SCAMS, CRISIS &

BUBBLES
US SUB-PRIME CRISIS
 What does Subprime mean?
Prime Alt - A Subprime
Mortgages
•In terms of •Very Bad credit
•For amounts loan quality they History
that are small lie between prime
relative to and subprime •May not even have
value of current jobs
property • Do not have a
good or bad •Not able to pay
•Borrower has credit history as down payments
clean credit such
history •No tax
•May or may not Documentation
•Borrower has show their
sufficient current Income
current Income
•Readily pay
downpayments
 SUBPRIME LENDING
vAlso called B-paper, near-prime, or second chance
lending
v
vOffered at a rate higher than A-paper loans due to the
increased risk.
v
vKey design features of a subprime mortgage are:


 (1) Short term, making refinancing important



 (2) there is a step-up mortgage rate that applies at the

end of the first period, creating a strong incentive to
refinance;

 WHO OPT SUBPRIME LENDING?

vIndividuals who have experienced severe financial
problems are usually labeled as higher risk.
v
vthese individuals may also be precluded from
obtaining any type of loan for an automobile or
real estate.
Classic 8 Steps to Hell !!
How did Subprime start??
 How did Subprime start??
vBetween 1998 and 2006 subprime mortgages worked
as they were supposed to.


vThe subprime lending is 9% in 1996 but in 2004 it is

21%.
v
vBetween 1997 and 2006, American home prices
increased by 124%.


vMany subprime borrowers to obtain ARM they could

not afford after the initial incentive period.
 Contd..
vWith housing prices now depreciating moderately
in many parts of the U.S., refinancing has become
difficult, leaving homeowners with higher
payments than anticipated.


vA steep rise in the rate of subprime mortgage

foreclosures has caused more than 100 subprime
mortgage lenders to fail or file for bankruptcy.

 Causes for the debacle
v Boom and bust in the housing bubble

v Speculation

v Risk mortgage loans and lending practices

v Securitization practices

v Inaccurate credit ratings

v Government policies

v Policies of central banks

v Financial institution debt levels and incentives

v Credit default swaps

 Contd..
vPiggyback loans 43% more likely to default than
others; still majority share of pool value are
these (52%-Washington Mutual Inc)
v
vEncouragement from S&P by not slashing
ratings- in its total share of ratings to asset-
backed securities, 99% were subprime

The Mediums Involved
Where things went wrong ??
 ASSET-BACKED SECURITY (ABS)
vThe asset-backed security (ABS) has been around for
decades, and at its core lies a simple investment
principle:
vTake a bunch of assets that have predictable and
similar cash flows (like an individual's home
mortgage),
vbundle them into one managed package that
collects all of the individual payments (the
mortgage payments),
vuse the money to pay investors a coupon on the
managed package.
v
vThis creates an asset-backed security in which the
underlying real estate acts as collateral.
COLLATERALIZED DEBT OBLIGATIONS

vA cash CDO is a special purpose vehicle,

which buys a portfolio of fixed income
assets, and finances the purchase of
the portfolio via issuing different
tranches of risk in the capital markets.
 Teaser Loans
v An adjustable-rate mortgage loan in
which the borrower pays a very low
initial interest rate, which increases after
a few years.
v Teaser loans are considered an aspect of
subprime lending, as they are usually
offered to low-income home buyers.
Unfortunately, when these borrowers try
to refinance the loan before the rate
increases, most will not qualify for
standard mortgages. This leaves
borrowers with increased monthly
payments, which many cannot afford.
v This method of loaning is considered risky,
as default rates are high.
 Types of Subprime Mortgages
vInterest only mortgages: Only interest is paid for a
tenor 5-10 years.


vPick a payment loans: The borrowers have the

option to choose their monthly repayment which
can be full payment, interest only or a minimum
payment.
v
v2-28 loan: Interest rate is initially fixed for 2 years
and then reset to equal the value of a rate index
at that time , plus a margin.

