Contents 1. Foreword 3 2. Introduction 4 3. Licensing Process: Likely Timelines 8 4. Implementation of the RBI Guidelines: Implications and Impact 10 5. The Way Forward for Successful Applicants 12 6. Strategic Recommendations 15 Annexure 1: Evolution of Guidelines Annexure 2: Basic Formalities to be Completed for Setting Up Banking Business SP Media Pvt Ltd, 203 Business Enclave, Pancard Club Road, Off Baner Road, Pune 411045, India. Tel: +91 20 65109070 Email: [email protected]Copyright 2013: SP Media Pvt Ltd. All Rights Reserved. Research Sponsor LICENSING OF NEW BANKS IN THE INDIAN PRIVATE SECTOR: IMPLICATIONS AND RECOMMENDATIONS Author: Prabhat Gupta
This document is posted to help you gain knowledge. Please leave a comment to let me know what you think about it! Share it to your friends and learn new things together.
Transcript
Contents
1. Foreword 3
2. Introduction 4
3. Licensing Process: Likely Timelines 8
4. Implementation of the RBI Guidelines: Implications and Impact 10
5. The Way Forward for Successful Applicants 12
6. Strategic Recommendations 15
Annexure 1: Evolution of Guidelines
Annexure 2: Basic Formalities to be Completed for Setting Up Banking Business
SP Media Pvt Ltd, 203 Business Enclave, Pancard Club Road, Off Baner Road, Pune 411045, India.
Copyright 2013: SP Media Pvt Ltd. All Rights Reserved.
Research Sponsor
LICENSING OF NEW BANKS IN THE INDIAN PRIVATE
SECTOR: IMPLICATIONS AND RECOMMENDATIONS
Author: Prabhat Gupta
SP Media Pvt Ltd makes no representation as regards the accuracy and completeness of the information contained herein and the same should not be construed as legal, business
or tax advice. The authors, publishers, and the printer shall not be responsible for any loss or damage caused to any person on account of errors or omissions which might have crept
in. In order to avoid any doubt the readers may cross check all the facts, laws and content of the publication. Views expressed and reported by the author are not necessarily subscribed
to by his organisation. Publicly available sources of content referred to or used as is by the author are hereby acknowledged. Neither this publication nor any part of it may be
reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without the prior written permission
of SP Media Pvt Ltd
Prabhat Gupta is General Manager - Regulatory Affairs at L&T Infrastructure Finance Company
Limited.
Earlier, as a regulator with the Reserve Bank of India for close to 25 years, Prabhat has been
closely involved with regulation and supervision of commercial banks and NBFCs as well as the
maintenance of financial stability. He has cited contributions to various Reserve Bank of India
publications and has been associated with many of its internal committee reports on banking
supervision. His areas of expertise include financial risk management, cross-border supervision of
financial conglomerates and financial stability. Prabhat was also on a secondment from the RBI to
Wolters Kluwer Financial Services in 2010-2012, where, as Country Manager and Head Regulatory
Specialist for India, he helped set up their Risk and Compliance business.
Prabhat holds a Masters Degree in Banking and Finance and an MBA Finance from the Welingkar
Institute of Management, Mumbai. He is also a Certified Associate of the Indian Institute of
Bankers.
About the Report Author
M Balachandran has been a career banker for 37 years. He worked in different capacities within
India and abroad for over 33 years in Bank of Baroda, lastly as Chief Executive of the bank’s
American operations at New York. Thereafter he headed Bank of India and superannuated as its
Chairman and Managing Director in 2007. Subsequently he headed Institute of Banking Personnel
Selection as its Director and retired in June, 2012. Mr Balachandran has had extensive exposure
to Agriculture and SME banking besides Corporate and International segments and Human
Resource Management.
He was also instrumental in founding the Star Union Dai ichi Life Insurance Co., a joint venture
between Bank of India, Union Bank and Dai Ichi life insurance Co of Japan and was its founder
Chairman for 3 years.
Presently Mr Balachandran is RBI’s Nominee Director on the Board of National Payments
Corporation of India (NPCI), and chairs its Management Committee of the Board. He is also on the
Board of Chartered Financial Management Ltd as Independent Director and PNB MetLife Insurance
as Nominee Director of Punjab National Bank. Other committees with which Mr Balachandran is
current associated with are - Chairman, Committee for Review of Depositories System in India
(SEBI); Chairman, Expert Group for Merger of Urban Co-op. Banks (RBI); Member, Research and
Development Advisory Committee of National Housing Bank (NHB); and Trustee, DHAN Foundation.
About the Foreword Author
3
FOREWORD
- M Balachandran
The entry of new participants in the Indian banking industry over the next couple of years will,
hopefully, be a catalyst for the banking industry to rise to the next level in terms of corporate
governance, operational efficiency, customer engagement and wider geographical coverage.
While there is no debate that public sector banks have provided yeoman service in the area of
rural banking and serving the underprivileged section of the country for the last few decades,
it was the entry and proliferation of private sector and foreign banks in the country that
created a technological revolution in the industry to provide entirely new levels of customer
experience and service delivery, setting new standards for the old players also to cope with.
