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Mumbai: Asset management companies (AMCs) and insurance firms are devising plans to corner

some of the Rs8,000 crore worth of Unit Scheme ’64, or US-64, bonds that are coming up for
redemption on 31 May.
While UTI Asset Management Co. Pvt. Ltd, the AMC for UTI Mutual Fund, has laid out an aggressive
incentive package for its distributors and independent financial advisers to bring in investments,
some rival firms are openly targeting US-64 bond investors.
These bonds were issued to investors in 2003 in lieu of units held in Unit Scheme ’64, the first
mutual fund scheme in the country, after its original issuer Unit Trust of India (UTI) crumbled under
the burden of assured-return schemes.
In 2003, as part of a restructuring exercise at erstwhile UTI (which was broken into two—Specified
Undertaking of Unit Trust of India and UTI Mutual Fund), redemption in the scheme was suspended
and investments were converted into a five-year bond, carrying 6.75% interest.
Following the restructuring, a large number of UTI schemes were transferred to UTI AMC. This is
now India’s third largest AMC, managing assets worth Rs48,983 crore as on 31 March, behind
Reliance Capital Asset Management and ICICI Prudential Asset Management Co. Ltd.
Under the UTI AMC offer, investors who wish to transfer the money to existing UTI schemes have to
apply before 30 April. Investors holding up to 200 bonds don’t need to surrender their bond
certificates, as the proceeds will be directly credited to their accounts. Others need to submit the
bond certificates before 25 May. These bonds were trading on the National Stock Exchange till 23
April.
If any distributor or an independent adviser of UTI AMC manages to convert Rs10 lakh worth of US-
64 bonds into any of the UTI’s existing schemes, he will be awarded a 5g gold coin, the value of
which could be around Rs5,000-6,000 at present. The incentive goes up to 40g of gold for
conversion of Rs50 lakh worth of bonds. Those who manage to convert Rs60 lakh will be entitled to
a ticket to Italy, and those who bring Rs1 crore or more will get two tickets.
It’s been a common practice in the industry to offer incentives to distributors in various ways. AMCs
either pay it from their own pockets or through an entry load which is levied on the investors when
they invest in the fund.
“A lot of US-64 bond investors have been asking us for advice as to how they can re-invest the
proceeds from the bonds. So, we sent out a communication to them and recommended some of our
top performing schemes as an alternate avenue,” said Jaideep Bhattacharya, chief marketing officer
at UTI AMC.
The AMC has also put in place a dedicated team to address queries of US-64 bond investors through
a call centre, mobile phones and email.
SBI Funds Management Pvt. Ltd, the country’s sixth largest AMC, is also targeting the proceeds. The
company released advertisements in newspapers inviting US-64 bond holders to invest in one of its
schemes, Magnum Balanced Fund, which invests in both bonds and stocks.
According to industry sources, agents of a few insurance companies are also approaching the US-64
bond holders for converting the proceeds into insurance schemes.
“It’s dream money for any AMC as the typical US-64 investor used to invest and forget,” said
Dhirendra Kumar, chief executive of Value Research India Pvt. Ltd, a New Delhi-based firm that
tracks mutual funds.
However, some AMCs have a different view. “We are not targeting US-64 bond holders specifically,
because that group doesn’t have a homogenous set of investors who have similar investment
needs. If these investors are keen on investing in our funds, they will come anyway,” said Sanjay
Santhanam, director for sales and marketing, Canara Robeco Asset Management Co. Ltd.
Anil Kumar, chief executive officer at Birla Sun Life Asset Management Co. Ltd, also said his
company doesn’t plan to target US-64 bond holders. “We have a product and marketing calendar
whereby we look forward to launch new products or target new customers. We do not have specific
plan to target this segment.”

Guidelines on Ownership and Governance in Private Sector Banks

Introduction

Banks are "special" as they not only accept and deploy large amount of uncollateralized public
funds in fiduciary capacity, but they also leverage such funds through credit creation. The banks
are also important for smooth functioning of the payment system. In view of the above, legal
prescriptions for ownership and governance of banks laid down in Banking Regulation Act, 1949
have been supplemented by regulatory prescriptions issued by RBI from time to time. The
existing legal framework and significant current practices in particular cover the following aspects:

i. The composition of Board of Directors comprising members with demonstrable professional and
other experience in specific sectors like agriculture, rural economy, co-operation, SSI, law, etc.,
approval of Reserve Bank of India for appointment of CEO as well as terms and conditions
thereof, and powers for removal of managerial personnel, CEO and directors, etc. in the interest
of depositors are governed by various sections of the B.R. Act, 1949.

ii. Guidelines on corporate governance covering criteria for appointment of directors, role and
responsibilities of directors and the Board, signing of declaration and undertaking by directors,
etc., were issued by RBI on June 20, 2002 and June 25, 2004, based on the recommendations of
Ganguly Committee and a review by the BFS.

iii. Guidelines for acknowledgement of transfer/allotment of shares in private sector banks were
issued in the interest of transparency by RBI on February 3, 2004.

iv. Foreign investment in the banking sector is governed by Press Note dated March 5, 2004
issued by the Government of India, Ministry of Commerce and Industries.

v. The earlier practice of RBI nominating directors on the Boards of all private sector banks has
yielded place to such nomination in select private sector banks.

2. Against this background, it is considered necessary to lay down a comprehensive framework of


policy in a transparent manner relating to ownership and governance in the Indian private sector
banks as described below.

3. The broad principles underlying the framework of policy relating to ownership and governance
of private sector banks would have to ensure that

(i) The ultimate ownership and control of private sector banks is well diversified. While diversified
ownership minimises the risk of misuse or imprudent use of leveraged funds, it is no substitute for
effective regulation. Further, the fit and proper criteria, on a continuing basis, has to be the over-
riding consideration in the path of ensuring adequate investments, appropriate restructuring and
consolidation in the banking sector. The pursuit of the goal of diversified ownership will take
account of these basic objectives, in a systematic manner and the process will be spread over
time as appropriate.
(ii) Important Shareholders (i.e., shareholding of 5 per cent and above) are ‘fit and proper’, as laid
down in the guidelines dated February 3, 2004 on acknowledgement for allotment and transfer of
shares.

(iii) The directors and the CEO who manage the affairs of the bank are ‘fit and proper’ as
indicated in circular dated June 25, 2004 and observe sound corporate governance principles.