 Mortgages Backed Securities(MBS)
vMBS refers to securities backed by residential
mortgage loans
v
vFixed income security with prepayment options.
v
vPayment of Interest & principals is guaranteed by
the issuers of the securities .
v
vTremendous volume growth from $ 100 billion in
80’s to $ 3 trillion currently.
 Types of MBS

vMortgage Pass Through Securities

vCollateralized Mortgage Obligation
vAgency Mortgage Backed
Securities
vStripped Mortgage Backed
Securities
 Benefits of MBS

vHigher Return: 100 bps more than treasury and

corporate bonds.
vQuality of credit: No risk as it is backed by the
US Government.
vInvestment profiles: Various options like
duration, prepayment, fixed or floating
coupons.
vLiquidity: It helps in making illiquid mortgage
receivables more liquid.
vAnalytics: Better tools are available today to
analyze MBS.

THE IMPACT
v THE IMPACT
v E ffe ct o n sto ck m a rke t
v E ffe ct o n fin a n cia l in stitu tio n s
v " Waves " of the credit crunch
v E ffe ct o n in su ra n ce co m p a n ie s
v E ffe ct o n m u n icip a l b o n d " m o n o lin e " in su re rs
v E ffe ct o n h o m e o w n e rs
v E ffe ct o n jo b s o f th e fin a n cia l se cto r
v E ffe ct o n m in o ritie s
v E ffe ct o n te n a n ts
v E ffe ct o n w o rld e co n o m y
Loss due to Subprime Crisis
ACTIONS TO MANAGE THE CRISIS
 ACTIONS TO MANAGE THE CRISIS …
vCentral Banks have conducted open market operations to
ensure member banks have access to funds (i.e., liquidity).
v
vBanks and Lenders to tighten lending norms
v
vLenders and homeowners can restructure loans.
v
vCredit rating agencies rating process to be re-examined
and improved.
v
vRegulators and legislators can take action regarding
lending practices, bankruptcy protection, tax policies,
affordable housing, credit counseling, education, and the
licensing and qualifications of lenders.
 CENTRAL BANKS : AN EFFORT TO
STABILIZE
vFED :
released USD 235 billion
allows term financing for up to 30 days
vECB :
released 265 billion Euros
Banks could have any amount of money at the base
rate 4%.
v
vBank of Japan released 1.6 trillion Yen
v
vCentral banks of Russia ($1.64 bn.)
v
vAustralia and Canada also pumped money in the system.
SATYAM FIASCO
THE HIDDEN TRUTH
AGENDA
Satyam –The Company That Was

Satyam Scam

Tech Mahindra Wins The Bid

Conclusion and Learning
SATYAM
BIRD’S EYE VIEW
Ø IT Major Founded in 1987
Ø Associates:- 53000 employees.
Ø Revenue:- Rs. 11,181 Crores (08-09)
Ø EPS: 31.83 (08-09)
Ø Geographies:- 67 countries.
Ø Listed with NYSE and Euronext
Milestones
Ø 1995 – First ISO 9001:2000.
Ø
Ø 1999 - Listed on NASDAQ.
Ø
Ø 2001 - Satyam listed on New York Stock
Exchange.
Ø
Ø 2002 - Satyam wins Golden PeacockAward
for Excellence in Corporate
Governance.
Ø
Ø 2002 –Wins CNBC's Asian Business Leader.
Ø
Milestones

Ø 2003- Satyam Computer honored with

prestigious IBM Lotus Award.
Ø 2005 - Satyam acquired Knowledge
Dynamics.
 Launched EMRI.
Ø 2006 - Achieved global certification - ISO
9001,
 ISO 20000,ISO 27001.
Ø 2007 - Becomes the Official IT Services
Provider for the FIFA World Cups,
2010 (South Africa) and 2014 (Brazil).
Ø 2008 - Satyam Receives Golden Peacock
Global Award for
Excellence in Corporate Governance by


The Fiasco as it


transpired…
FAILED ACQUISITION ATTEMPT
Satyam = Truth
The bitter truth
surfaces
THE BITTER TRUTH
(Accounting Fraud)
 P a rtie s to th e H id d e n
Tru th
P W C – O ve rlo o ke d fa u lty b a la n ce sh e e t

