YES BANK- Businessworld Transformation Series 2.

YES BANK – Businessworld Transformation Series has been conceived as a 3 part series, designed to provoke
acumen and thoughts of management students with specific business scenarios. It is our endeavor to present to
you the most pertinent opportunities and challenges facing the Indian banking sector, thereby increase
awareness, elicit participation and jointly identify strategies for transformation. The basic ethos of the
Transformation Series is to enthuse the concept of Innovation Driven Growth in young minds.

Last year, in the first edition of the Transformation Series, you had advised “Professionals’ Bank of India Ltd
(PBoI Ltd)” in devising its business strategy to: Build a World Class Human Capital, Build a strong consumer
brand and Identify growth opportunities in allied businesses.

A brief background of PBoI Ltd.

As you are aware, in a relatively short span of 26 quarters, PBoI has emerged as the #1 Mid Sized Bank in the country. In
a relatively commoditized and highly competitive market, PBoI has created a unique differentiated positioning through
Knowledge Banking driven relationship oriented strategy, focusing on the emerging sectors of economy. As full service
commercial bank, PBoI combines the strengths of its Relationship teams, Product experts across Transaction Banking,
Corporate Finance, Financial Markets, Investment Banking and Knowledge Bankers to provide customized financial
solutions to its clients. PBoI has since inception invested in innovative business processes and technology platforms and
has many firsts to its credit. This competitive advantage has enabled the Bank to provide consistent customer service and
TATs, while continuing to grow rapidly.

This year, in the 2nd part of the Transformation Series, we focus on an interesting challenge thrown at the
Banking Sector:

Sustainable Financial Inclusion Based on Market Principle: The issue of financial inclusion is at the center
stage of agenda for the government. Banks will need to develop innovative & profitable means to serve this
segment through low cost business models having low break even ticket size of business.

Sustainable Financial Inclusion Based on Market Principles

“Financial inclusion may be defined as the process of ensuring access to financial services and timely and adequate credit
where needed by vulnerable groups such as weaker sections and low income groups at an affordable cost.”
– Report of the Committee on Financial Inclusion, headed by Dr. C Rangarajan, former governor of RBI.

Traditionally, there have been some major challenges in achieving complete financial inclusion in a large
country like India with infrastructure in varied states of development. Further, reasons behind Urban Exclusion
are quite distinct to reasons behind Rural Exclusion and hence the solutions need to be developed accordingly.
• Rural: Only 10% of the villages have a bank branch, and underdeveloped infrastructure in these places
limits access to these branches. The opportunity cost for a rural customer travelling to a branch, is a major
deterrent. Last mile connectivity adds to the cost of banks.
• Urban: Urban financially excluded consumer comprise largely of laborers, self employed and workers in
unorganized sector who is typically a migrant, slum dweller without regular or substantial income, credit
history or identity references. He/she needs to be educated and convinced about the benefits of formal
banking, given that reaching out to banks for small ticket transactions takes away productive, wage earning
time.

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• Common factors: Socio-cultural factors like illiteracy, language and mistrust & unfamiliarity with financial
products, lack of sufficient KYC/credit history/profile act as barriers to access. At the same time,
operational issues such as high costs associated with low value transactions and a limited rural product
suite dampen the uptake of banking services by the rural customer.
(Exhibit 1: Earners having Bank Accounts)

There is a lot of ground to be covered in terms of comprehensive financial inclusion. Nearly 45.9 million farmer
households (51.4%) out of a total of 89.3 million households do not have access to credit either from institutional
or non institutional sources (NSSO, 2008). Further, only 27% of total farm households are indebted to formal
sources, and population per bank branch is as high as 16,000 per branch. (Exhibit 2: Population per Bank Branch)

At the same time, the success and rise of MFIs is noteworthy and has resulted in a paradigm shift. The
previously non-bankable sections of the society are now perceived as a source of revenue, more so when RBI is
increasingly focused on “bank led financial inclusion model”.

RBI is committed to achieving 100% Financial Inclusion and has initiated a number of measures involving
Commercial Banks. While regulatory requirements do ensure that commercial banks focus on banking the
underdeveloped and excluded, they need to appreciate the business potential in financial inclusion.

Given the backdrop of the developments, the RBI, in January 2010, advised banks to ensure provision of
banking services to the financially excluded and asked banks to submit a plan to provide banking services
through a “banking outlet” in every village having a population of over 2000. RBI suggested that such banking
services may not necessarily be extended through a brick & mortar branch but can be provided through any of
the various forms of Information & Communication Technology (ICT) - based models to efficiently leverage on
the available technology-enabled financial inclusion solutions, including through Banking Correspondents
(BCs).

