The Penetration of Legitimate Business by Organised Crime and Corruption
Paper Delivered by Mr. Tony
Kwok Man Wai
to the Economic Crime Workshop
on 5th August 1987
at the Park Lane Hotel, Hong Kong
The Penetration
of Legitimate Business by
Organised Crime and Corruption
Introduction
Ladies and Gentlemen,
I have been asked to deliver to you this afternoon a short talk entitled, "The Penetration of Legitimate Business by Organised Crime and Corruption." My talk will be about 25 minutes.
Until recent years, the ICAC has been largely concentrating on investigations relating to corruption within Government departments and public institutions. Thus, if you accept that Government departments are legitimate businesses, I can go on and talk about how Triads operate illegal off-course betting and loan-sharking business in Government departments. Or how a group of corrupt postal officers conspired to deprive the H.K. Government of many million of dollars by manipulating the franking machine and pocketed postal charges. Or how nearly an entire group of airport employees conspired in the pilferage of passenger luggage; or in the public sector, of how a race-fixing syndicate infiltrated the Jockey Club. However, I do not think these illustrations pin point the real objective of the topic in question. Fortunately or unfortunately, the ICAC has been recently inundated with reports of private sector corruption in which were included a number of multi-million dollar corruption-based commercial frauds within the banking and financial sectors. I am personally involved in one of these major investigations and I am going to choose that case as the theme for my talk today. It is in my opinion a classic example of how a large financial institution can collapse due to a major fraud/corruption perpetrated by an organised crime group.
The OTB Case
This large financial institution I refer to is called the Overseas Trust Bank (OTB). It collapsed in June 1985 and had to be taken over by the Government with an injection of HK$2 billion (US$256m) in order to shore it up. This sum is much more than the £100M the Bank of England injected to rescue the infamous JMB (Johnston Matthay Bankers) in October 1984. Before its collapse, OTB was the third largest local bank in H.K. It had 43 local branches & 8 overseas branches, including 2 in UK and 1 in USA, with total assets amounting to HK$14 billion (US$1.8 billion). I was the head of the joint ICAC/Police Task Force set up to investigate the case. The investigation, which has been going on now for 16 months, has so far resulted in the prosecution & conviction of 5 persons, including the top four ranking officials of the bank, i.e. ex-chairman, the ex-managing director, the ex-chief General Manager and the General Manager and one "businessman." They were sentenced to terms of imprisonment ranging from 2-8 years. The investigation has not been completed and therefore some residual matters cannot be discussed today. However, suffice to say that the investigation has discovered a trail of incompetence, reckless lending, large scale fraud, false accounting and corruption. To summarize, there were two major causes for the collapse of this bank: (1) Reckless lending to bank directors who thought they owned the bank and its financial resources and could treat its money as their own for their speculation and private business. (2) Penetration of the bank by an organised crime group led by a most impressive and sophisticated criminal.
The organised Crime Group and its leader
What impressed me most about this particular criminal was that whenever he appeared before court there were always 3 women sitting in the front row. One was his wife, the 2nd his concubine and the third his mistress! He has an absolutely fascinating life story which I hope you will be interested to hear.
He came to Hong Kong in the early 60s from China. At that time, he had nothing except the clothes he wore on his body. However, within a period of 20 years, he had set up a very wealthy empire of his own. He is believed to be a high ranking triad official of Kung Lok Society who has many followers including former H.K. police officers.
At that time, Hong Kong was fast developing its banking and other financial industries. Foreign currencies were in demand and he commenced smuggling currencies around the South East Asian Region. The prevailing foreign currency controls then imposed in some Asian countries enabled him to make huge profits out of this particular illegal business. Just to supplement his income, he was also involved in the smuggling of gold, diamond and jewellery. These particular skills came in very handy when the political regime in Vietnam changed. Many Vietnamese people asked him to convey their gold out of that country which he did and, of course, his wealth increased dramatically.
He employed couriers to smuggle goods and many of these were police officers, air-hostesses and even consulate staff. With their special status, his couriers were able to carry in and out large quantities of gold, diamonds and foreign currency. The efficient establishment of this courier network made him successful financially and therefore very influential. As a result, his standing within the Triad System of Hong Kong enabled him to conduct his business relatively unchallenged by authority either within or outside the criminal jurisdiction.
Having gained immense wealth, he then looked for opportunities to invest in other countries. His contact with consulate officials came in very handy and, he started to invest substantial monies in one of the Central, South American countries. As a result, he was appointed as the Honorary Consulate General of that country in Hong Kong. Quite predictably, he abused his consulate capacity by selling passports to H.K. people worried about the political uncertainty over the future of H.K. He was subsequently divested of his Honorary Consulate General Status.