S E B I – G ive s cle a n ch it in its p re lim in a ry

su rve illa n ce

B A N K S – Fa b rica te d b a n k sta te m e n ts

D IR E C T O R S – B lin d ly fo llo w in g m a n a g e m e n t
d e cisio n s

D S P M E R R ILL LY N C H – b le w th e w h istle b u t
ve ry la te
 G O V E R N M E N T O F IN D IA
IN T E R V E N E S
 Ministry Of Corporate Affairs

 Arrest Of Satyam’s Top Management


 Legal Action

 ICAI Actions Against -

EFFECTS OF THE BITTER TRUTH

 Loss in Reputation

 Financial / Operational

 Satyam Stock

 Employee Morale
 Tech Mahindra acquires
Satyam

Tech Mahindra won the bid for Satyam

Computer after bidding at Rs. 58 per share
Tech Mahindra would pay Rs. 1757 crore for
a 31% stake in Satyam
Tech Mahindra has secured complete funding
to acquire 51% stake in Satyam
Satyam will now be Mahindra Satyam

 Conclusions And Learning

Lack of Regulation on part of Govt. & other

Regulatory Authorities

Corporate Non Governance


Satyam not alone: Compliance should be

introduced to check fraud like this

Blind Compliance and other regulatory body

YES BANK IPO SCAM
YES BANK IPO SCAM
Issue opened on June 15, 2005
Listed on BSE and NSE on July 12
1.75 crore shares were reserved for small
investors
Roopalben panchal cornered and sold
8,39,500 shares @ 61.40

GIMMICK OF ROOPALBEN IN YES BANK
IPO
6315 bogus fictitious applications, bank
A/c’s and Demat A/c’s
Same address of Ahmedabad on Demat
A/c’s
On all application same address of Bharat
Overseas Bank, Worli, Mumbai
9,47,250 shares alloted to these fictitious
A/c’s


SYNDICATE OF PANCHAL INVESTORS
Roopalben made off market transfer of
931,600 shares on 11th July to the
following entities:
Seer Financials Pvt. Ltd 332,875 shares
Excel Multitech Ltd. 161,180 shares
Devangi Dipakbhai panchal 220000
shares
ZenetSoftware ltd. 92,855 shares
Taurus Infosys Ltd. 80,590
shares
Rajan Vasudev Dapki 44,100
shares
Sugandh Investment
1315 bogus application
Allotment of 1,97,250 shares
Profit of 32,26,492
Modus operandi same as Roopalben Panchal
Order of SEBI-Actions on Yes Bank
Panchals and others directed not to buy, sell
or deal in Yes Bank and other company
shares ensuing IPO’s, directly or indirectly
NSDL is directed to monitor the benami
accounts such that they are not used in
future
NSDL is directed to undertake
comprehensive inspection of Karvy DP
RBI to intervene in a careless lending
pattern of bank to A/c’s having the same
address

BOTTOMLINE
10,669 benami accounts opened on 16th
August, 2004

Ms. Roopalben Panchal 6483

Sugandh Investments 4186
 Total 10,669


SECURITIES SCAM 1992
Introduction
In April 1992, press reports indicated that
there was a shortfall in the Government
Securities held by the State Bank of India.
Investigations uncovered misappropriation
of funds to the tune of over Rs. 3500
crores.
Created a panic among investors and
brokers
Stock prices dropped by over 40%, wiping
out market value to the tune of Rs.
100,000 crores.

Precipitating Events

Sensex rose from around 1000 in February

1991 to a peak of 4500 in March 1992 just
before the scam came to light.
Nationalized banks were under pressure to
improve their bottom line.
Growing need for funds in the informal
money market to finance stock market
operation


The Ready Forward Deal

A secured short term (typically 15 day) loan

from one bank to another bank
Purpose
qprovide much needed liquidity to the
government securities markets.
qStatutory Liquidity Ratio (SLR)
requirements.


 Mechanics
 The settlement process in the government
securities market became broker intermediated,
that is, delivery and payments started getting
routed through a broker instead of being made
directly between the transacting banks.
 The broker through whom the payment passed on
its way from one bank to another found a way of
crediting the money into his account though the
account payee cheque was drawn in favour of a
bank.
 While the above two steps transformed an RF deal
from a loan to a bank into a loan to a broker, it
would still be a secured loan. However, the
brokers soon found a way of persuading the
lending bank to dispense with security for the
loan or to accept worthless security.
Creative accounting and Bank
Balance Sheets
Most banks carried investments in their
books at their cost of acquisition and did
not mark it down to market.


