The Curious Case of Bahrain Middle East Bank (BMB) Bahrain

Perhaps Somewhat Less Currently

Read the update here.  Massive losses at BMB, the bank is likely fatally wounded barring a miracle. 

An introductory note.  There is a financial group from Brunei that uses the acronym "BMB". This post is not about that group, but about the Bahrain Middle East Bank in Bahrain.

AA generally follows the bigger fish (admittedly a relative term) in the GCC.  But BMB caught my eye.

BMB is small bank not a financial force of any measure and has been “limping along” for years.

What’s interesting about it are two scandals, the last of which caused the Central Bank of Bahrain to come down with “both boots” on the Bank.

As well there appear to be some hints as the fate of the AlFawares Group of Kuwait which dropped from sight roughly two years ago.

2013 “Scandal”

In April 2013 BMB’s Board suddenly fired the bank’s CEO and CFO as well as some other officers.

For the first official word on the cause, let’s turn to note 5 from BMB’s 1Q13 interim financial statement.  Unfortunately, the copy online is a picture and so AA can’t cut and paste the text, but has laboriously copied it.

“Subsequent to the approval of the 31 December 2012 consolidated financial statements (the “consolidated financial statements”) by the Shareholders on 28 March 2013, the Board and new management team of the Bank have discovered certain transactions and balances which were not reported in the Bank’s consolidated financial statements. As the Board of Directors was not provided with complete information and documentation relevant to these transactions and balances; based on review of the underlying documentation for the transactions and balances and extensive evaluation, the Bank has concluded that assets and liabilities arising from these transactions, along with certain other assets and liabilities which were previously reported and accounted for as customer deposits under discretionary portfolio management program, should now be reported and accounted for as Bank’s assets and liabilities.  Furthermore, in line with the International Financial Reporting Standards, the Board and new management team have concluded that since key information was not available at the date of approval of the consolidated financial statements, the corresponding figures are not required to be restated.  As a result, the assets and liabilities of US$ 138,383 thousands and US$ 143,093 thousands respectively have been reported in the consolidated financial position of the Bank as at 31 March 2013."

Recognition of these assets and liabilities increased BMB’s balance sheet from USD 55.3 million to USD 190.5 million.

The major change on the liability side was in Deposits from Financial Institutions. As per note 10, some USD 124.078 million of that category was from “quasi-government interbank placements”.

The other increase USD 18.644 million in Borrowings was described as “a secured loan from financial institutions”.  That loan does not appear in the 2Q13 financials nor do some USD 25.7 million in Trading Securities.  AA presumes it was a “repo” like transaction.

In a statement dated 12 June 2013, BMB’s new CEO stated that based on the work of an “independent team of forensic experts” “it was discovered that during 2011, 2012, and Q1 2013 BMB was the subject of various unauthorized transactions, potentially involving fraudulent activities”.

So this was a multiyear activity, roughly coinciding with the tenure of the previous CEO.

BMB’s FY 2013 Annual Report provides additional details.

“2013 was a challenging year for BMB. In April 2013, the Board of Directors became aware that the Bank had potentially been the subject of a major fraud. The then Chief Executive Officer, Chief Financial Officer and a number of other senior staff at BMB were immediately suspended and the Board of Directors commissioned urgent internal and external investigations into the activities of the Bank and the then management team. These investigations uncovered a number of serious potentially criminal activities including the apparent misappropriation of significant funds. As a result a number of senior executives, including the then Chief Executive Officer and Chief Financial Officer, were dismissed. Official investigations relevant to these executives remain ongoing. As a result of prompt and decisive action substantially all misappropriated funds have been recovered by BMB. However, given the serious nature and magnitude of what took place, BMB has instigated criminal and civil legal proceedings against a number of parties. These matters are currently being investigated by the appropriate legal authorities in the Kingdom of Bahrain.  Throughout 2013 the Board and management carried out a full review of all external contractors, legal and professional advisers to the Bank. This has led to a number of changes and corrective measures and the application of a more rigorous approach to selecting and measuring the performance of third party contractors. BDO’s contract to act as Internal Auditor of BMB was terminated in May 2013. In September 2013, EY was appointed to replace KPMG as External Auditor of the Bank."

AA’s first thought when he read all this, particularly the bit about “quasi-governmental interbank placements”, was that a friendly government decided to help out BMB. Best guesses for that would be Kuwait (given the apparent shareholding by/related to Sh. Ali Khalifah Al Sabah) or Oman (given the then CEO’s prior roles with government institutions in Oman).

