The then MD and CEO of Yes Bank, Rana Kapoor, thought that he had found his niche by lending to well-known companies who were finding it difficult to get finances from existing lenders. What looked like a good business plan at the time turned out to be the bank’s nemesis
Last week the Reserve Bank of India (RBI) took control of one of the country’s top-five private sector lenders, Yes Bank, and imposed limits on withdrawals. This has triggered confusion and fear among account holders. But was this the first case or do we have a history of bank failures?
Bank frauds and banks in crisis have been an integral part of India’s financial history as between 1935 and 1947, nearly 900 banks failed. This was followed by 665 banks going bust in the period from 1947 till nationalisation of private banks in 1969. In fact, one of the major reasons for the Government’s decision to nationalise the biggest banks in the country was their repeated failures. After 1969, the RBI became highly conservative and no new bank licences were issued till 1994, when 10 new banks were given permits. In the early 2000s, two more banks were given licences, followed by another two in 2014. Since then, only a few special banks like local area banks, payments banks and small finance banks have been licensed.
Why Yes Bank failed: The Yes Bank crisis was a long time coming. The RBI had raised concerns over corporate governance lapses and the deteriorating quality of the bank’s loan books in the last few years. Yes Bank rapidly expanded its corporate loan book by aggressively lending to corporates. Rana Kapoor, then-Managing Director and CEO, is known to be a risk-taker, lending to even stressed companies. The crisis was an accident waiting to happen since 2008, when the global economic recession shook the world. While the world economy tanked and markets went into panic mode, there was absolutely no impact on Yes Bank and all through 2008-2010, Rana Kapoor continued to giving loans to both companies and individuals. In fact, one financial magazine reported, “If nobody will lend you money, Rana Kapoor certainly will. Many an industrialist has lived for a good part of the last decade or more with this unshakeable belief.” Those taking a loan from the bank were required to pay an upfront fee, which in turn was used to run the bank.
A bank that started from scratch and built an asset book of over Rs 3 lakh crore in a little over a decade was signing away cheques to nearly every borrower, who either went bust or turned into a non-performing asset (NPA) within years. Yes Bank gave loans to almost every stressed entity in India, including IL&FS, Dewan Housing, Jet Airways, Cox & Kings, CG Power and Cafe Coffee Day and so on. A foreign banker, Kapoor was a well-known face in the corporate sector and used to cut most of the deals. This route not only gave him a higher interest rate but also helped him secure a collateral against that loan. But when things turned bad, the bank found it difficult to monetise the collateral either. Take, for instance, the shares it had as collateral in some cases, whose value deteriorated because of the slide in the fortune of the corporate entity. Kapoor thought that he had found his niche by lending to well-known companies who were finding it difficult to get finances from existing lenders. What looked like a masterstroke at the time turned out to be the bank’s nemesis. Yes Bank’s stock hit an all-time high in August 2018 and market capitalisation crossed Rs 1 lakh crore. But it began retreating soon after and due to capital erosion, the bank was in dire need of fresh investments. Yes Bank started working on it and Kapoor stepped down in January 2019. Ravneet Gill was appointed as the new CEO and took the reins in March 2019.
In February 2019, the bank announced that a risk assessment report conducted by the RBI did not find any divergence in the recognition of bad debts. A day later, RBI pulled up the bank for selectively disclosing a confidential report. The regulator pointed out that the report had revealed several lapses and regulatory breaches in the bank’s functioning, and the selective disclosure by the bank was a deliberate attempt to mislead.
In December 2019 Yes Bank said two investors, SPGP Holdings and Erwin Braich, were interested in buying stake in it. But after rejection of Braich’s offer, failure was inevitable. The RBI has superseded the board and will take charge of it.
Banking regulations in India: Banks in the country are now governed by both international Basel norms and domestic regulations. The RBI has extensive powers to inspect banks and intervene in their operations. Given the fact that banking regulations have only got stringent over time, all these bank failures are puzzling.
There are four primary issues plaguing Indian banks that come to the fore. These are poor decision-making due to the lack of capacity to judge project quality. Plus, there is a structural asset-liability mismatch due to long-dated assets and short-dated liabilities; a delay in recognising NPAs on the books and outright fraud and the absence of fundamental corporate governance standards.
While the first two factors have received significant coverage and discussion, the last two factors probably deserve even greater attention going forward, given the gravity of the situation. While the first two revolve primarily around the skill and capacity of the lender to assess sectoral, company and project risk keeping in mind the micro-structure of their balance sheets, the last two are to a large extent related to the level of corporate governance. Unless we strengthen corporate governance, we will keep suffering bank failures. The Companies (Auditor’s Report) Order 2020 is also a step towards transparency and accountability.
Protect your money: The issue of protection of bank depositors has stoked frequent debates. However, these remain academic only as we had not seen concrete action on the ground on bank loan defaulters. Whatever might be happening in the banking sector, the tragedy is that the common man is always on the receiving end. The Government, in this year’s Union Budget, announced that the insurance cover for small depositors has been increased to Rs 5 lakh from Rs 1 lakh. This means that at the most, depositors will get back Rs 5 lakh if their bank goes out of operation.
Significantly, this is the first time in 27 years that insurance limit on bank deposits has been revised. Deposit insurance commenced in India with a limit of Rs 5,000 in 1968 and was revised to Rs 10,000 two years later in 1970. The next revision happened in 1976 to Rs 20,000. Again in 1980, the limit was changed to Rs 30,000 and the last revision took place in 1993 when it was increased to Rs 1 lakh. A SBI research paper has pointed out that the deposit coverage in India is one of the lowest in terms of per captia income.
Even the revised cover of Rs 5 lakh is not sufficient. Thus, diversification holds the key to safeguarding money. People can try and keep their money in three-four different banks. For instance, a depositor can have one account with a PSB, second account with a private bank and another one with a foreign bank. Also, people can use the services of the nearest Post Office for extra safety. Spreading fixed deposits in various banks and adding exposure to liquid funds or cash funds of mutual funds, are also some safe options. This way, depositors will not be keeping all their eggs in one basket and their nest egg will stay safe.
(The writer is an author and GST and economics specialist)