From 2004, the year of its inception, to 2015, Yes Bank was one of the busiest banks in India. Founded by Rana Kapoor and Ashok Kapur, the bank was among the top private-sector lenders in the nation and was growing in terms of assets and their returns. The bank was ranked number 1 bank in the Business Today-KPMG Best Banks Annual Survey 2008. The bank was making tremendous profits from its lending schemes and was consolidating its place as one of the largest private-sector lenders in the country; however, a crisis was in the making.
An Overview of the Crisis:
In late 2015, UBS, an international financial services company, published a report that affirmed that Yes Bank’s lending schemes were not always successful and that the bank was beginning to lend more than its net worth to companies that were likely to default2. The Reserve Bank of Indian (RBI) soon called for an asset quality review - a closer look at Yes Bank’s books. The RBI concluded that the non-performing assets (NPAs) were worth nearly INR 8000 crores, about 4 times what Yes Bank had declared. Through the UBS report and the RBI investigation, it was clear that Yes Bank’s financials were in a much poorer state than what the bank displayed to the public.
Recently, the RBI had placed Yes Bank under moratorium and had capped withdrawals at INR 50,000. Although these measures have now been removed, the RBI has put into action a rescue plan for the bank which involves the State Bank of India acquiring 49% of the bank and the bank making prescribed changes to the constitution of its board, share capital and disclosure policies. The reconstruction scheme has been implemented and is being adhered to at present. Why the situation became this dire, and why Yes Bank is under complete reconstruction, has several reasons.
Key Reasons for the Crisis:
1. Bad loans with no restraint: Yes Bank, in its attempt to aggressively expand as a private sector lender, authorized numerous loans to corporations and conglomerates - advances rose by 334% between 2014 and 2019. However, their borrowers included Anil Ambani’s Reliance, the Essel Group (Zee), IL&FS, Jet Airways, Cox & Kings and Vodafone - all of which were in financial straits at that time. These companies, unsurprisingly, failed to repay the loans issued by Yes Bank, and therefore the bank lost significant capital and was eventually unable to cover these losses. NPAs began rising as these bad loans increased - and as of September 2019, the gross NPAs jumped to 7.39% (the highest among comparable banks). Interestingly, the chief reason for the crisis was not this NPA percentage but the fact that this growing percentage was not recognized by either the bank or regulatory authorities. The bad loans and NPAs were piling up, but Yes Bank continued to issue loans (even larger than its net worth) to private sector companies, oblivious to the fact that it was digging its own grave.
2. The decrease in deposits and the increase in withdrawals: As the customers and the general public began to take notice of the situation, the deposits started reducing and simultaneously withdrawals started increasing from Yes Bank. This, coupled with the high percentage of NPAs, resulted in a massive financial problem for Yes Bank - while it had not even begun recovering from the losses caused by defaulting corporations, its most important, possibly sole, source of capital was reducing, adding to its woes.
3. Poor governance standards: Lack of timely intervention from the Securities and Exchange Board of India (SEBI) and the RBI was an important cause of the crisis. SEBI is considered to be the market regulator and claims to put listed companies under scrutiny; however, it had no clear information on the state of Yes Bank’s financials. Moreover, while the RBI has developed a rescue plan to revive the bank, it did not take any action that could potentially have mitigated the crisis when it was at its peak. The RBI only took concrete action after the situation got out of hand, and initially, by limiting withdrawals to only INR 50,000 took a step that affected thousands of people that had no part to play in the crisis.
What are the Lessons for the Banking Sector?
The banking sector can take back some useful lessons from the Yes Bank crisis. The first practice that every bank must implement is the regular recognition of NPA rates and strict consequent adjustments in lending rates. If the NPAs are rising by significant proportions each quarter, the bank may increase administrative costs to conduct more efficient background checks on borrowers (thus identifying businesses or people with the potential to default), and reduce overall lending rates too. Moreover, banks must ensure that appropriate adjustments in provision coverage ratio (PCR) are made promptly as NPAs begin to increase - which means that they must set aside funds earmarked to cope with possible losses due to bad loans. The banking sector must also understand that deposits cannot depend on lending, lending must depend on deposits. Banks must not lend more than the net deposits - as Yes Bank did. If lending is necessary for a certain situation, banks should strongly encourage deposits by offering rewards for opening a checking accountIV, stimulating employee competition, etc. With regard to the RBI and SEBI, instead of putting a bank under moratorium when the situation becomes too dire, as mentioned previously, action should have been taken when the NPAs were still within limits and the debt of Yes Bank was controllable. The delay in action could be regulatory oversight, but could also be a result of the occasional negligence of these organisations.
Conclusion:
Yes Bank is only one example; in recent years several Indian banks such as the Punjab National Bank (PNB) have faced issues due to defaults. Many banks are issuing loans without appropriate checks and due diligence. The RBI must impose stricter regulation with large violation penalties today to avoid such situations in the future while improving its own awareness with regard to the financials of large banks. The key lesson, however, from the crisis Yes Bank faced is simply to lend judiciously because once the lending spree begins, it is seldom easy to stop.
Definitions:
Non-Performing Assets (noun): A nonperforming asset (NPA) refers to a classification for loans or advances that are in default or in arrears.
Moratorium (noun): A moratorium period is a period during a loan term when the borrower is not obligated to make a payment.
Provision Coverage Ratio (noun): Provisioning Coverage Ratio (PCR) refers to the prescribed percentage of funds to be set aside by the banks for covering the prospective losses due to bad loans.
A 16-year-old student pursuing the IB Diploma Programme at Dhirubhai Ambani International School, Mumbai. Passionate about finance and mathematics - and therefore, obviously, Moneyball and The Big Short.
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