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1. What is Risk?-The meaning of ‘Risk’ as per Webster’s comprehensive dictionary is “a chance of encountering harm or loss, hazard, danger” or “to expose to a chance of injury or loss”. Thus, something that has a potential to cause harm or loss to one or more planned objectives is called Risk.

The word risk is derived from an Italian word “Risicare” which means “To Dare”. It is an expression of danger of an adverse deviation in the actual result from any expected result.

Bank for International settlement (BIS) has defined it as-“Risk is the threat that an event or action will adversely affect an organization’s ability to achieve its objectives and successfully execute its strategies.”

Risk is the probability of the unexpected happening – the probability of suffering loss. Risk can be a potential loss and also can be a potential opportunity. As a bank we normally leverage the potential opportunities by managing the inherent risk.

2. What is the difference between Risk and Uncertainty?-Often the terms Risk and Uncertainty are used synonymously. But it has subtle differences:

1.Risk denotes a positive probability of something bad happening.

2.Risk is always associated with loss that is expected to be incurred due to happening or non-happening of certain events or activities.

3. Arrangements can be made to insure or protect against risk, in effect converting risk into certainty.

4. Risk can be quantified/measured. Probabilities can be assigned to risk.

1.Uncertainty denotes complete ignorance about any potential outcome.

2.Uncertainty does not always involve losses. It may lead to profits as well.

3. Uncertainty cannot be eliminated or predicted.

4. Uncertainty cannot be quantified/measured.

3. How Risk and Return are related?

i.Risk is equated with the potential of an investment to generate loss. Return is the usual measure of performance.

ii.Risk and return are normally directly related. Higher the risk higher the return.

iii.Developing a better understanding of the ‘risk-return’ trade off is very much essential for capitalizing the business prospects in a competitive environment.

4. What is Risk Management?

Risk Management is a planned method of dealing with the potential loss or damage. It is an ongoing process of risk appraisal through various methods and tools which continuously

i.Assess what could go wrong

ii.Determine which risks are important to deal with

iii.Implement strategies to deal with those risks

Ever since direction relating to appointment of MDs in UCBs has been issued by RBI some sort of apprehension might of cropped in the minds of the MDs/CEOs about the challenges they are expected to face in future.

As far as financially sound well managed banks (FSWM) are concerned, there is no need for much anxiety. What is required is to revisit those areas of banking activity and administration which can be further improvised.

Business development in terms of resource mobilization and credit deployment has no limits. Even sky is not the limit. It depends on the enthusiasm of the BoD headed by the chairman/president and senior functionaries headed byMD/CEO. Since the banking business of the FSWM banks is fully stabilized in terms of inflow and outflow of funds, customer confidence they can fully concentrate on business development and internal control systems.

In respect of banks not covered under  FSWM category, they have to focus on those areas which needs immediate attention. Normally those areas are higher level of NPA than the threshold limits,very volatile ALM mismatch, mismatch between income and expenditure such as higher level of interest payouts etc. The senior functionaries in consultation with BoD need to prepare a well defined  monitorable  action plan so as to strengthen the financials as well as the internal control systems.

The smooth transition from CEOs to MDs much depends on the corporate culture, professional management, compliance to Dos and Don’s by BoD and coherent / conducive environment in the affairs of the bank.

Following are the checkpoints on internal controls in banks worthy of detailed deliberations and implementation

Principle 1; The board of directors should have responsibility for:

(1) Approving and periodically reviewing the overall business strategies and significant policies of the bank;

(2) Understanding the major risks run by the bank, setting acceptable levels for these risks and ensuring that senior management takes the steps necessary to identify, measure, monitor and control these risks;

(3) Approving the organizational structure;

(4) Ensuring that senior management is monitoring the effectiveness of the internal control system. The board of directors is ultimately responsible for ensuring that an adequate and effective system of internal controls is established and maintained.

Principle 2; Senior management should have responsibility for:

(1) Implementing strategies and policies approved by the board; developing processes that identify, measure,

(2) Monitor and control risks incurred by the bank;

(3) Maintaining an organizational structure that clearly assigns responsibility, authority and reporting relationships;

(4) Ensuring that delegated responsibilities are effectively carried out;

(5) Setting appropriate internal control policies; and

(6) Monitoring the adequacy and effectiveness of the internal control system.

Principle 3; The board of directors and senior management are responsible for promoting high ethical and integrity standards, and for establishing a culture within the organization that emphasizes and demonstrates to all levels of personnel the importance of internal controls. All personnel at a banking organization need to understand their role in the internal controls process and be fully engaged in the process.

Principle 4; An effective internal control system requires that the material risks that could adversely affect the achievement of the bank’s goals are being recognized and continually assessed. This assessment should cover all risks facing the bank that is, credit risk, market risk, interest rate risk, liquidity risk etc operational risk, legal risk and reputational risk). Internal controls may need to be revised to appropriately address any new or previously uncontrolled risks.

Following are the policies to be framed by UCBs as per the instructions contained in master circulars issued by RBI

1.KYC policy

2.Investment policy

3.Credit policy

4.Claim settlement policy

5.Cheque collection policy

6.Levy of Service charges

7.ATM Transaction policy

8.Customer relation policy

9.Interest rate on deposits policy

10.Penalties for premature withdrawal of deposits

11.Lending to SHGs and JLGs

12.Charging penal interest on loans

13.Audit policy

14.Customer acceptance policy

15.Customer service policy

16.Policy on working capital limits

17.Staff accountability policy

18.Outsourcing financial services policy

In addition banks can also frame policies on following matters as a part of corporate governance and professionalisation in management and staff.

