Highlights:



- The Karvy incident highlights why you should be wary of privately-placed products- Investors should read the documents, fine print of financial products carefully, especially in privately-placed products where regulatory control is lower

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The distress in India’s real estate sector has moved from non-banking financial companies (NBFCs) and mutual funds exposed to them to the opaque world of privately-placed unlisted debt, usually marketed to high net-worth individuals (HNIs) by wealth management firms.

A major player in this space, Karvy Private Wealth, is now in the midst of a set of messy defaults on real estate loans it facilitated using investors’ money. On June 14, angry investors filed a criminal case against various companies and executives in the group, and Abhijit Bhave, the Chief Executive Officer of Karvy Private Wealth, a division of Karvy Stock Broking and part of the Karvy group of companies, alleging cheating and criminal breach of trust. Mint has a copy of the FIR, which was filed by one of the investors, Ketki Shah Talati, in Bengaluru. According to other investors, their complaints have been clubbed in the same FIR.

The Karvy incident can set a precedent for India’s burgeoning wealth management industry and its investors.

In November 2015, TT Usharani, a 65-year-old retired doctor based in Bengaluru, approached Karvy Private Wealth. She wanted to park Rs 30 lakh saved over many years for her daughter’s marriage for a year.

“The only requirement I had was that the money should be invested in a safe and guaranteed-return product for a short duration of one year," said Usharani. She was advised to invest in a product marketed by Karvy—Syndicated Loan Transaction with Bharath Hi-Tecch Builders Pvt (BBL). She said that she was told it was fully secure, offered a guaranteed return of 20 percent per annum and was to mature on November 22, 2016, exactly a year from the investment.

Usharani was repeatedly assured that the product had multiple layers of security to protect the investor, but the builder defaulted. To her utter shock and disbelief, she got merely 10 percent of the interest, amounting to Rs 65,000 around February-March 2017. The 20 percent interest she was promised was due in November 2016. Usharani’s complaint is part of the batch of complaints clubbed in the overall FIR filed against the Karvy group.

The FIR states, “In June 2015, we came across Karvy Private Wealth’s advertisement on their website about secured safe high-return debt products for high net-worth customers." The complaint further goes on to detail investments in four real estate projects which turned sour. They were offered at interest rates ranging from 16 percent to 21 percent and against an assurance that the lender was being given a collateral worth two to four times the value of the amount being lent.

In another case, a retired couple in Mumbai invested a significant portion of their family savings based on the assurance of a fixed income. For one investment they made in December 2014, they were promised an interest of 20 percent. “After the loan defaulted, the relationship manager stopped taking our calls or responding to our messages. They initially tried to roll over the loan and gave us a memorandum of understanding (MoU) to sign agreeing to the rollover. We have not signed it. However till date we have not received the money," said Mehta, a senior member of the family who did not want to reveal her first name. She added that the family had made three to four other such investments. Mehta’s family did not take up the case for the FIR.

Bengaluru-based business analyst Sridhar Segu, 36, said he analysed the risks involved but the alleged false claims by the company misled him. “I knew what I was getting into. However, my analysis was based on false claims made by Karvy such as calling a product a ‘joint-venture’ with the government and offering a security cover of a certain amount without it actually being so. I made my investment based on my trust in the Karvy brand and debenture trustee IDBI. However, neither company bothered to help me with recovery when the loans defaulted," said Segu, who gave two loans through Karvy Private Wealth, and is yet to recover one of them. He entered into a settlement for the other. He, too, has not participated in the FIR, but intends to.

Some of the investors Mint spoke to alleged that Karvy charged a fee of 1-3 percent for each investment.

In the eyes of the aggrieved investors, Karvy Private Wealth committed four sins. First, it did not adequately explain the risks associated with the real estate loans. Second, it did not undertake sufficient due diligence on the projects concerned (some investors allege a deliberate blind eye towards this). Third, it has done little to help them recover their money. Fourth, and perhaps the most important, it did not carry out suitability studies to see product fit and sold high-risk products to people seeking low-risk products that give assured returns.

Karvy has rejected each of these contentions. In an email response to Mint, Karvy said, “The clients were explained the risks involved in these high-yield debt instruments and we provided them with all documents that were available to us from issuer companies. All these investors have taken informed decisions to invest in these products after perusing the documents made available to them. Karvy has acted only as a broker and a facilitator."

The company further highlighted the effect of demonetisation and implementation of Goods & Services Tax (GST) in creating unfavourable market conditions for the real estate industry. It also pointed out the ongoing crisis in the NBFC/debt market. “Generally these products are sometimes refinanced by loan takeovers which were also hampered by the current defaults/crisis hitting the NBFC/debt market with a lot of NBFCs carrying huge NPAs (non-performing assets) in their books," it said.

The company also highlighted the efforts it is making to recover the money from the issuers, including helping them initiate proceedings in the National Company Law Tribunals at Bengaluru, Chandigarh, Mumbai and New Delhi.

“We submit that these investors, who have complained to Bengaluru Police, are aware of the efforts being made by us, and in fact most of them are also party to the said litigations. Some of these legal initiations have been going on for more than a year. The litigation cost in these proceedings is being borne by Karvy so that the investors are not saddled with any further costs," the company added.

Some of the investors disputed this, saying the Karvy-appointed intermediary to conduct some of the proceedings is charging a 0.5 percent ‘success fee’, a percentage of the recovered amount. Karvy said the arrangement is between the investors and the intermediary and Karvy is not a party to it.

Whether Karvy has a legal liability, civil or criminal, towards its investors is something for the courts to decide. A lawyer at a major corporate law firm, who did not wish to be named, said that the Securities and Exchange Board of India (SEBI) is the correct forum for the complaints against Karvy rather than the criminal courts.

However, investors should also take home some lessons from this crisis. They may not know the product, but ‘a secured, guaranteed’ product giving 20 percent return should be viewed with scepticism. Investors should read the documents and fine print of financial products carefully, especially in such privately-placed products where regulatory control is lower than other products liked fixed deposits and mutual funds.

“There is an element of greed here. When such high returns are promised, HNIs know what they are getting into. That said, if the security cover promised or other claims made in the documents are false, Karvy should have exercised diligence in detecting the same," said Suresh Sadgopan, founder, Ladder7 Financial Advisories, a financial planning firm.

For its part, Karvy could have warned investors about the risks involved more vigorously. The firm could have also carried out greater due diligence. It should now try its utmost to help investors recover their money from the real estate companies involved.