SIENA, Italy Monte dei Paschi's (BMPS.MI) risk control unit and its internal audit committee expressed serious misgivings about the bank's finance department, now at the center of a scandal over structured finance trades, as far back as 2009, according to internal documents.
Monte dei Paschi has been under fire over three loss-making derivatives deals that its new management say only recently came to light. The deals forced the bank, Italy's third largest, to request extra state aid last November.
While the documents obtained by Reuters do not refer specifically to the three deals under scrutiny, they say that in late 2009-early 2010 the bank's then-executives faced tough questions from internal auditors and risk inspectors about how its financial portfolio was managed.
The documents quote a report from the risk control unit after an August 5-September 30, 2009 audit of the finance department, headed at the time by Gian Luca Baldassarri, who was forced to quit shortly after the arrival of new management last year.
Baldassarri could not be reached for comment.
The documents, which included letters addressed to the bank's then director general Antonio Vigni, say the audit had uncovered a "systematic overshooting of risk limits" in the management of the group's 24-billion euro proprietary portfolio.
The inspectors also singled out "deficiencies in controlling the compliance of contract documents related to structured operations and/or derivatives positions", without detailing these contracts.
Some operations were carried out outside the company's check-and-balance systems. Some contracts were "not always in line with the best market valuations", and the indicated value of some positions did not reflect their mark-to-market value.
In its November 26 2009 report, titled "Review of the proprietary finance processes of the MPS Group", the risk control inspectors gave however "a partially favorable" rating, even though they signaled room for significant improvement, particularly at the finance department.
In subsequent letters and internal documents, also seen by Reuters, the bank's three-member audit committee, headed by Tommaso Di Tanno, asked for further checks and organized meetings with the bank's auditing firm KPMG, risk control officials and Baldassarri himself.
KPMG said earlier this month it was never made aware of one of the riskiest derivatives deal under review, a trade between Monte dei Paschi and Japanese bank Nomura (8604.T), that triggered a loss of at least 220 million euros in the bank's 2012 accounts. It has declined to comment further.
In a January 14, 2010 document, the internal audit committee complained it had received the report from the risk control inspectors late and not directly, but via Vigni.
In a January 22, 2010 letter to Vigni, Di Tanno asked for further clarifications about the critical elements exposed by the inspection.
Vigni, who received a severance payment of 4 million euros on leaving the bank early last year, replied in a letter that some trading operations had been carried out by cell-phone, and had therefore not been recorded, but were nonetheless properly registered with the front office.
The executive also said that a limited number of after-hours transactions, for limited amounts of money, had also been later registered with the same office.
As for contracts which were not in line with market valuations, Vigni said checks on a sample of those operations relating to corporate and government bonds "did not allow for the decision-making process to be traced back in a complete manner".
In his January 28, 2010 letter, Vigni called for increased accountability of the finance department and said a planned revamp of the structure, already approved by the board, was aimed at that.
He also said he had told the heads of the various departments to rigorously comply with the bank's regulations, including by using office phones and carrying out transactions during working hours, barring exceptions authorized by the head of the finance division or by Vigni himself.
Vigni declined to comment on the documents.
After meeting KPMG associate Andrea Rossi, risk control officials and Baldassarri, and receiving reassurances from Vigni, the internal audit committee said the finance department "had not found the best solutions to dysfunctions already revealed" in the past.
It called for controls to be tightened and limits to the operational autonomy of the finance department to be set as soon as possible, and for the overhaul of the division to be completed by March 2010.
However it said: "Even though it is undoubtedly necessary to keep monitoring continuously and carefully the phenomena exposed, no damage to the bank's capital position has been ascertained for the time being."
Yet in November 2010, after follow-up checks by the risk control unit, the audit committee was still not happy with the dealings of the finance department.
"It is necessary to intensify current efforts so as to complete the corrective actions started," the committee said in a document on November 12, 2010, citing among others the need to strengthen controls on counterparty risks and collateral management.
Documents showed that as late as February 2011 the audit committee was not yet fully satisfied by the measures taken by management to address its concerns.
(Editing by Philippa Fletcher and Alexander Smith)