The History and Expansion of Daiwa Bank: From Osaka to Global Presence

Background and History

Daiwa Bank, or Osaka Nomura Bank as it was first called, was founded in 1918 in Osaka, Japan by Tokushichi Nomura. It was created mainly to take advantage of the new capital Japan had amassed from foreign commercial ventures and domestic industrialization. Its securities division experienced huge growth in volume and profits that it almost functioned as different entity. Japanese industry spectacularly grew in the 1930s, but after the war the Allied occupation forces enacted a variety of laws aimed at decentralizing the industry.

Part of this was that the bank was forced to change its name to Daiwa Bank, Limited. In 1948, Daiwa Bank established a foreign department and the following year it was authorized as a foreign exchange bank. Daiwa opened representative offices in New York and London in 1956 and 1958, respectively as it was also gaining stronger presence in Tokyo. The bank opened more overseas offices, in Los Angeles in 1970, Frankfurt in 1971, Hong Kong in 1976, and Singapore in 1979.

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It established a new trust headquarters in 1985 to reinforce its position in trust banking, promote fee income, and demonstrate its ability to accommodate the increasingly diverse needs of Japanese society. Daiwa, like most Japanese banks, made its profits through lending, but failed to implement appropriate oversight procedures when it turned to high-volume securities trading. It was not until 1980s that Daiwa’s entry to trading securities would lead to a scandal with longtime repercussions.

In September 1995, the news reported that one of its New York bond traders, Toshihide Iguchi, had embezzled funds and altered bank records in order to conceal 11 years of losses than amounted to $1. 1 billion. Five years later, Daiwa was still enduring the impact of the New York scandal when a Japanese court ruled on the shareholder suit when a number of former and current management officials were ordered to pay $775 million in damages to shareholders for failing to properly oversee Iguchi's trading.

Occurrences of Fraud

Toshihide Iguchi is a Kobe, Japan-born US citizen who majored in psychology at Southwest Missouri State University, Springfield. He joined Daiwa’s New York branch in 1977. There he learned how to run the small back office of the branch’s securities business. Traders say that he had traded as much as $1billion in a day, striving to affect the prices through big positions, yet his reported profits averaged $4 million a year over the past decade, never exceeding $10 million in a single year.

When Iguchi lost a few hundred thousand dollars early on in his trading activities, he was tempted into selling off bonds in the Bankers Trust sub-custody account to pay off his losses. As money was lost in trading mostly short-term Treasury bills, he covered the losses by selling US government securities owned by Daiwa, allegedly forging documents to hide their sale. He concealed his unauthorized sales from the custody account by falsifying account statements so that the statements would not indicate that the securities had been sold. He was able to forge some 30,000 trading slips, among other documents.

When customers sold off securities that Iguchi had already sold off on his own behalf, or when customers needed to be paid interest on long-gone securities, Iguchi settled their accounts by selling off yet more securities and changing yet more records. Eventually about $377 million of Daiwa’s customers’ securities and about $733 million of Daiwa’s own investment securities had been sold off by Iguchi to cover his trading losses. By the early 1990s, it was difficult for Iguchi to continue to hide them particularly after 1993 when Daiwa made limited efforts to split up its trading and back-office functions. Yet he managed to survive for another two years before engineering his own day of reckoning.

Why Violations Occurred?

When Iguchi was promoted to become a trader in 1984, he did not relinquish his back-office duties. All in all, he supervised the securities custody department at the New York branch from approximately 1977 right through to 1995. This lack of segregation, a relatively common feature of small trading desks in the early 1980s but already a discredited practice by the early 1990s, led to Daiwa’s downfall. Iguchi’s very own words were “To me, it was only a violation of internal rules.

I think all traders have a tendency to fall into the same trap. You always have a way of recovering the loss. As long as that possibility is there, you both admit your loss and lose face and your job, or you wait a little – a month or two months, or however long it takes. ” Daiwa and its internal auditors never independently confirmed the custody account statements. Subsequent investigation showed that risk control lapses and cover-ups were part of the culture of Daiwa’s New York operation in the 1980s and early 1990s, to a farcical degree.

For example, during the 1995 investigation of the Iguchi affair, the bank was also charged with operating an unauthorized trading area for securities between 1986 and 1993.

Opportunities of Fraud

Opportunities for fraud open the door for individuals and companies to behave unethically and commit fraudulent acts. Opportunity is created through the use of one’s position and authority, professional and personal pressures, and weak internal controls. Some of these opportunities are taken by Toshihide Iguchi in order to conceal a trading loss dating back to 1984, and additional losses throughout his career as CEO of Daiwa’s New York branch.