(iv) Private sector banks have minimum capital/net worth for optimal operations and systemic
stability.

(v) The policy and the processes are transparent and fair.

4. Minimum capital

The capital requirement of existing private sector banks should be on par with the entry capital
requirement for new private sector banks prescribed in RBI guidelines of January 3, 2001, which
is initially Rs.200 crore, with a commitment to increase to Rs.300 crore within three years. In
order to meet with this requirement, all banks in private sector should have a net worth of Rs.300
crore at all times. The banks which are yet to achieve the required level of net worth will have to
submit a time-bound programme for capital augmentation to RBI. Where the net worth declines to
a level below Rs.300 crore, it should be restored to Rs. 300 crore within a reasonable time.

5. Shareholding

i. The RBI guidelines on acknowledgement for acquisition or transfer of shares issued on


February 3, 2004 will be applicable for any acquisition of shares of 5 per cent and above of the
paid up capital of the private sector bank.

ii. In the interest of diversified ownership of banks, the objective will be to ensure that no single
entity or group of related entities has shareholding or control, directly or indirectly, in any bank in
excess of 10 per cent of the paid up capital of the private sector bank. Any higher level of
acquisition will be with the prior approval of RBI and in accordance with the guidelines of
February 3, 2004 for grant of acknowledgement for acquisition of shares.

iii. Where ownership is that of a corporate entity, the objective will be to ensure that no single
individual/entity has ownership and control in excess of 10 per cent of that entity. Where the
ownership is that of a financial entity the objective will be to ensure that it is a well established
regulated entity, widely held, publicly listed and enjoys good standing in the financial community.

iv, Banks (including foreign banks having branch presence in India)/FIs should not acquire any
fresh stake in a bank’s equity shares, if by such acquisition, the investing bank’s/FI’s holding
exceeds 5 per cent of the investee bank’s equity capital as indicated in RBI circular dated July 6,
2004.

v. As per existing policy, large industrial houses will be allowed to acquire, by way of strategic
investment, shares not exceeding 10 per cent of the paid up capital of the bank subject to RBI’s
prior approval. Furthermore, such a limitation will also be considered if appropriate, in regard to
important shareholders with other commercial affiliations.

vi. In case of restructuring of problem/weak banks or in the interest of consolidation in the banking
sector, RBI may permit a higher level of shareholding, including by a bank.

6. Directors and Corporate Governance


i. The recommendations of the Ganguly Committee on corporate governance in banks have
highlighted the role envisaged for the Board of Directors. The Board of Directors should ensure
that the responsibilities of directors are well defined and the banks should arrange need-based
training for the directors in this regard. While the respective entities should perform the roles
envisaged for them, private sector banks will be required to ensure that the directors on their
Boards representing specific sectors as provided under the B.R. Act, are indeed representatives
of those sectors in a demonstrable fashion, they fulfil the criteria under corporate governance
norms provided by the Ganguly Committee and they also fulfil the criteria applicable for
determining ‘fit and proper’ status of Important Shareholders (i.e., shareholding of 5 per cent and
above) as laid down in RBI Circular dated June 25, 2004.

ii. As a matter of desirable practice, not more than one member of a family or a close relative (as
defined under Section 6 of the Companies Act, 1956) or an associate (partner, employee,
director, etc.) should be on the Board of a bank.

iii. Guidelines have been provided in respect of 'Fit and Proper' criteria for directors of banks by
RBI circular dated June 25, 2004 in accordance with the recommendations of the Ganguly
Committee on Corporate Governance. For this purpose a declaration and undertaking is required
to be obtained from the proposed / existing directors

iv. Being a Director, the CEO should satisfy the requirements of the ‘fit and proper’ criteria
applicable for directors. In addition, RBI may apply any additional requirements for the Chairman
and CEO. The banks will be required to provide all information that may be required while making
an application to RBI for approval of appointment of Chairman/CEO.

7. Foreign investment in private sector banks

In terms of the Government of India press note of March 5, 2004, the aggregate foreign
investment in private banks from all sources (FDI, FII, NRI) cannot exceed 74 per cent. At all
times, at least 26 per cent of the paid up capital of the private sector banks will have to be held by
resident Indians.

7.1 Foreign Direct Investment (FDI) (other than by foreign banks or foreign bank group)

i. The policy already articulated in the February 3, 2004 guidelines for determining ‘fit and proper’
status of shareholding of 5 per cent and above will be equally applicable for FDI. Hence any FDI
in private banks where shareholding reaches and exceeds 5 per cent either individually or as a
group will have to comply with the criteria indicated in the aforesaid guidelines and get RBI
acknowledgement for transfer of shares.

ii. To enable assessment of ‘fit and proper’ the information on ownership/beneficial ownership as
well as other relevant aspects will be extensive.

7.2 Foreign Institutional Investors (FIIs)

i. Currently there is a limit of 10 per cent for individual FII investment with the aggregate limit for
all FIIs restricted to 24 per cent which can be raised to 49 per cent with the approval of
Board/General Body. This dispensation will continue.

ii. The present policy requires RBI’s acknowledgement for acquisition/transfer of shares of 5 per
cent and more of a private sector bank by FIIs based upon the policy guidelines on
acknowledgement of acquisition/transfer of shares issued on February 3, 2004. For this purpose
RBI may seek certification from the concerned FII of all beneficial interest.
7.3 Non-Resident Indians (NRIs)

Currently there is a limit of 5 per cent for individual NRI portfolio investment with the aggregate
limit for all NRIs restricted to 10 per cent which can be raised to 24 per cent with the approval of
Board/General Body. Further, the policy guidelines of February 3, 2004 on acknowledgement for
acquisition/transfer will be applied.

8. Due diligence process

The process of due diligence in all cases of shareholders and directors as above, will involve
reference to the relevant regulator, revenue authorities, investigation agencies and independent
credit reference agencies as considered appropriate.