Will we witness a similar shift to a higher banking paradigm with the entry of new banks, this
time with an additional and much needed focus on inclusive banking similar to what we saw
after the private banks entered into the market in the nineties?
Inspite of the public sector banks' sustained endeavours to create infrastructure for banking
in the unbanked countryside, the banking accessibility still continues to be evasive to
significant sections of society both in rural and urban areas. This has made the government
and regulators contemplate new modes and means for 'inclusive banking', and permitting new
banks to be set up is one of the steps in that direction.
This time, new banks will have to direct significant attention towards their strategy to pursue
operational excellence and deploy innovative service delivery models, combined with
impeccable standards of corporate governance, to ensure that they get the required return on
capital as per their risk appetite, and at the same time, ensure conformance to the stringent
norms set forth by the regulator.
Although some of the bank license aspirants command a high mind share with their existing
customers in their current areas of operation, it remains to be seen how they would translate
this into market share for banking services in the short to medium term, especially to reach
the hitherto unbanked as well as to provide significant competitive differentiation to the
'already banked'. Deploying a contemporary, robust and scalable technology infrastructure
combined with the right mix of qualified and experience people, at both the board levels and
at the management and operational levels, will be imperative to achieve these goals.
The post-Lehman era has seen a slew of new regulations for risk management the world over,
and in India it has been no different. How a new bank achieves effective risk management
balanced with new and sustainable business growth in the wake of increasingly pervasive
delivery channels such as mobile banking, combined with fleeting customer loyalty, will
ultimately determine not just the persona, but also the financial viability of the bank. With
many bank aspirants already having a fairly well set corporate culture in their existing
business, this is a path that will have to be tread carefully.
The entry of new banks is expected to provide a boost to the economy with new opportunities
being created not just in the new banks, but in support sectors such as training and
education, marketing services, real estate, technology and business process outsourcing.
Banking being a business of trust, the entry of new banks will create a tremendous demand
for reputed senior bankers to provide their expertise and experience in helping the new banks
compete effectively with their more mature peers. As the banking industry grows, so will the
market for allied financial products.
With a fresh optimism set to grip the banking industry, this report and the author's views on
the foreseeable developments do give creditable indications on the likely implications and
impact of the new banking licenses, as well as some recommendations on strategic, statutory
and regulatory issues to be coped with by the new bank aspirants.
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
4
INTRODUCTION
The banking system is the pivot of the Indian Financial System. Recognizing the
potential of the banking system to promote broader economic objectives viz. the
planned economic development in India, accorded focused attention to the banking
system to build up a financial infrastructure that was geographically spread out and
functionally diverse for resource mobilization and its deployment towards the pre-
determined economic priorities.
The evolution of the Indian banking system has passed through three distinct phases in
terms of ownership, nature and type of institutional structure and the regulatory
framework. During the first phase, stretching up to the initiation of planned economic
development in 1951, the Indian banking system was considered as immature and
rudimentary. The second phase coincided with the adoption of a mixed economy with
a growing accent towards industrialization. This phase saw the need for alignment of
sources of finance with planned priorities that led to the nationalization of 20 private
banks. With the liberalization and globalization of the Indian Financial System,
especially since the reforms in 1991, the third phase has witnessed discernible
transformation in the operation of banking systems and the introduction of prudential
norms, dovetailed to international best practices. This phase witnessed the re-
introduction of private banks, albeit with adequate entry level restrictions.
Over the last two decades, the Reserve Bank of India (RBI) has licensed twelve banks in
the private sector. This has happened in two phases. Ten banks were licensed on the
basis of guidelines issued in January 1993. The guidelines were revised in January 2001,
based on the experience gained from the functioning of these banks, and fresh
applications were invited. The applications received in response to this invitation were
thereafter vetted by a High Level Advisory Committee constituted by the RBI, and two
more licenses were issued (Kotak Mahindra Bank and Yes Bank).
The origin of discussions on permitting ownership in Indian banks to corporate, that
have led to the RBI issuing the present guidelines, can be traced to the High Level
Investment Commission constituted by the Government of India in December 2004. In
its report of February 2006, the said Commission, among others, recommended
permitting ownership in Indian banks of up to 15 percent by Indian corporates and also
to increase limits of holdings by any one foreign bank up to 15 percent in private banks.
In July 2006, the report of the High Level Committee on Fuller Capital Account
Convertibility constituted by the RBI, also recommended that RBI should evolve policies
and to allow industrial houses, on a case to case basis, to have a stake in Indian banks
or promote new banks. The report also recommended that policies be evolved to
encourage non-banking financial institutions (NBFC) to convert into banks and till 2009
foreign banks be allowed to enhance their presence in the banking system.
The September 2008 report of the High Level Committee on Financial Sector Reforms
(Dr. Raghuram Rajan Committee) further recommended entry to private well-governed
deposit-taking small finance banks with the stipulation of higher capital adequacy
norms. The Economic Survey 2010-11 also suggested industrial houses be given
banking licenses in order to promote the goal of financial inclusion, subject to attendant
regulatory robustness.