While Banks have not yet figured out a convincing method of servicing the financially excluded, they are keen
to develop sustainable business models. Innovation lies at the heart of financial inclusion, for their needs are
often sudden and exclusive. (Exhibit 3: Purpose of Loans)

Evolving Regulatory Environment

Importantly, lending to the financially excluded segment – including farmers, Self Help Groups (SHG) or Joint
Liability Groups (JLG) of individual farmers, micro and small enterprises, micro credit etc. qualifies as Priority
Sector Lending (PSL) and forms a critical portion of a Bank’s PSL targets. Till recently, lending by banks – both
directly and indirectly (and related banking services like saving, micro insurance, remittances) to this segment,
has been driven by the need to fulfill the ‘mandated’ PSL targets. However, going forward, it will be a strategic
priority for banks as the customer segment in question will be the largest in numbers over the next decade and
is being targeted by multiple financial institutions like NBFCs, MFI etc.

As banks increasingly realize that the bottom pyramid is bankable and profitable, a number of factors have
necessitated strategic rethinking on part of PBoI. Recently, RBI introduced Base Lending Rate for banks, doing
away with PLR linked rates to bring more transparency to loan pricing, effective from July 1, 2010. The base rate
for public sector banks is in the range of 7.0 percent to 8.25 percent, while that for private sector and foreign
banks is lower by 50-100 basis points (Exhibit 4: Base Rate of Some leading Public Sector Banks, Exhibit 5: Base Rate
of Some leading Private Sector & Foreign Banks). PBoI has fixed its base rate at 7.0%. It remains to be seen how
PBoI can effectively use the 25-125 bps differential in base rates – especially with respect to inclusive banking.

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Leading bankers believe that RBI will continue to monitor and tweak the regulatory environment to ensure that
financial inclusion is followed in spirit and not only in letter. While currently, a lot of banks favor partnerships
with Microfinance Institutions and Corporates to indirectly lend to the weaker section and achieve PSL
requirements, thus reducing the need for an extensive organizational setup; RBI wants banks to focus on direct,
granular lending to ensure that multiple channels of financial inclusion are operational.

PBoI Roadmap for Financial Inclusion

PBoI has successfully adopted a two pronged strategy towards its Priority Sector Lending targets and its
commitment towards promoting Financial Inclusion. Through-out its initial formative years, PBoI has relied
heavily on its knowledge banking strategy, its expertise in Agri business and a B2B model - strong relationships
with corporate engaged in Agribusiness value chain to reach out to the farmers and lending to MFIs, through
structured lending programs. PBoI’s has consistently exceeded its yearly PSL requirements (Annexure I: PBoI’s
financial highlights) through this process and has alleviated the shortcomings of a relatively smaller and less
matured branch network, which is critical to direct farmer lending/weaker section lending.

Simultaneously, PBoI has developed some business experience in direct farmer lending/weaker section lending
through its uniquely designed pilot programs in select branches. PBoI has also been constantly engaging with
the financially excluded community through its branch led Community Programs, where local community is
invited to its branches, typically on weekends, to educate them on topical issues like financial literacy, ground
water harvesting etc.

PBoI has institutionalized an Inclusive and Social Banking Group, within the Bank, led by Mr. P Raman, Chief
Financial Inclusion Officer who reports directly to the MD & CEO. While PBoI is a bank with pan India
presence, its mature businesses - Wholesale Banking, Corporate Finance, and Retail Banking has been focused
largely in the Delhi – Mumbai Industrial Corridor (DMIC) given the concentration of current & planned
development in this corridor. Consequently, the Inclusive Banking Group also has been mostly based out of
these regions in its current pilot phase. (Exhibit 6: PBoI’s Inclusive & Social Banking Group – organization structure)

Currently, the Inclusive Banking team, in its first phase of operation, is operating out of three regions which
cover 9 zones and 30 branches. Considering that large tracts of untapped markets, especially in South and East
India exist, leveraging the branch network (150+ branches across India with roughly 2:1 distribution across
North +West and South + East India) is crucial.

PBoI now plans to develop and roll out a Financial Inclusion (FI) strategy which will, over the next 18-24
months, enable it to comprehensively cater to the financially excluded segment, in a profitable manner, without
significantly diluting its risk profile and there by developing its FI business into a competitive advantage. PBoI
also intends to meet its PSL subcategories targets fully through its FI Plan by FY 12.