As a small bank with USD 30 million in equity, it would be very risky to place USD 140 million or so with the Bank.  However, by using a trust structure, all assets placed would be legally immune to any financial distress at BMB.

The Bank would enjoy the earnings from managing the discretionary account to increase its small income as well as develop a reputation in asset management as a potential new line of business.

So it appeared that the fraud was that certain members of senior management then appropriated these funds for their own use.

But there are some loose threads:

1. Once the assets were recovered why wasn’t the trust or discretionary account structure maintained/reinstated? If the documentation was deficient, then that could be corrected.
2. That suggests some sort of “problem” with the owner of the funds. What that is isn’t clear.
3. This would seem to pretty decisively counter AA’s initial thought that the provider of the funds was a Kuwaiti or Omani quasi-governmental body trying to help out either the major shareholder or the then CEO.
4. Also, as per point 3 in the “Key Audit Matters” section of the auditors’ report in BMB’s 2017 financials, it’s noted that in the category Due to Financial Institutions a “single bank in the region” is owed USD 127.4 million and “has been a depositor since September 2010.”
5. That certainly seems like a long time to keep one's funds with a bank. Why would that be?
6. Note that the descriptor does not include the phrase “quasi-governmental” as in the 1Q13 interim report.  Now it’s just a “single bank in the region.”  And the region is potentially very large, depending on the definition used.
7. You will no doubt note as AA did that this amount is some USD 3.3 million greater than the original amount recorded in 1Q2013. It seems strange that the regional financial institution would add such a small amount to the deposit.
8. Two possible explanations.  The deposit is not in USD but in another currency and the change is due to changes in the FX rate.  Or interest has been capitalized. Or both factors are present.  There's not enough information in the financials to determine the answer.

2018 - 2019 "Scandal"

A bit of history to set the stage.

Back in February 2014, AlFawares transferred 42.97% of its ownership stake in the bank to AN Investment W.L.L. a Bahraini company “controlled by the same shareholder as AlFawares Holding Company” as per page 22 of BMB’s 2013 FY AR.

As per records at the Bahraini MOICT (www.sijilat.bh) AN Investments CR 86835 was owned at least in 2016  by two sons of Sh. Ali AlKhalifah Al Sabah, former Minister of Finance and Oil Minister of the State of Kuwait. 

According to the MOICT website, on 26 December 2016, a request was filed to change the ownership of ANI to the names of three Turkish nationals: Huseyin Basaran (70%), Murat Solak (15%) and Ardases Saro Kavafyan (15%). This provides an indication that the sale of ANI to the Turkish three "amigos" probably took place in December 2016.

After a 26 March 2017 voluntary purchase of BMB shares and a subsequent rights offering later that year, ANI wound up owning some 81% of the bank.

Fast forward to 15 November 2018, BMB announced that its Board had met to approve September financials on 7 November but did not approve them due to the Central Bank of Bahrain putting forward “some observations that require resolution”.

In that same announcement, BMB noted that on 8 November 2018 the Central Bank of Bahrain issued a directive to the bank “restricting” the following:

1. Dealing with “specific Trade Finance related parties”.  From the Arabic we learn this means dealing with related parties to the bank in trade finance.
2. Interbank dealings with banks that are not licensed by the CBB.  The Arabic uses the term (مرخصة).  While this term is often used to mean “licensed”, AA suspects that BMB is not dealing with unlicensed banks in Bahrain, but this refers to banks elsewhere.  The CBB doesn’t license  banks in foreign jurisdictions, their own regulators, if any, do. Think of Citibank or NBAD.  However, it is likely that the CBB has set some guidelines as to which non-resident foreign banks Bahraini banks may deal with.  For example, it may forbid dealing with so-called “shell” banks, banks not licensed at all, or banks subject to international sanctions, etc.  So AA is reading (مرخصة) to mean banks outside Bahrain that the CBB does not allow Bahraini banks to deal with.
3. Making any new investments or credit.

11 minutes later that same day a second announcement from BMB was published by the Bahrain Bourse that advised that the two directors representing AlFawares one of whom was Chairman of the Board had resigned on  7 November.

