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Reserve Bank of India Proposes Tougher Capital, Sale Rules for New Banks

India’s central bank recommended tougher capital rules for new lenders and mandatory share sales within two years as conditions for issuing new licenses for the first time in seven years.

New private lenders will have to open at least one in four branches in rural areas that have a population of no more than 9,999 people, the Reserve Bank of India said in draft guidelines posted on its website yesterday. The banks may need to meet a minimum capital requirement of 5 billion rupees ($109 million), more than double the requirement for banks in 2004. Foreign shareholding may be capped at 49 percent for new lenders for five years, the central bank said.

Stringent rules may restrict the number of entrants, according to Viren H. Mehta, a director at Ernst & Young LLP in India. The license winners will also face competition from State Bank of India (SBIN), which accounts for almost a fourth of India’s loans, and ICICI Bank Ltd. (ICICIBC) Companies including Larsen & Toubro Ltd. (LT) and billionaire Anil Ambani’s Reliance ADA Group have expressed interest in operating in a market where credit is forecast to expand 18 percent in the year to March 31.

‘Serious Players’

“If a business group wants to get into the banking business, they have to be serious players,” said Mehta. “Serious enough to even change their group structures to become eligible for a license,” he said in a phone interview yesterday.

Religare Enterprises Ltd. (RELG) said its owners qualify to apply for the license under the draft guidelines. The New Delhi-based group, controlled by billionaire brothers Malvinder Mohan Singh and Shivinder Mohan, plans to set up a panel to help guide the company, according to a statement today.

“We would align our proposed business model” to comply with “regulatory intent,” Religare said in a separate statement yesterday.

New banks will also need to maintain a 12 percent capital adequacy ratio, compared with the 10 percent mandated by the regulator when it set guidelines for new lenders in 2001.

The owners of the banks will have to reduce their stake to 40 percent within two years after they are given a license, according to the central bank. Governor Duvvuri Subbarao on Aug. 23 said public ownership of banks would inspire confidence in the financial system and mitigate issues of conflict of interest between shareholders and depositors in the banks.

‘Impractical’ Guidelines

“The guideline asking for a listing within two years appears to be a bit impractical,” said Hemant Kanoria, chairman and managing director at SREI Infrastructure Finance Ltd. (SREI) “It will be very difficult for branches in the rural areas to start generating profits in the first two years.”

SREI will wait for final guidelines before deciding on applying for a license, Kanoria said in a phone interview yesterday. The regulator has sought feedback by Oct. 31.

SREI advanced 5.4 percent to 41.95 rupees at the 3:30 p.m. close in Mumbai, while Religare fell 1.3 percent to 415.4 rupees, paring initial gains of over 7 percent.

Companies including L&T Finance Holdings Ltd., Bajaj Finserv Ltd. (BJFIN) and Mahindra & Mahindra Financial Services (MMFS) Ltd. “appear to meet the key criteria,” analysts led by Santosh Singh, at Espírito Santo Investment Bank Research said in a note today.

“The surprising element was restricting of banking licenses to private sector companies,” Singh said. That excludes Rural Electrification Corp., Power Finance Corp. and “to a certain extent” LIC Housing Finance Ltd. (LICHF), he wrote in the report.

Real Estate

“We want a banking license and the guidelines announced are positive for us,” R. Sridhar, managing director of Shriram Transport Finance Co. said in an interview yesterday. “We may need some time to meet some conditions.”

L&T Finance fell 2 percent to close at 49.8 rupees. Reliance Capital Ltd. (RCAPT) advanced 1.8 percent to 384.2 rupees. Bajaj Finserv fell 7 percent to 537 rupees.

India’s Bankex index, which tracks 14 lenders including State Bank and ICICI, climbed 2.2 percent today, trimming its loss this year to 19 percent.

Business groups controlled by Indian residents with at least 10 years of experience may be eligible to set up banks, the central bank said yesterday. Companies that get 10 percent or more of their income or assets from real estate or broking in the last three years won’t be eligible for the licenses, according to the guidelines.

The proposed rules will ensure companies don’t use their banks as a “private pool of readily available funds,” Subbarao said on Aug. 23.

To contact the reporters on this story: Ruth David in Mumbai at rdavid9@bloomberg.net; Anoop Agrawal in Mumbai at aagrawal8@bloomberg.net

To contact the editor responsible for this story: Chitra Somayaji at csomayaji@bloomberg.net

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