Why Did Banamex Grant $400M Loan To Oceanografía? Analysts And Citigroup Former Employee Weigh In On The Citigroup Fraud Scandal

MEXICO CITY -- Citigroup Inc. (NYSE:C), the third largest banking group in the U.S., announced in late February that it was revising its Q4 2013 profits, which resulted in a $235 million net reduction.

Citigroup disclosed that it had revised its numbers after investigating its Mexican unit, Banamex, and a transaction with a Mexican company, which found a $400 million gap in one of the accounts.

The gap was due to a loan granted by Banamex to oil services company Oceanografía S.A. de C.V. for supposed services to Mexican state-owned oil giant Petróleos Mexicanos (Pemex). The loan amounted to $585 million, of which only $185 million were accounted for. The other 400 million had been requested with documents later found to be suspicious. Those papers have been sent to Pemex accountants to check if the services listed were actually performed by Oceanografía.

In the meantime, Oceanografía, which admitted to only having $50 million in its accounts, has been barred from entering into any contracts with the Mexican government or any state-owned company, including Pemex. The U.S. Federal Deposit Insurance Corp. and the U.S. Attorney’s Office for Massachusetts sent subpoenas to Citigroup. The Mexican Attorney General and the Bank and Securities Commission have initiated their own investigations of Banamex and its employees.

While the investigations proceed on both sides, there is the question on how that $400 million landed in Oceanografía’s hands when the requirements for a loan were not met. Jesús Murillo Karam, Mexico’s Attorney General, said in a press conference in early March that there were suspicions of money-laundering behind the operation.

Right after the fraud case was unveiled, Citigroup CEO Michael Corbat announced that the bank had started its own investigation of Banamex and its employees.

“I can assure you there will be accountability for those who perpetrated this despicable crime and any employee who enabled it, either through lax supervision, circumvention of our controls or violating our Code of Conduct,” he said in a statement.

If the loan to Oceanografìa turns out to be fraudulent, it would not be a rare occurrence. Fraud in banking happens with alarming frequency.

Only in 2013, America’s two largest banks were involved in major cases of fraud. JPMorgan Chase (NYSE:JPM), the biggest banking corporation in the U.S., agreed to a $13 billion settlement with the U.S. Justice Department over mortgage-backed securities sold during the housing bubble, misrepresenting their quality. These later crashed and played a key role in the 2008 financial meltdown.

Bank of America (NYSE:BAC) was brought to court by the U.S. government over fraudulent mortgages sold by its Countrywide unit since 2007, which resulted in the bank being found guilty and facing a $864 million fine.

“Fraud will always be part of banking,” said Mike Mayo, banking analyst with CLSA. “The key is to keep it small and infrequent.”

Since the financial crisis of 2008, banks have been asked time and again to monitor more closely their operations. Just last year, Citigroup was asked by the U.S. Federal Reserve to improve its anti-money laundering procedures and reinforced its internal audits.

Whereas there seems to be enough evidence for fraud on the part of Oceanografía, it is still being investigated if any employee of Banamex had any active involvement in the operation, or if the granting of the loan was simply due to malpractice and failure to perform a thorough check of Oceanografía’s reliability.

Luz Rainov, former vice-president of Finance and Administration at Citigroup, said that she “very much doubted” that there had been a willful breach of ethics at Banamex. “These decisions are taken by several people in different levels of responsibility,” she said, adding that a large number of employees being involved in the crime was “impossible.”

“There is great emphasis within [Citigroup] to alert employees of the severity of unethical actions,” Rainov said, explaining that it was a compulsory part of training and she herself used to oversee it within her division.

As to what explanation could be given for the scandal, Rainov believes it was a mix of internal pressure to fulfill a non-negotiable work quota and the idiosyncrasies of doing business in Mexico.

“You know how in the U.S. everything is triple-checked and monitored… In Mexico it does not necessarily work like that,” the Mexican native, who worked for Citigroup in New York for three years, explained. “It is all more informal, a system of trust and prestige, of vouching for somebody because you know them or of them.”

“I would not be surprised if an employee at Banamex, under stress to fill the quota, had received the application for a loan, simply passed it along under the premise that it is Oceanografía, they work with Pemex, they just can be trusted,” she said.

However, this is no justification for incompetence or improper handling of business, Rainov clarified. “There has been extreme malpractice, clearly,” she said.

Scott McCleskey, senior adviser at research center Ethisphere Institute, agrees there may have been grave incompetence in the Banamex case. “The controls were just not being enforced,” he said. “Every corporation, including large ones like Banamex, has control systems. The question is if they are meaningful.”

McCleskey explained that had Banamex gone through the proper procedure and checked the financial situation of Oceanografía, it would have avoided the scandal. “Oceanografía’s current situation had been apparent for a while, they would have picked up on that,” he added. “So, did [Banamex] see the red flags and overwrote them, or simply did not do the [due] diligences?”

However, in a vast international company like Citigroup there is no foolproof way to keep an eye on everybody at all times. McCleskey said that corporate culture, particularly in regards to ethical performance, should be global and uniform.

“It needs to be ingrained in the members of the company that it does not matter what the business culture might be in Latin America, or Asia, or anywhere,” he said. “There is a single corporate culture of what is acceptable and is not acceptable.”

“People need to hear it from their own,” said McCleskey. “The employees of Mexico, or Singapore, or the Philippines, should hear it from their local manager, a fellow countryman that comes from the same business culture they do, that in a global environment, things need to be done according to global standards.”