M&M takes stake in RBL Bank: What are RBI rules on ownership in pvt banks?

RBI has outlined that banks are 'special' entities as they not only accept and deploy a substantial amount of uncollateralised public funds in a fiduciary capacity but also lend this money

On July 26, Mahindra & Mahindra (M&M) announced that it had acquired a 3.53 per cent stake in RBL Bank as an investment for Rs 417 crore. The company also hinted at further raising its stake in the bank to 9.9 per cent.

Following the announcement, the M&M stock nosedived more than six per cent, whereas the stocks of RBL Bank zoomed over 2.5 per cent. Market experts cited in a Hindu Businessline (BL) report said that while M&M's investors may be concerned about the group over-diversifying its capital, RBL's investors are unhappy because a reputed name like M&M is not taking a substantial share in the bank's business.

Why has M&M announced to stop just under a 10 per cent stake in the bank, and what do the Reserve Bank of India (RBI) guidelines say about corporates acquiring ownership banks? We try to answer these questions in this story.

RBI guideline on ownership and governance in private sector banks

In a document titled "Guidelines on Ownership and Governance in Private Sector Banks", dated February 2005, RBI outlined that banks are "special" entities as they not only accept and deploy a substantial amount of uncollateralised public funds in a fiduciary capacity but also lend this money. Given the pivotal role banks play in the smooth functioning of the payment system.
 

Given this background, RBI has laid down certain rules in the Banking Regulation Act of 1949, which has been updated from time to time. As a part of the regulation, the RBI has prepared a comprehensive policy framework related to ownership and governance in the Indian private sector banks.

What does the framework say about ownership?

• The ultimate ownership and control of private sector banks have to be well diversified.
• The framework ensures that significant shareholders are "fit and proper" as laid down by the RBI guidelines. Shareholders with 5 per cent or more stake in the bank are considered significant.
• The framework also ensures that directors and CEOs managing the bank's affairs are "fit and proper" as per RBI guidelines.

What does RBI say about shareholding?

The RBI guidelines on acknowledgement for acquisition or transfer of shares issued on February 3, 2004, will apply to any acquisition of shares of 5 per cent and above of the paid-up capital of the private sector bank.

Furthermore, to ensure diversified ownership of banks, the regulation aims that no single entity or group of related entities hold more than 10 per cent of the paid-up capital of any private sector bank. Thus, any higher level of acquisition is subject to prior approval of RBI.

Can M&M take over a bank?

According to RBI rules, M&M can't take over a bank. However, it can hold up to a 10 per cent stake in a private sector bank after approval from the RBI. Any investment in a private sector bank that is above 5 per cent has to seek RBI approval.

If a business house has an in-house bank, it will be in a position to use public money to fund its business even when it is not in the interest of the bank.

Given the conflict of interest involved, the RBI has been against the entry of corporate houses and conglomerates into banking.