9. Transition arrangements

i. The current minimum capital requirements for entry of new banks is Rs.200 crore to be
increased to Rs.300 crore within three years of commencement of business. A few private sector
banks which have been in existence before these capital requirements were prescribed have less
than Rs.200 crore net worth. In the interest of having sufficient minimum size for financial stability,
all the existing private banks should also be able to fulfil the minimum net worth requirement of
Rs.300 crore required for a new entry. Hence any bank with net worth below this level will be
required to submit a time bound programme for capital augmentation to RBI for approval.

ii. Where any existing shareholding of any individual entity/group of entities is 5 per cent and
above, due diligence outlined in the February 3, 2004 guidelines will be undertaken to ensure
fulfilment of ‘fit and proper’ criteria.

iii. Where any existing shareholding by any individual entity/group of related entities is in excess
of 10 per cent, the bank will be required to indicate a time table for reduction of holding to the
permissible level. While considering such cases, RBI will also take into account the terms and
conditions of the banking licences.

iv. Any bank having shareholding in excess of 5 per cent in any other bank in India will be
required to indicate a time bound plan for reduction in such investments to the permissible limit.
The parent of any foreign bank having presence in India, having shareholding directly or indirectly
through any other entity in the banking group in excess of 5 per cent in any other bank in India
will be similarly required to indicate a time bound plan for reduction of such holding to 5 per cent.

v. Banks will be required to undertake due diligence before appointment of directors and
Chairman/CEO on the basis of criteria that will be separately indicated and provide all the
necessary certifications/information to RBI.

vi. Banks having more than one member of a family, or close relatives or associates on the Board
will be required to ensure compliance with these requirements at the time of considering any
induction or renewal of terms of such directors.

vii. Action plans submitted by private sector banks outlining the milestones for compliance with
the various requirements for ownership and governance will be examined by RBI for
consideration and approval.

10. Continuous monitoring arrangements

i. Where RBI acknowledgement has alread


Guidelines on Ownership and Governance in Private Sector Banks

Introduction

Banks are "special" as they not only accept and deploy large amount of uncollateralized public
funds in fiduciary capacity, but they also leverage such funds through credit creation. The banks
are also important for smooth functioning of the payment system. In view of the above, legal
prescriptions for ownership and governance of banks laid down in Banking Regulation Act, 1949
have been supplemented by regulatory prescriptions issued by RBI from time to time. The
existing legal framework and significant current practices in particular cover the following aspects:

i. The composition of Board of Directors comprising members with demonstrable professional and
other experience in specific sectors like agriculture, rural economy, co-operation, SSI, law, etc.,
approval of Reserve Bank of India for appointment of CEO as well as terms and conditions
thereof, and powers for removal of managerial personnel, CEO and directors, etc. in the interest
of depositors are governed by various sections of the B.R. Act, 1949.

ii. Guidelines on corporate governance covering criteria for appointment of directors, role and
responsibilities of directors and the Board, signing of declaration and undertaking by directors,
etc., were issued by RBI on June 20, 2002 and June 25, 2004, based on the recommendations of
Ganguly Committee and a review by the BFS.

iii. Guidelines for acknowledgement of transfer/allotment of shares in private sector banks were
issued in the interest of transparency by RBI on February 3, 2004.

iv. Foreign investment in the banking sector is governed by Press Note dated March 5, 2004
issued by the Government of India, Ministry of Commerce and Industries.

v. The earlier practice of RBI nominating directors on the Boards of all private sector banks has
yielded place to such nomination in select private sector banks.

2. Against this background, it is considered necessary to lay down a comprehensive framework of


policy in a transparent manner relating to ownership and governance in the Indian private sector
banks as described below.

3. The broad principles underlying the framework of policy relating to ownership and governance
of private sector banks would have to ensure that

(i) The ultimate ownership and control of private sector banks is well diversified. While diversified
ownership minimises the risk of misuse or imprudent use of leveraged funds, it is no substitute for
effective regulation. Further, the fit and proper criteria, on a continuing basis, has to be the over-
riding consideration in the path of ensuring adequate investments, appropriate restructuring and
consolidation in the banking sector. The pursuit of the goal of diversified ownership will take
account of these basic objectives, in a systematic manner and the process will be spread over
time as appropriate.

(ii) Important Shareholders (i.e., shareholding of 5 per cent and above) are ‘fit and proper’, as laid
down in the guidelines dated February 3, 2004 on acknowledgement for allotment and transfer of
shares.

(iii) The directors and the CEO who manage the affairs of the bank are ‘fit and proper’ as
indicated in circular dated June 25, 2004 and observe sound corporate governance principles.
(iv) Private sector banks have minimum capital/net worth for optimal operations and systemic
stability.

(v) The policy and the processes are transparent and fair.

4. Minimum capital

The capital requirement of existing private sector banks should be on par with the entry capital
requirement for new private sector banks prescribed in RBI guidelines of January 3, 2001, which
is initially Rs.200 crore, with a commitment to increase to Rs.300 crore within three years. In
order to meet with this requirement, all banks in private sector should have a net worth of Rs.300
crore at all times. The banks which are yet to achieve the required level of net worth will have to
submit a time-bound programme for capital augmentation to RBI. Where the net worth declines to
a level below Rs.300 crore, it should be restored to Rs. 300 crore within a reasonable time.

5. Shareholding

i. The RBI guidelines on acknowledgement for acquisition or transfer of shares issued on


February 3, 2004 will be applicable for any acquisition of shares of 5 per cent and above of the
paid up capital of the private sector bank.

ii. In the interest of diversified ownership of banks, the objective will be to ensure that no single
entity or group of related entities has shareholding or control, directly or indirectly, in any bank in
excess of 10 per cent of the paid up capital of the private sector bank. Any higher level of
acquisition will be with the prior approval of RBI and in accordance with the guidelines of
February 3, 2004 for grant of acknowledgement for acquisition of shares.

iii. Where ownership is that of a corporate entity, the objective will be to ensure that no single
individual/entity has ownership and control in excess of 10 per cent of that entity. Where the
ownership is that of a financial entity the objective will be to ensure that it is a well established
regulated entity, widely held, publicly listed and enjoys good standing in the financial community.

iv, Banks (including foreign banks having branch presence in India)/FIs should not acquire any
fresh stake in a bank’s equity shares, if by such acquisition, the investing bank’s/FI’s holding
exceeds 5 per cent of the investee bank’s equity capital as indicated in RBI circular dated July 6,
2004.

v. As per existing policy, large industrial houses will be allowed to acquire, by way of strategic
investment, shares not exceeding 10 per cent of the paid up capital of the bank subject to RBI’s
prior approval. Furthermore, such a limitation will also be considered if appropriate, in regard to
important shareholders with other commercial affiliations.

vi. In case of restructuring of problem/weak banks or in the interest of consolidation in the banking
sector, RBI may permit a higher level of shareholding, including by a bank.