He also organised an illegal off-course betting syndicate in H.K. and used ex-police officers and Triads to run this business. He paid bribes to the security officials of the Royal H.K. Jockey Club in order to allow his syndicate to operate illegally in the race course. By the late seventies therefore, he had built up a large organized crime empire based upon smuggling, illegal gambling and illegal emigration. Just for good measure, he was also suspected to be involved in arms sales to South American countries! At his peak, he controlled assets over HK$100M (US$12M). Predictably, as he became richer, he sought social acceptance by donation to various charities and becoming a member of the Board of Governors for a University.
As with the majority of criminals, he sought ways to diversify his activities and he became involved in gold speculation. It was once said he was the single trader in HK who could sway the gold market on any one day, such was the vigour of his involvement. However, he lost millions and millions of dollars in gold speculation and therefore had to look for other sources of income. It was at this point he devised a scheme to defraud the bank.
Cheque Kite
Because of the currency smuggling activities, he had many dealings with banks whilst trading in foreign currency. OTB was one of the banks with which he had a constant business relationship. This huge volume of business naturally led to a close relationship with ranking bank officers who granted him various types of banking services such as overdraft and cheque discounting facilities with OTB.
The granting of these facilities and the closeness of his relationship with OTB officials enabled him to set up a fraudulent cheque kiting scheme. I am sure most of you are aware of this kind of fraud. In this case, this was how it worked. Firstly this criminal opened an account with a bank in US and then drew cheques on this account in favour of his company in HK. He then sold those US dollar cheques to OTB thereby allowing him the immediate use of funds to the face value of the cheques. OTB itself then sent the cheques it had purchased from him to the U.S. for clearance. The time for clearance of the cheques was usually 4-6 days but this criminal paid bribe to a senior bank official to delay the clearance of the cheques for about 2 week. Thus, he had the benefit of this 2 weeks period in which to make use of the funds generated from the sale of the cheques. These US dollar cheques sold by him to OTB were incapable of being honoured by genuine funds but before they were presented in the U.S., this criminal sold further cheques to OTB and obtained further funds. These later received funds were quickly remitted by him to the U.S. where they were deposited into the account and used to clear earlier cheques. So this cheque kite relied on the time lag involved in clearing cheques through the international banking system. Over a period of several years, during which the kite operated, OTB purchased cheques worth billions of dollars from his company. At its peak, the scheme produced US$10 million daily for disposal by his Group. It is interesting to note that these US$ cheques in question were all signed by two illiterate old men who were employed by the criminal solely to perform this job. This use of old and illiterate pawns to open and/or be signatories on bank accounts is a common tool for fraud by organised crime in Hong Kong. The size of the cheque kite had to increase from 1979 onwards because he required extra funding to cover ever increasing personal losses from gold speculation and other business failures.
The scheme finally collapsed in early 1982 when dishonoured cheques were returned to OTB totalling approximately US$66.8 million which obviously he could not honour.
False Loans
According to proper banking practice, the return of these dishonoured cheques should have prompted OTB to take legal action immediately to recover the loss from him and his group. Likewise, OTB should have made appropriate provision against the full amount due from this Group, or written off the loss in the account by charging it against OTB’s profits for the year. However, this criminal succeeded in persuading the bank not to take legal action against him. He pointed out that because of the size of the losses to OTB resulting from the cheque kite, proper treatment of the loss would have alerted the public and might cause a bank run. The bank had little alternative but to agree.
Thus, rather than correctly recording the losses resulting from the abovementioned cheque dishonour, a "cover up' scheme was implemented whereby the OTB directors and the criminal conspired together to create false loans in OTB books of account. Such loans purportedly given by OTB to bogus companies set up by the criminal's associates. The proceeds of the loans were used to cover up the cheque kite loss in OTBIs cheque purchase accounts. These loans, which were mainly registered in overseas branches, were then subsequently repaid by the creation of fresh bogus loans in order to avoid detection. These loans were rolled over with accrued interest until the time of the collapse of the bank when total bad debts of US$89.5M (HK$689M) had accrued. Total debts to OTB by this man and his companies were in the region of nearly HK$1 billion (US$120M), and of course there was little security the bank could redeem.
Finance Company
That is not the end of the story! At the time when he found even the proceeds of the sale of his own cheques was insufficient to cover the numerous expenses of his business empire, he started yet another fraudulent scheme. He formed his own finance company which he ran as a loan sharking business. He again employed ex-police officers and Triad members to assist him in the venture; but the main purpose served was that he used the finance company as a vehicle to obtain money market lines from banks and other financial institutions and funds received were channelled into his private companies. To disguise this illegal funding, bogus loans were created in the books of his finance company in order to balance the money market line. The finance company was eventually liquidated in 1985 with recorded liabilities of HK$91 million (US$11M).