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The key drivers of the strategy should include the following:

a) Roll-out of the Strategy: Designed around PBoI branches – to effectively leverage its rural/semi urban
presence (Annexure II – PBoI’s branch network – current & proposed). Where to pilot, how to roll out most
efficiently, minimize the costs of acquisition and servicing while retaining sufficient control

b) Quality of Portfolio: The risks must be commensurate with the returns. PBoI has always had lowest
NPAs among its peer group.

c) Technology Driven: Strategy should fully leverage PBoI’s ‘Technology Edge’ including the Mobile
Money initiative in collaboration with Obopay and Nokia.

d) Comprehensive product offering: Focus on non-credit products – remittances, liability products & third
party product distribution (micro-insurance) apart from credit products, thereby ensuring one-stop
solution, reducing risks and increasing RAROC.

e) Credit products: Product suite and structure, delivery, monitoring & recovery process to be developed
so as to not dilute the Bank’s risk profile.

f) Manageable manpower deployment and cost: As much as possible to be utilized through outsourcing
(use of BC model) and technology

g) Partnerships: PBoI has typically followed a B2B2C model in most of its businesses i.e. partnering with
companies to ride on their expertise of the specialized firm to accelerate roll out, reduce operating costs
and ensure continuous innovation.

h) Marketing strategy consistent with the target segment

You are required to develop execution plans along the above lines. It is critical that you understand the business
dynamics of this segment, are familiar with the extant RBI regulations, competitive landscape, prioritize
opportunities and incorporate typical portfolio dynamics. Your strategy should be consistent with PBoI’s
strengths and overall growth plans.

While the focus should be on understanding the overall business dynamics and proposing innovative yet
practical business solutions, you are also expected to develop a business model (projected financials - year on
year book/portfolio, P&L), clearly highlighting underlying assumptions.

Annexure 1 : PBoI’s Financial highlights

Annexure 2a : PBoI’s Branch network – current and proposed
Annexure 2b : Bank-group and population group-wise number of branches of Scheduled Commercial Banks –
March 2009
Annexure 3 : Key RBI regulations

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Exhibit 1: Earners having Bank Accounts (Percentage of total earners)
Annul Income (INR) Urban Rural Total
<50,000 34.1 26.8 28.3
50,000 – 100,000 75.5 71.2 73.0
100,000 – 200,000 91.8 87.4 89.9
200,000 – 400,000 95.5 93.6 94.9
>400,000 98.0 96.3 97.6
All 61.7 38.0 44.9
Source: RBI report on Currency & Finance 2006-08

Exhibit 2: Population per Bank Branch (in thousands)

Year Rural Urban Total
1969 (June) 82 33 63
1981 (March) 20 17 19
1991 (March) 14 16 14
2001 (March) 16 15 16
2007 (March) 17 13 16
Source: RBI report on Currency & Finance 2006-08

Exhibit 3: Purpose of Loans

Purpose of Loan No. of Loan Taking Earners (MM) Percent of Loan Taking Earners
Purpose of Loan Rural Urban Rural Urban
Financial Emergency 20.2 4.7 26.3 31.0
Medical Emergency 12.5 1.8 16.3 11.7
Business Needs 7.1 2.1 9.3 14.0
Others 36.8 6.5 47.1 43.3
Total 76.6 15.1 100.0 100.0
From Non-institutional Sources
Financial Emergency 15.4 3.4 29.4 34.3
Medical Emergency 10.5 1.5 20.1 14.8
Business Needs 3.9 1.2 7.5 12.3
Others 22.6 3.8 43.0 38.6
Total 52.4 9.9 100.0 100.0
From Institutional Sources
Financial Emergency 4.8 1.3 19.6 24.9
Medical Emergency 2.0 0.3 8.1 6.0
Business Needs 3.2 0.9 13.0 17.1
Others 24.2 5.3 59.3 52.0
Total 34.2 7.8 100.0 100.0
Source: RBI report on Currency & Finance 2006-08

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Exhibit 4: Base Rate of Some leading Public Sector Banks* (as on Sept 15’ 10)
Bank Rate (%) Bank Rate (%)
State Bank of India 7.50 Allahabad Bank 8.00
State Bank of Bikaner and Jaipur 7.75 Canara Bank 8.00
State Bank of Mysore 7.75 Indian Bank 8.00
State Bank of Hyderabad 7.75 Central Bank of India 8.00
State Bank of Travencore 7.75 UCO Bank 8.00
Punjab National Bank 8.00 Bank of India 8.00
Bank of Baroda 8.00 Indian Overseas Bank 8.25
Union Bank of India 8.00 Syndicate Bank 8.25
IDBI Bank 8.00 Dena Bank 8.25
*Arranged according to increasing Base Rates

