Other than in the 2008 global financial crisis, bank insolvencies have been rare. The few instances where domestic banks have run into trouble have been dealt with swiftly and without any loss to depositors through mergers with solvent banks. In such cases, it has generally been understood that regulators need to move quickly to prevent any loss of confidence in the financial system and to prevent contagion from spreading. However, past practice and regulatory imperatives were put to the test by the recent Yes Bank crisis.
Yes Bank had been in a troubled state for some time. Concerns had been raised when an asset quality review showed substantial deviation between reported non-performing assets and those determined in audits conducted by the Reserve Bank of India (RBI). This was followed by the RBI refusing an extension to the term of Yes Bank’s long-time chairman. The bank had also been trying to raise external capital for some time, but had encountered well publicized difficulties. According to reports in the public domain, Yes Bank was due to raise external capital by 14 March.
On 5 March, the RBI issued a press release notifying the supersession of the board of directors of Yes Bank for 30 days due to a “serious deterioration in the financial position of the bank”, and appointed an administrator. The press release specified that the intent of this was to “quickly restore depositors’ confidence in the bank, including by putting in place a scheme for reconstruction or amalgamation”. The RBI issued a separate press release the same day confirming that the bank had been placed under a moratorium by the government. This press release assured depositors that their interests have been taken care of, and stated that the RBI would put in place a scheme for the bank’s reconstruction or amalgamation prior to the expiry of the moratorium. Possibly to prevent a bank run, the moratorium order restricted withdrawals greater than ₹50,000 (US$674) except in certain circumstances.
While one of the rumoured options for resolving Yes Bank was its take over by another bank or the government, this did not appear feasible because of the aggregate size of its outstanding loans and the perceived moral hazard of this appearing to be a taxpayer funded bailout.
In an admirable display of regulatory alacrity, the RBI published the draft scheme for reconstruction of Yes Bank on 6 March. The draft scheme was placed on the RBI’s website for comments and feedback from the public. The draft scheme’s preamble described the intent of the RBI and the sequence of events, and notably prescribed provisions increasing the share capital of Yes Bank, the non-applicability of certain provisions of its charter documents, and reconstituting its board of directors. The draft scheme also contemplated a write-down of the additional tier I bonds under the Basel III framework issued by the bank. This provision was subsequently challenged in court proceedings by investors.
The Yes Bank Limited Reconstruction Scheme, 2020, was issued on 13 March. In line with the draft scheme, it prescribed the non-applicability of certain provisions of the charter documents, the reconstitution of the board of Yes Bank, and the increase in the share capital of the bank. This was accompanied by reports in the public domain of commitments from various domestic banks led by the State Bank of India to invest in Yes Bank. With the intent of protecting the interests of depositors, the final scheme also provided for a lock-in of three years for all investors under the scheme as well as all existing shareholders of Yes Bank (other than shareholders holding less than 100 shares). Possibly with a view to ensuring continuity, the final scheme also provided for the continuation of all Yes Bank’s contractual liabilities in the same manner, as these existed prior to the commencement of the scheme. Notably, according to reports in the public domain, this would still result in a write-down of the additional tier I bonds issued by Yes Bank, as this is provided for in the Basel III framework as well as in the contractual terms under which the bonds were issued.
The speed at which the RBI responded to the crisis is commendable. While financial markets are still in turmoil, the relatively efficient resolution of Yes Bank and the manner in which other domestic banks have participated in its rescue has been appreciated by market participants. It is also commendable that this resolution has been implemented with the participation of the banking sector, and has not been paid for by the taxpayer.
Sawant Singh and Aditya Bhargava are partners in the Mumbai office of Phoenix Legal. Sristi Yadav, an associate, also provided assistance on the article.
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