Uncertainty Over Bank Managing Director, Chief Executive Tenures A New Risk For Investors

The Reserve Bank of India’s recent approval for Sumant Kathpalia’s re-appointment as the managing director and chief executive officer of IndusInd Bank shows how bank chief tenures have emerged as a fresh layer of uncertainty to investors in such lenders.

To illustrate, Kathpalia, who originally had a three-year term as chief executive officer of IndusInd Bank, was granted another two-year term by the RBI on March 13. 

The continuity of an existing chief executive for the stock should be good news, and when the first source-based news reports indicating an extension for Kathpalia began, the stock rose nearly 5%. And then the bank confirmed with a disclosure that the RBI had granted a two-year term, but the stock then slipped by 7.42%. 

Why?

This was not a sign of profit-taking, but investors suddenly realised that Kathpalia had been given a fresh two-year term by the RBI as opposed to the three years that the board had sought. Since this was only the first time that an extension had been sought for Kathpalia, investors who initially rejoiced at the fresh term have now changed their view, as they are concerned over why the RBI has given a shorter term than sought. 

The problem here is that even if the RBI has provided a reason to IndusInd Bank for the shorter term, that has not been disclosed publicly. As the RBI does not speak on individual entities, especially in such cases that fall under the purview of regulator-regulated entity communication, no one really knows why the central bank gave Kathpalia a shorter term than it sought.

The key issue here is that the RBI is only meant to approve the proposal made for such an appointment, with the bank’s board and eventually shareholders being the ones to select and suggest the name and term to the central bank. However, when the RBI, in its regulatory wisdom, offers a shorter term or does not approve a name sent to it, it can set the cat among the pigeons. 

To cite a few examples, the RBI offered transitional, shorter terms to Shikha Sharma, Rana Kapoor, and Vishwavir Ahuja at Axis Bank, YES Bank, and RBL Bank, respectively. These were short terms of a few months or up to a year, aimed at allowing the bank to select a successor. All these people eventually exited their institutions following the RBI decision, which seemingly emanated from a lack of regulatory comfort with the incumbent bank chiefs. 

At the same time, when ICICI Bank initially sought a five-year term for Sandeep Bakhshi as managing director and chief executive officer in 2018, the RBI gave approval for just two. However, in 2021, Bakhshi was granted a fresh three-year term.

It is possible in this case that the RBI has taken the broader call that it doesn’t want to offer very long terms to bank chiefs in one term, so that the institution is protected. It is good to remember that Bakhshi’s rise to the top was precipitated by the ignominious exit of his predecessor Chanda Kochhar following allegations of corruption linked to loan sanctions. 

Similarly, when RBI was still working on its revised norms for bank chief appointments, Shyam Srinivasan at the Federal Bank ended up getting a short one-year extension. However, once the norms were issued, the RBI approved a three-year term for Srinivasan. 

Revised Norms

To delve deeper into the issue, we need to take a look at the RBI’s revised norms on bank chief executive officer appointments. We also need to understand why the RBI decided to come up with these norms, which have been criticised as micromanagement and impacting key decisions that should be left to the board of directors and shareholders. 

In April 2021, the RBI released a set of guidelines for the appointment of private bank CEOs, mandating a maximum term of 15 years. For chief executives who are part of the promoter group or large shareholders, the tenure was capped at 12 years. These maximum tenures will at no point in time exceed the 70-year age cap for these CEOs.

Once they conclude their maximum terms, bank CEOs are required to take a three-year cooling-off period where they cannot be directly or indirectly associated with the bank or any of its associated companies.

Kotak Mahindra Bank's MD and CEO, Uday Kotak, received a three-year term extension in January 2021, which will end in December this year. His cumulative tenure at the bank's helm thus works out to 20 years, which is already in excess of the RBI's maximum cap. Srinivasan's 13 years as CEO of the Federal Bank are also getting close to the maximum tenure cap.

This effectively means that Aditya Puri’s record of a 25-year term as managing director and chief executive officer of HDFC Bank will never be broken, unless the RBI changes the regulations in the future.

Even as Puri and Kotak’s terms are upheld as examples of good long-term bank chiefs who have enabled the creation of strong institutions, cases such as Chanda Kochhar and Rana Kapoor work as cautionary tales. 

To rewind, when initial allegations emerged against Kochhar, the ICICI Bank board came out in her defence almost immediately instead of studying the allegations. Eventually, those very allegations ended up precipitating a series of events that led to her ouster. Similarly, Kapoor, who faces a slew of cases on his alleged conduct that caused a pile of bad loans and an effective bailout of YES Bank in 2020, had a small share in the bank but had disproportionate powers over the board and its operations by virtue of being a founder-promoter. 

It is the terms of chief executives such as Kochhar and Kapoor at YES Bank, that show how a long-standing bank chief executive can effectively become all-powerful. This leads to board capture, and often the selection of board members is made in a manner that suits the views of such a powerful chief executive. 

Since banks deal with public deposits, the RBI has introduced these norms that aim to spur better conduct from bank management that takes a long-term view on institution building rather than chasing short-term growth. This also effectively means that the RBI, in the interest of public depositors, can choose not to allow the re-appointment of a bank chief executive or ask such an executive to proceed on leave. 

In the case of at least one large payments bank, the RBI specifically declined to ratify the name sent for the bank's chief executive, due to their discomfort with that official’s past stints. This forced the payment bank to look for a better alternative.

Does the RBI's intervention add uncertainty for an investor when it comes to analysing the bank’s prospects and management quality? Yes.

Is the RBI more interested in protecting public depositors by weeding out errant bank management or using its powers to maintain a tight vigil on the system? Yes. 

Maybe in the future, when market discipline and disclosures by institutions improve, the RBI may revisit these norms, but to prevent any systemic issues at banks, it looks likely that the banking regulator will continue to wield its powers in the larger public interest.