Manipulation to be mitigated through updated legislation

Would you give is the highlights of the amended Law on Credit Institutions passed by policymakers in January?

Economist Le Xuan Nghia

It is the story of controlling cross-ownership and manipulation of credit institutions, which have been thorny issues in the banking system for years. To mitigate these practices, the Law on Credit Institutions presents diverse regulations with a prime target of bringing these negative activities under control.

One new point in the amended law is the requirement for shareholders holding 1 per cent or more of charter capital to disclose information about themselves, the ownership ratio, and information about related persons and the ownership ratio of relevant shareholders to ensure the rights of minority shareholders. It makes clear the list of shareholders and their respective rate of capital contribution.

I think that when this information goes public, it shall curtail the need for someone else to stand as the shareholder owner to cash in on benefits; or if this occurs, the inspection and supervision body can conduct an investigation and verify the source of contributed money. This is the most important requirement in cross-ownership and manipulation prevention.

Some countries have also been required to clarify the origin of contributed money, and verify up to three generations to avoid using loans or asking other persons to play as shareholders.

Most importantly, the banking system must operate in accordance with the provisions of international law, meaning it must be a public company unable to have ruling shareholders, to protect the interests of minor shareholders.

The amended law reduces the credit limit for customers and related persons, in addition to setting a limit on stake ownership of major shareholders and related persons. What do you see in these changes?

In light of the amended law, some individuals shall not be given credit, especially when they are directors or related individuals. In addition, the total outstanding balance sum given to one customer, and to one customer and a related person shall be gradually decreased following a phased roadmap.

This move helps diversify the credit portfolio while minimising moral hazards from the part of customers and overdue debt threats for credit institutions.

Accordingly, banks having the loan ratio to a related customer group exceeds the ratio according to the new regulation shall face pressure to restructure loans for this customer group, simultaneously their credit balance may go down due to this customer group. Those banks must then find another capital source to pay off the loan to meet the new ratio.

The amended law also rules that an individual shareholder may not own more than 5 per cent charter capital of a credit institution (including indirect ownership), and an organisation may not own more than 10 per cent charter capital of a credit institution (including indirect). A shareholder and related person may not own more than 15 per cent charter capital of a credit institution; and a major shareholder and related person of a credit institution may not own more than 5 per cent charter capital of another credit institution.

I think this limits cross-ownership and helps identify major risks from “backyard” businesses, like recent notorious cases with the SCB and Van Thinh Phat. There are currently seven listed banks with institutional shareholders owning more than 10 per cent of their charter capital.

Is it fair to say the new regulations only limit, but do not radically tackle cross-ownership, manipulation, and bottlenecks?

With the amended law, the ownership and credit limit ratios are adjusted downwardly step-by-step, whether these regulations can reduce cross-ownership or manipulation practices is another story.

The common act of “stealing bank capital” goes beyond the competency of the former law. If the new law doesn’t have the newer regulations, it would be impossible to prevent these negative phenomena.

Under current regulations, firms can establish their subsidiaries easily under the Law on Enterprises, without having to publish this information, publicly announce the list of shareholders, or make clear of the source of capital contribution.

When subsidiaries are created, they might generate virtual revenue by supplying goods to each other, running cash flow to increase revenue with the goal of proving the debt repayment ability of these companies, then these subsidiaries might abuse banks’ capital sources. This is beyond the reach of the State Bank of Vietnam’s (SBV) Inspectorate.

Besides this, there are cases where these subsidiaries issued bonds, with a small part sold to the public and a large part sold to their own banks. This is also a way to cash out for banks as, under current law, they have the right to partly invest in bonds, supporting other member units in the system to buy bonds issued by the subsidiaries.

This is also beyond the reach of the inspectorate. Without an in-depth investigation, such practices cannot be completely prevented. This is one of the unique situations of Vietnam.

The amended law therefore can only limit cross-ownership and manipulation to a certain extent. The key here is how to limit the massive establishment of subsidiaries for the purpose of withdrawing money from banks, yet not for doing business. This is beyond the reach of the SBV. Solving this mandates inter-sectoral coordination between the Ministry of Finance, the SBV, and management agencies.

In many countries around the world, when establishing a company, in addition to registration and information disclosure requirements, finance ministries take control of auditing, revenue monitoring, and taxable expenses. If companies are detected cheating, they will be severely punished.

This year they can avoid tax, but next year they might not be able to avoid tax as tax penalties are retroactive. Tax discipline is therefore one of the most important measures to contain the setting up of companies massively to drain banks, yet regrettably, the tax and audit discipline in Vietnam is currently lax, leading to businesses taking advantage of this to make illegal profits.

In a nutshell, the amended Law on Credit Institutions contains new regulations and an expectation to bring upbeat signals to the market.

Banks will help partially limit cross-ownership and manipulation, especially in providing shareholder information, capital contribution ratio, and the source of money, yet the next step must be tax discipline compliance.

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