The profit earned through transaction

improved the bottom line for the bank

Loss suffered by the bank in transaction
was not reflected in its profit and loss
account at all.

Where is the money?

 The bulk of Harshad Mehta’s purchases was made at low prices. The
average portfolio corresponded to an index well below 2500 with
many of the shares untraceable till today.
 A powerful "bear cartel”, represented by Hiten Dalal , A.D. Narottam
and others, operated in the market with money cheated out of the
banks. It is likely that a considerable part was spent on financing
the losses in the rising stock markets.
 It is said that a part of the money was sent out of India through the
hawala racket, and brought back as India Development Bonds.
 A part of the money must have been spent as bribes and kickbacks
to the various accomplices in the banks and possibly in the
bureaucracy and in the political system.
 A part of the money might have been used to finance the losses
taken by the brokers to window-dress various banks' balance
sheets returning to the banking system.
Aftermath of the Scam

The immediate impact of the scam was a

sharp fall in the share prices. The index
fell from 4500 to 2500 representing a loss
of Rs. 100,000 crore in market
capitalization.
First was the phenomenon of tainted shares
which created panic in the market and
Second was the perceived slow down of the
reform process which destroyed the very
foundation on which the boom was based.

KETAN PAREKH SCAM
The man behind the scam
Ketan Parekh
Mumbai based broker
Hails from a Gujarati family
Chartered accountant by profession
Used to manage family’s broking firm,
(NH Securities)
Also known as “Bombay bull”


The Scam
Year 2000-2001
Scam worth Rs.2000 bn
Formed a network of brokers at ASE & CSE
Relied on scrips of ten companies(K-10)
Benami transactions
Overtrading in equity markets
Also involved promoters in the fiasco
FIs (IDBI, IFCI) also involved

Buy stake from promoters
Safeguarded himself against uncertainity
Understanding to sell stock back to
promoters
Ketan made deals with FIs
Identify stock, take the up & later dump
with fund manger
Ensure enough appetite for fund managers



K-10 Scrips
§ Silverline
§ Global Telesystems
§ Satyam Computers
§ Zee
§ HFCL
§ Aftek Infosys
§ DSQ Software
§ Ranbaxy
§ Pentamedia
§ SSI
§
KP’s Favourite
IT sector- Aftek infosys, Satyam computers,
DSQ software


Pharma sector- Lupin Pharma, Ranbaxy



Media- ABCL, Zee telefilms, Mukta Arts, Tips


Factors Contributing
Brought in banks
Bought shares at low prices
Continuous trading Bull in prices
Pledged these shares with banks as
collateral
Madhavpura Mercantile Cooperative Bank
(MMCB)
Calcutta Stock Exchange (CSE)
Aftereffects
Sensex fell by 177 points
SEBI ordered enquiries
Banks to furnish data
Setback to investor confidence
Bank of India(BoI) & Global Trust Bank
KP’s arrest resulted in Sensex fall of 147
points
SEBI’s Remedial Measures
Additional 10% deposit margin on o/s net
sales
Restrictions on short sales
Sales to be followed by deliveries
Suspended all brokers at BSE
Banned trading by VPs, treasurer etc
Banned badla system
Introduction of Rolling Settlement System
on BSE

ASIAN ECONOMIC CRISIS
1997
 HISTORY
 South East Asian Countries increased their interest

rates attracting investments

 Thailand , Malaysia, Indonesia, Singapore, and South

Korea - growth rates of 8-12% GDP

 Real Estate prices and other asset prices soared

 IMF & World Bank termed it as "Asian economic

miracle"



Cont…..
Large money went to uncontrolled hands

Fixed Exchange Rates led to high external

borrowings

Mid 1990 US recovered from recession

Alan Greenspan increased interest rates in US

and $ appreciated

Other currencies got devalued


 THE CRISIS

July 97’ Thailand had large foreign currency

debt resulting in bankruptcy

Spread in Indonesia, South Korea, Thailand and

Japan causing downward currency, stock

markets, asset prices and increasing debt
Foreign debt to GDP ratio rose from 100-180%
 CONT……

