To privatise or not? Key questions answered on shedding govt stake in PSB

There is a growing consensus in favour of the move, but strengthening governance and widening the ambit of acceptable investor groups are critical to its success

Privatisation of public sector banks (PSBs) may soon be a reality if news reports are anything to go by. Four important questions, though, have emerged ever since discussions around this began in May this year. Is privatisation necessary; can it be a success; if yes, how should it be approached; and, finally, who should control these banks? 

The answer to the first question is a straightforward yes. Stating that bank nationalisation has served its purpose, Duvvuri Subbarao, former governor, Reserve Bank of India (RBI), said, “The economic scenario has changed. It's now time to move on and privatise public sector banks, especially as the government does not have the resources to keep recapitalising them,” he explains. 

Can the process be successful? ICICI Bank and Axis Bank are examples. Both banks were established by the Government of India with the support of various state financial institutions, including Life Insurance Corporation of India (LIC), and metamorphosed into private banks by virtue of stock market listings in 2004 and 1998, respectively. Today, the two banks take top slots in the pecking order, whether in terms of business or market capitalisation.  

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The principal cause of these banks’ success is zero state interference. “Axis Bank was professionally run from the start,” said former deputy managing director of Axis Bank, V Srinivasan. “Whether in terms of board positions, senior executive recruits or business decisions, the government was hands-off and all decisions were taken by the board and executive management.” Describing Axis Bank as a good example of a professionally managed bank with government ownership, the model helped attract foreign capital and quality investors. He reiterates the importance of governance. Merely reducing stake to 51 per cent or 26 per cent may not help much. 

But getting to that stage may need more groundwork considering the names doing the rounds for privatisation. Bank of Maharashtra (BoM), UCO Bank and Indian Overseas Bank (IOB) with a total business of about Rs 2 trillion each may have the scale to tempt investors. But on the point of asset quality, they fail. With gross non-performing assets (NPA) ratio upwards of 10 per cent and net NPA ratio over four per cent, these are way beyond the acceptable thresholds for a well-run private bank. Moreover, though BoM exited the central bank’s prompt corrective action (PCA) framework in 2019, UCO and IOB haven’t. The three banks trade at less than 0.3x FY21 estimated book, which may barely enthuse buyers. 

In every disinvestment decision, Subbarao pointed out that the government faces a standard dilemma. “Should it tidy up the books or sell an enterprise on as-is basis? That's the dilemma in the case of Air India and that will be the dilemma if and when PSBs are sought to be privatised,” he said.

  

Experts fear privatisation of PSBs at this juncture may end up being just a talking point. “After all, these banks have only a regional presence,” said Ruchin Goyal, MD & senior partner, Boston Consulting Group, adding “To make privatisation implementable, the government should not pick on small banks; pick on those with strong deposit and branch network.” 

Acceptance from various segments – the political brass, bank unions and employees -- would play a vital role in the process, and also a time consuming one. “The government will also need to invest considerable political capital to engineer a consensus,” Subbarao said. Without a broad acceptance, attracting investors may be a futile process, which, in fact, is the last and tricky piece of the puzzle. 

As Jaspal Bindra, chairman, Centrum group, pointed out, there hasn’t been much enthusiasm to seek universal banking licences after RBI made it on-tap in 2016. Therefore, the chances of attracting dominant private equity (PE) capital may be bleak at this juncture. The government would do better to allow private banks looking for inorganic growth for scale or regional dominance reasons to acquire these PSBs. “When valuations are depressed, it’s the best case for the government,” said Srinivasan. 

There may also be a backdoor channel to attract PE money into these banks – by throwing them open to non-banks promoted by former bankers such as Anshu Jain (of InCred) and Gunit Chadha (APAC Financial Services). Both headed Deutsche Bank before promoting their PE-backed ventures. “In a business with huge capital requirements, such prominent people may be reduced to mere management, which may not motivate them to convert to banks,” Bindra pointed out. Comparatively, non-banking finance companies, particularly fintech-oriented ones, guzzle less capital, which would allow promoters to retain control. 

The last option and one that has been a subject of debate for decades is opening up banks to industrial houses. Under current regulations, they can operate as payment banks (Reliance Jio and Bharti’s Airtel Payments Bank are prominent examples, apart from Paytm). The law permits them to convert to small finance banks and subsequently to even universal banks, but finding regulatory acceptance may be a challenge. 

The challenge, as always, lies in placing stringent safeguards to prevent self-dealing, though Subbarao recalls that after extensive consultations with stakeholders, the considered view in the RBI was that it would be difficult to get credible applications unless the door is open to corporations. Although there are no global standards, banks in South Asia are owned by large corporations. “In a more evolved market like the US, however, industrialists are kept away,” said N S Vishwanathan, former deputy governor, RBI, who pointed out that "preventing co-mingling of funds or its diversion will remain a challenge” if industrial houses are allowed to own banks.

Clearly, critical issues such as governance standards and ownership need more attention. Under these circumstances, a rushed privatisation effort may not help the government solve the capital infusion burden. Ready up the PSBs, ascertain the acceptable investor groups and then put them on the market, say experts.