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
5
The Union Finance Minister made an announcement in his budget speech for 2010-11,
that the RBI was considering giving some additional banking licenses to private sector
players. Non-Banking Financial Companies could also be considered, if they met the
RBI’s eligibility criteria.
In pursuance of the budget announcement, the RBI put out a Discussion Paper on its
website on August 11, 2010 inviting feedback and comments. The Discussion Paper
elicited wide response from the general public, consultants, existing banks, industrial
and business houses, NBFCs, micro finance institutions etc. There was extensive
discussion in the media through analytical pieces as well as editorial opinion. The RBI
also held discussions with important stakeholders. The gist of these comments and
discussions was placed on the RBI’s website on December 23, 2010.
The draft guidelines on ‘Licensing of New Banks in the Private Sector’ were framed
taking into account the experience gained from the functioning of the banks licensed
under the guidelines of 1993 and 2001 and the feedback and suggestions received in
response to the Discussion Paper. The draft guidelines were placed on the RBI’s website
on August 29, 2011 for comments. The comments received on the draft guidelines were
examined and after taking into account important amendments in December 2012 to
the Banking Regulation Act, 1949, and consultation with the Government of India, final
guidelines were issued in February 2013.
With a view to assist potential applicants in understanding the terms of the final
guidelines in a better manner, clarifications on the guidelines were provided by the RBI
in June 2013. Based on the final guidelines and such further clarifications, 26 applicants
submitted their applications to the RBI before the cut-off date of July 1, 2013,
requesting grant of an in-principle license to form a banking company in India.
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
Interview
How will the banking landscape change with the
entry of new banks in the country?
If you look at where the focus of the market is today, it
is around two dimensions. One is about creating a USP
for every aspect of customer interactions. The other
dimension is about dealing with the data that is being
built up within the organization, either from an insights
perspective or from the perspective of finding an
intersection of risk, analytics and profitability.
Essentially, the primary question is - what is the key
differentiating service that a bank can offer to its
customers. All of them require an ability to operate in
a multi-channel model and hence we see a lot of
potential in this space.
The new banking licenses will likely disrupt the
industry as each of these banks look to differentiate
their services or even target different but profitable
customer segments to deliver better service. These
new banks have a challenge as they compete with
established players which will fuel a new wave of
innovation in the market place.
Mobile, Internet and Social Media will drive a lot of
interest in the future as banks strive for that extra edge
in making their customer engagement more intimate,
retain them longer and get them to do most of their
transactions via non-traditional channels.
What are some of the global and local best practices
that the new entrants should consider, especially in
the areas of governance, risk and compliance?
At Oracle, we have a large and diverse customer base
in the FSI Industry globally and in India. We have
worked as the technology partner successful private
banks such as HDFC Bank and Yes Bank and also a
number of Financial Inclusion Institutions; this gives us
a defined perspective to appreciate changes in this
sector. These changes are taking shape through
multiple parameters, from demographic changes in
various countries and geographies, to the level of
technology adoption in various markets. For example,
Jibun Bank, a new bank in Japan has built an
unprecedented model by designing a mobile virtual
bank that gives its user- financial institution open for
business anytime, anywhere on the move.
In emerging markets, banks are focusing on moving a
large part of the parallel economy into the legal
economy. The growth driver lies simply in regularizing
In conversation with Chet Kamat,
Chief Executive Officer & Managing Director,
Oracle Financial Services Software Ltd.
August 20, 2013
6
Oracle has a compelling
value proposition for new
bank licensees, because
we can bring together
the entire technology
stack in a pre-integrated
fashion that substantially
reduces time to market
for them.
Interview
the system. Banks in most part of Asia are looking at
leveraging technology uniquely in order to meet the
constraints they face in the marketplace. In mature
markets like Europe, banks are facing a unique
situation of an aging and shrinking population. They
are over-banked, the costs are high and hence banks
are looking for technology to lower their operational
costs. Besides these regional trends, there is the
evolution of mobile and internet, which is pushing
innovation, and there is the continuous pressure from
regulatory changes that is driving change in banks
operations.
In India, we have a fairly robust regulatory
environment which has for decades seen a robust and
healthy banking environment. As the drive for
expanding the banking customer base widens to
newer segments, these will bring their own intrinsic
risks. Such as, onboarding the unbanked segment
means that banks will have to evolve new practices in
KYC and credit evaluation. As banks expand into new
medium like social media and explore the boundaries
of possibilities with mobile technologies, security and
privacy risks will need to be managed and last but not
least, these are challenging times for the economy,
and the entire banking sector will need to pay special
attention to market risks.
How will the new entrants be able to leverage
technology to compete effectively with the
entrenched players?
In the last couple of decades, technology has brought
standardized processing capabilities across banks.
Now, one can set up a bank anywhere; bankers can
have an everyday complete view of the status with
their customers and counterparts on an on-going,
real time basis.
