Time to review BR Act as pvt banks struggle for top independent directors

Private banks are struggling to get top-class independent directors on their boards

You may have thought that being on the board of a private bank is a privilege few will pass up. It turns out this is not the case – over the past year, a clutch of private banks has sounded Mint Road on their struggle to on-board top-class independent directors; many sought extended timelines to get suitable candidates. And in the spotlight is the Banking Regulation Act (BR Act: 1949).

“I believe the BR Act has to be completely rewritten. It is archaic, when one takes into account the changes that have happened in the manner in which the business of banking is conducted”, says M Damodaran, chairperson-Excellence Enablers; and a former chairman of three premier institutions -- the Securities and Exchange Board of India, Unit Trust of India, and IDBI.

According to the BR Act, not less than 50 per cent of the directors are to be drawn from specific professional pools. The intense scrutiny on independent directors, and the far lower levels of compensation payable to them (when compared with non-banks) have made it tougher to hire good hands. This last aspect is due to the fact that Mint Road does not permit part-time directors of banks to be paid remuneration other than sitting fees – even though the Companies Act allows up to one per cent of a firm's profit to be paid as commission to board members. The range for independent directors in private banks is between Rs 20,000 and close to Rs 1 lakh per sitting.

Out of this world

Section 10A of the BR Act says “the Board of directors of a banking company shall consist of persons, who (a) shall have special knowledge or practical experience in respect of one or more of the following matters, namely (i) accountancy, (ii) agriculture and rural economy, (iii) banking, (iv) co-operation, (v) economics, (vi) finance, (vii) law, (viii) small-scale industry, (ix) any other matter the special knowledge of, and practical experience in, which would, in the opinion of the Reserve Bank, be useful to the banking company”.

And that directors shall not have substantial interest in, or be connected with, whether as employee, manager or managing agent - (i) any company, not being a company registered under section 25 of the Companies Act, 1956 (1 of 1956) – since replaced with the revised Companies Act (2013) —, or (ii) any firm, which carries on any trade, commerce or industry and which, in either case, is not a small-scale industrial concern, or (2) be proprietors of any trading, commercial or industrial concern, not being a small-scale industrial concern”.

Says Narendra Murkumbi (a former independent director on ICICI Bank’s board): “It is hard to get good directors if you were to widen the inter-connected aspect to their other independent board positions”. Explains Vimal Bhandari, executive vice-chairman and chief executive officer of Arka Fincap: “This precludes many from joining a board. Maybe, it is time this is relooked with mandated disclosure of pecuniary relationship between the bank and entities with which a director is involved”; he was an independent director on RBL Bank’s board for eight years. “As for conflict of interest, this has to be resolved at the Board level. I would presume directors will take a responsible view befitting their fiduciary responsibility”, he adds.

Private banks have conveyed to the central bank that even when they appoint “people of repute” from the fields mentioned in the BR Act, many of them may not be able to bring their expertise to bear on the bank’s functioning. “I need high quality people on my risk and audit committees; even if the rest are not great, I can live with it. But many find it tough to give me quality time from their other responsibilities”, says the CEO of a private bank.

"Being qualified to be an independent director in a private bank is not the same as being competent to discharge the duties of an independent director”, notes Damodaran. "In India, we give a lot of importance to what a person has done over the last 40 years, and the experience gained during that period. While this is important, it does not often translate into experience that is relevant to a bank’s board”, he adds. It perhaps may have something to do with our veneration of the old.

Incidentally, the central bank has imposed a higher minimum-age filter of 35 years when it comes to bank directors; it is 21 years under the Companies Act. It led the P J Nayak Committee (2014) to observe: “It is unclear why a separate regulatory filter for a minimum age is needed”.

What is also tied in…

It is also time to re-look at the dispersed level of shareholding in private banks. While the central bank’s intention was to ensure that no particular shareholding group (promoter or otherwise) calls the shots – what we now have is a situation wherein it is the “professional management” setting the ground rules.

“The widely dispersed shareholding at most private banks with no dominant shareholder means that the management team as a collective body becomes the most influential shareholder. I am not sure if the regulator intended it that way”, notes Bhandari. There is a view that a relaxation on this front may lead to a situation wherein large private equity investors may come to acquire significant stakes in private banks and set the agenda. Divyanshu Pandey, Partner-J Sagar & Associates, feels “We have to revisit the cap of five per cent on shareholding in private banks outside the promoter grouping. It would be worthwhile to increase the cap to 10 per cent, or even to 15 per cent as in the case of a private bank promoter”.

But what everybody agrees to is that Mint Road is on record that it has better control on private banks compared to state-run banks (as articulated by former governor Urjit Patel). It is time to revisit board-related issues without necessarily waiting for a wholesale overhaul of the BR Act. For instance, board talk-points.

“Board papers are often weapons of mass distraction. They are needlessly voluminous and very often do not contain an executive summary”, says Damodaran. And this is what the Nayak Committee had said on board-level deliberations: “In one bank, the taxi fare reimbursement policy got  the same coverage as the NPA recovery policy!”

It also high time the central bank looks at the conflict of interest at its end. “The RBI has been grappling with contextual conflict of interest for quite some time. Its officials sit on the boards of banks, while representing the regulator. You should not be a player and a referee at the same time”.

It’s boarding time!