Is the CEO of Yes Bank solely to blame for the AT1 bond fiasco?

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On January 20, 2023, the Bombay High Court delivered a body blow to Yes Bank. It reversed then-Administrator (and current Managing Director) Prashant Kumar’s decision to write down Additional Bank Tier 1 (AT1) Bonds totaling Rs 84.15 billion.

This happened even as the bank finally appeared to be on the road to recovery. Although the current CEO may be the scapegoat in this matter, the Reserve Bank of India (RBI) also has a lot to answer for.

There are three consequences to this judgment, which will most likely be appealed by Yes Bank to the Supreme Court.

First, Yes Bank shareholders should be prepared for a huge loss and a capital raise of around Rs 100 billion to recapitalize the bank if the Supreme Court of India upholds the judgment of the Bombay High Court.

Second, even if the Supreme Court agrees with the judgment of the Bombay High Court, AT1 bondholders will not receive overdue interest (because the coupon is not cumulative) until the bank will not have declared a dividend on the shares. This may take a few years and as the bonds are perpetual it is at the discretion of the bank to exercise the call option.

Third, in future bank collapses and rebuilds, administrators should strictly follow the rebuilding plan and obtain formal instructions from the banking regulator for any major decisions outside of the rebuilding plan.

If the Supreme Court of India upholds the judgment of Bombay HC, Yes Banks’ Common Equity Tier 1 (CET1) capital will fall from the reported 13% in the third quarter (Q3) of fiscal year (FY) 2023 at 9.9%.

This takes into account (1) AT1 bonds of Rs 84.15 billion and (2) Rs 9.5 billion of equity and subscription warrants, which are currently not eligible for CET1.

Therefore, to restore stakeholder confidence, and as a precaution, the bank should raise additional equity to offset the AT1 bonds.

3Q2023 (Rupies in millions) Factoring AT1 3Q2023 CET1 315,900 315,900 AT1 0 -84,150 Equity warrants 0 9,484 CET1 Modified 0 241,234 Risk-weighted assets 2,430,000 2,430,000 CET1 (%) 13 .0 9.9

Source: Yes Bank and HKH Research

Source: Yes Bank AT1 Prospectus

Accounting for the rewrite of the AT1 bonds will be done through the profit and loss account, because during its depreciation, the income of the banks increased by Rs 84.15 billion in the financial year 2020, and therefore Yes Bank will now have to report losses in such an event. In light of the Bombay HC judgment, it would have been prudent for the bank to forecast the amount in the 3QFY2023 results which were released on January 21, 2023.

Source: Yes Bank 2020 Annual Report, p. 218

Indicting the administrator, the judgment of Bombay HC states:

“Another aspect that needs to be taken into account is that Yes Bank was reconstituted on March 13, 2020, upon notification of the final reconstruction program of Yes Bank Ltd., 2020. After the bank was reconstituted, the administrator could not have adopted such a decision to write off the debentures. [emphasis added]

Punishing the administrator further, the judges said:

“During this period, the administrator could not have made such a political decision to write down the AT-1 bonds. Nor had the RBI authorized him to do so. The final reconstruction plan also did not authorize longer the administrator to write off the AT-1 bonds It appears that the administrator exceeded his powers and authority by canceling the AT-1 bonds after the bank was rebuilt on March 13, 2020.

The Union government had imposed a moratorium on Yes Bank from 6 p.m. on March 5, 2020, and Prashant Kumar was appointed as administrator.

On March 6, the RBI published a draft reconstruction plan for Yes Bank, which stipulated that all Yes Bank AT1 bonds issued under Basel III would be written down. On March 13, 2020, the definitive regime was notified and entered into force; the final scheme removed the depreciation condition for AT1 bonds. However, a day later on March 14, 2020, the administrator wrote down Rs 84.15 billion AT1 bonds issued under Basel III standards. On March 19, 2020, two officials of State Bank of India were appointed directors of the bank, and on March 20, 2020, the RBI also appointed two directors to the board of the bank.

It would have been highly unusual for a director who was suddenly parachuted in from the outside to single-handedly take such a bold and strategic decision as to write 84.15 billion rupees in ATI bonds within days of taking over. , without obtaining RBI approval. .

Also read: YES Bank Case: CEO Says Bank Out of the Woods; Distancing itself from large corporate borrowers

The very fact that the Bombay HC judgment records that the lawyer representing the regulator said the decision to write down the ATI bonds was legal and necessary to protect Yes Banks depositors indicates that the decision had the support of the RBI. But, in a major contradiction, the Bombay HC judgment also emphatically states that the regulator gave no instructions to the administrator to write the AT1 bonds, and therefore the responsibility for the decision rested entirely with the administrator. In this, he relies on the submission of the RBI.

In fact, the RBI publicly suspended the administrator of Yes Bank. He will become the scapegoat if the Supreme Court also upholds the Bombay HC decision.

On page 48 of the judgment, the court says:

“Therefore, the bonds continue to remain subject to the main circular and continue to be open for delisting. The delisting was legal but also necessary to ensure the protection of more than two lakh individual depositors/account holders.

He then says:

The learned counsel for the respondent, the Reserve Bank of India, argues that although under Section 36 of the ACA, the RBI may issue such instructions to the administrator as it sees fit, but the RBI gave no instructions to the administrator to write the AT -1 bonds.

The role of the RBI as a banking regulator in this particular case is far from stellar. The depreciation condition for AT1 bonds was present in the draft scheme; thus, when the final scheme excluded this condition, it indicated that the RBI or the government had reservations about the legality of the write-down.

Therefore, either the RBI should have advised the trustee not to proceed with the write down or Prashant Kumar should have demanded that the RBI formally issue instructions to write down the bonds. The fact that the RBI supported the administrators’ actions in the court case indicates that, in all likelihood, it had orally ordered him to proceed. At the same time, however, he did not want to be formally identified as the author of the instruction, and therefore he stated that no formal instructions were given.

If the Supreme Court of India upholds the Bombay HC judgment, AT1 bondholders will not get interest relief or recoupment of their principal until the bank declares a dividend on shares and that only the reputation of the directors will be affected, not that of the Reserve Bank of India, a lesson future directors and AT1 bondholders would do well to remember.

Hemindra Hazari is an independent banking analyst and can be contacted at [email protected].

Disclosure:

I, Hemindra Hazari, am an independent research analyst registered with the Securities and Exchange Board of India (SEBI) (Regd. No. INH000000594). I own shares of Yes Bank. The views expressed in this overview accurately reflect my personal opinion on the securities and issuers referenced and/or other matters, as applicable. This preview does not contain and is not based on any non-public material information. To the best of my knowledge, the views expressed in this overview are in accordance with Indian law as well as applicable law in the country from which it is published. I was not commissioned to write this overview or to have a specific opinion on the titles referenced in it. This overview is for informational purposes only and is not intended to provide financial, investment or other professional advice. It should not be construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any security.

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