'Private equity can transform banks'

'Facilitating conversion of well-run NBFCs into banks is urgently needed.'

The Reserve Bank of India's Internal Working Group on ownership guidelines and corporate structures suggested that non-promoter investors be allowed hold up to 15 per cent in banks, opening a window for private equity (PE) to play a bigger role as providers of capital to banks.

Baring Private Equity Asia had pumped in Rs 1,000 crore (Rs 10 billion) for a 9.45 per cent equity stake in RBL Bank ahead of the IWG report in August 2020, making it the bank's largest investor.

Rahul Bhasin -- managing partner of Baring Private Equity Partners (BPEP-India), and senior partner and global board member of BPEP International -- believes governance will be key if PE money is to flow in. He spoke to Raghu Mohan.

Given the state of governance in banks, will private equity firms readily play a bigger role in providing capital to banks?

The core competency of PE is to fix the governance architecture, reorganise businesses to meet contemporary customer needs, facilitate meritocracies, drive productivity, identify staff and risk, manage growth, and create a culture to drive innovation.

The banking system in India -- other than a few notable exceptions -- needs all this.

PEs need to engineer change and bring these competencies to the fore to deliver the returns demanded by their investors; or, alternatively, find outstandingly well-run banks to partner with.

Since the current regulatory framework retains the authority to engineer the required changes with the RBI and the central government, PE capital will find its way to the already well-run institutions.

That is in the rare cases where the price-value equation makes sense.

For PEs to provide more capital, either the responsibility and accountability is fixed with those in government and the central bank, which wields the authority, and the accessible investible universe is expanded; or else, the regulatory framework has to change to allow capital providers the authority to engineer the required changes.

What's your view on privatisation of State-run banks, and the issuing of banking licences to well-run non-banking financial companies (NBFCs)?

If regulations facilitate restructuring and reorganisation of banking entities along with change of ownership, then privatisation will be successful and is welcome.

Since the binding constraint on economic growth has been the inadequacy of unimpaired equity capital in the banking system, and consequently, a secular decline in money supply to nominal GDP, it's an urgent societal need to boost unimpaired capitalisation levels.

In this context, facilitating conversion of well-run NBFCs into banks is urgently needed.

What about the cost of regulatory compliance NBFCs will have to bear on morphing into banks?

High-quality NBFCs have already invested in technology to facilitate regulatory oversight, especially on norms pertaining to know-your-customer, money laundering, privacy, risk management, liquidity, usury and customer protection.

The incremental compliance will largely be on enhanced oversight to protect depositor money through a reserve requirement framework; market and credit risks controls; and on policy-directed credit targeting to the agri and weaker sectors.

This should not be a challenge for the larger, or technology-savvy, nimbler NBFCs which could find cost-effective solutions by bundling germane reg-tech software with a core-banking platform on the cloud.

Do PEs have the patience to stay invested in banks, since their business compulsions are different? And could there be a divergence of priorities with those of a bank's management?

PEs usually are structured as 10- to 12-year entities and hence, they have enough leeway to transform banks if the ecosystem facilitates this.

PEs are for a performance-driven culture and that change may well drive friction with incumbent managements, but that change is desperately needed by wider society.

Will the RBI internal working group's stance that non-promoter investors be allowed to hold up to 15 per cent equity in banks attract PE interest?

The 15 per cent cap is arbitrary and means nothing.

Voting power should be concomitant with shareholding, which will be determined by capital needs.

Regulators should put in place an adequate supervisory infrastructure and not ad hoc equity caps.

If widespread shareholding is the favoured policy architecture, then it should be implemented by demanding a phased reduction in shareholding after a 10-year period.

Will banks with a certain kind of business model attract more PE interest?

Banks will increasingly become supervised safe-keepers of retail deposits and bundlers of data.

Like many other businesses, they will get transformed into digital businesses, and the nature of skills and mix of manpower will need to evolve to this new reality.

Any institution which resists this transformation will be subject to brutal Darwinian extinction.

Where incumbent stakeholders hinder, or extract a high price for allowing necessary transformation, the enterprise will be unattractive for any investor.

Regulators should acknowledge this and re-engineer policy frameworks.

Regulatory supervision also needs to transform to a concurrent real-time architecture to ensure that the greater delegation of authority needed to drive transformation does not lead to another round of corporate governance breakdowns.

Feature Presentation: Aslam Hunani/Rediff.com