6. Directors and Corporate Governance

i. The recommendations of the Ganguly Committee on corporate governance in banks have


highlighted the role envisaged for the Board of Directors. The Board of Directors should ensure
that the responsibilities of directors are well defined and the banks should arrange need-based
training for the directors in this regard. While the respective entities should perform the roles
envisaged for them, private sector banks will be required to ensure that the directors on their
Boards representing specific sectors as provided under the B.R. Act, are indeed representatives
of those sectors in a demonstrable fashion, they fulfil the criteria under corporate governance
norms provided by the Ganguly Committee and they also fulfil the criteria applicable for
determining ‘fit and proper’ status of Important Shareholders (i.e., shareholding of 5 per cent and
above) as laid down in RBI Circular dated June 25, 2004.

ii. As a matter of desirable practice, not more than one member of a family or a close relative (as
defined under Section 6 of the Companies Act, 1956) or an associate (partner, employee,
director, etc.) should be on the Board of a bank.

iii. Guidelines have been provided in respect of 'Fit and Proper' criteria for directors of banks by
RBI circular dated June 25, 2004 in accordance with the recommendations of the Ganguly
Committee on Corporate Governance. For this purpose a declaration and undertaking is required
to be obtained from the proposed / existing directors

iv. Being a Director, the CEO should satisfy the requirements of the ‘fit and proper’ criteria
applicable for directors. In addition, RBI may apply any additional requirements for the Chairman
and CEO. The banks will be required to provide all information that may be required while making
an application to RBI for approval of appointment of Chairman/CEO.

7. Foreign investment in private sector banks

In terms of the Government of India press note of March 5, 2004, the aggregate foreign
investment in private banks from all sources (FDI, FII, NRI) cannot exceed 74 per cent. At all
times, at least 26 per cent of the paid up capital of the private sector banks will have to be held by
resident Indians.

7.1 Foreign Direct Investment (FDI) (other than by foreign banks or foreign bank group)

i. The policy already articulated in the February 3, 2004 guidelines for determining ‘fit and proper’
status of shareholding of 5 per cent and above will be equally applicable for FDI. Hence any FDI
in private banks where shareholding reaches and exceeds 5 per cent either individually or as a
group will have to comply with the criteria indicated in the aforesaid guidelines and get RBI
acknowledgement for transfer of shares.

ii. To enable assessment of ‘fit and proper’ the information on ownership/beneficial ownership as
well as other relevant aspects will be extensive.

7.2 Foreign Institutional Investors (FIIs)

i. Currently there is a limit of 10 per cent for individual FII investment with the aggregate limit for
all FIIs restricted to 24 per cent which can be raised to 49 per cent with the approval of
Board/General Body. This dispensation will continue.

ii. The present policy requires RBI’s acknowledgement for acquisition/transfer of shares of 5 per
cent and more of a private sector bank by FIIs based upon the policy guidelines on
acknowledgement of acquisition/transfer of shares issued on February 3, 2004. For this purpose
RBI may seek certification from the concerned FII of all beneficial interest.

7.3 Non-Resident Indians (NRIs)

Currently there is a limit of 5 per cent for individual NRI portfolio investment with the aggregate
limit for all NRIs restricted to 10 per cent which can be raised to 24 per cent with the approval of
Board/General Body. Further, the policy guidelines of February 3, 2004 on acknowledgement for
acquisition/transfer will be applied.

8. Due diligence process

The process of due diligence in all cases of shareholders and directors as above, will involve
reference to the relevant regulator, revenue authorities, investigation agencies and independent
credit reference agencies as considered appropriate.

9. Transition arrangements

i. The current minimum capital requirements for entry of new banks is Rs.200 crore to be
increased to Rs.300 crore within three years of commencement of business. A few private sector
banks which have been in existence before these capital requirements were prescribed have less
than Rs.200 crore net worth. In the interest of having sufficient minimum size for financial stability,
all the existing private banks should also be able to fulfil the minimum net worth requirement of
Rs.300 crore required for a new entry. Hence any bank with net worth below this level will be
required to submit a time bound programme for capital augmentation to RBI for approval.

ii. Where any existing shareholding of any individual entity/group of entities is 5 per cent and
above, due diligence outlined in the February 3, 2004 guidelines will be undertaken to ensure
fulfilment of ‘fit and proper’ criteria.

iii. Where any existing shareholding by any individual entity/group of related entities is in excess
of 10 per cent, the bank will be required to indicate a time table for reduction of holding to the
permissible level. While considering such cases, RBI will also take into account the terms and
conditions of the banking licences.

iv. Any bank having shareholding in excess of 5 per cent in any other bank in India will be
required to indicate a time bound plan for reduction in such investments to the permissible limit.
The parent of any foreign bank having presence in India, having shareholding directly or indirectly
through any other entity in the banking group in excess of 5 per cent in any other bank in India
will be similarly required to indicate a time bound plan for reduction of such holding to 5 per cent.

v. Banks will be required to undertake due diligence before appointment of directors and
Chairman/CEO on the basis of criteria that will be separately indicated and provide all the
necessary certifications/information to RBI.

vi. Banks having more than one member of a family, or close relatives or associates on the Board
will be required to ensure compliance with these requirements at the time of considering any
induction or renewal of terms of such directors.

vii. Action plans submitted by private sector banks outlining the milestones for compliance with
the various requirements for ownership and governance will be examined by RBI for
consideration and approval.

10. Continuous monitoring arrangements

i. Where RBI acknowledgement has alread


Guidelines on Ownership and Governance in Private Sector Banks

Introduction

Banks are "special" as they not only accept and deploy large amount of uncollateralized public
funds in fiduciary capacity, but they also leverage such funds through credit creation. The banks
are also important for smooth functioning of the payment system. In view of the above, legal
prescriptions for ownership and governance of banks laid down in Banking Regulation Act, 1949
have been supplemented by regulatory prescriptions issued by RBI from time to time. The
existing legal framework and significant current practices in particular cover the following aspects:

i. The composition of Board of Directors comprising members with demonstrable professional and
other experience in specific sectors like agriculture, rural economy, co-operation, SSI, law, etc.,
approval of Reserve Bank of India for appointment of CEO as well as terms and conditions
thereof, and powers for removal of managerial personnel, CEO and directors, etc. in the interest
of depositors are governed by various sections of the B.R. Act, 1949.

ii. Guidelines on corporate governance covering criteria for appointment of directors, role and
responsibilities of directors and the Board, signing of declaration and undertaking by directors,
etc., were issued by RBI on June 20, 2002 and June 25, 2004, based on the recommendations of
Ganguly Committee and a review by the BFS.

iii. Guidelines for acknowledgement of transfer/allotment of shares in private sector banks were
issued in the interest of transparency by RBI on February 3, 2004.

iv. Foreign investment in the banking sector is governed by Press Note dated March 5, 2004
issued by the Government of India, Ministry of Commerce and Industries.

v. The earlier practice of RBI nominating directors on the Boards of all private sector banks has
yielded place to such nomination in select private sector banks.

