful demonstrations in front of offices of defaulters to recover their dues. It recovered ₹5,617 crore in FY18 and ₹16,697 crore in the first nine months of FY19, more than three times the amount it recovered in the previous year and with a quarter still to go.

Mehta also introduced systems to make credit processes more transparent. Earlier, the discretion to grant loans was with local branches but under the new rules, they can sanction only up to ₹50 lakh while loans above ₹50 lakh and up to ₹50 crore have to be processed by a centralised loan processing centre. Earlier, bank branches could process loans up to ₹50 crore. Beyond that, only special branches are authorised to sanction bigger amounts. In addition, Mehta has also got his board’s approval to speed up disbursal of loans. “Our credit disbursals have increased 17% from almost being stagnant in recent times,” says Mehta.

In almost all other areas, Mehta has made changes to plug loopholes exposed by the scam. For example, he rolled out the latest version of central banking software to ensure the SWIFT system, which was at the centre of the Nirav Modi scam, is fully integrated with the core banking software. One could argue Mehta should have initiated these changes before the scam and that would have proved his mettle as a change agent. After all, PNB was lagging behind private sector banks and its PSB peers, SBI and Bank of Baroda, on several key banking parameters.

But change comes slow at government-run banks. “There are very few government servants who will voluntarily take a huge risk in changing established processes at the end of their career. That Mehta used the opportunity should be to his credit,” says a retired managing director of a large public sector bank.

Still, shaking off the slothful image of public sector banks won’t be easy for PNB. Ana-Analysts like Elara Capital’s Kumar feel that any increase in efficiency is welcome but investors still have a poor appetite for public sector banks. Already, PNB has fallen from the No.2 position among state-run banks, and in terms of market valuation it is not present anywhere in the top 10. Further, non-banking finance companies like Bajaj Finance have been making big inroads into the territory of banks of giving retail loans. Says Kumar: “There is a lot of upside in private banks as they are more focussed on growth and profitability and there is always the overhang of the government as an investor in PSBs.”

Kumar, however, feels that any change for the better at PNB will help it in any consolidation in public sector banks that is expected after the general election. With a better balance sheet, it will be able to withstand a merger of larger public sector banks. Already, two mergers have happened in the past three years: SBI’s merger with its subsidiaries and Bank of Baroda’s merger with Dena Bank and Vijaya Bank. Mehta says PNB too was offered to play a role in the consolidation of PSBs, but he stayed away as he felt he needed to become more profitable before getting involved in capital-consuming mergers.

Mehta’s caution is not surprising. After the way it was hammered following last year’s colossal scam, PNB can’t afford any missteps ifit wants to regain the trust of people. A trustit earned nearly 125 years ago when freedom fighter Lala Lajpat Rai helped found the bank to enable locals to keep their money with an Indian-owned bank. Over the years, PNB has survived many setbacks and crises from nationalisation to back-breaking NPAs and the latest financial fraud. But the question is: Hasit turned the corner yet? Not entirely.

(This story was originally published in the May 2019 issue of the magazine.)