Have Yes Bank's AT1 Bondholders Truly Won?
The Bombay High Court's decision in the Yes Bank case could be characterised as a victory for bondholders. But will it matter?
"If it is too good to be true, it probably is not," goes a popular saying people like to repeat in finance. Even if most people forget this, a clutch of retail investors who were missold exotic financial instruments by relationship managers at Yes Bank Ltd. will never do so.
Over 1,300 individual investors, most of them Yes Bank customers, were sold additional tier-1 bonds in the form of "super fixed deposits". According to an investigation conducted by the markets regulator in 2021, the investors were told that they would earn superior returns by buying into these perpetual bonds. The investors, however, were not duly informed of the many risks involved in these instruments.
Most likely, they did not truly bother finding out more either. Why would they? After all, India prides itself in never having allowed a universal bank to fail. There was no reason to believe that Yes Bank would ever reach a point where the money they invested would be written off.
Yet, that is what happened. On March 5, 2020, after Yes Bank's capital position was nearly fully eroded, the Reserve Bank of India stepped in. It superseded the board, placed the bank under a moratorium, appointed former State Bank of India official Prashant Kumar as administrator and temporarily froze deposit withdrawals.
A day later the draft scheme of reconstitution was put out, requesting feedback from all stakeholders. This draft included a clause allowing the write-off of AT1 bonds.
After a week-long discussion, the final scheme was released on March 13, 2020. However, the clause about the AT1 write-off was conspicuously missing from this version. It gave temporary hope to the bondholders who were left holding the bag. These hopes were instantly crashed when Kumar, acting as administrator, wrote off the bonds on March 14, 2020.
A prolonged legal battle started, which culminated in an order last week by Acting Chief Justice of the Bombay High Court, SM Modak. The court held that on March 14, 2020, Kumar had neither the authority nor the approval to write off these bonds. The decision to write off these bonds was set aside, nearly three years after it was taken.
While the Bombay High Court has ordered that the administrator could not write off these bonds on March 14, 2020, it has steered clear of making any commentary on whether writing off these bonds is legally acceptable.
"We would not enter into a debate as to whether the AT-1 bonds could have been converted into the shares and or whether they could have been proportionately written down. The court would not possess the necessary expertise of the same," Justice Modak said in the order.
Yes Bank, on its part, has said that it has strong legal grounds to appeal this decision and that it will approach the Supreme Court within the six-week timeline given by the high court.
Did The Bondholders Win?
The high court's decision in the Yes Bank matter could very well be characterised as a success for a group of motley investors winning over a bank backed by the RBI.
But will it matter?
Whenever Yes Bank's challenge reaches the Supreme Court, it will be posed with the question whether the Bombay High Court is right in its assessment of technicalities. The core of the high court order relies on two things:
The authority of the RBI-appointed administrator.
The timing of the decision to write off the bonds.
The high court said the RBI did not authorise the administrator to write off these bonds on March 14. Therefore, the administrator could not have taken this decision.
But as is typical in banks undergoing rescue (like Punjab & Maharashtra Cooperative Bank), the RBI is the key player behind the scenes.
Whatever the administrator does cannot be considered as being ideologically different from what the RBI intends to do. To that effect, the regulator simply needs to come to court and say that the administrator is right in his decision to write off these bonds. T Bijoy Idicheriah has learnt that this may likely be the regulator's plan of action.
The other question then is: What are the specific conditions under which the write-off could take place?
Whether the final reconstitution scheme carried a clause on writing off the AT1 bonds or did not, is immaterial. According to the RBI's 2015 master circular, if a bank's common equity Tier-1 ratio falls below 6.125%, it can either convert these bonds to equity or write them off. For Yes Bank, the CET-1 ratio was down to 0.6% at the time of the rescue.
The guidelines do not specify any prior approval of an authority to write off AT1 bonds. The only requirement is that the bank must avail a certificate from statutory auditors stating that such a write-off will boost CET-1 and a legal opinion on its enforceability, which must be submitted to the RBI. If the bank did this, it fulfilled the necessary conditions.
If the Supreme Court does not veer into the legality of the write-off, but upholds the high court's order on technicalities, that may open another can of worms for Yes Bank.
While addressing reporters on Saturday, Kumar said there will be no immediate outflow of liquidity due to the reinstitution of the bonds. It would merely be an accounting entry. Even when it comes to interest payout, the bank has full discretion on such payments.
That may be true. However, it will be difficult for Yes Bank to justify suspension of interest payments, if it comes to that.
The bank is no longer in a distress situation. It sold a bulk of its stressed assets to an asset reconstruction company, cleaning up its balance sheet. The lender has also managed to raise Rs 8,898 crore worth of equity capital from marquee investors for future growth. The bondholders would then be right in questioning the lack of interest payments.
As a private sector banker told this reporter, suspension of interest payments in good health would mean that Yes Bank will find it difficult to raise capital in the future.
However it pans out, the case promises some interesting court arguments in upcoming weeks.