Court dismisses claim by "unsafe and unsound" bank [1]
Wednesday, July 11, 2018 - 20:08. Updated on Wednesday, July 11, 2018 - 20:09.
The Supreme Court of Tonga has upheld a decision of the National Reserve Bank of Tonga to revoke the banking licence of the Pacific International Commercial Bank Ltd.
Lord Chief Justice O. G. Paulsen on 5 July 2018 dismissed a claim by the Pacific International Commercial Bank Ltd. (PICB) that the revocation of its Banking Licence by the Reserve Bank on 26 July 2016 was unlawful.
The attempt by PICB to establish a banking operation in Tonga was not sweet sailing, as it was unfolded by Lord Chief Justice O. G. Paulsen in his 37 pages decision. It followed the hearing of a Civil Case that was brought by the PICB against the National Reserve Bank of Tonga in Nuku’alofa on 29 May 2018.
The Chinese-Tongan bank venture was a partnership between a Chinese businessman and the majority shareholder Mr Jianhua Hu with Princess Pilolevu Tuita. The other shareholder was Mr Zhang Xueyan.
The Pacific International Commercial Bank Ltd was incorporated as a Tongan company on 19 September 2011, issued with a Business Licence on 25 March 2013 and a Banking Licence on 2 July 2013.
The scrupulous process that the NRBT and the PICB had to undergo in order for PICB to be issued with a Banking Licence, was very precise and specific.
Among a number of strict requirement, the PICB was to have in place an effective accounting system, internal controls, audit and risk management systems and a business plan
The PICB was also reminded that it was an offence to provide false or misleading information in connection with such an application, and was grounds for revoking a licence if information was discovered to be false or misleading.
For the PICB to begin its banking operation a date was set for it to comply with certain pre-operation conditions. At first it was set for 1 January 2014, later deferred to March 2014/ But at the end of March 2014, the pre-operation conditions had still not been met to the NRBT’s satisfaction.
Notwithstanding that, PICB proceeded and arranged a formal opening ceremony for its operation by HM King Tupou VI on 7 April 2014, without the prior approval of the NRBT.
The NRBT, however, proceeded and conducted pre-operation examinations of PICB on 3 April and again on 14 May 2014 before they were granted approval to commence operation “subject to restrictions while PICB worked with the NRBT to resolve remaining areas of concern. . . The NRBT’s requirements were addressed by PICB over time.”
The working relationship between the NRBT and the PICB at this stage left the NRBT very concerned about the ability of the PICB to operate as directed by the law.
The specific areas of concern by the NRBT included:
- PICB’S declining liquidity and mounting financial losses each month of its operation.
- PICB’s failure to comply with directives provided to it by the NRBT.
- PICB’s failure to complete, provide and publish audited accounts in accordance with the directions of the NRBT.
After five months of operation, from May 2014 through to September 2014, PICB had losses, approaching TOP$1 million.
After two full years of operation the accumulated losses exceeded TOP$4.5 million.
This was in glaring contrast to the financial projections included with PICB’s application and business plan which forecast net income after taxes of TOP$4.5m in year one and TOP$6.5m in year two.
The fast deterioration in the bank’s liquidity position as reflected in its Exchange Settlement Account balance was a major concern to the NRBT. It issued a directive for PICB to maintain its Exchange Settlement Account above a TOP$100,000 threshold.
The Exchange Settlement Account system is one of great importance to the financial system. Any bank which owes money to another bank is expected to clear this the same day from its Exchange Settlement Account.
If a bank is unable to fund its Exchange Settlement Account to effect this payment, then that bank must make appropriate arrangements with the NRBT.
Audit
Because of the mounting financial losses of PICB and its failure to curb those losses by provision of further funding, the NRBT issued a directive, requiring PICB to appoint an external auditor to audit PICB’s accounts to verify capital and the accuracy of its Balance Sheet and Profit and Loss Statement by 31 October 2014.
The PICB instructed KPMG of Fiji to carry out the external audit and an audited report was produced in draft by KPMB and was presented to the NRBT in late January 2015. The draft report was never finalised.
The content of the draft audit report was of great concerns to the NRBT because the KPMG pointed out that they were unable to rely on internal control environment of the PICB for the period under audit.
In their view, the lack of evidence of oversight by management over the financial reporting process and the lack of account reconciliation and evidence of monitoring of transactions had rendered their internal control environment inadequate to ensure the preparation of financial statements that were free from material mis-statement, whether due to fraud or error.
A disclaimer of Opinion by KPMG of its draft audit report clearly stated the situation that the PICB has found itself in – “Because of the significance of the matters described in the Basis for disclaimer of Opinion paragraph, we have not been able to obtain sufficient appropriate audit evidence to provide a basis for an audit opinion. Accordingly we do not express an opinion on the special purpose financial statements."
The KPMG draft audit report further heightened the NRBT’s concerns that PICB was conducting unsafe and unsound banking operations that were likely to jeopardise its obligations to its depositors or other creditors or to adversely affect the operation or t he stability of the financial system. PICB’s financial position was deteriorating.
The NRBT considered that PICB was likely to become unable to meet its obligations or suspend payment. The court found that this was an entirely proper and understandable inference.
The NRBT reached a decision to issue a notice revoking PICB’s licence on 30 January 2015.
The Legal Counsel for the Plaintiff, Pacific International, Commercial Bank Ltd. was Mr S. Tu’utafaiva.
The Legal Counsel for the Defendant, the National Reserve Bank of Tonga, were Mr H. Waalkens QC KC and Mr R. Stephenson.