Prof. Jayanth R. Varma's Financial Markets Blog

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Prof. Jayanth R. Varma's Financial Markets Blog, A Blog on Financial Markets and Their Regulation. This blog is currently suspended.

© Prof. Jayanth R. Varma
jrvarma@iima.ac.in

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2020
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Sat, 07 Mar 2020

Structuring the Yes Bank rescue

I have been trying to wrap my head around the Reserve Bank of India’s draft scheme of reconstruction of the Yes Bank Ltd under which the government owned State Bank of India (SBI) intends to rescue Yes Bank by picking up a minority equity stake without first wiping out the equity shareholders. It is very hard to make a good estimate of the value of Yes Bank without a highly intrusive due diligence for which there is no time now. However, the working assumption has to be that while the deposits and senior debt are hopefully not yet impaired, the equity and junior debt could conceivably turn out to be worthless. Any rescuer would therefore legitimately demand that its capital infusion be senior to existing equity.

The obvious solution of using preference shares is not available because:

The next best solution would be to first wipe out the existing equity shareholders and then compensate them in one of the following ways:

To my mind, there are three compelling arguments for wiping out the existing shareholders:

  1. This protects the interests of the taxpayer who is indirectly paying for the bailout because the rescuer is a public sector bank.

  2. It avoids the counter intuitive outcome that Yes Bank’s AT1 bonds are wiped out, but the share capital is left intact.

  3. It would strengthen Pillar 3 of the Basel framework which aims to promote market discipline as an integral element of bank regulation. I complained a year and a half ago that the quiescent shareholders of Yes Bank had failed to discipline the management. It would be a good idea to send a clear signal to the shareholders that if they are too quiescent, they stand to lose everything.

Exotic financial instruments have a bad name these days, but as I wrote seven years ago, they have proved invaluable in designing rescue packages for the financial sector.

Posted at 20:16 on Sat, 07 Mar 2020     View/Post Comments (1)     permanent link