New entrants have multiple choices that will help
them take on the challenge of competing against
incumbents head on and carve out a differentiated
position. They can opt to enter in either the retail
banking or the corporate banking space. Within the
corporate banking domain, they can start with
specialized and niche services like payments, trade
finance etc. Their preference will depend on their
long-term plans for growth and diversification.
The retail banking model on the other side is also
going to be very interesting. With a stipulated
mandate to have 25% of all branches in rural markets,
the new banks will have to innovate to gain the
competitive edge particularly as they will face stiff
competition from incumbents in the urban markets.
They will need to leverage technology to keep their
costs down, bring in unique products and value added
services to differentiate themselves and use the
different channels of Internet, mobile and others in
ways that have not been done yet. This is where Oracle
has a compelling value proposition for new bank
licensees, because we can bring together the entire
technology stack in a pre-integrated fashion that
substantially reduces time to market for them.
What should new banks do to build an
infrastructure that is capable of serving the
financial inclusion aspirations of the regulator and
government?
Financial inclusion is a crucial element of sustainable
growth. However, there are few obstacles that banks
will have to overcome. Sustainable growth is not
possible without having commitment for financial
inclusion and ensuring that the unbanked get banked.
In the next few years a lot of young people from the
350-400 million odd middle class section in India will
make the workforce. They will have innumerable
options in terms of investments. How will you get them
included in the banking sector and invest in the right
areas? Technology is the key here that will help in
increasing social mobility and smooth delivery of
banking technologies and products. Also, the
engagement level with your stakeholders who are so
many today- customers, market, regulators and
employees is important. It's great that today
everything is mobile driven, however, how do you get
more and more products and services through that
platform is the challenge to be resolved. Oracle with its
range of innovative products and services is catering to
the technical needs in this space.
Oracle's technology relieves the key pressure points in
services. It integrates a solid, secure foundation
technology foundation with the adaptability and
extensibility to meet changing market conditions.
Indian companies have global aspirations and are
actively looking to enter global markets, either through
organic or inorganic routes. Oracle technologies are
simpler, help them integrate their businesses as
quickly as possible and work as a single system.
7
LICENSING PROCESS: LIKELY TIMELINES
The process of licensing new banks in the private sector at RBI began on July 1, 2013,
by which date all applicants were to submit their formal applications in the specified
format. As announced by the RBI, 26 applications have been received from applicants
from varied backgrounds like Government sector, large corporate houses, well
established NBFCs, micro finance institutions, financial advisory services etc. In order to
ensure the smooth processing of these applications, RBI has set up a “New Banks Cell”
consisting of a small group of officers and staff, within its Department of Banking
Operations and Development (DBOD) at its Central Office in Mumbai.
The RBI guidelines specify that since banking is a highly leveraged business, licenses
shall be issued on a very selective basis to those who conform to the stipulated
requirements, have an impeccable track record and are likely to conform to the best
international and domestic standards of customer service and efficiency. Therefore, it
may not be possible for RBI to issue licenses to all the applicants meeting the eligibility
criteria prescribed. The process of licensing the new banks by RBI could therefore turn
out to be one of elimination rather than selection.
At the first stage, the applications would be screened by RBI to ensure prima facie
eligibility of the applicants. RBI may apply additional criteria to determine the suitability
of applications, in addition to the ‘fit and proper’ criteria prescribed in its guidelines.
Given the fact that there are 26 applicants and a humungous amount of information
(pertaining to the last 10 years of operations) submitted by each applicant and
assuming that it could, on an average, take at 3-4 working days to analyze each
application, it could be estimated that it could take around 20 weeks for the initial
screening of applications to be completed.
Added to the initial screening, in cases where the applicant groups are large diversified
corporates or include companies that are regulated by other regulators, RBI would be
seeking such feedback from these other regulators on these companies, as it deems
appropriate. Therefore, the preliminary screening by RBI could in likelihood, be
completed by December 2013.
8
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
Expected Licensing Timelines
9
Once it completes its initial screening process, the applications would be referred to a
High Level Advisory Committee headed by Bimal Jalan, ex-Governor, RBI. The RBI
guidelines allow for the High Level Advisory Committee to set up its own procedures for
screening the applications. The Committee would reserve the right to call for more
information as well as have discussions with any of the applicant/s and seek
clarification on any issue as may be required by it. The Committee would thereafter
submit its recommendations to RBI for consideration, which is expected to be any time
between January 2014 and April 2014.
On receipt of the recommendations from the High Level Advisory Committee, the final
decision to issue an in-principle approval for setting up of a bank would be taken by
RBI and the proposed bank applicant/s would be informed accordingly. Bearing in mind
that the completion of these formalities at RBI could take an additional 4 to 6 weeks,
the in-principle approvals are likely to be issued between April 2014 and June 2014.
The validity of the in-principle approval issued by RBI would be eighteen months from
the date of its granting the in-principle approval and would thereafter lapse
automatically, should the proposed bank not commence operations by then. Therefore,
the bank would need to be set up within eighteen months of RBI granting the applicant,
its in-principle approval.
