The Reserve Bank of India proposes to reopen the contentious issue of holding companies for banks, as part its review of the roadmap for foreign bank operations in India.

RBI had earlier proposed to defer the review, which is meant to provide guidelines for the presence of foreign banks in India from April 2009 onwards, given the current economic meltdown globally and in the domestic markets.

The central bank will reconsider draft guidelines it issued during Governor Y V Reddy's tenure, following proposals by ICICI Bank [Get Quote] and State Bank of India [Get Quote] in 2007.

In June 2007, ICICI Bank had proposed to divest 24 per cent in ICICI Financial Services, its holding company, in favour of foreign investors. The financial services company, in turn, would hold ICICI Bank's stake in its insurance and mutual fund businesses.

At that time, RBI had said it preferred to avoid an intermediate holding company structure, under which a bank is owned by a holding company that conducts non-banking businesses, because it would raise problems with regulation.

Sources said regulating a bank is not easy when RBI does not have jurisdiction to regulate a holding company unless it is registered as a non-banking finance company.

RBI to revive . . .

In the case of foreign banks, the performance and presence of the foreign banks will be reviewed based on the 2005 roadmap to accord full national treatment to wholly-owned subsidiaries and listing such subsidiaries in the Indian markets to raise funds by diluting at least 26 per cent of the paid up capital.

Under the World Trade Organisation agreement, national treatment means treating foreign players on a par with local entities. The dilution can take place either through an initial public offer or as an offer for sale through private placement.

So far, however, no foreign bank has converted its branch into a wholly-owned subsidiary which has partly triggered the need for review of the holding company structure for the banks, sources said. Banking sources said converting a bank into a WoS will require it to be registered as a company.

From the bank's point of view, the cost structure is not too beneficial if it has operate as a registered company given the amount of disclosure, multiplicity of supervision and higher taxes. In addition, a minimum capitalisation of Rs 300 crore (Rs 3 billion) is required.

Moreover, the lack of clarity in the structure of the banks is one of the main reasons foreign banks are not comfortable about acquiring domestic banks. As a company, a takeover is feasible, but as a branch of a foreign bank, there will too many complications.

Therefore, one of the better options could be for the bank to convert itself into a holding company and then obtain licences from RBI for a bank and from other regulators for operations such as merchant banking, insurance and so on.

As far as the acquisition of Indian banks by foreign banks is concerned, the review may not touch on the issue of voting rights which is kept at 10 per cent in private banks irrespective of the shareholding. It may also defer the proposal for foreign banks to acquire private sector banks given the current economic conditions both in the domestic markets and globally.

Under current guidelines, foreign banks are allowed to acquire 74 per cent in only 'weak' Indian banks - that is, those with non performing assets of above six per cent on advances, losses for three consecutive years, net worth below Rs 300 crore and capital adequacy ratio of below 9 per cent.