Indradhanush : A New Framework for Indian PS Banks

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Indradhanush : A New Framework for Indian PS Banks

Rajesh Goyal

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It was on the eve of India’s Independence Day 2015 that Government announced Indradhanush for Indian PS Banks. Modi loves to give new slogans which can have some impact on the memory of the listeners / readers. By using the word Indradhanush, the bureaucrats in Finance Minister have tried to please Modi as this indicates 7 colours (steps) and A2G for PS Banks. With this single word, they have tried to paint a beautiful picture which we see in the sky after dark clouds and rains. Before we analyse these in next article, let me try to explain briefly and simple words what is there in the document called Indradhanush.

The said documents contains seven broad heads which we can also call as A2G of Indradhanush. These are

1) Appointments ;

2) Bank Board Bureau ;

3) Capitalization ;

4) De-stressing PSBs;

5) Empowerment ;

6) Framework of Accountability ;

7) Governance Reforms

A) Appointments :

Government had already announced that the post of Chairman and Managing Director in Public Sector Banks to be split into (a) MD and CEO; and (b) Non-Executive Chairman. As per Govt claims this approach is based on global best practices and as per the guidelines in the Companies Act so as to ensure appropriate checks and balances in day to day functioning of these banks. The selection process for both these positions has been made more transparent and meritocratic.

Under the new process of selection for MD & CEO, even Private sector candidates were also allowed to apply for the position of MD & CEO of the five top banks i.e. Punjab National Bank, Bank of Baroda, Bank of India, IDBI Bank and Canara Bank. Three stage screening was done for the MD’s position culminating into final interview by three different panels.

Five MD & CEOs were appointed earlier. Appointments of MD & CEOs of five more banks - Bank of Baroda, Bank of India, Canara Bank, IDBI Bank and Punjab National Bank and Non-executive Chairman of 5 banks were announced now on 14th August 2015. Each of these appointments is likely to be for three years subject to certain other conditions.

The details of this aspect have already been covered by us under an article (Click to open the link)

“A New Era Has Dawned - Private Sector Executives Enter PS Banks - Appointment of New MDs & CEOs And Non Executive Chairmen Announced”

B)Bank Board Bureau :

We are aware that announcement for Bank Board Bureau (BBB) was made in Budget speech for the year 2015-16. Now further details have been issued.

BBB will be a body of eminent professionals and officials, which will replace the Appointments Board for appointment of Whole-time Directors as well as non-Executive Chairman of PSBs. The BBB would broadly follow the selection methodology as approved in relevant ACC guidelines.

They will also constantly engage with the Board of Directors of all the PSBs to formulate appropriate strategies for their growth and development.

BBB will comprise of a Chairman and six more members of which three will be officials and three experts (of which two would necessarily be from the banking sector). The Search Committee for members of the BBB would comprise of the Governor, RBI and Secretary (FS) and Secretary (DoPT) as members. The members will be selected in the next six months and the BBB will start functioning from the 01st April, 2016.

C) Capitalization:

Although PSBs have been under stress, but they are still adequately capitalized and meeting all the Basel III and RBI norms.

Now, the Government of India has shown its intent to adequately capitalize all the PS banks to have a safe buffer over and above the minimum norms of Basel III during the next few years.

Therefore, GoI has made an exercise to estimate the capital requirements based on credit growth rate of 12% for the current year and 12 to 15% for the next three years depending on the size of the bank and their growth ability. It has been presumed that the emphasis on PSBs financing will reduce over the years by development of vibrant corporate debt market and by greater participation of Private Sector Banks. Based on this exercise, it is estimated that as to how much capital will be required this year and in the next three years till FY 2019.

After excluding the internal profit generation which is going to be available to PSBs (based on the estimate of average profit of the last three years), the capital requirement of extra capital for the next four years up to FY 2019 is likely to be about huge amount of Rs.1,80,000 crore.

Out of the total requirement, the Government of India proposes to make available Rs.70,000 crores out of budgetary allocations for four years as per the figures given below:

(i)	Financial Year 2015 -16	-	Rs. 25,000 crore
(ii)	Financial Year 2016-17	-	Rs. 25,000 crore
(iii)	Financial Year 2017-18	-	Rs. 10,000 crore
(iv)	Financial Year 2018-19	-	Rs. 10,000 crore
	Total	-	Rs. 70,000 crore

We estimate that PSB’s market valuations will improve significantly due to (i) far-reaching governance reforms; (ii) tight NPA management and risk controls; (iii) significant operating improvements; and (iv) capital allocation from the government. Improved valuations coupled with value unlocking from non-core assets as well as improvements in capital productivity, will enable PSBs to raise the remaining Rs. 1,10,000 crore from the market. Moreover, the government is committed to making extra budgetary provisions in FY 18 and FY 19, to ensure that PSBs remain adequately capitalized to support economic growth.

The details of how these amounts will be provided to different banks during the current Financial Year (2014-15) have also been provided in the document. [We have excluded these as the details can be referred to in the original document by those who want to work on such figures]

The Banks can also raise capital from the capital markets.