Exhibit 5: Base Rate of Some leading Private Sector & Foreign Banks* (as on Sept 15’ 10)
Bank Rate (%) Bank Rate (%)
Deutsche Bank 6.75 Citibank 7.25
HSBC 7.00 ICICI Bank 7.50
IndusInd Bank 7.00 Axis Bank 7.50
PBoI Limited 7.00 Federal Bank 7.75
YES Bank 7.00 Bank of Rajasthan 8.00
DBS Bank 7.00 South Indian Bank 8.10
Standard Chartered 7.25 Karur Vysya Bank 8.50
HDFC Bank 7.25 Lakshmi Vilas Bank 8.75
Kotak Mahindra Bank 7.25
*Arranged according to increasing Base Rates

Exhibit 6: PBoI’s Inclusive & Social Banking Group – Organizational Structure (50 member team)

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Annexure 1: PBoI’s Financial highlights

Key Balance Sheet Figures:-

March 2010 March 2009 Growth
Particulars
(INR in cr.) (INR in cr.) ( %)
Advances 22,193 12,403 78.9
Investments 10,201 7,117 43.5
Others 3,979 3,381 17.7
Total Assets 36,382 22,901 58.9
Shareholder’s funds 3,090 1,624 90.2
Deposits 26,799 16,169 65.7
Borrowings 4,749 3,702 28.3
Others 1,744 1,406 24.2
Total Liabilities 36.382 22,901 58.9

Key Profit & Loss Figures:-

March 2010 March 2009 Growth
Particulars
(INR in cr.) (INR in cr.) (%)
Net Interest Income 788 509 54.7
Non Interest Income 576 437 31.7
Total Income 1364 946 44.1
Operating Expenses 500 418 19.5
Operating Profits 864 528 63.6
Provisions & contingencies 137 62 121.7
Profit before Tax 727 466 55.9
Provision for Taxes 249 162 53.5
Net Profit after tax 478 304 57.2

Key Ratios:-
Key Ratios FY 2010 FY 2009
Return on Equity 23.7 20.6
Basic Earnings per Share Rs. 15.65 10.24
Diluted Earnings per Share Rs. 14.87 10.14
Book Value Rs. 90.86 54.69
Non Interest Income to Net Revenues 42.2 46.2
Cost to Income 36.7 44.2
Gross NPA Ratio 0.27% 0.68%
Net NPA Ratio 0.06% 0.33%
Capital Adequacy Ratio (Tier I + Tier II Capital) 20.6% 16.6%

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Annexure 2a: PBoI’s Branch network – current and proposed Current Branch network:-

Proposed Branch network - In addition to above, PBoI plans to launch another 100 branches within one year.

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Annexure 2b: Bank-group and population group-wise number of branches of scheduled commercial banks -March 2009

Population Group
Bank Group Total Branches
Rural Semi – urban Urban Metropolitan
SBI & Associates 5560 4835 3043 2624 16062
Nationalized
13381 8669 8951 8375 39376
Banks
Foreign Banks 4 4 52 233 293
Regional Rural
11626 2746 667 88 15127
Banks
Other SCBs 1113 2638 2715 2411 8877

All SCBs 31684 18892 15428 13731 79735

Source: RBI Branch Banking Statistics, March 2009

Annexure 3: Key RBI regulations

Salient Points from RBI Circular on Financial Inclusion dated 12.01.2010

Background: On November 27, 2009, RBI directed that the lead banks may constitute a Sub-Committee of DCCs to
draw a roadmap by March 2010 to provide banking services through a banking outlet in every village having a
population of over 2000, by March 2011

All domestic commercial banks should submit their specific Board approved Financial Inclusion Plans (FIP) to RBI by
15th March 2010, with a view to rolling them out over the next three years

Financial Inclusion to be made an integral part of the Bank’s business plan

All banks must include criteria on financial inclusion in the performance evaluation of their field staff. This aspect
should also be included in the Plan.

The names of the villages that have been provided with banking connectivity either through BCs or any of the ICT
initiatives should be put on the bank’s website

RBI Circulars can be accessed at:

1. Master Circular – Lending to Priority Sector

http://www.rbi.org.in/scripts/BS_ViewMasterCirculars.aspx?Id=5818&Mode=0
2. Master Circular on Micro Credit http://www.rbi.org.in/scripts/BS_ViewMasterCirculars.aspx?Id=5795&Mode=0
3. RBI List of Master Circulars http://www.rbi.org.in/scripts/BS_ViewMasterCirculardetails.aspx

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