2. Against this background, it is considered necessary to lay down a comprehensive framework of


policy in a transparent manner relating to ownership and governance in the Indian private sector
banks as described below.

3. The broad principles underlying the framework of policy relating to ownership and governance
of private sector banks would have to ensure that

(i) The ultimate ownership and control of private sector banks is well diversified. While diversified
ownership minimises the risk of misuse or imprudent use of leveraged funds, it is no substitute for
effective regulation. Further, the fit and proper criteria, on a continuing basis, has to be the over-
riding consideration in the path of ensuring adequate investments, appropriate restructuring and
consolidation in the banking sector. The pursuit of the goal of diversified ownership will take
account of these basic objectives, in a systematic manner and the process will be spread over
time as appropriate.

(ii) Important Shareholders (i.e., shareholding of 5 per cent and above) are ‘fit and proper’, as laid
down in the guidelines dated February 3, 2004 on acknowledgement for allotment and transfer of
shares.

(iii) The directors and the CEO who manage the affairs of the bank are ‘fit and proper’ as
indicated in circular dated June 25, 2004 and observe sound corporate governance principles.
(iv) Private sector banks have minimum capital/net worth for optimal operations and systemic
stability.

(v) The policy and the processes are transparent and fair.

4. Minimum capital

The capital requirement of existing private sector banks should be on par with the entry capital
requirement for new private sector banks prescribed in RBI guidelines of January 3, 2001, which
is initially Rs.200 crore, with a commitment to increase to Rs.300 crore within three years. In
order to meet with this requirement, all banks in private sector should have a net worth of Rs.300
crore at all times. The banks which are yet to achieve the required level of net worth will have to
submit a time-bound programme for capital augmentation to RBI. Where the net worth declines to
a level below Rs.300 crore, it should be restored to Rs. 300 crore within a reasonable time.

5. Shareholding

i. The RBI guidelines on acknowledgement for acquisition or transfer of shares issued on


February 3, 2004 will be applicable for any acquisition of shares of 5 per cent and above of the
paid up capital of the private sector bank.

ii. In the interest of diversified ownership of banks, the objective will be to ensure that no single
entity or group of related entities has shareholding or control, directly or indirectly, in any bank in
excess of 10 per cent of the paid up capital of the private sector bank. Any higher level of
acquisition will be with the prior approval of RBI and in accordance with the guidelines of
February 3, 2004 for grant of acknowledgement for acquisition of shares.

iii. Where ownership is that of a corporate entity, the objective will be to ensure that no single
individual/entity has ownership and control in excess of 10 per cent of that entity. Where the
ownership is that of a financial entity the objective will be to ensure that it is a well established
regulated entity, widely held, publicly listed and enjoys good standing in the financial community.

iv, Banks (including foreign banks having branch presence in India)/FIs should not acquire any
fresh stake in a bank’s equity shares, if by such acquisition, the investing bank’s/FI’s holding
exceeds 5 per cent of the investee bank’s equity capital as indicated in RBI circular dated July 6,
2004.

v. As per existing policy, large industrial houses will be allowed to acquire, by way of strategic
investment, shares not exceeding 10 per cent of the paid up capital of the bank subject to RBI’s
prior approval. Furthermore, such a limitation will also be considered if appropriate, in regard to
important shareholders with other commercial affiliations.

vi. In case of restructuring of problem/weak banks or in the interest of consolidation in the banking
sector, RBI may permit a higher level of shareholding, including by a bank.

6. Directors and Corporate Governance

i. The recommendations of the Ganguly Committee on corporate governance in banks have


highlighted the role envisaged for the Board of Directors. The Board of Directors should ensure
that the responsibilities of directors are well defined and the banks should arrange need-based
training for the directors in this regard. While the respective entities should perform the roles
envisaged for them, private sector banks will be required to ensure that the directors on their
Boards representing specific sectors as provided under the B.R. Act, are indeed representatives
of those sectors in a demonstrable fashion, they fulfil the criteria under corporate governance
norms provided by the Ganguly Committee and they also fulfil the criteria applicable for
determining ‘fit and proper’ status of Important Shareholders (i.e., shareholding of 5 per cent and
above) as laid down in RBI Circular dated June 25, 2004.

ii. As a matter of desirable practice, not more than one member of a family or a close relative (as
defined under Section 6 of the Companies Act, 1956) or an associate (partner, employee,
director, etc.) should be on the Board of a bank.

iii. Guidelines have been provided in respect of 'Fit and Proper' criteria for directors of banks by
RBI circular dated June 25, 2004 in accordance with the recommendations of the Ganguly
Committee on Corporate Governance. For this purpose a declaration and undertaking is required
to be obtained from the proposed / existing directors

iv. Being a Director, the CEO should satisfy the requirements of the ‘fit and proper’ criteria
applicable for directors. In addition, RBI may apply any additional requirements for the Chairman
and CEO. The banks will be required to provide all information that may be required while making
an application to RBI for approval of appointment of Chairman/CEO.

7. Foreign investment in private sector banks

In terms of the Government of India press note of March 5, 2004, the aggregate foreign
investment in private banks from all sources (FDI, FII, NRI) cannot exceed 74 per cent. At all
times, at least 26 per cent of the paid up capital of the private sector banks will have to be held by
resident Indians.

7.1 Foreign Direct Investment (FDI) (other than by foreign banks or foreign bank group)

i. The policy already articulated in the February 3, 2004 guidelines for determining ‘fit and proper’
status of shareholding of 5 per cent and above will be equally applicable for FDI. Hence any FDI
in private banks where shareholding reaches and exceeds 5 per cent either individually or as a
group will have to comply with the criteria indicated in the aforesaid guidelines and get RBI
acknowledgement for transfer of shares.

ii. To enable assessment of ‘fit and proper’ the information on ownership/beneficial ownership as
well as other relevant aspects will be extensive.

