Huge Shift In Indian Banks Dividend Payout Ratios Soon; RBI To Modify Rules, A Lot Will Depend On NPAs

The Reserve Bank of India (RBI) has released a draft circular which tightens guidelines for Indian banks in case of their dividends distribution and remittance of profits to Head Office by foreign banks. RBI has invited comments from banks, market participants, and other stakeholders on the draft by January 31. As per the latest draft, a lot will depend upon banks' net non-performing assets (NPA) in paying dividends. The higher the bank's net NPA, the lower be dividend payout ratios in percentage, and vice versa.

According to RBI, banks' management should consider the following for the proposal for the declaration of dividends or remittance of profits:

- The divergence in classification and provisioning for Non-Performing Assets (NPAs), including its trend, as observed under supervisory findings of the Reserve Bank or National Bank for Agriculture and Rural Development (for RRBs), as applicable.

- Qualifications and Emphasis of Matter in the Auditors' Report to the Financial Statements.

- Current and projected capital position vis-à-vis applicable capital requirement.

-Long-term growth plans of the bank.

Also, banks should meet three prudential requirements to be eligible to declare dividends or remit profits. These are:

1. Capital Adequacy: The bank shall have met the applicable regulatory capital requirement for each of the last three financial years including the financial year for which the dividend is proposed.

2. Net NPA: The net NPA ratio, for the financial year for which the dividend is proposed, shall be less than six per cent.

3. Other Criteria: Banks shall be compliant with the applicable laws, regulations/ guidelines issued by the Reserve Bank including, inter alia, creating adequate provisions for impairment of asset and employee benefits, transfer of profits to Statutory Reserves etc. Also, RBI should not have placed any explicit restrictions on the bank for the declaration of dividends or remittance of profits.

Meanwhile, the Dividend Payout Ratio is the ratio between the amount of the dividend payable in a year and the net profit as per the audited financial statements for the financial year for which the dividend is proposed. Further, the proposed dividend payable shall include dividends on equity shares only.

In case the net profit for the relevant period includes any exceptional and/or extra-ordinary profits/ income, or if the financial statements are qualified (including 'emphasis of matter') by the statutory auditor that indicates an overstatement of net profit, the same shall be reduced from net profit while determining the Dividend Payout Ratio.

Accordingly, NPAs will have a lot to do in recognising the ceilings on dividend payout ratios for banks eligible.

RBI's new norms highlighted that if a bank's net NPA ratio is zero, it can declare a maximum dividend payout ratio of 50%. But if the NPA is more than zero but less than 1%, then the dividend payout ratio will be 40%. However, the dividend payout ratio will be lower at 35% for banks with a net NPA of more than or equal to 1% but less than 2%. The ratio will be further lower to 25% if the net NPA is above or equal to 2% but less than 3%, and lastly, the dividend ratio will be a meagre 15% if these banks' net NPA is over or equal to 4% but less than 6%.

RBI said, "The Reserve Bank shall not entertain any request for ad-hoc dispensation on declaration of dividend."

Unlike other sectors, banks' dividend payments are limited. Generally, dividends are distributed also in a certain proportion by listed companies from their net profits earned in a respective financial year.

At present, scheduled commercial banks (SCBs) declare dividends and foreign bank branches remit profit. RBI mentioned that there have been significant changes in the regulatory framework governing banks post-issuance of these guidelines. Some of these developments also have implications for the guidelines on the declaration of dividends and remittance of profits. Given this, the Reserve Bank has undertaken a comprehensive review of the extant regulations on the declaration of dividends and remittance of profits.