Posted in Finance Articles, Total Reads: 2209
, Published on 25 June 2013
Indian economy is one of the fastest growing among emerging economies. The strong policy measures by government have helped India recover quickly from the crisis. Counted as an attractive destination for investment, there is robust demand for banking services in India. India has huge and untapped potential for banks fueled by growing demand for affordable and high return savings products. Other avenues which demonstrate huge possibility for growth of banks are rising affluence in country, liberal investment regimes with options in diverse sectors as tourism, infrastructure etc and increasing middle class segment. The key objective of broadening and deepening reach of banking services in India has prompted RBI to consider giving fresh banking licenses after 10 years.
Following is the insight into those license norms by RBI which merit consideration:
Minimum Capital Requirements
The minimum paid up capital requirement for applicant is Rs. 500crore.
This amount is neither too less(<=300 crore) nor too high (1000 crore). Thus will hinder non-serious players from applying.
At the start of banking operation promoter should bring in minimum 40% capital with 5 year lock-in, which has to be brought down to 15% within 12 years.
This clause will ensure promoters interest in making banks business model a success due to high stakes, The dilution of stake at later stage will ensure diversification and no entity will have significant control as the bank grows.
Anyone can apply for license be it public entity, private entity or financial institution.
This gives fair chance to everybody and allows broader set of entities in banking.
Unbanked rural area coverage
At least 25% of new banks’ branches must be in rural centers with no banking facility.
This move will benefit population excluded from banking services earlier. With new banks coming into the system the penetration will improve. It would also lead to more people coming into the system.
FDI is capped at 49% for first five years after which it can be extended.
This restricts foreign investors willing to invest more capital in India. However increase in voting right will help in attracting foreign investors as they will have more say in banks.
High Asset Price Volatility Clause
The business model of promoter group should not indulge in activities which are speculative or subject to high price volatility.
This will ensure only companies with market exposure to less volatile prices will pass through.
The new banking licenses are undoubtedly likely to encounter challenges of geographical coverage, insufficient infrastructure and inadequate technology. However certain regulations have gathered opponents more than proponents.
On the contrary
The opponents of reform allowing industrial houses to enter banking space have argued of conflict of interest between corporate interest and banking interest. It has been observed that regulators in other countries also do not allow corporate to set up banks and if they do there are restrictions on ownership and voting rights. The flaw in the reform is possibility of increase in risky loans from lending to related firms. If the loans backfire it could trigger a huge crisis. But on the flip side India can leverage upon deep pockets of corporate and bring new technologies to extend financial inclusion to underserved markets.
Rural branch coverage compulsion can be a bottle neck as it is difficult to service those in remote areas and also be profitable. Achieving priority sector lending target of 40% also seems unrealistic considering existing banks failure to meet the target. But constraints give way to innovations. FMCG companies have long back understood the dynamics of the rural segment and have been making maximum money from bottom of the pyramid. But careful thought and strategy will enable banks to seek niches in this segment of population and make a difference.
Likely new entrants - NBFCs, Realtors, Brokers?
The criterion for new bank applicants is sound financial track record for past 10 years. This has been a setback for realtors as last few years have been challenging for real estate sector with high debt ratios and low market valuation. Brokerage sectors may stand a slightly better chance than Realtors but financial ratios may or may not be optimum considering dip in equity trading due to 2008 financial crisis.
Most of the pure-play NBFCs are best placed to meet RBI’s criteria and have much better financial ratios. NBFCs stand a good chance of foraying in the banking space also due to their prior presence in financial sector. Currently higher rates of borrowing and lending by NBFCs impede growth of borrowers. Conversion to banks will give NBFCs access to low-cost CASA (current account, savings account) funds which will in turn reduce lending rate to borrowers in urban and semi-urban areas. The regular NBFC clients like Infrastructure, farming companies will receive equipment financing at low cost making them competitive. Also capitalized banks is what India needs and some leading NBFCs are well-capitalized than existing banks.
RBI along government have taken major steps of nationalization of banks, priority sector lending norm, emphasis on mobile banking in the past to bring un-banked population under the umbrella of banking services. Being bank of banks RBI has responsibility of safeguarding the public interest. It has come up with tight guidelines to ensure only responsible people enter the banking space. The new entity is required to set up a wholly-owned Non-Operative Financial Holding Company (NOFHC). This will protect banking operation from other businesses of group. The high quality regulation can ensure liquidity and profitability of banks. Kotak Mahidra bank is the best example for the same.
Overall guidelines by RBI seem to be a welcome development, paving way for more capital and more players in the sector. For the industry dominated by state lenders new banking license move is intended to increase competition and efficiency in the sector. Although challenges of risk management, rising NPAs, capital adequacy ratio compliance and other stringent norms remain, the strong performance of banking sector over past few years showcases vast opportunities.
The article has been authored by Vidhi Jain, TAPMI, Manipal