7.2 Foreign Institutional Investors (FIIs)

i. Currently there is a limit of 10 per cent for individual FII investment with the aggregate limit for
all FIIs restricted to 24 per cent which can be raised to 49 per cent with the approval of
Board/General Body. This dispensation will continue.

ii. The present policy requires RBI’s acknowledgement for acquisition/transfer of shares of 5 per
cent and more of a private sector bank by FIIs based upon the policy guidelines on
acknowledgement of acquisition/transfer of shares issued on February 3, 2004. For this purpose
RBI may seek certification from the concerned FII of all beneficial interest.

7.3 Non-Resident Indians (NRIs)

Currently there is a limit of 5 per cent for individual NRI portfolio investment with the aggregate
limit for all NRIs restricted to 10 per cent which can be raised to 24 per cent with the approval of
Board/General Body. Further, the policy guidelines of February 3, 2004 on acknowledgement for
acquisition/transfer will be applied.

8. Due diligence process

The process of due diligence in all cases of shareholders and directors as above, will involve
reference to the relevant regulator, revenue authorities, investigation agencies and independent
credit reference agencies as considered appropriate.

9. Transition arrangements

i. The current minimum capital requirements for entry of new banks is Rs.200 crore to be
increased to Rs.300 crore within three years of commencement of business. A few private sector
banks which have been in existence before these capital requirements were prescribed have less
than Rs.200 crore net worth. In the interest of having sufficient minimum size for financial stability,
all the existing private banks should also be able to fulfil the minimum net worth requirement of
Rs.300 crore required for a new entry. Hence any bank with net worth below this level will be
required to submit a time bound programme for capital augmentation to RBI for approval.

ii. Where any existing shareholding of any individual entity/group of entities is 5 per cent and
above, due diligence outlined in the February 3, 2004 guidelines will be undertaken to ensure
fulfilment of ‘fit and proper’ criteria.

iii. Where any existing shareholding by any individual entity/group of related entities is in excess
of 10 per cent, the bank will be required to indicate a time table for reduction of holding to the
permissible level. While considering such cases, RBI will also take into account the terms and
conditions of the banking licences.

iv. Any bank having shareholding in excess of 5 per cent in any other bank in India will be
required to indicate a time bound plan for reduction in such investments to the permissible limit.
The parent of any foreign bank having presence in India, having shareholding directly or indirectly
through any other entity in the banking group in excess of 5 per cent in any other bank in India
will be similarly required to indicate a time bound plan for reduction of such holding to 5 per cent.

v. Banks will be required to undertake due diligence before appointment of directors and
Chairman/CEO on the basis of criteria that will be separately indicated and provide all the
necessary certifications/information to RBI.

vi. Banks having more than one member of a family, or close relatives or associates on the Board
will be required to ensure compliance with these requirements at the time of considering any
induction or renewal of terms of such directors.

vii. Action plans submitted by private sector banks outlining the milestones for compliance with
the various requirements for ownership and governance will be examined by RBI for
consideration and approval.

10. Continuous monitoring arrangements

i. Where RBI acknowledgement has alread


Guidelines for rehabilitation of sick
small scale industrial units

The Reserve Bank of India, in November 2000, had constituted the Working Group on
Rehabilitation of Sick SSI units, under the Chairmanship of Shri S.S. Kohli, Chairman,
Indian Banks’ Association, to review the existing guidelines in regard to rehabilitation of
sick Small Scale units and to recommend the revision of the guidelines for rehabilitation
of current sick and potentially viable SSI units, making them transparent and non-
discretionary. Reserve Bank of India has accepted all the major recommendations of the
Group.

2. Enclosed is a complete set of revised guidelines, with regard to rehabilitation of sick


units in the SSI sector with specific reference to definition of sick SSI units, its
monitoring, viability norms, incipient sickness, as also, reliefs and concessions from
banks/financial institutions in the case of potentially viable units. The emphasis of the
rehabilitation effort in case of SSI units is on early detection of signs of incipient
sickness, adequate and intensive relief measures and their speedy application rather than
giving a long span of time to the units for rehabilitation. Accordingly, revised guidelines
and important changes vis-a-vis existing guidelines are detailed in Annexures I and II
respectively. This set of revised guidelines will supersede all our earlier circulars and
guidelines laid down in connection with rehabilitation of SSI units.

3. We need hardly emphasize that timely and adequate assistance to potentially viable
SSI units which have already become sick or are likely to become sick is of the utmost
importance not only from the point of view of the financing banks but also for the
improvement of the national economy, in view of the sector’s contribution to the overall
industrial production, exports and employment generation. The banks should, therefore,
take a sympathetic attitude and strive for rehabilitation, in respect of units in the SSI
sector, particularly wherever the sickness is on account of circumstances beyond the
control of the entrepreneurs. Banks are also advised to take a pro-active stance in
providing timely assistance for rehabilitation of small scale units, which are affected by
the industrial down turn and delays in payments against supplies made by them to large
scale and other units.
4. In the case of units which are not capable of revival, banks should try for a
settlement and/or resort to other recovery measures expeditiously.

5. It may be noted that the enclosed guidelines are applicable to industrial units which
were being financed by the bank before they turned into sick units. We reiterate that
UCBs are not expected to take over financing of sick industrial units, particularly, those
financed by commercial banks earlier, in view of the risks involved.

