YES Bank scam a case of corporate governance failure

While addressing a press conference, Union Finance Minister Nirmala Sitharaman had said recently that the Reserve Bank of India (RBI) had been keeping a close vigil on the happenings at Yes Bank since 2017. So, the question arises that why the banking regulator was in deep somnolence and did not take any action against the bank and allowed such a big scam continue to take place. Secondly, the market regulator, SEBI, claims to have a grip on the nerve of listed companies. Then, how was it totally unaware of the happenings at Yes Bank?

The problem started brewing after the sad demise of Ashok Kapoor and brother of Rana Kapoor, in the Bombay Blast.

Sources close to Shagun, who owns 8.5 per cent of Yes Bank and came on the Yes Bank board in 2019, told Dainik Bhaskar that even though being the largest shareholder, they have not sold their stake in the bank.

Expressing her happiness over the news that SBI may take up to 49 per cent stake in the bank, the sources said that, on acquisition, the bank might make other investors its co-partners, some of which include Tilden Park, Blackstone and JC Flowers. It is good news that SBI chairman Rajnish Kumar has assured that the none of the 24,000 Yes Bank employees will be losing their jobs, post the SBI intervention and that all the money of lakhs of depositors were safe. The only thing which was missing was the confidence of the bank’s customers, Shagun is believed to have said.

Commenting on invocation of Section 45 of RBI Act which puts moratorium for depositors from withdrawing their money from the bank, she is believed to have said that the section removes all the hurdles for an investor to infuse their money. Also, it was a legal procedure which was needed to be done. Still, it is hoped that the Section 45 will be revoked within a week.

Dr Nirakar Pradhan, CFA, Director & Asia Pacific Representative (PRMI), says that the Yes Bank episode is yet another example of corporate governance failure. In case SBI takes up to 49 per cent stake in the bank, it will mean capital infusion to the tune of around Rs 10,000 crore. However, things will become clear by tomorrow only when SBI officially makes an announcement on the issue.

Globally, the local Govts have been announcing rescue package for banks, which is clear from the following information_

1. Northern Rock, UK (Bank), 2007

Northern Rock (NR), a middle-sized UK bank of UK faced a run on its deposits. For three days in August 2007, around £3 billion of deposits were withdrawn (around 11 per cent of the bank’s total retail deposits).

NR’s business predominantly comprised of residential mortgage loans. It faced serious funding and liquidity issues in the aftermath of USA sub-prime crisis. In order to save the Bank, British Government and Bank of England went out of way to guarantee all deposits of the Bank and emergency financial support from the Tripartite Authority (The Bank of England, the FSA and HM Treasury) was extended.

Similar to the announcement by our Government and Central Bank made for Yes Bank depositors, , the then Treasury select committee chairman John McFall MP said, ”I don’t think customers of Northern Rock should be worried about their current accounts or mortgages,”

By January 2008, Northern Rock’s loan from the Bank of England had grown to £26bn. On 6 February 2008, the Office for National Statistics announced that it was treating Northern Rock as a public corporation.

2. USA, LTCM- Hedge Fund, 1998

Long-Term Capital Management (LTCM) was a large hedge fund led by Nobel Prize-winning economists and renowned Wall Street traders. The firm was profitable in its heyday in the 1990s, drawing over $1 billion of investor capital by promising that its arbitrage strategy would yield huge returns for investors.

Due to Long Term Capital Management’s highly leveraged nature, coupled with a financial crisis in Russia (i.e., the default of government bonds), LTCM sustained massive losses and was in danger of defaulting on its own loans. This made it difficult for LTCM to cut its losses in its positions. LTCM held huge positions, totaling roughly 5% of the total global fixed-income market, and had borrowed massive amounts of money to finance these leveraged trades.

If LTCM had gone into default, it would have triggered a global financial crisis due to the massive write-offs. The danger was a single default by LTCM would trigger cross default clauses in its’ ISDA master agreements precipitating a mass close‐out in the over‐the‐counter derivatives markets.

In September 1998, the fund, which continued to sustain losses, was bailed out with the help of the Federal Reserve. On September 23, a consortium of 14 leading investment and commercial banks agreed in principle to invest $3.625 billion in the fund.

The investment was consummated on September 28. The consortium investment consisted entirely of private sector capital.

Thus, a systematic meltdown of the market was prevented.

3. AIG, Insurance, USA, 2008

American International Group, Inc., also known as AIG, is an American multinational finance and insurance corporation with operations in more than 80 countries and jurisdictions. As of December 31, 2016, AIG companies employed 56,400 people. The company operates through three core businesses: General Insurance, Life & Retirement, and a standalone technology-enabled subsidiary.

General Insurance includes Commercial, Personal Insurance, U.S. and International field operations. Life & Retirement includes Group Retirement, Individual Retirement, Life, and Institutional Markets. AIG’s corporate headquarters are in New York City and the company also has offices around the world. AIG serves 87% of the Fortune Global 500 and 83% of the Forbes 2000. AIG was ranked 60th on the 2018 Fortune 500 list. According to the 2016 Forbes Global 2000 list, AIG is the 87th largest public company in the world. On December 31, 2017, AIG had $65.2 billion in shareholder equity.

During USA sub-prime crisis, the AIGFP division ended up incurring about $25 billion in losses. Accounting issues within the division worsened the losses. This, in turn, lowered AIG’s credit rating, forcing the firm to post collateral for its bondholders. That made the Company’s financial situation even worse. It was clear that AIG was in danger of insolvency. To prevent that, the federal government stepped in.

During the financial crisis of 2008, the Federal Reserve bailed the company out for $180 billion and assumed control, with the Financial Crisis Inquiry Commission correlating AIG’s failure with the mass sales of unhedged insurance.

However, there is no rescue plan for Yes Bank mulled by the government so far. Rather, it has been left to SBI. But experts believe that government intervention was very much required, given the seriousness of the issue.