Private Sector Banks: RBI guidelines on ownership and corporate culture

Ashish M. Shaji

13 Sep, 2022

The Reserve Bank of India recently constituted an internal working group to review guidelines on ownership and corporate structure of banks (Private Sector). The new guidelines would also be put on the RBI website for the views of all interested to comment on.

What are the objectives of guidelines on ownership and corporate culture?

As per the RBI circular, the broad principles for the framework of policy relating to ownership and governance of private sector banks must ensure that:

• The ultimate ownership and control of the private sector banks is well diversified;
• Important shareholders that mean shareholding of 5% and above, are fit and proper, as specified in guidelines on acknowledgment for allotment and transfer of shares;
• The directors and the CEO who manages the affairs of the bank are fit and proper and also observe sound corporate governance principles;
• RBI shall not appoint its nominee on the boards of private sector bank unless there are any exceptional circumstances so that conflict of interest is avoided;
• Private sector bank has minimum capital/ net worth for optimal operations and systematic stability; and
• The policy and processes are transparent and fair.

Minimum Capital

According to the RBI guidelines dated 3^rd January 2002, the entry capital for new private sector bank has to be 200 Crore Rupees which must be upgraded to 300 crore rupees over a period of three years. It is to ensure that all private sector banks have a minimum net worth of 300 crore rupees at all times.

Shareholding

According to the RBI guidelines dated 3^rd February 2004, no single entity or group of related entities have shareholding/ control, directly or indirectly, in any bank more than 10 per cent of the paid-up capital of the private sector bank.

A higher level of acquisition will require prior approval from the RBI. It was considered essential that a single entity must be a well-established and regulated financial entity with good standing. As per the existing policy established, industrial houses will not be allowed to set up banks.

Directors and Corporate Governance

As a matter of desirable practise, not more than one member of a family or a close relative (as mentioned in Section 6 of the Companies Act, 1956) or an associate (partner, employee, director etc.) has been specified as a board member. 

Foreign investments in private sector banks

According to the GOI press note of 5^th March 2004, the aggregate foreign investment in private sector bank from all sources (Foreign Direct Investment, Foreign Institutional Investors, Non- Resident Indian) can’t exceed 74%. Such a limit of 74% will be reckoned by taking the direct and the indirect holding. This leaves 26 per cent holding by residents at all times.

Continuous monitoring

In case where RBI’s permission has been taken for transfer of shares of 5% and above, the bank must ensure that fit and proper criteria are continually complied with and give an annual certificate to the Reserve Bank of India of having undertaken continuing due diligence.

It may be noted that the RBI must effectively monitor banks at all times so that financial disasters can be averted. Failure of banks adversely affects the deposit holders who are mostly middle class and poor middle class. RBI’s effective monitoring with the Ministry of Finance is essential to protect the interests of the stakeholders.

Guidelines for acknowledgment of transfer/allotment of shares in private sector banks

RBI has provided directions which are covered in a few pages of which 4^th and 5^th points under the heading of “proposed guidelines for grant of acknowledgement” grab our attention. The clear meaning of the instructions under the said points responds with the accumulation of the voting power in wrong hands that can wreck the bank.

The recent events in the private banks have downgraded the financial health of the then best private banks.

Criteria for acknowledgment of transfer of shares

To determine whether an applicant is fit and proper to hold the position of a shareholder, the RBI may take all the relevant factors, including, but not limited to-

• Applicant’s integrity, repute and track record in financial factors;
• If the applicant is subjected to any proceedings of disciplinary or criminal nature;
• If the applicant is convicted for an offence under any legislation;
• Whether the applicant has achieved a satisfying outcome due to financial vetting. It includes any serious financial misconduct etc.;
• The source of funds for the acquisition; and
• If an applicant is a body corporate, its track record of reputation for operating in a manner that is in lieu with the standards of good corporate governance, financial strength and integrity.

Conclusion