Growth dip due to depleting Current A/c

position
Organizations started defaulting
Investors confidence falling and they
started withdrawing investments- led
to currency pressure

 CONT ….
Governments increased interest rates to

sustain investors and buyback of domestic

currency with Forex Reserves- damage

Thailand Government Floated the currency-

more adverse

Foreign currency denominated liability

increased in domestic currency leading to
bankruptcy
IMF’S INTERVENTION

$40 billion program to stabilize

currency
Structural Adjustment Package (SAP)

Criticized for adopting the opposite

measure during the US recession


 CONT….
Resulted in permanent currency

devaluation, bankruptcies, booming

economies collapse, real estate burst &
unemployment.
People named it “IMF CRISIS”

 IMPACT
 US dollar GDP of Asian Countries fell by US$9.2 billion

in 1997 and $218.2 billion in 1998

 Nominal US dollar GDP per capital fell 42.3% in

Indonesia in 1997, 21.2% in Thailand, 19% in

Malaysia, 18.5% in South Korea and 12.5% in the
Philippines
Currency ExchangeJuly
June rate1998 Change Country GNP (US$1 billion) Change
(per US$1)
1997
Thai Bhat
Indonesian
Philippine
Malaysian
South Korean
Peso
Ringgit
Rupiah
Won 850
24.5
2,380
26.3
2.5 41
14,150
42
4.1
1,290 - 34.1%
40.2%
83.2%
37.4%
39.0% June 1997 July 1998

Thailand 170 102 - 40.0%

Indonesia 205 34 - 83.4%
Philippines 75 47 - 37.3%
Malaysia 90 55 - 38.9%
South Korea 430 283 - 34.2%
AFTER EFFECTS

Corporate Governance improved

International investors cautious for
developing countries
Oil prices dipped to $8 a barrel in 1998
which led to 1998 Russian Financial
Crisis
US lost $4.6 bn in 4 months on a/c of oil
 CONT…..
Alan Greenspan organized a $3.625
bailout
Nations started building Forex Reserves
including Japan, China & South Korea
Pan Asian Currency Swaps introduced
Russia, India, Brazil, etc restructured
their economies and created Current A/c
Surplus to build Forex Reserves

DOT COM BUBBLE
Stock Market Bubble

A  sto ck m a rke t b u b b le  is a typ e o f e co n o m ic b u b b le ta kin g p la ce

in sto ck m a rke ts w h e n m a rke t p a rticip a n ts d rive sto ck p rice s
a b o ve th e ir va lu e in re la tio n to so m e syste m o f sto ck va lu a tio n .

A rational or irrational phenomenon ?

Boom of IT Companies (1998-01)
qIn te rn e t w a s b e g in n in g a re vo lu tio n ( d e rive re a l b u sin e ss d rive n
p ro fits)
qC h a ra cte ristics-
ü E a sy to sta rt
ü n o b a rrie rs to e n try.
ü B u sin e ss to b u sin e ss co n ce p t.
ü h a rn e ssin g n e tw o rk e ffe cts b y o p e ra tin g a t a su sta in e d
n e t lo ss to b u ild m a rke t sh a re .
üstra te g y – “ g e t b ig fa st”
qPre fix in ve stin g
qA d ve n t o f ve n tu re ca p ita list
Emergence of new economy

qa n e w e co n o m y w a s e m e rg in g –
“ INTERNET ECONOMY ”
The Internet Economy  refers to conducting business through markets
whose infrastructure is based on the Internet and World-Wide Web.

