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Lawyer Kayondo on Crane Bank: U.S.’ ‘TARP Model’ Unsuitable for Uganda

Prominent youthful Ugandan lawyer, Silver Kayondo has shed more light on the resolution of Crane Bank, saying most of the procedural requirements were fulfilled by Bank of Uganda as it took over the financial institution previously owned by tycoon Sudhir Ruparelia.

Kayondo, an Advocate with a Master of Laws specializing in Banking and Finance from the University of Pretoria, South Africa, was responding to queries raised by members of the public following a blockbuster interview with ChimpReports last week.

He, however, decried the disappearance of critical documents from Bank of Uganda and Crane Bank.

BoU failed to present some documents pertaining the resolution of some defunct banks, a situation that enraged Parliament’s COSASE.

At Crane Bank, auditors accused Sudhir’s daughter Sheena Ruparelia of ordering aides to delete critical data from A. R. Kalan’s computers.

Kalan, who served as Crane Bank’s Managing Director, disappeared mysteriously from Uganda.

The detailed forensic report submitted to Bank of Uganda says auditors struggled due to “Missing information some of which we understand was deliberately deleted a few months before the review. This includes email user accounts for Mr Ajay Kumar (former Deputy Managing Director Crane Bank) and Mr A. R. Kalan which were deleted in September 2016 allegedly on the directions of Ms Sheena Ruparelia.”

The auditors further said they were “not provided with computers that had been assigned to Ms Ruparelia (Sheena) while we were informed that Mr Kalan and Mr Kumar had taken their hard drives with them when they left.”

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Responding to this, Kayondo notes:Concerning “disappearance” of documents, this is criminal just like deleting of e-mails to destroy the trail of communication like it happened with Crane Bank. In fact, destroying evidence in law creates an adverse inference that such evidence was against the party destroying it.”

He also explains why the TARP model that saved key banks like Bank of America Corp and Citigroup Inc from going under is not viable in Uganda.

Excerpts: Away from Crane Bank, in general what do you have to say about the manner in which Bank of Uganda closed and sold banks, often with no minutes, official correspondence and then disappearance of docs?

I would say that it is irregular for the Central Bank to close any bank without minutes and official correspondence but it does not vitiate the decision taken.

The reasons for the closures are well known to the affected banks, the depositors, creditors and the public. The fact that most of the closed banks were operating in violation of the Financial Institutions Act, 2004 (as amended) such as being significantly undercapitalized, breaching insider lending rules, poor corporate governance, etc is not disputed.

Whereas it is best practice to take minutes of meetings and have official correspondence to act as a public record, these are mostly internal procedural matters that are mostly confidential.

The public aspects such as notification of placement of the banks under statutory management, reason for the action, notification of liquidation, etc are required by statute were substantially complied with.

Concerning “disappearance” of documents, this is criminal just like deleting of e-mails to destroy the trail of communication like it happened with Crane Bank.

In fact, destroying evidence in law creates an adverse inference that such evidence was against the party destroying it.

If you were the regulator, is there anything you would do differently especially in light of the gaps raised by the Auditor General?

Yes, definitely. Regulation is not static. It is a constantly evolving field in line with new market developments and realities.

The Auditor General issued specific findings on record keeping, settlement of claims, financial ledgers in respect of liquidation expenses, among other factors.

I am not privy to the internal workings of the Central Bank, and if the Auditor General identified these weaknesses, then they need to be rectified.

No system is 100 percent perfect when subjected to audit processes, hence the need for periodic auditing and reviews to improve the system.

Do you think there are systemic issues like interest rates, domestic arrears etc that should be addressed to reduce bank mortality?

I have reviewed the bank failure reports for some banks, and I am of the opinion that most of the bank failures arose to a greater extent, from internal mismanagement.

For instance, the Uganda Commercial Bank issued out a lot of unsecured loans that stripped it of recoveries and thus couldn’t be sustainable as a going concern.

Co-operative Bank was closed in May 1999 as a result of a long history of distress arising from the political instability of the 1980’s and collapse of the cooperatives.

It was being kept afloat by foreign donor funds. Greenland Bank was failed by poor corporate governance, massive insider lending and political interference.

National Bank of Commerce was failed largely by the Amama Mbabazi politics as opposed to interest rates and domestic arrears.

For cross-border banks, failure has been more of a result of failure at parent level, such as Imperial Bank Uganda Limited which was placed under statutory management and eventually transferred to Exim Bank after the Central Bank of Kenya raised concerns over the bank’s operations at its headquarters in Nairobi.

With creative solutions, interest rate risk and domestic arrears can be managed if the other fundamentals are robust. Those fundamentals operate under the CAMELS framework, a supervisory rating designed to classify a bank’s overall condition in terms of capital adequacy, assets, management capability/competencies, earnings, liquidity and sensitivity to market risk.