Even after issue of the in-principle approval for setting up of a bank, the RBI guidelines
stipulate that if any adverse features are noticed regarding the Promoters or the
companies/entities with which the Promoters are associated and the Group in which
they have interest, RBI may impose additional conditions and if warranted, it may
withdraw the in-principle approval.
Assuming the amount of time it may require the approved applicants to set up the bank,
one would hope to see banks commencing operations from any time between
September 2015 and December 2015.
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
10
IMPLEMENTATION OF THE RBI GUIDELINES: IMPLICATIONS AND IMPACT
Financial Inclusion and Priority Sector Lending
An important consideration for the approval of bank license will be the regulator’s
perception of the commitment from applicants to serve the unbanked rural areas in the
country. Given that 25% branches will have to be located in hitherto unbanked areas,
this is expected to have a significant bearing on the way applicants set up their business
models. This hurdle will prove to be a significant challenge especially for those
applicants who already have branches in developed areas, as they will have to take a
decision on adding one additional branch in an unbanked area for every four existing
branches in developed areas. The resultant capital and manpower required, and the
expected return on investment thereon, will determine whether applicants from this
category actually increase their existing branch network, or in fact, optimize it in order
to meet the guidelines.
Achieving the 40 per cent priority-sector lending targets (comprising agriculture,
micro-small-medium enterprises, education, housing and export credit) at par with
established banks within the mandated three years, combined with the fulfillment of
statutory reserve requirements that include placing 4% deposits with the RBI and
holding 23% in government bonds will place heavy demands on profitability and capital.
This will substantially lengthen the time taken for an applicant to establish a serious
presence. Infrastructure finance companies with large existing loan portfolios that have
little or no prior presence in the required sectors are likely to find the target most
challenging. These strict conditions imply that profitability for the new banks is likely to
be limited until they secure a strong foothold.
Implications for NBFCs
For applicants running an existing NBFC business, the move away from their core
competencies and well-managed operations into new businesses and unfamiliar risks
with additional regulatory hurdles may put pressure on their capital. They will have a
challenge meeting the CRR, SLR and priority sector requirements from the first day of
operations since they already have assets in the form of advances and investments.
Moreover, they would need low cost Current Account Saving Account (CASA) deposits as
matching liabilities since bank funding would have to be repaid (banks cannot borrow
from other banks). Since all lending has to necessarily happen from within the bank,
those NBFCs that have an infrastructure financing company would have a challenge
meeting the asset-liability mismatch once the infrastructure advances are taken into the
bank’s balance sheet. The other significant implication for would be the huge
provisioning norms for non-performing assets and re-structured accounts, which
would be a burden on capital as well as the CRAR.
Legal and Regulatory Issues
Corporate groups, NBFCs and public sector entities can set up a bank only through a
wholly-owned non-operative financial holding company (NOFHC). The NOFHC,
registered as an NBFC, will hold the bank and other financial services entities of the
promoter group. The objective is that the holding company should ring-fence the
regulated financial services entities of the group, including the bank, from other
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
11
activities of the group. However, it remains to be seen how the legal and regulatory
issues of such a structure are straightened out, for e.g. the Insurance Regulatory and
Development Authority (IRDA) does not allow insurance companies under the umbrella
of the financial holding company.
Implications on Investment
As per the guidelines, the new banks are likely to need to invest in new systems and
processes to manage new asset risks. The transformation of existing franchises will be
slow, as most will have to start from scratch. Applicants who are already established
NBFCs and have presence across various financial services, will be better placed to
switch to bank status, though with the challenges outlined earlier. Considerably large
investments will be required in information technology, systems, human resources and
real estate, the returns from which will need time to fructify. Information technology (IT)
companies, automated teller machine (ATM) vendors and real estate agencies are
expected to gain substantially with the entry of new banks.
Market Impact
New entrants are unlikely to increase competition in the short to medium term because
of the additional profitability pressure from their expansion plans and the financial
inclusion conditions imposed by the regulator. The 10-year gap since the last round of
new banking licenses means that existing operators are well entrenched, especially in
urban markets. The cost of funds will be a significant hurdle, as deposits from current
and savings accounts (CASA) will not be easy. Existing banks, such as Kotak Mahindra
Bank and Yes Bank, still offer the highest interest rates on CASA, though they have been
in existence for 10 years. The entire banking sector, including new licensees, will have
to raise huge sums in Tier-I capital over the next four years to meet Basel III norms. That
means an expansion of capital base, including equity, which in theory should reduce
valuations. FPO and debenture issues will be successful only if floated by institutions
with good reputations and strong balance sheets.
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
12
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
THE WAY FORWARD FOR SUCCESSFUL APPLICANTS
“I was ecstatic to have finally achieved my goal......only to realize that my journey had
just begun....”
The grant of the coveted ‘in-principle’ banking license by RBI to any one of the 26
applicants will only be the first step towards setting up of the bank. What follows for the
applicant is a tedious and procedural maze of completing formalities and obtaining
permissions (Annexure 2). The importance of the period between obtaining the in-
principle license up to actually being awarded the license can be gauged from the fact
that RBI has unilaterally extended this period from twelve months to eighteen months.
