Should Yes Bank have been allowed to be declared insolvent?

At first blush, the idea seems outrageous. As a matter of policy, the Reserve Bank of India (RBI) has never allowed any major bank to be declared bankrupt. Nedungadi Bank was given to Punjab National Bank, ICICI Bank was instructed to take responsibility of Bank of Rajasthan and a conservative Oriental Bank of Commerce was asked to take over an overly aggressive Global Trust Bank.

Continuing this trend, the ubiquitous State Bank of India (SBI) is playing an active role in absorbing Yes Bank into its fold. In this task, SBI is being assisted by an institution that is officially an insurance company but in reality acts as a banker and lender of the “lost” resort by investing in companies that have lost all options for funding.

This may have been the way to go a few years earlier but with a fairly robust Insolvency and Bankruptcy Code (IBC) in place, it is worth discussing whether insolvency would better suit a bank than a forced last-minute rescue mission by the usual suspects.

Yes Bank: It is being reported that Yes Bank could never say “No” to a corporate loan. It is also being reported that the previous boss of the bank had a habit of seeking personal gratification for not declaring loans as non-performing- an inventive way of benefiting oneself at the cost of the banks depositors’ and shareholders.

In substance, Yes Bank is in its position today due to one person’s unethical practices and wayward lending by the Bank. Institutions such as Yes Bank do not become villains overnight.

On hindsight, it is clear that there is always a cue that shareholders and depositors should red flag and take it as a hint of worse things to follow. For many years, Yes Bank witnessed a bitter battle amongst their promoters – not a healthy sign for any entity.

In their Annual Report for the year ended March 31, 2019, Yes Bank has reported that there was an anonymous whistle-blower complaint alleging irregularities in the Bank’s operations, potential conflicts of interests in relation to the former MD and CEO and allegations of incorrect NPA classification.

The report also says that an internal committee was formed which did not find anything amiss. This is a typical corporate language- says a lot of things without revealing much. Sometime back, an independent director of the bank resigned with the bank saying that he was not a fit and proper person – it did not elaborate how he did not qualify.

However, a wise depositor/shareholder would have taken the above to hint to him to remove his deposit/sell his shares. Subsequently, Yes Bank has done other filings with the stock exchanges on the same non-descriptive lines.

The advantage of a rescue mission is that depositors get some degree of assurance on the fate of their deposits. They gain confidence in the fact that known names are going to take care of the bank that failed them which could mean that their deposits are somewhat safe. They are optimistic when the RBI makes some positive announcements on the future of depositors of the beleaguered bank.

However, none of these events would bring a smile on the faces of shareholders who would be feeling short-changed as some of them have seen days when the share price touched the Rs 400 levels, that is, disadvantages of a rescue mission are that most of the time, the rescuers are forced into doing the rescue.

They take on problems that they may not want. There can be no two opinions in the fact that taking on these problems could cause a dent in their financials not only immediately but also in the future. In addition, a forced rescue mission forces the players to always think of compromising on many important factors such as quality of the assets, the stability of cash flows and any surprises that could come up in later years.

IBBI: The Insolvency and Bankruptcy Board of India (IBBI) has been doing a stellar job on insolvency cases. A proper process has been established as per which any creditor can refer a case for insolvency, a resolution professional is appointed, a committee of creditors formed and a resolution planned discussed.

The National Company Law Tribunal (NCLT) has been given the task of looking at these applications and passing judgements sanctioning a viable resolution plan or declaring insolvency. Many high-profile insolvency cases have seen a lot of bickering amongst potential suitors but a combination of the NCLT, the appellate tribunal and the courts have blessed the most suitable option. IBBI has also acted against resolution professionals who have attempted to by-pass the code of ethics mandated on them.

In an insolvency process, market forces determine the fate of the entity. If prospects feel that the entity is worth something, they will bid for it at the right price. Depositors stand a fair chance of getting something back. If the market players feel otherwise, insolvency and liquidation are the only options available.

Jet Airways is an example - an airline with a brand and some loyalty now has no takers because of multiple players in the market. An insolvency process could make banks work harder to attract depositors as the latter would be rating banks on the possibility of default.

This would make them spread their deposits across a range of options that would act as a hedge against banks defaulting. This in itself would ensure that corporate governance standards are followed in letter and spirit instead of being followed for the sake of being followed.

Till now, depositors were assured of an amount of Rs 1 lakh in case a bank goes bust. In Budget 2020, this amount was increased to Rs 5 lakh. A few uncomfortable thoughts arise - was the increase done keeping Yes Bank in mind? Are there other skeletons in the cupboard of the RBI? Which bank is the safest? Is cash the best investment in these times?

Unfortunately, some thoughts don’t have answers.

(The writer is a Bengaluru-based tax expert)