Monday September 10, 01:50 AM
Red signal on Mint Road
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By Sourav Majumdar
Slip sliding away; slip sliding away You know the nearer your destination, the more you slip sliding away... - Paul Simon (Slip Sliding Away) These lines are perhaps best suited to describe what the private sector ICICI Bank is going through as far as its ambitious plan to set up a holding company for its investments in asset management and insurance is concerned. On August 27, the Reserve Bank of India (RBI) put out a discussion paper on "Holding Companies in Banking Groups", setting out the central bank's reasoning on holding company structures being put up by groups engaged in banking. The message in the RBI move was not difficult to miss: RBI was making it clear that it would need to have the final word on the kind of structure which is eventually set up. In effect, ICICI Bank, whose holding company plan had just cleared one hurdle at the Foreign Investment Promotion Board (FIPB), suffered a major blow by way of the RBI discussion paper. The paper clearly plumps for a structure different from ICICI Bank's. While the bank has planned to promote a subsidiary - an intermediate holding company called ICICI Financial Services - and is seeking to transfer the asset management and insurance business investments there, RBI has made it clear that it prefers a different structure, that of either a bank holding company (BHC) model, or a financial holding company (FHC) model. Worse, the RBI paper makes it amply clear that it does not favour intermediate holding company structures. "...It will be desirable to avoid intermediate holding company structures," the RBI paper notes, rather unambiguously. ICICI Bank had already begun discussions with potential investors to sell 5.9% of the holding firm's stake for about Rs 2,600 crore, valuing the new holding firm at a hefty $11 billion. And typically, the markets are also keenly watching these developments in order to set a clear valuation to the ICICI Bank stock. RBI's latest move has obviously upset all this. It's, however, not only ICICI Bank which will have to go through the RBI proposals seriously. The country's largest bank, State Bank of India (SBI), has also been mulling a holding company for its insurance and asset management businesses. The day after RBI put out the discussion paper, the stocks of both ICICI Bank and SBI fell on the bourses, as investors fretted about the future of their holding company plans. As banks diversify and enter newer areas in their bid to turn into one-stop financial conglomerates, RBI's paper - once it is converted into regulations - will become the norm for how such banking entities structure their holding firms for other businesses. The RBI paper, which discusses several global models prevalent for such holding companies, says there are essentially two major forms of such companies. One is the BHC model and the other, the FHC model. Under the BHC model, BHCs are companies which own or control one or more banks. In the US, these BHCs are regulated by the Federal Reserve, and these companies make limited investments in the non-banking space. FHCs, on the other hand, are companies that own one or more banks and also non-bank financial companies. In the US, for instance, such FHCs were created by the Gramm-Leach-Bliley Act as a means of expanding the financial services activities of BHCs. FHCs, under this dispensation, can engage in activities other than banking as long as they are financial in nature, the RBI discussion paper points out. The RBI paper also lists out what the key motivations for setting up such BHCs/FHCs could be for Indian companies. One obvious benefit, according to the central bank, is to free up more capital for the non-banking businesses. Under extant norms, a bank's aggregate investment in financial services companies including subsidiaries is limited to 20% of the paid up capital and reserves of the bank. In a BHC/FHC structure, this restriction would no longer apply as the investment in subsidiaries and associates will be made directly by the BHC/FHC and not by the bank. "Once the subsidiaries are separated from the banks, their growth of the subsidiaries/associates would not be constrained on account of capital," the RBI paper says. Besides, it says the contagion and reputation risk on account of the affiliates would be less severe for the bank since the non-banking entities would be directly owned by the BHC/FHC and not by the bank. Clearly, the ICICI Bank model has set the RBI thinking. Though there is no official word from the central bank on the ICICI model and its implications (in fact, RBI officials say it will consider the feedback on its paper and only then formulate the final policy), unofficially the feeling in some sections of the central bank appears to be that the private sector bank has put the cart before the horse, and has gone ahead and decided on a structure even before full consultations with the regulator. Sensing the mood, ICICI Bank officials are tightlipped about the entire issue, and say they will articulate their views to RBI when they give their feedback on the discussion paper. But those supporting the ICICI Bank structure say RBI's concerns on regulating structures like the one proposed by ICICI Bank may not entirely be justified. For instance, the RBI paper clearly spells out: "Governments and financial sector regulators have always been concerned about the multilayering of a corporate structure through a web of special purpose entities and intermediate holding companies. Particularly, the bank supervisors have viewed them as an impediment to effective supervision. The problem of regulators becomes accentuated if the intermediate companies do not fall within their regulatory ambit." However, sources backing the ICICI plan say the bank will register the new company as a non-banking financial services company (NBFC) and hence, it will clearly fall under RBI supervision. "There is no question of RBI not supervising it. In fact, it will be very much under the central bank's regulatory purview," a source tracking these events says. In fact, the proponents of an intermediate holding company structure also say the bank will de-risk itself by this move, since the company will fund the fresh investments into insurance and asset management by raising its own funds. "Isn't it better to raise its own capital and invest in these businesses, rather than the bank funding it? Where is the problem then?" asks a source. ICICI Bank's three other investments - ICICI Prudential Asset Management and the two insurance companies ICICI Prudential Life Insurance and ICICI Lombard General Insurance are important, growing businesses. The insurance businesses, going forward, will need to be capitalised further to fund the growth pace. SBI, on the other hand, has not formulated its own public stance on the matter. Quizzed about the RBI note, top SBI officials say there is no finality on the bank's move and capital is not a problem for the asset management and insurance businesses. "But I think we will go with whatever the regulator decides," says one SBI official, on the condition of anonymity. The RBI note, in fact, recognises that it won't be easy for state-run banks to conform to a BHC/FHC model. But it says: "In the context of public sector banks, the government holding through a BHC/FHC will not be possible in the existing statutes. However, if the statutes are amended to count for effective holding then, the most important advantage in shifting to a BHC/FHC model would be that the capital requirements of banks' subsidiaries would be delinked from the banks' capital." However, it's not as if all private sector banks are opposing the RBI move either just because ICICI Bank is affected. Says the chairman of a new generation private sector bank: "What RBI is proposing is to bring in best practices in this area. In Europe and the US, the holding companies own the banks and the financial services companies too. Besides, any other holding company structure may lead to some entities sidestepping foreign direct investment (FDI) norms." He also adds another dimension: "Even as the RBI is seeking to put in place cleaner structures, it should take note of some smaller banks where there are layers of companies and subsidiaries." Proponents of the intermediate structure like the one ICICI Bank plans say it would take years for a bank like ICICI to move to a BHC/FHC structure, and therefore, at least in the interim, the intermediate holding structure should not be rejected totally. The Indian Banks' Association (IBA), after discussing the issue with the banks, too feels similarly. Even while it welcomed the RBI paper, IBA feels an interim arrangement should be allowed for banks by which they can set up intermediate holding firms before eventually moving to a BHC/FHC structure as desired by RBI. IBA's HN Sinor feels the intermediate structure would allow banks to fund the growth of their non-banking businesses and RBI should allow such structures. Going by the example of the norms put out by RBI earlier on ownership and management of private sector banks, the banking sector, however, isn't expecting miracles once RBI receives feedback and forms the final policy on holding structures. However, the expectation most bankers have is that RBI may, after taking note of the banks' problems, allow intermediate holding firms as an interim arrangement, giving banks like ICICI Bank a time-frame for eventually moving to a BHC/FHC structure. How the drama eventually plays out could very well hold the key to the banks' future plans, as well as the way the stockmarkets view them.
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