6. Please acknowledge receipt to the concerned Regional Office.

Yours faithfully,

(Sudarshan Sen)
General Manager
ANNEXURE - I

GENERAL GUIDELINES FOR


REHABILITATION OF SICK SSI UNITS

Incipient Sickness
1. It is of utmost importance to take measures to ensure that sickness is arrested at
the incipient stage itself. The branch/bank officials should keep a close watch on the
operations in the account and take adequate measures to achieve this objective. The
managements of the units financed should be advised about their primary responsibility
to inform the banks if they face problems which could lead to sickness and to restore the
units to normal health. The organizational arrangements at branch level should also be
fully geared for early detection of sickness and prompt remedial action. Banks/Financial
Institutions will have to identify the units showing symptoms of sickness by effective
monitoring and provide additional finance, if warranted, so as to bring back the units to a
healthy track. An illustrative list of warning signals of incipient sickness that are thrown
up during the scrutiny of borrowal accounts and other related records e.g. periodical
financial data, stock statements, reports on inspection of factory premises and godowns,
etc. is given in Appendix-I which will serve as a useful guide to the operating personnel.
Further, the system of asset classification introduced in banks will be useful for detecting
advances, which are deteriorating in quality, well in time. When an advance slips into the
sub-standard category, as per norms, the branch/bank should make full enquiry into the
financial health of the unit, its operations, etc. and take remedial action. The bank/branch
officials who are familiar with the day-to-day operations in the borrowal accounts should
be under obligation to identify the early warning signals and initiate corrective steps
promptly. Such steps may include providing timely financial assistance depending on
established need, if it is within the powers of the branch manager, and an early reference
to the controlling office where the relief required are beyond his delegated powers. The
branch/bank manager may also help the unit, in sorting out difficulties which are non-
financial in nature and require assistance from outside agencies like Government
departments / undertakings, Electricity Boards, etc. He should also keep the term lending
institutions informed about the position of the units wherever they are also involved.

2. Definition of Sick SSI Unit


An SSI unit should be considered 'Sick' if

a) any of the borrowal accounts of the unit remains substandard for more than six
months i.e. principal or interest, in respect of any of its borrowal accounts has remained
overdue for a period exceeding one year. The requirement of overdue period exceeding
one year will remain unchanged even if the present period for classification of an account
as sub-standard, is reduced in due course;

or

b) there is erosion in the net worth due to accumulated cash losses to the extent
of 50 per cent of its net worth during the previous accounting year;
and

c) the unit has been in commercial production for at least two years.

This would enable banks to take action at an early stage for revival of the units. For the
purpose of formulating nursing programme, banks should go by the above definition with
immediate effect.

3. Viability of Sick SSI Units

A unit may be regarded as potentially viable if it would be in a position, after


implementing a relief package spread over a period not exceeding five years from the
commencement of the package from banks, financial institutions, Government ( Central /
State ) and other concerned agencies, as may be necessary, to continue to service its
repayment obligations as agreed upon

including those forming part of the package, without the help of the concessions after the
aforesaid period. The repayment period for restructured (past) debts should not exceed
seven years from the date of implementation of the package. In the case of
tiny/decentralised sector units, the period of reliefs/concessions and repayment period of
restructured debts which were hitherto, two years and three years respectively have been
revised, so as not to exceed five and seven years respectively, as in the case of other SSI
units. Based on the norms specified above, it will be for the banks/financial institutions to
decide whether a sick SSI unit is potentially viable or not. Viability of a unit identified as
sick, should be decided quickly and made known to the unit and others concerned at the
earliest. The rehabilitation package should be fully implemented within six months from
the date the unit is declared as 'potentially viable' / 'viable'. While identifying and
implementing the rehabilitation package, banks/FIs are advised to do ‘holding operation'
for a period of six months. This will allow small-scale units to draw funds from the cash
credit account at least to the extent of their deposit of sale proceeds during the period of
such ‘holding operation'.

4. Reliefs and Concessions for


Rehabilitation of Potentially Viable Units

It is emphasised that only those units which are considered to be potentially viable should
be taken up for rehabilitation. The reliefs and concessions specified are not to be given
in a routine manner and have to be decided by

concerned bank/financial institution based on the commercial judgment and merits of


each case. Banks have also the freedom to extend reliefs and concessions beyond the
parameters in deserving cases. Only in exceptional cases, concessions/ reliefs beyond the
parameters should be considered. In fact, the viability study itself should contain a
sensitivity analysis in respect of the risks involved that in turn will enable firming up of
the corrective action matrix. Norms for grant of reliefs and concessions by
banks/financial institutions to potentially viable sick SSI units for rehabilitation are
furnished in Appendix-II.

5. Units becoming sick on account of wilful mismanagement, wilful default,


unauthorized diversion of funds, disputes among partners / promoters, etc. should not be
considered for rehabilitation and steps should be taken for recovery of bank’s dues. The
definition of wilful default, will broadly cover the following:

a) Deliberate non-payment of the dues despite adequate cash flow and


good networth.
b) Siphoning off of funds to the detriment of the defaulting unit.
c) Assets financed have either not been purchased or have been sold and
proceeds have be

RBI Guidelines to Securitisation and Asset Reconstruction Companies

By Vinod Kothari

On 23rd , 2003, nearly 11 months after the SARFAESI law came into effect and nearly 1
month after a ridiculous deadline for making application for registration, the RBI brought
into force guidelines relating to securitisation and asset reconstruction companies.

Unsurprisingly, the muddling up of securitisation and asset reconstruction activities


became all the more evident in the Guidelines as the RBI said the same company could
take up both asset reconstruction and securitisation activities - so, one would have
securitisation and asset reconstruction companies (SARCs) in the country.

In all, there are 6 notifications or circulars that bring the regulatory framework for
SARCs into place. Together, these guidelines define the net worth and capital adequacy
requirements for SARCs, provide for NPA recognition and consequent provisioning for
the SARCs, and quite significantly, define the norms for transfer of assets by banks to the
SARCs.

SARC (Reserve Bank's) Guidelines and Directions:

Under various provisions of the SARFAESI Act, the RBI has issued the 2003 Guidelines
and Directions. Precision of language is not a great virtue with lot many draftsman these
days, but one is intrigued by the dual words "guidelines" and "directions". Obvious to a
layman, directions implies something which is mandatory, while guidelines are a guide to
good conduct, but not necessary mandatory. Sec. 12 of the Act empowers the RBI to give
directions - guidelines, being merely for guidance or help, does not need a statutory
power as such. Thus, the use of the words "guidelines" and "directions" would fox all
those who are more careful about words and want to tell those parts of the said
Guidelines and Directions which are mandatory from those that are not. For example,
Rule 7 which goes into the niceties of operations of an ARC and prescribes biblical rules
of good behavior (thou shall be a good boy) is more like a guideline than a direction.

The most curious exception to the scope of the Directions is that most of the operative
part of the Directions applies to a direct acquisition of assets by a SARC, but does not
apply only if such assets are held as a trustee for a trust. To fall outside the discipline of
the Directions, all that the SARC has to do is to settle a trust, be a trustee to such trust,
and acquire assets as a trustee. So, the obvious question is: what is it that would motivate
a SARC from holding any of the financial assets it acquires directly? So, if everyone will
choose the easy way out anyway, what is the relevance of the Directions, if at all?