It is during this period that the successful applicant would actually demonstrate its
capability to create the necessary infrastructure for setting up the bank.
With RBI stating that any non-compliance will attract penal measures including
cancellation of license, the period after receiving the in-principle license is one where
applicants will require having in place an intricate and detailed time-bound
implementation plan.
Constituting a Project Implementation Group
An immediate requirement for guiding the process of setting up the bank after receiving
the in-principle license would be the setting up a Project Implementation Group. This
group would typically consist of specialists with necessary expertise in areas like retail
and wholesale banking, regulatory compliance, secretarial, systems, information
technology, treasury, taxation, rural, macro-economics etc. Applicants may also
consider appointing external consultants to lend support and bring in the necessary
professionalism to the final outcome. However, as the requirements and business model
of each applicant are likely to be different, it should be ensured that the external
consultants’ advice is customized and dovetailed to the business plan. The group would
also benefit by familiarizing itself with the regulatory and supervisory structure of the
RBI and the impact of various existing and upcoming regulations across various
departments of the bank.
Business Plan Implementation
The RBI Guidelines have very categorically stipulated that the business plan submitted
by the applicant should be granular, realistic and viable. The business plan also needs
to address how the bank proposes to achieve financial inclusion. In case of any deviation
from the stated business plan after issue of the banking license, the regulator could
consider restricting the bank’s expansion, effecting a change in the bank’s management
and/or imposing other penal measures as it may deem necessary. It is therefore
imperative that all aspects within the business plan, whether it is sectoral focus, branch
network or rural coverage, are executed in all earnest by the applicant on being granted
the banking license. Also, as the banking business is highly susceptible to external
factors in the economy like interest rates, foreign currency rates and inflation, the
proposed bank will have to continuously keep track of such macro-economic scenarios
to ensure viability and currency of its business plan. The performance of the bank in
terms of achieving its stated business plans will continue to be monitored by the RBI
well after the bank has been awarded its banking license, and the proposed bank would
be well-served by religiously adhering to the plan.
13
Information Technology
Banking today has become increasingly technology-driven, and given the volume of
transactions in the Indian context, virtually every aspect of a bank is now based on
technology. In fact, technology in the banking sector has been helping to deliver
financial services with greater efficiency and affordable costs, without compromising on
levels of safety, security and reliability. The RBI guidelines have stipulated that the
proposed bank would need to operate on a Core Banking System platform from the
beginning, along with all modern infrastructural facilities for all banking operations
including treasury, trade finance, corporate banking, retail banking and wealth
management. This would involve considerable planning and investment by the
proposed bank depending on its business plan, branch network, financial inclusion plan
and staffing strategy. In addition to technology, skilled staff with cross domain
expertise will be required for effective technology implementation especially in complex
and data-intensive areas such as analyzing transactional data for financial modeling
and risk management under the Basel framework and transaction monitoring and
reporting under the Prevention of Money Laundering Act.
Besides, RBI guidelines in the recent past have required the extensive use of technology
to improve efficiency and productivity, in its various projects like Automated Data Flow
(ADF) of regulatory reporting from the bank to RBI, Cheque Truncation System (CTS),
and other platforms for ensuring accurate and timely payment and settlements, trading
platforms, financial inclusion driven technology etc. Hence, before the proposed bank
embarks on its Information Technology strategy, it would be well served by updating
itself on the RBI thinking in this regard which has been articulated in the RBI Vision
Documents on IT Systems (2011-17) and Payment Systems in India (2012-15). Also, an
RBI Working Group had, in January 2011, recommended enhancing guidelines relating
to governance of IT and information security measures to tackle cyber fraud apart from
enhancing independent assurance about the effectiveness of IT controls.
Talent Acquisition
Banking is a process of two way intermediation, with the receiving of funds on one hand
and their adequate and remunerative deployment on the other. Irrespective of the fact
that the promoters of the new bank may have been involved in financial services in the
past, the functioning of a bank requires specialized knowledge and skill. Hence, in order
to ensure smooth banking operations, it is a pre-requisite that adequate thought and
planning are involved in acquiring and attracting the appropriate human talent to the
bank. A practical road block for the talent acquisition process for the proposed bank
could be the appropriate timeline for initiating the hiring process. The identified people,
especially those at the top level, may be hesitant to commit or come on board unless
the bank receives its in-principle approval. On the other hand, if the process of hiring
is initiated only after receiving the in-principle license from RBI, a valuable period of
time from the allotted eighteen months for setting up the bank would be lost.
Defining the Risk Appetite
Risk governance demands a holistic approach and risk appreciation needs to start at the
top. A strengthened management information system (MIS) supported by robust
information technology platform is therefore a necessary pre-condition for enhancing
board-level efficiency in oversight and decision making for the bank. In addition to
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
14
prescribing a risk appetite for the bank, the board also needs to lay down the
appropriate risk strategy and ensure that this is institutionalized throughout the bank.
