CAREs Analysis of New Banking Licenses Guidelines The final RBI Guidelines for Licensing of New Banks in the

Private Sector were released on 22 nd Feb 2013. The guidelines have been released after feedback on the draft guidelines released in August 2011. CAREs

Banking

assessment of the guidelines indicates that RBI has considered a balanced and pragmatic approach towards licensing of new banks. While the guidelines have now allowed a broader set of entities to enter the banking space, there are sufficient checks and balances to ensure that the new banks follow prudential norms and gradually move into mainstream banking with minimal systemic risk to the sector. Key Takeaways

February 23, 2013

Ensuring financial discipline: RBI has ensured adherence to financial discipline by stipulating the promotion of new banks by a Non-Operative Financial Holding Company (NOFHC) in the form of a NBFC which will be regulated by RBI and will have to comply with the extant prudential guidelines on standalone and consolidated basis.

Ring fencing of banking operations: One of the key principles of the guidelines is to ring-fence the financial services business of the bank and its promoters from the risks of the group entities of the promoters. The provisions for group exposure and ownership structure ensure that the new banks will be focused on pure banking and financial activities that are insulated from any group influence. Also, to reduce undue influence of a single promoting individual, a wider shareholding has been encouraged by capping voting equity shares of individual shareholders in NOFHC at 10 per cent. However, if companies are promoting the NOHFC, where public holds more than 51 %, no such restriction has been imposed.

Tighter Regulation of New Banks till business model is tested: RBI has kept the regulatory controls more stringent for new banks (including a minimum 13% CRAR requirement) as the track record of the new entities in banking will be observed over a period of time. This approach is in line with what RBI had done in the past for new private sector banks who had to initially comply with higher CRAR norms and then were gradually brought at par with all banks.

Risk based assessment of Speculative activities instead of blanket approach: From activities that are considered negative for promoter / promoter groups - specific mention of broking and real estate construction has been removed. Instead, activities which are speculative in nature or subject to high asset price volatility is mentioned. This is a more prudent risk based approach

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wherein RBI may consider promoter groups on a case to case basis looking at the risk profile of their businesses instead of any blanket classification of the group. Greater flexibility in determining business structure: The guidelines also permit certain activities, such as credit cards, primary dealers, leasing, hire purchase, factoring, etc., to be conducted through separate financial entities. So a retail hire purchase NBFC of a promoter group may continue its operations as a separate entity and need not transfer the business to the bank. This is expected to help reduce the level of functional re-structuring in a group. Further by allowing NBFCs to convert their branches in Tier 2 to 6 centres into bank branches, the

NBFC sector is expected to receive a fillip in expanding their business footprint.

Promoting Financial inclusion: The guidelines emphasise the need of banking inclusion by
requiring that the new banks to open at least 25 per cent of its branches in unbanked rural centres areas and meeting of all priority sector targets.

RBIs subjective expertise continues with many qualitative parameters: As this is a critical regulation with wide-ranging impact, RBI has put in place a lot of qualitative parameters that will allow the regulator to take a view based on its judgment and expertise. The promoters should have a past track record of sound credentials and integrity with successful track record of running their business for at least 10 years

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Promoter / Promoter Group Domestic private entities, public sector entities, NBFCs Financially sound with Track Record of at least 10 yrs Not in activities that are speculative or subject to high asset price volatility

-Promoter to set up NOHFC which in turn will hold the New Bank - Capital Structure of NOHFC regulated as per Guidelines - Pvt. sector entities to Apply to RBI by July 1 Non-Operating Holding Finance Company (NOHFC) Set up as NBFC with minimum Net worth of Rs. 500 crore Holding company of New Bank and All Financial Services business of the Promoter To be Regulated by RBI. Consolidated activities of NOHFC covered Ring-fenced from other activities of promoter

Promoter has to transfer all Financial Services entities under NOHFC

- NOHFC to set up Bank and own at least 40% - Bring ownership in bank down to 15% in 12 yrs from commencement of business. Listed within 3. New Bank - Regulated under extant and new guidelines specific for it (like 13% CAR) - Should improve financial inclusion

NOHC to own all Financial Sector Entities of Promoter

Financial Entities of Promoter Group - Insurance / Mutual Funds / Factoring / Broking / Primary dealers/ Hire Purchase - Entities regulated by respective regulators

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Contact: Vijay Agarwal Jt Gen Manager Vijay.agrawal@careratings.com 91-022-67543416 Ashvini Patil Asst Gen Manager ashvini.patil@careratings.com 91-022-67543431 Abhinav Sharma Asst Gen Manager abhinav.sharma@careratings.com 91-022-67543508

Disclaimer 91-022-67543431 This report is prepared by the Banking Division of Credit Analysis & Research Limited [CARE]. CARE has taken utmost care to ensure accuracy and objectivity while developing this report based on information available in public domain. However, neither the accuracy nor completeness of information contained in this report is guaranteed. CARE is not responsible for any errors or omissions in analysis/inferences/views or for results obtained from the use of information contained in this report and especially states that CARE (including all divisions) has no financial liability whatsoever to the user of this report.

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