Urban cooperative banks (UCBs), which have come under scrutiny from the Reserve Bank of India (RBI) in recent years, continue to find the going tough. If challenges like capital availability and asset quality weren’t enough, cases of fraud and issues with corporate governance have added to their woes.
The RBI has cancelled the banking licenses of Adoor Co-operative Urban Bank of Kerala and Mahalaxmi Cooperative Bank Dharwad in the first quarter of FY24. It has also fined many such entities.
Following the collapse of Punjab and Maharashtra Cooperative Bank, the RBI introduced various measures to strengthen governance of cooperative banks in India. For instance, it introduced a four-tier scale-based regulatory framework, wherein larger-sized banks are required to maintain higher capital.
The central bank also increased the priority sector lending targets for these banks to reduce granularity of loan book. UCBs are required to achieve a priority sector lending target of 75% by March 2026.
“Despite these measures, some cooperative banks continue to struggle with relatively weaker asset quality and capital positions or muted profitability due to their low credit-to-deposit ratio,” says Aashay Choksey, vice-president and sector head-financial sector ratings, ICRA.
The structure of UCBs itself has some inherent challenges as their area of operations is limited to certain geographies, say experts. Limited area of operations leads to the issue of dual regulation by the RBI and the state government – there is often a lack of clarity as to who has oversight over these banks.
“Instead of pure professionals, local politicians have a bigger influence on how these banks function. The area of operation is limited to specific geographies. So even if a few accounts go bad, it can drag the entire balance sheet,” says former RBI deputy governor R Gandhi. “Retaining staff is also an issue as salary packages are typically not in line with the banking industry at large.”
While cooperative banks are essential to improving financial inclusion in India, they often fall short on corporate governance standards and professionalism, say experts. Non-compliance with banking regulations is another area of concern.
Cooperative banks follow the ‘one-member, one-vote’ policy and the majority vote determines how these entities are run. In comparison, commercial banks are owned by shareholders, and are focused on generating value for their shareholders by maximizing profits.
“A lot of urban cooperatives are localised with processes and products designed to meet local needs. They are almost like a promoter-driven company wherein the top management, more often the chairperson, has significant influence over all the matters,” says Bhavik Hathi, managing director, Alvarez & Marsal.
This member-driven structure not only has an impact on governance but also on the ability to raise capital. In the long run, this has dented their ability and growth prospects, say experts.
“Over 50% of UCBs have deposits of less than Rs 100 crore. Most of their problems stem because of their tiny size, which doesn’t allow them to deploy requisite resources in either manpower or in technology,” says Raja Debnath, managing director and co-founder, Veefin Solutions. “Due to their cooperative structure, UCBs cannot raise capital from any other source but their members.”
Referring to RBI’s latest financial stability report, Choksey notes that while UCBs have seen an improvement across capitalisation, headline asset quality metrics, and profitability, some of the entities remain vulnerable to credit, market and liquidity risks.