In the late 1970’s, Iguchi was promoted to bond trader while still maintaining his duties as clerk in the securities deposit department. This allowed him access to two major responsibilities and to take advantage of each position and its authority. He learned the process of trading bonds, the paper work that was required to complete transactions, and how to seamlessly deposit securities. It was a perfect opportunity to learn each process and find holes in the system to conceal fraud.

During this time, Iguchi’s financial transactions were not maintained or properly recorded as a financial institution or international financial institution. His process was to first trade then record trades manually on paper rather than on a computer. Trading transactions could not be over seen by the Daiwa corporate office due to this process. This created the ability to freely make trades and conceal and alter transactions when needed. In 1979, Iguchi became executive vice president and head of government and bond trading in the New York branch where he answered only to himself.

His superiors failed to manage him properly and instead gave him full control of the New York branch. This allowed him to set his own schedule, standards, rules, and operate the branch how he deemed fit. In addition, Iguchi was seen as a “trustworthy” employee due to his history with Daiwa, position, dedication, and sacrifices he made as a vice president and bond trader. This gave confidence to his superiors that they did not need to oversee Iguchi or question his actions. Iguchi’s expertise in the US government bond market was something that no one else in the company could match.

Daiwa failed to train or hire another worker in the field which allowed Iguchi to take full control of its operations and responsibilities without another’s input of his actions. Daiwa Bank had numerous opportunities for fraud in its New York branch office. These opportunities for fraud could have been avoided in the past; however, creating a strong action plan will help deter opportunities for fraud in the future.

Deterring Fraud in the Future

Opportunities of fraud almost always lead to the occurrence of fraud. The best defense for this is the need for a strong action plan to deter fraud in the future.

Daiwa lacked in several areas including strong internal controls and conducting regular internal and external audits. Strong internal controls are essential to the proper management of a company’s operations and success. Daiwa did not exercise the separation of duties in its New York branch. Separating of duties can ensure that each positions process is efficiently executed by being checked by an independent party. The implementation of a separation of duties also prevents a single business process from being completely managed by a single individual.

This increases the difficulty of successfully performing fraudulent activities which reduces them in return. Daiwa and Iguchi did not use a company system or computer system to track transactions made by employees. Requiring all banking transactions to be reported in a company computer system is beneficially to management and the accounting department. Activity of each employee and branch can be monitored which can ensure duties are being fulfilled and fraud is not being performed. Daiwa’s Japan corporate office failed to supervise and over oversee Iguchi and the New York branch.

Increased oversight of international branch’s and branch executives ensures that operations are in accordance to company objectives and processes, and abide by government laws and regulations. Daiwa depended solely upon Iguchi to trade bonds in the US market because the company failed to train or hire another individual with similar expertise. Employing more than one knowledgeable and skilled individual in a specialty field increases its effectiveness and decreases issues related to improper actions. Daiwa failed to conduct regular internal and external audits of company policies and financial statements.

Regular internal and external audits can determine whether financial statements are in accordance with company policies and government standards. Audits can also disclose fraudulent transactions and discrepancies. Daiwa Bank had numerous opportunities for fraud which lead to Iguchi’s ability to conceal trading losses for such an extensive period of time. In order to prevent a similar situation from taking place, it is essential to find why these violations occurred in the first place. Creating a proper action plan is essential to deter fraud in the future.

References

1. Bizcovering. 2008. Retrieved on October 6, 2012 from http://bizcovering. com/business-law/toshihide-iguchi-and-daiwa-bank-securities-trading-scandal/
2. Case Study – Daiwa Bank. 2000. Retrieved on August 29, 2012 from http://202. 70. 81. 13/itd/OTH00009/Course%20Materials/Day%208/S1C%20-%20Case%20Studies/Case%20Study%20Daiwa%20
3. Bank. pdf Funding Universe. 1996. Retrieved on October 2, 2012 from http://www. fundinguniverse. com/company-histories/the-daiwa-bank-ltd-history/
4. The Daiwa Bank Case. 2000. Retrieved on September 10, 2012 from http://dspace. lib. niigata-u. ac. p:8080/dspace/bitstream/10191/15002/1/34(1-2)_107-138. pdf
5. The Independent. 1995. Retrieved on October 5, 2012 from http://www. independent. co. uk/news/business/us-orders-daiwa-bank-shutdown-1537096. html
6. The Key to Financial Management: Management. 2004. Retrieved from September 27, 2012 from http://fic. wharton. upenn. edu/fic/papers/99/9942. pdf
7. The New York Times. 1996. Retrieved on October 5, 2012 from http://www. nytimes. com/1996/02/29/business/daiwa-bank-admits-guilt-in-cover-up. html
8. Wells, J. T. (2012). Principles of Fraud Examination (3rd ed. ) Hoboken, NJ: Wiley.

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