This would entail aligning risk management processes with the overall business
strategy, clearly defining the roles and responsibilities down the hierarchy, establishing
accountability and reinforcing change with communication and training.
Customer Engagement
A steep rise in customer expectations has been evident over the years across financial
services and new bank aspirants will have to give deep thought to ways in which they
should heighten customer experience, especially at a retail level, vis-à-vis the
competition. While investing in the right technology to enable seamless customer
relationship management is almost a given, efforts will have to be channeled towards
ensuring that the new bank addresses the opportunities and challenges provided by a
rising digital-savvy population, especially in the area of mobile banking services.
Corporate Governance
The RBI guidelines have, at more than one instance, laid great emphasis on the
corporate governance it expects from the proposed banks. This emphasis and concern
by RBI stems from the fact that it expects the management of the bank to be adequately
skilled and trustworthy enough to manage the bank in an efficient manner. The
guidelines hence contain several safeguards in the form of prescribing demanding
criteria for the corporate structure and fit and proper criteria for the promoters. The
guidelines also aim to ensure appropriate corporate governance by stipulating that the
board should consist of a majority of independent directors. Ensuring good corporate
governance positions the bank as trustworthy and ensures that both, the regulator and
the bank customer, have the necessary confidence in its operations. Good corporate
governance, to begin with, can be ensured by identifying persons with integrity as well
as the appropriate knowledge and experience being appointed as independent
directors, who could be a part of the various internal committees of the bank where they
could lend their expertise to further add value.
There has to be a realization that no amount of regulation can be a substitute for board-
level governance. Therefore, while effective regulation furthers corporate governance in
the bank, effective corporate governance ensures that the objectives of the regulation
are met, with minimal regulatory intervention.
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
15
STRATEGIC RECOMMENDATIONS
Time-Bound Implementation Plan
With the RBI stipulating an eighteen-month period for the proposed bank to put the
necessary infrastructure in place to commence banking business and to demonstrate its
capability to do so, it would be an understatement to say that having a practical and
time-bound plan of action will be of utmost importance. This would include the various
regulatory and operational activities that need to be completed within this period within
the appropriate individual timelines, as well as assigning the responsibility of
completion of each of these activities to respective individuals with the Project
Implementation Group. Deciding on the appropriate business activity for the ‘in-
between period’ between receiving the in-principle approval till the final bank license
will be key to the success of the implementation plan.
Re-Organizing the Existing Financial Business
In the case of those promoters who already have an existing line of financial business
that would subsequently merge into the new bank, the dilemma during the eighteen-
month period would be the extent and type of business they would like to continue with,
given the implications it could have on the proposed bank’s balance sheet, on its
merger. There could also be concerns surrounding asset quality and provisioning
requirements upon merger and promoters need to think about this seriously. Similarly,
the existing financial businesses would need to take business decisions on expansion
plans, recruitment of fresh talent, brand recognition, acquisitions etc during this period,
and at times, may need to sacrifice short term gains in the interest of the new bank.
They would also need to guard against any adverse operational risk events in their
financial businesses during this period that could have an adverse implication on the
proposed bank. The re-organization of business and transfer of assets and liabilities to
the new bank from the existing financial entity is a process that needs to be done
diligently and demands great attention to its impact on capital and regulatory
requirements of the new bank.
Financial Inclusion is Key
With the RBI guidelines stipulating in no uncertain terms that the new bank has to
achieve specific performance and coverage levels in unbanked rural centers, there needs
to be in place a viable and more importantly - believable - plan by the proposed bank
to ensure financial inclusion. An appropriate starting point in the new bank’s financial
inclusion strategy would be to look at this as a business opportunity and not as a social
obligation. The new bank needs to adopt a sustained approach towards financial
inclusion by focusing not just on improving access to financial services but ensuring
continuous and increased usage of banking services through appropriate financial
literacy initiatives. While the adoption of innovative business models and delivery
channels to expand financial inclusion is important, leveraging information technology
will be key to financial inclusion, as it will enable attaining greater reach and penetration
of providing financial services at an optimum cost.
Learning from Peers
A distinct advantage that the new banks are likely to have is the luxury to learn from
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
16
the achievements and pitfalls of existing banks in India and globally. Especially in
specific areas like risk management, financial inclusion and information technology,
new banks could well learn from the best practices adopted by more mature banks, with
the caveat that they should guard against blindly aping a practice or procedure being
applied by another bank without understanding the implications on its own operations,
capital and profitability.
Constant Communication with the Regulator
Banking is one of the most heavily regulated financial services activities globally. In the
aftermath of the global financial crisis, regulators have been seen to be in overdrive
mode, not just for introducing new and more complex regulations, but also in actively
reviewing existing regulations. In such a scenario, not only does the new bank need to
keep track of the evolving regulations, it would also need to quickly interpret and
disseminate the new guidelines across the bank. The bank could also keep an eye on
evolving regulatory policies of global standard setting and regulatory bodies, as more
often than not, with time these translate into local regulations. Given that the new bank
licensee is unlikely to have the necessary experience at a deep level at the early stages
to completely comprehend regulatory policies, it must make an endeavour to be in
constant and regular communication with the regulator. While this would no doubt
considerably ease overcoming teething trouble for setting up the bank, it would also
help convey to the regulator the sincerity and sense of purpose of the bank. In addition,
regular interaction with the regulator would also help the proposed bank understand
the various hurdles being faced by other new banks during their setup phase.