qIt found reinforcement in media (emerging magazines : Red herring,

Fast Company, Business 2.0)
Soaring stock prices
qC a sh flo w IP O ’ s
qIn fo rm a tio n ca sca d e
qA b se n ce o f fu n d a m e n ta ls
qB y Fe b ru a ry 2 0 0 0 , In te rn e t se cto r m a rke t ca p ita liza tio n
Free spending
qIn te rn e t co m p a n y's su rviva l d e p e n d e d o n exp a n d in g its cu sto m e r
b a se a s ra p id ly a s p o ssib le – g o o g le & a m a zo n
qPu b lic a w a re n e ss ca m p a ig n s
qla vish in te rn a l sp e n d in g
qin ve stm e n ts w e re fa r o u t o f p ro p o rtio n to b o th th e ir cu rre n t a n d
p ro je cte d ca sh flo w
Growth of bubble
Bubble burst
qT h e N a sd a q sa n k .
qS to ck tip s h a ve b e e n re p la ce d w ith ta lk o f re ce ssio n
qO n lin e re ta ile rs sa w th e ir sto cks fa llin g m o re th e n 9 9 % fro m th e ir
h ig h .
qD o w jo n e s in te rn e t in d ex w a s d o w n b y 7 2 %
q
Dot Com Crash of 2000

Scient Corporation Overview

 1997: Founded as Internet consulting firms to lend

information technology and expertise to traditional
“old economy.
 1999: IPO $ 10 per share. In march 2000 Scient traded
at $ 133.75. A valuation of 62 times the company’s
revenues.
 2000: net loss of $ 16 million on revenues of $ 156
million, 2,000 employees.
 2000 (June): Scient’s stock fell to $ 44 as most of the
technology sector.
 December 2000: lowered revenues and earnings
expectations due to the slowdown for Internet
consulting services.
 December 2000: plans to lay off 460 positions
worldwide (over 20% of its work-force).
 February 2001: stock was trading at $ 2.94.
Dot com Indices:
Company IPO Peak % change Price at % change
Scient price
10 Price
133.75 IPO to
1238% end of Feb -97.80%
2.94 from peak
Viant 8 63.56 Peak
695% 2001
3.06 -95.20%
IXL Enterprises 12 58.75 390% 1.25 -97.90%
Lante 20 87.5 338% 1.81 -97.90%
Razorfish 8 56.94 612% 1.16 -98.00%
US Interactive 10 83.75 738% 0.56 -99.30%
Xpendior 19 34.75 83% 0.69 -98.00%

M a rch 2 0 0 0 N A SD AQ Fe b ru a ry 2 0 0 1

5 1 3 2 .5 2 2 1 5 1 .8 3
Reasons for the Burst…
 The loophole in their Business plan/model.
 Companies engaged in unusual and daring business practices.

 Get rich quick internet strategy was flawed.


 They spent other people's money unchecked in an effort to gain market

share as soon as possible. “Get Large
or Get Lost”.


 Inexperienced teams.


 Support from :
 Venture Capitalists.
 Investment Bank Underwriters.
 Accounting Profession.


 Interest rate increased six times during the dot com period.
 Leading technology companies such as Dell, Cisco and IBM
triggered a chain reaction of investors liquidating their shares.

 Reaction of the Stock market.


 Others:-
 Rise in outsourcing
 Y2K switchover
 Terrorist attacks in US in 2001



Aftermath….
 Several Communication companies sold their assets for cash
or filed for bankruptcy
 World Com
 Overstated profits by billions
 Stock Crashed
 Filed largest corporate bankruptcy in U.S. history


 North Point Communications, Global Crossing, JDS

Uniphase, XO Communications, and Covad
Communications

 Many dot-coms ran out of capital and were acquired or
liquidated
 A few of the larger dot-com companies did survive,
however: Amazon and eBay are good examples.



 Several companies and executives accused or convicted of fraud for
misuse of shareholders money
 Citigroup and Merrill Lynch fined millions by SEC for
misleading investors

 Huge layoffs of technology experts.


 The dot-com bubble crash wiped out $5 trillion in market value of

technology companies from March 2000 to October 2002
 .
 Advertising and Shipping business got a setback.


Learnings
 For Companies:-


 It is better to be profitable with 50,000 customers than

sinking in debt with 100,000
 Rapid growth is not the way to build a solid company
 If you're going to start a company that you hope to gross a
billion dollars next year, make sure you have experience


 For investors:-


 If you are investing in the stock market for the long term,
don’t invest when prices are overvalued and fundamentals
are poor
 If trading/short-term investing is your thing, then get your
profit and get out.
 When a company or many companies are promising life-
altering changes in how we live our lives, be very skeptical.
 Thank You