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D) De-Stressing :

a) De-stressing PSBs :

The infrastructure sector and core sector have been the major recipient of PSBs’ funding during the past decades. But due to several factors, projects are increasingly stalled/stressed thus leading to NPA burden on banks. In a recent review, problems causing stress in the power, steel and road sectors were examined. It was observed that the major reasons affecting these projects were delay in obtaining permits / approvals from various governmental and regulatory agencies, and land acquisition, delaying Commercial Operation Date (COD); lack of availability of fuel, both coal and gas; cancellation of coal blocks; closure of Iron Ore mines affecting project viability; lack of transmission capacity; limited off-take of power by Discoms given their reducing purchasing capacity; funding gap faced by limited capacity of promoters to raise additional equity and reluctance on part of banks to increase their exposure given the high leverage ratio; inability of banks to restructure projects even when found viable due to regulatory constraints. In case of steel sector the prevailing market conditions, viz. global over-capacity coupled with reduction in demand led to substantial reduction in global prices, and softening in domestic prices added to the woes.

A meeting was held on 28th April, 2015 at Mumbai first with all the banks and concerned Ministries to understand the problems for each sector. Subsequently, meetings were held with project promoters of steel, power and road sectors at various levels to understand further the pain points of each and every sector. Some of the actions proposed / undertaken after these meetings are as follows:-

(i) Project Monitoring Group (Cab. Sectt.) / Respective Ministries will pursue with concerned agencies to facilitate issue of pending approval/permits expeditiously.

(ii) Pending policy decisions to facilitate project implementation/operation would be taken up by respective Ministries/Departments.

(iii)Ministry of Coal/PNG will evolve policies to address long-term availability of fuel for these projects.

(iv) Respective Discoms will be provided hand-holding towards enabling early reforms.

(v) Promoters will be asked to bring in additional equity in an attempt to address the worsening leverage ratio of these projects. Wherever the promoters are unable to meet this requirement, the Banks would consider viable options for substitution or taking over management control.

(vi) The possibility of changing the extant duty regime without adversely impacting the downstream user industry would be considered by the Government. The decision to increase import duty on steel has already been taken.

(vii) RBI has been requested to consider the proposal of the Banks for granting further flexibility in restructuring of existing loans wherever the Banks find viability.

b) Strengthening Risk Control measures and NPA Disclosures

Besides the recovery efforts under the DRT & SARFASI mechanism the following additional steps have been taken to address the issue of NPAs:

i. RBI has released guidelines dated 30 January, 2014 for “Early Recognition of Financial Distress, Prompt Steps for Resolution and Fair Recovery for Lenders: Framework for Revitalizing Distressed Assets in the Economy” suggesting various steps for quicker recognition and resolution of stressed assets:

 Creation of a Central Repository of Information on Large Credits (CRILC) by RBI to collect, store, and disseminate credit data to banks on credit exposures of Rs. 5 crore and above,

 Formation of Joint Lenders Forum (JLF), Corrective Action Plan (CAP), and sale of assets. - The Framework outlines formation of JLF and corrective action plan that will incentivise early identification of problem cases, timely restructuring of accounts which are considered to be viable, and taking prompt steps by banks for recovery or sale of unviable accounts

ii. Flexible Structuring of Loan Term Project Loans to Infrastructure and Core Industries – RBI issued guidelines on July 15, 2014 and December 15, 2014 –

 Long term financing for infrastructure has been a major constraint in encouraging larger private sector participation in this sector. On the asset side, banks will be encouraged to extend long term loans to infrastructure sector with flexible structuring to absorb potential adverse contingencies, (also known as the 5/25 structure).

iii. Wilful Default/Non-Cooperative Borrowers:

RBI has now came out with new category of borrower called Non-Cooperative borrower. A non-cooperative borrower is a borrower who does not provide information on its finances to the banks. Banks will have to do higher provisioning if they give fresh loan to such a borrower.

Fresh exposure to a borrower reported as non-cooperative will necessitate higher provisioning. Banks/FIs are required to make higher provisioning as applicable to substandard assets in respect of new loans sanctioned to such borrowers as also new loans sanctioned to any other company that has on its board of directors any of the whole time directors/promoters of a non-cooperative borrowing company or any firm in which such a non-cooperative borrower is in charge of management of the affairs.

iv. Asset Reconstruction Companies:

Taking further steps in the area, RBI has tightened the norms for Asset Reconstruction Companies (ARCs), vide guidelines dated August 5, 2014, where the minimum investment in Security Receipts should be 15% which was earlier 5%. This step will increase the cash stake of ARCs in the assets purchased by them. Further, by having more cash up front, the banks will have better incentive to clean their balance sheet.

v. Establishment of six New DRTs:

Government has decided to establish six new Debt Recovery Tribunals (DRT) (at Chandigarh, Bengaluru, Ernakulum, Dehradun, Siliguri, Hyderabad) to speed up the recovery of bad loans of the banking sector

E) Empowerment:

The Government has issued a circular that there will be no interference from Government and Banks are encouraged to take their decision independently keeping the commercial interest of the organisation in mind. A cleaner distinction between interference and intervention has been made. With autonomy comes accountability, accordingly Banks have been asked to build robust Grievances Redressal Mechanism for customers as well as staff so that concerns of the affected are addressed effectively in time bound manner.