CONCLUSION
Though banking is often seen as a glamorous form of financial services, a successful
bank is one that believes in performing the routine banking functions and transactions,
over and over again, in an efficient and error-free manner.
Banking is primarily a business of ‘trust’. No bank can succeed over a long period, if it
does not have the trust of its depositors and borrowers. Among the various risks that a
bank is exposed to, reputational risk is the one that could harm even a financially sound
bank. Hence, while the new banks would need to use the eighteen month period after
being awarded the in-principle license by RBI to set up the necessary infrastructure for
the bank, they would do well to keep in mind during this intermittent period, to also
build trust, comfort, security and customer loyalty for themselves.
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
17
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
18
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
19
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
20
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
21
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
22
Licensing of New Banks in the Indian Private Sector:Implications and Recommendations
ANNEXURE 2
Basic Formalities to be Completed for Setting Up Banking Business
i. Applying to DBOD, RBI for initiation of the process for inclusion of the name of the proposed bank in the second schedule tothe RBI Act 1934.
ii. Approval from DBOD, RBI for the appointment of the Chairman, Managing Director and other Executive Directors of theproposed bank.
iii. Formation of mandatory committees as stipulated by RBI from time to time.
iv. Framing of important policies by the bank relating to investment, credit, risk management, branch network, outsourcing,compliance, customer service, record maintenance etc.
v. Authorized Dealer (AD) license from RBI to deal in foreign exchange.
vi. Obtaining a three digit bank code, BSR code and AD code from the Department of Statistics and Information Management (DSIM)at RBI.
vii. Membership from the Deposit Insurance and Credit Guarantee Corporation (DICGC).
viii. Opening a Current Account with the Deposit Accounts Department (DAD) at RBI.
ix. Process involving opening of a Subsidiary General Ledger (SGL) Account with the Public Debt Office (PDO) at the concernedregional office of RBI.
x. Obtaining membership to the Negotiated Dealing Settlement (NDS) from the concerned PDO at RBI.
xi. Membership of the Clearing Corporation of India Limited (CCIL) for various segments of trading (Government Securities, ForeignExchange, COBOL etc).
xii. Approval from IDRBT for membership and connectivity of the Indian Financial Network (INFINET).
xiii. Registering for a user name and password from RBI for its Online Filing and Reporting System (OFRS) to submit regulatoryreturns online.
xiv. Obtaining the necessary software from various departments in RBI (DBOD, DBS, FED, RPCD, DSIM etc) for online filing ofreturns..
xv. Gaining membership of the Clearing House at RBI.
xvi. Applying to the RBI for availing of the facilities of Payment and Settlement Systems like RTGS, NEFT, ECS etc.
xvii. Approval from the Department of Banking Supervision (DBS) at RBI for the appointment of Statutory Auditors. Thereafterappointing the Statutory Auditors.
xviii. No Objection Certificate from RBI for connectivity to / operating of SWIFT.
xix. Obtaining membership of Foreign Exchange Dealers Association (FEDAI) and Fixed Income and Money Market DealersAssociation (FIMMDA).
xx. Applying for membership to SROs like the Indian Banks’ Association (IBA), Banking Codes and Standards Board of India (BCSBI),Indian Institute of Banking and Finance (IIBF) etc.
xxi. Obtaining approvals from RBI for setting up the Aggregate Gap Limit (AGL) and Net Open Position Limit.
xxii. Obtaining approval from RBI for dealing in Cross Currency Operations (if any).
Some Important Guidelines - Statutory, Regulatory and Prudential
a. Maintenance of a Statutory Liquidity Ratio (SLR).
b. Maintenance of a Cash Reserve Ratio (CRR).
c. Maintenance of Capital to Risk Weighted Assets Ratio (CRAR).
d. Exposure norms for single/group borrower and Capital Market (direct as well as indirect.
e. Lending to Priority Sector.
f. Notification of Base Rate.
g. Guidelines on Risk Management and Capital Adequacy and Market Discipline - New Capital Adequacy Framework (NCAF) - BaselII/III.
h. Know Your Customer (KYC) norms / Anti-Money Laundering (AML) standards/ Combating of Financing of Terrorism (CFT)/Obligation of banks under PMLA 2002.
i. Guidelines on Branch Authorization as per Section 23 of the Banking Regulation Act, 1949.
j. Guidelines pertaining to the implementation of the Foreign Exchange Management Act, 1999 (FEMA).
k. Guidelines on Outsourcing of Financial Services.
l. Guidelines on Currency Management - operation of currency chests, exchange of notes and coins and detection and impounding
of counterfeit notes.
m. Operative guidelines on payment and settlement transactions.
n. Guidelines on Customer Service in banks.
o. Setting up the Compliance Function in the bank.