When his finance company collapsed, he fled to America. He was subsequently extradited back to Hong Kong and faced charges of conspiracy to defraud OTB. He is now serving an 8 years prison sentence, which in fact is the heaviest sentence ever, imposed by a single judge in a commercial fraud case in H.K.
Problems in Investigation
So much for the story, I now wish to say something about the investigation. I have been involved in this complicated fraud investigation for 16 months and understandably there were many moments of frustration. I wish therefore to share with you some of my experiences which I hope will be of practical use to you.
(a) Firstly, a computer is absolutely essential in this type of investigation. In this case, we seized a total of 75 cabinets of documents and after having the onerous task of going through them, we identified 20,000 items of documentary exhibits relevant to the prosecution. Many of these items were documentary file and I estimate the exhibit to comprise of over 1/4 million pages. It is difficult to envisage how this volume of exhibits can be managed by the conventional manual indexing method. Furthermore, a computer is particularly useful in complex case as for analysing the information and doing multifactor searches which then lead to identifying key links in the evidence. It follows therefore that a computer should be installed from the outset of the investigation so that information can be fed into the computer as it comes to light. If this is not done, it means records have to be 'back converted' which obviously takes time. It also means the investigators do not have ready access to the latest information.
(b) When the JTF was formed, one very senior, experienced Crown Counsel as well as a team of professional accountants were attached to the unit. This team of experts proved to be a most successful combination and ensured the investigation was concentrated in the right areas. This led to the best utlization and cost-effectiveness of resources. Professional accountants are particularly useful in "link" tracing documentary evidence. In recognizing their usefulness in complex fraud/corruption investigations, ICAC now has two Chartered accountants employed as investigators.
(c) Because this type of fraud investigation is very time-consuming, it is important when choosing the investigating team that officers are available to serve in the task force until completion of the enquiry. Continuity of staff is very important.
(d) In dealing with an organised crime group, you will appreciate that intelligence is most important and I think this case demonstrates just that. This criminal left HK prior to the setting up of the JTF. At that time, nobody knew exactly where he was. Luckily, he had been a target for sometime and therefore subject to monitoring. This previous intelligence enabled ICAC to trace him within a very short time. And thanks to the FBI, he was promptly arrested and extradited back to HK. There is a case, and I know CCU does this worldwide, for financial institutions within their own locality to set up an intelligence system. For the cynics, 1 know the view is one bank is hardly likely to give a poor reference to another in relation to an application for credit line by a customer who owes the first bank money! But at some stage, for the overall good, central intelligence collation will have to occur.
Before concluding this talk, I would like to mention two areas which, although they may be beyond the scope of this talk are perhaps considered to be areas of worthwhile study.
(1) Firstly, how do you keep the major suspects in complicated commercial fraud from escaping the jurisdiction whilst the investigation is ongoing and before being ready to charge them? Hong Kong is progressive in this sphere. If a case involves corruption, there is provision under the Prevention of Bribery ordinance to demand that the suspect, even before he is charged, to surrender his travel documents for a maximum period of nine months. Even this time may not be long enough. Perhaps similar provisions ought to be available worldwide. In the OTB case, the Managing Director of the bank was arrested at the airport attempting to escape on the day the bank was taken over by the Government and he carried with him cash of one million dollars. If he had managed to escape, I doubt he would have been found!
(2) The second area is the question of how to simplify the production of documentary evidence in commercial fraud trials. In the OTB case, the extradition paper alone ended up with a total of 23 volumes all of which had to be transported and produced in the USA. This was commented upon by the U.S. Justice Department as the most voluminous extradition paper ever received by the U.S. Government. In the H.K. committal proceedings, 34 volumes were submitted to the court. The majority of these papers were only there to comply with the strict proof of the chain of documentary evidence. To give an example, in order to prove one single cheque transaction in the cheque kiting operation, a total of 45 documents or account entries had to be exhibited, identified, produced and explained by 27 witnesses. One current commercial trial has been ongoing in HK for over 1 year and again a lot of the court's time has been spent on documents. Besides, how on earth does the jury or even the Judge understand the meaning of these massive documents? I do not know the answers but I am convinced that something positive needs to be done about it. Furthermore, obtaining documentary evidence overseas is another problem as the procedures are so different from one country to another. Some government are addressing these problems on an individual basis but in reality international co-operation is required if professional fraudsters are to be stopped.
Thank you.