The Government intends to provide greater flexibility in hiring manpower to Banks. The Government is committed to provide required professionals as NoDs to the Board so that well-informed and well-discussed decisions are taken.

F) Framework of Accountability:

(a) The present system for the measurement of bank’s performance was a system called SoI – Statement of Intent. Based on certain criteria decided by Ministry of Finance, the banks used to come up with their annual target figures which was discussed between the Ministry and banks and finalized. The entire exercise took very long and sometimes the targets for banks used to be finalized only towards the end of the year which is not a desirable thing to do. There are two changes we are making in this:

                        (i) A new framework of Key Performance Indicators (KPIs) to be measured for performance of PSBs is being announced. It is divided into four sections totaling up to 100 marks. 25 marks each are allotted to indicators relating to efficiency of capital use and diversification of business/processes and 15 marks each are allotted for specific indicators under the category of NPA management and financial inclusion. The total marks to be allotted for quantifiable, measurable criteria is 80.

                                                 (ii) The remaining 20 marks are reserved for measurement of qualitative criteria which includes strategic initiatives taken to improve asset quality, efforts made to conserve capital, HR initiatives and improvement in external credit rating. The qualitative performance would be assessed based on a presentation to be made by banks to a committee chaired by Secretary, Department of Financial Services.

The new framework for KPIs (Key Performance Indicators) have been given by us in a separate article under the heading (click to view the article) :

  New Key Performance Indicators For Public Sector Banks

(a)Operating performance evaluated through the KPI framework will be linked to the performance bonus to be paid to the MD & CEOs of banks by the Government. The quantum of performance bonus is also proposed to be revised shortly to make it more attractive. We are also considering ESOPs for top management of PSBs.

(b) DFS has issued a circular to PSBs laying down strict timelines for filing of complaints of fraud cases with CBI as well as for monitoring each and every case almost on a day-to-day basis.

(c) Streamlining vigilance process for quick action for major frauds including connivance of staff. RBI has issued guidelines in May, 2015 to streamline the framework for dealing with the loan frauds. Under the new guidelines, a timeframe of six months, red flagging of accounts, constitution of a Risk Management Group (RMG) in banks to monitor pre-sanction and disbursement, nodal officer for filing complaints with CBI, provisioning in four quarters and creation of Central Fraud Registry have been laid down. Department of Financial Services (DFS) has directed PSBs to make CVO as the nodal officer for fraud exceeding Rs 50 crore, in consortium lending the lead bank will file the FIR for all banks and CBI has designated one officer for reviewing and monitoring progress of bank’s fraud cases.

G) Governance Reforms:

The process of governance reforms started with “Gyan Sangam” - a conclave of PSBs and FIs organized at the beginning of 2015 in Pune which was attended by all stake-holders including Prime Minister, Finance Minister, MoS (Finance), Governor, RBI and CMDs of all PSBs and FIs. There was focus group discussion on six different topics which resulted in specific decisions on optimizing capital, digitizing processes, strengthening risk management, improving managerial performance and financial inclusion. The decision to set up a Bank Board Bureau which was subsequently announced in the Budget Speech of Hon’ble Finance Minister, came out of the recommendations of Gyan Sangam. Also, at this conclave, Hon’ble Prime Minister made a significant promise to the bankers that there would be no interference from any Government functionary in the matter of their commercial decisions.

This promise of Hon’ble Prime Minister was immediately translated into a circular issued to all banks assuring them of “no interference policy”, but at the same time asking them to have robust grievance redressal mechanism for borrowers, depositors as well as staff. The Gyan Sangam recommendations included strengthening of risk management practices. Each bank agreed to nominate a senior officer as Chief Risk Officer of the bank. A special training programme for Chief Risk Officers was recently organized by Centre for Advanced Financial Research and Learning (CAFRAL).

The Government has been constantly engaging with the Banks through review meeting and sessions for strategic reviews etc. The focus is on improving HR management practices and removing barriers so that the Banks can share and work together on common resources. Various steps have been taken to empower Bank’s Boards.

Continuing with this year’s Gyan Sangam, next Gyan Sangam will be held between 14-16.01.2016 to discuss strategy with top level officials. Further, scheme of ESOPs for top management is under formulation. Other strategic initiatives such as consolidation etc. need to be discussed.

The Indradhanush framework for transforming the PSBs represents the most comprehensive reform effort undertaken since banking nationalisation in the year 1970. Our PSBs are now ready to compete and flourish in a fast-evolving financial services landscape.

I intend to discuss all these issues in a separate article at some later stage as the above changes are likely to have long term implications / ramifications, if these are implemented in the true spirit in which these have been formulated.

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