RBI Banking License Guidelines: Decoded

Posted in Finance Articles, Total Reads: 2166 , Published on 25 June 2013
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The Reserve Bank of India (RBI) has come out with its much awaited new banking license guidelines, which could prove to be a game changer for the entire banking sector. But are you aware of its nitty-gritty, which could have far reaching implications. We have tried to reveal some ‘behind the scene’ implications which you may not have thought of.


RBI recently announced its guidelines for licensing of new banks. The ‘fit and proper’ criteria for a financial company to acquire the license should include at least 10 years of successfully running business and must have a minimum paid-up voting equity capital of INR 500 crores. This clearly indicates that the RBI’s preference is to have larger banks. As entry barrier would be high, only serious players will enter into the banking sector.

The corporate businesses, where the promoter shareholding is less than 49%, could effectively qualify for acquiring the license. But the PSU companies are not qualified, as by definition, they have more than 51% promoter holding. So, the PSU companies are not in the race and one should not expect a government owned bank to come up.

The guidelines stipulate that the promoter shareholding of the holding company should have to be brought down to 40% and the bank must get listed within 3 years from the date of commencement of the bank. Now, here is the catch. Suppose, the new bank starts with the minimum paid-up capital of INR 500 crores; as per this guideline, the promoter shareholding has to be brought down to 40% (which is INR 200 crores) within 3 years. So, the return that the promoter would get with this reduced holding after 3 years would also decrease in comparison to the earlier situation, when the promoter had INR 500 crores. Thus, it is very likely that the new banks may start their business with starting capital greater than INR 500 crores.

One of the guidelines states that the individual voting rights is restricted to 10% and the companies belonging to the promoters must hold at least 51% of the total voting equity shares. The implication is that a big parent unlisted company’s holding must be restricted to only 10%. Thus, if the parent unlisted company wants to hold the majority stake, it has to take the help of its subsidiaries which are listed.

With the entry of new banks, the overall competition in the banking industry would intensify. This would adversely affect the Return on Equity (RoE) of the established banks. In addition, some of the existing public sector banks (PSBs) are already facing issues with their asset quality. The new banks may push these PSBs to the back foot and may capture their market share.

The RBI guidelines may implicitly restrict some companies to enter into the banking sector. These may primarily be related to real estate sector and broking houses, as their business includes high asset price volatility and speculative activities. Thus, these companies may not be safe enough to enter the banking sector which requires huge stability.

FDI in new banks would be capped at 49% of equity for initial 5 years and may be extended up to 74% thereafter, as per the policy. This will give the foreign investors greater voting rights in private banks, which may prove fatal not only for the banking sector but also expose the Indian economy to greater risks emanating from global economy. An intensive financial crisis may occur at the slightest panic from these foreign investors.

The bank must open at least 25% of its branches in rural areas having population greater than or equal to 10,000. This rule has been brought up by the RBI to ensure that the metros and the cities may not be over crowded as they have sufficient number of banks. The bank should also operate on Core Banking Solutions (CBS) from the start and be equipped with all modern infrastructural facilities.

The potential entrants can be TATA Capital, Reliance Capital, L&T Finance, Shriram Transport Finance (STFC), Mahindra & Mahindra Financial Services (MMFS), Bajaj Finserv, etc.

Conclusion

Since a large part of Indian population is not served directly by banks, mainly rural population, the banks will have to come up with several schemes to lure the customers and thus, create differentiation. The banks will have to be patient enough in the rural areas as the profit from these branches grow very slowly. One more point to be noted is that once the new banks come into the business, they can’t sell it off in the next few years. It means that exit barrier is also high same as the entry barrier.

Thus, the new banking license is in sync with the reform process carried out by the government. But, it must be ensured that the entire process is finished off effectively and within time.

The new entry of banks would no doubt intensify the competition of the banking sector but at the same time, it would also exploit the untapped opportunities. This would help the government to achieve their aim of financial inclusion.

The article has been authored by Antariksh Gupta and Akhilesh Singh, TAPMI, Manipal.


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