On November 22, BMB published another announcement stating that the CBB had issued “additional formal directions” on 15 November as follows:

1. The Board must resign immediately
2. The CEO and CFO must step down from their positions as the CBB does not consider them “fit and proper”.
3. The Bank must raise capital before year end
4. The Bank must stop dealing with specified related parties for trade finance
5. Further, as a result of identified violations and irregularities, the CBB is unable to comment on the bank’s 30 September financials.

Now you may be wondering as initially AA did why BMB’s announcements seem to be tardy.  On November 8, the Bahrain Bourse suspended trading pending release of the September financials. So timeliness of announcements wasn’t as critical as it would have been if BMB were still trading.

BMB’s AGM was held on 30 December.  According to the published minutes, shareholders holding 80.81% of shares were present.  This means that AN Investments was there.  Mr. Taqi al Alawi from the MOICT acted as Chairman.  A new slate of directors was elected.  None of them seem to have any relationship to ANI.  

The representative of ANI complained that the CBB had not approved Mr. Solak to serve as a director and demanded that the CBB should give this approval and that he should be elected as a director.  Mr. al Alawi noted the comment and proceeded.

To date BMB has not published its 3Q18 financials. And there has been complete radio silence from the Bank both on its website and the Bahrain Bourse.

So what are we to make of this?

From where AA sits, it appears that the CBB thinks this episode is more egregious than 2013. Or it has a "two strikes" rule:

1. The entire board was forced to resign. This indicates that the CBB believes that either (a) the Board was complicit in whatever irregularities occurred or (b) manifestly derelict in carrying out its functions.
2. The two AlFawares directors luckily resigned before the CBB’s directive requiring resignation of the board, thus avoiding the ignominy of being forced to resign by the CBB and possible impact on their eligibility for other board positions in Bahrain and elsewhere.  
3. Or perhaps it was more than luck.  Back when Iraq invaded Kuwait, foreign correspondents pulled their funding to Kuwaiti-owned banks in Bahrain.  Bahrain did not have the financial resources to support these banks.  A full-fledged banking crisis was on the offing.  Sh. Ali Al Khalifah then Minister of Finance of the State of Kuwait (in exile) provided the funding directly.  AA was told by his mentor that Bahrain never forgot that act.
4. The fact that the new board appears to have been chosen by the CBB with no apparent input from ANI investments also suggests (at least to AA) that the CBB assesses that the problem is not one of individual board members but an “institutional” one at the ANI level.
5. For the CBB to declare an officer of a bank as “not fit and proper” is a pretty damning assessment.
6. For the CBB to "fire" a board of directors as well.
7. For the CBB to not accept a person as a suitable candidate for the board of directors is a similar judgment.

At this point you’re probably thinking, AA what about AlFawares?  What have these scandals to do with AlFawares?  Probably nothing.

But BMB is entwined with AlFawares.  As mentioned at the beginning of this post, roughly two or so years ago, AlFawares’ star began to dim. 

Part of the problem seems to be that the members of the AlSabah family branch associated with AlFawares wound up on the wrong side of a family dispute in Kuwait -- not the Amir's side.

AA suspects there were also financial problems.  

AA has no doubt that like any typical Kuwaiti punter, AlFawares built its empire on OPM piled upon other OPM.   AA recalls reading in al Qabas that Gulf Bank was pursuing legal action against the group for unpaid debts.

As to concrete examples of financial difficulty we don’t have to look beyond BMB’s 2017 annual report.  In note 7 we see that BMB has fully provided the USD 3.533 million installment sales receivable which is guaranteed by AlFawares and two associated companies of AlFawares.

Clearly, if the guarantees were worth anything the Bank would have called them.

Additionally, it’s hard for AA to imagine that the CBB would tolerate provisioning if the guarantees had value. That the Bank has not called on the guarantees suggests they have very little value. 

The amount here is small. It is not a loan for USD 300 million but just USD 3 million.  That suggests that the three entities are in dire straits indeed.

The sale of ANI to the three Turkish “amigos” is perhaps another sign of financial distress. Giving up one’s bank is a hard move.

Other indications that AlFawares is inactive or defunct are the disappearance of AlFawares Kuwait’s website.  On AlFawares Egypt’s website all the links are to pages under construction or dead-ends. You can’t really conduct business if the first thing a prospective client sees is that your website looks untended and untethered.

Does this mean that the good shaykhs from AlFawares are sleeping rough under an underpass on the First Ring Road somewhere?  

Not bloody likely.  Any Kuwaiti punter worth his salt has salted away money somewhere "safe" and "discreet" as Mubarak al-H is reported to have done.