Adequate capitalization coupled with proper and ethical corporate governance can mitigate the interest rate and arrears risk because in spite of these risks, bank profitability for the compliant and well-diversified banks in the market remains well documented.

For instance, in 2017, Uganda’s banking industry recorded a 10% growth in net profit to Shs 673bn, up from Shs 611bn in 2016 excluding Crane Bank (Shs 302bn including Crane Bank).

This was in spite of the high level of Non-Performing Loans (NPLs) and political risk just after the national elections.

Arrears are a contractual matter arising out of breach of payment obligations on the side of government. There are available legal remedies to enforce contracts. It is ironic to think that a party who is unable or willing to pay a debt can give a bail-out.

Is there merit for government to adopt the American TARP model that saved key banks like Bank of America Corp & Citigroup Inc from going under? In fact the same should be extended beyond banks to especially look out for vital Ugandan companies. Government can exit via the bourse.

To put this into perspective, the $700 billion “Troubled Asset Relief Program” (TARP) was enacted as the US government’s answer to the 2008 credit crunch.

By the time of its enactment, all the world’s stock markets had already dropped by about 20% of their value when compared with 2007.

With banks both unwilling and unable to lend because of the toxic assets like mortgage backed securities and collateralized debt obligations (CDOs) stuck on their balance sheets, it was hoped that if the US government bought these assets at a fair price, banks would feel a bit more enthusiastic about lending money to households and companies in future.

In fact, according to Forbes, the problem with most U.S. banks in 2008 was not that they were “under-capitalized” but that they held so many shaky (sub-prime) residential mortgage-backed securities.

The policy was also unpopular with the major banks because it narrowed the  banks’ net interest margins, killed the incentive for credit intermediation (“borrowing short, lending long”), and cratered asset prices, thus wiping out some banks’ capital cushions.

In Uganda’s context, Uganda’s total revenue for this year is $4.3 billion (Shs. 16.2 trillion). When compared with the $700 billion TARP cost the US, you realize that government does not have such money to undertake such a commitment.

We are already struggling with basic infrastructure, health, education and general citizen welfare. Add our growing debt obligations, this is not a sustainable approach to building private enterprise. It carries enormous moral hazard.

This was noted by the Congressional Oversight Panel report for the $700 billion bailout which faulted the U.S. government for helping underpin the perception that federal authorities will always prevent troubled financial firms from failing.

The report found that the US Treasury had failed to set clear goals, making it difficult to determine whether intervention in GM, Chrysler, suppliers and automaker financing arms was successful when measured with long-term effects such as distortion of fair competition in the credit markets.

Then, you suggest exit via the bourse (stock exchange). The U.S. stock market is about 43% of the world stock market. It is worth about $30 trillion dollars currently according to a recent report from Bespoke Investment Group.

Apple (AAPL) alone, valued at $911 billion, is about 3% of the US total stock market cap. Before the CIPLA listing, the Uganda Securities Exchange had a market cap of about Shs 21 billion (Approx $5.5m). We are talking about real value here, not theories and economic experiments.

In fact, the reason we do not have many Venture Capital and Private Equity deals in Uganda is because of limited Initial Public Offerings (IPOs) as an exit strategy for investors. The CIPLA IPO listing came almost five years after the UMEME IPO. Therefore, this is not a speculative gamble that government should use with tax payers’ money.

Bail-out must be used in very extreme circumstances. Uganda is a young market, largely informal sector dominated and mainly comprised of SMEs.

The “too big to fail” problem is not as severe as the multi-jurisdiction and highly globalized banking, insurance and credit markets of the US.

Therefore, addressing short-term challenges such as entrepreneurship training, low-cost credit to SMEs, review of tax policy, and incentivizing business formalization are critical.

Allowing the Ugandan government to adopt the American TARP model has the risk of giving political control and interference in private business in terms of how bail-outs are assessed, the beneficiaries, priority sectors, transparency, monitoring and evaluation, etc.

It would also distort the market in the sense that by buying up distressed assets at low prices, the government would set a market price and all the affected businesses would mark their assets to market to that artificial price, thus causing more write-downs.

Investors and banks view political involvement in private business as bearish (pessimistic), not bullish (optimistic). It might also breed more corruption where bail-outs go to the highest bidders in terms of kick-backs.

Kayondo holds an Advanced Certificate in Insolvency and Restructuring under the auspices of the South African Restructuring and Insolvency Practitioners Association (SARIPA).  His thesis title was “Legal Aspects of Distressed Bank Rescue: Lessons for Uganda from the English and South African Experience”. A copy can be obtained via this linkhttps://repository.up.ac.za/handle/2263/60055. He tweets @SilverKayondo

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