Another, and even more curious, provision is in para 4 (iii) of the Directions which says:
" Any entity not registered with the Bank under Section 3 of the Act may conduct the
business of securitisation or asset reconstruction outside the purview of the Act." Section
3 of the parent law clearly puts a bar on a business of securitisation and asset
reconstruction without being registered with the RBI. Of course, the words
"securitisation" and "asset reconstruction" only relate to certain assets under that law - for
instance, they relate to assets of a bank originator. So, quite obviously, the provisions of
the Act do not apply if someone were to securitise assets of a non-banking originator. But
if the Directions, where the meaning of the words "securitisation" or "asset
reconstruction" could not be different from what it is under the Act, say that business of
securitisation or asset reconstruction can be carried outside the purview of the Act, it
defies the very purpose of the mandatory nature of sec. 3 of the Act. By settled rule, a
subordinate instrument cannot travel beyond the parent law: therefore, sec. 3 should
remain unaffected by Rule 4 (iii) of the Directions and the latter should be simply read
down.

Modes of acquiring assets:

The Directions seem to be suggesting that securitisation transactions will be done by


acquiring assets in the name of trusts to be settled by the SARC. In the Book we have
discussed at length the nature of a trust - the trust is not an entity; the trustee is. So, it is
the SARC which is the entity. The Directions seem to be suggesting that the SARC will
first buy the assets and then transfer the same to the trust - this does not literally make
sense because the trust is, in fact, nothing but the SARC itself. Instead of first acquiring
assets as a beneficial owner, and then declaring trust, the SARC might acquire assets as a
trustee in the first place.

The security receipts will be created by the trust (that is, by the trustee, in capacity as
trustee). We have also discussed at length in the Book that the word "security receipts"
has a flawed definition in the Act and that there is no bar on the SARC from issuing any
other type of security as well.

The only new provision relating to security receipts in the Directions is that the
transferability of the security receipts is restricted : they can only be transferred to QIBs.

Reconstruction activities:

The Directions also provide, what we have earlier construed to be, rules of good conduct
for reconstruction activities. This is Rule 7. This requires formation of various sets of
policies by the SARC on issues like acquisition of assets, valuation, disposal, settlement,
realisation cycle, etc. This rule essentially lays down various policies, all of which are
internally to be framed and implemented. It should not have been necessary for the RBI
to put in such basic rules of business in a quasi-legislative instruments: no regulator
should make the mistake of substituting corporate governance by such rudimentary rules.

Capital adequacy:
A 15% capital adequacy has been prescribed for SARCs on risk-weighted assets. The risk
weights are similar to those under the Basle I convention.

SARCs are supposed to deploy their "surplus" funds only in G-secs and bank deposits.
"Surplus", of course, is what is not invested in accordance with the scheme of
investments. For instance, many revolving securitisation transactions may provide for
investment in a particular mode as a part of the scheme of investments itself, which is not
a surplus money anway.

It is interesting to note that this requirement also, like most of the operative requirements
of the Directions, does not apply in case of acquisition of assets in the name of trusts.

When does a bad apple become bad:

Another curious part of the Directions is its approach to NPA recognition by SARCs. It is
a common knowledge that ARCs are really "bad banks" -they represent a bunch of bad
assets hived off from the originating banks. By presumption, the assets must have been
non-performing (though the Act or the Directions do not limit ARCs to buy bad loans
only) from the very start. But they turn into performing assets from the very day they are
bought up by the ARC, and remain performing for at least 6 months. It is only after
failure of interest and/or principal after 6 months of acquisition that they become non-
performing.

Once they become thus non-performing, they will start coming for provisioning
requirements. This, coupled with the requirement that the securities of the ARC must be
interest-bearing (see later), is a sure prescription that the ARC will soon be having losses
on its own balance sheet. By mandatory requirements of the Act, if an ARC does not
make profits for 3 consecutive years, it must be disqualified to be an ARC, and therefore,
wind up. It would not be surprising, therefore, that the combined effect of the Directions
would be to make the whole business of ARCs unviable except for vulture financiers.

Directions to transferring banks:

Importantly, the RBI has also given Directions to banks which contain both a provision
for regulatory capital relief, as also issues like recognition of profit/losses, etc.

Para 3 of these Guidelines gives an impression that banks can sell only non-performing
loans to SARCs. Once again, the RBI has made the elementary mistake of confusion all
securitisation to be all reconstruction or vice versa, since securitisation, as different from
asset reconstruction, is done in case of performing assets rather than non-performing
assets. But most likely, bankers, who swear by the letter and not spirit of the RBI
directives, are unlikely to take these Guidelines only limited to asset reconstruction.

These Guidelines contain certain important clarifications that will help the securitisation
market:
 That banks may invest in security receipts or other securities issued by the
SARCs, which will be regarded as investments in the hand of the banks.
 That the exposure will be regarded as exposure in the SARC and not the
underlying obligors.
 That banks may remove the assets transferred by them to SARCs from their books
thus achieving capital relief.

However, the Guidelines also put some extremely impractical limitations on the nature of
the securities of the SARCs. Para 5 A (b) says that the securities of the SARC must not
have a term exceeding 6 years, must be non-contingent (unconditional undertaking to
pay, not related to realisation of the assets by the SARC), and must carry a minimum rate
of interest of Bank Rate plus 150 bps. Bankers will take this to mean that zero coupon
bonds cannot be issued by the SARC. At the same time, the bond/debenture must not be
subordinated, as the condition of an "unconditional undertaking to redeem" cannot be
satisfied by a subordinated instrument. Apparently, this requirement is applicable in case
of bonds and debentures, but it would be ridiculous to think that what is expressly
imposed by the RBI in case of bonds and debentures may be skipped in case of pass-
through certificates.

ARCs are not money-banks: they are not financial intermediaries. They are recovery
devices. There is no way ARCs can externally fund their acquisitions except by bringing
in external investors. Such external investors are unlikely to accept a subordination to the
transferring banks, as that does not make commercial sense. Therefore, there is no option
but for the originating banks to accept a subordination of their bonds/debentures. Since
the RBI guidelines expressly provide that the debentures cannot have a legal final
maturity beyond 6 years, and they must be redeemable in cash, the only way would be to
take the ARC to bankruptcy after 6 years if the assets have failed to pay off completely
by then. And a complete pay off within 6 years will be extremely difficult to expect.