1.Board of directors Dos and Donts and education policy based on RBI circular

2.Staff administration policy

3.Staff promotion policy

4.Bank administration policy

5.Vigilance management policy

6.Record management policy

7.Loan recovery policy

8.Credit deployment policy

1.The objective of Business Continuity Management Policy of the Bank is to ensure continuity of critical Banking Business operations and IT operations that are necessary for conducting Banking Business during disaster and minimize the disruption of critical operations to near zero level by putting in place a robust and resilient business continuity strategy and framework while meeting Regulatory and compliance requirements.

2.UCBs need to adopt industry leading best practices in establishing a set of operating principles which govern how risks of a significant business disruption are mitigated to protect the Banks customers, employees and stakeholders.

3.UCBs need to have a robust and well defined business continuity program which comprises of policies and procedures with clearly defined roles, responsibilities and ownership for Crisis Management, Emergency Response, Business recovery and IT Disaster Recovery Planning.

4.Regular drills and tests are to be conducted to cover all aspects of the Business Continuity Plan. Plans are to be reviewed and maintained regularly to incorporate any changes to environment, people, process and technology.

5.The Bank’s Business continuity program is developed with a view to manage the impact of significant disruptions and should endeavour to resume business and operations to an acceptable level within a reasonable time in the event of a disaster.

6.While the recovery time objectives (RTO) have to be defined and documented in the plans, various external factors beyond control of UCBs could affect the actual recovery time. The Banks business continuity plan should be in line with the guidelines issued by regulatory bodies and is subject to regular internal, external and regulatory reviews.

The direction dated 25^th june 2021 issued by RBI regarding appointment/reappointment/termination of appointment of Managing Director/Whole time director is the sum total of all provisions contained in section 10,10B,10BB, 35A,35B and 36AA and 53A of banking regulation Act,1949. In other words the various provisions relating to MDs have been summarised and direction issued.

Section10. Prohibition of employment of Managing Agents and restrictions on certain forms of employment

Section 10B. Co-operative Bank to be managed by whole time Chairman

Section 10BB. Power of Reserve Bank to appoint Chairman of the Board of Directors appointed on a whole-time basis or a Managing Director of a co-operative bank

Section 35B – Amendments of provisions relating to appointments of Managing Directors, etc., to be subject to previous approval of the Reserve Bank

Section 36AA. Power of Reserve Bank to remove managerial and other persons from office

Section 53A. Powers to exempt co-operative banks in certain cases.

Earlier to issue of this direction, CEOs in UCBs were being appointed as per the provisions of section 29G of KCS Act,1959. CEOs of all UCBs were familiar with the powers and duties delegated under section 29G.

To have a better understanding of the above various provisions it is necessary to understand the organisational set up of top managements in commercial banks. In these banks there exists a whole time chairman, managing director and a whole time director. Keeping this setup in mind the above sections have been inserted into Banking Regulation Act,1949.

In Urban Co-operative Banks there exists and elected board of directors headed by office bearers namely chairman and vice chairman. Hence there is no question of a whole time chairman being appointed. Only the managing director is being appointed. Until RBI comes out with guidelines regarding duties ,powers and responsibilities of MD/WTD the CEOs have no option but to continue with the present legacy systems.

Following are the indicative list of activities/areas where MDs/CEOs of UCBs can focus their attention and prioritise the work

1.Critical review and detailed analysis of the latest balance sheet and profit and loss account. Plan of action for optimisation of income in investment management and recovery of interest on loans and advances. Curtailment of avoidable expenditure.

2.Corrective action in respect of defects/violations pointed out in the RBI inspection report if any.

3.Corrective action in respect of defects/violations pointed out in the statutory audit report if any.

4.Action plan for recovery of NPA loans and initiating rigorous action throughout the year if the NPA level is more than threshold limit.

5.Review the policies of the bank and update the same where ever necessary with the concurrence of board

6.Review the master circulars of RBI and comply with the instructions if not done.

7.Review of existing systems and procedures/best practices and action plan for improvisation where ever necessary.

8.Review of branch administration and control and action plan for strengthening the same.

9.Creating awareness among senior officers about the changes taking place in the UCB sector.

10.Review of latest ALM reports and mismatch beyond threshold limit is observed corrective action.

11.Review of the RBI circular on cyber security frame work and implementation of the instructions where ever necessary.

12.Addressing core banking solution issues (CBS) if found necessary

The prioritisation of activities depends on environment of the individual UCB as also size of the banks. The bigger the banks more structured approach is necessary. There is no standard rules as to how to go about. The above is only an indicative list

In terms of para 2.2 of the direction,UCBs which have appointed CEO with the prior approval of the Reserve Bank in terms of the guidelines contained in the circular DoR (PCB). BPD.Cir.No.8/12.05.002/2019-20 dated December 31, 2019 on Constitution of Board of Management in Primary (Urban) Co-operative Banks, may continue with the CEO so appointed till completion of his / her tenure or for a period of three years from the date of initial appointment, whichever is earlier. After the aforesaid period, UCBs shall follow the directions issued herein for appointment / re-appointment of MD.

In terms of para 2.3 of the direction, UCBs, other than those stated in para 2.2, shall review the ‘Fit and Proper’ status of the existing MD in terms of these directions and confirm the same, with the approval of BoD, to the concerned Regional Office (Department of Supervision, Central Office, in case of UCBs under jurisdiction of Mumbai office) of Reserve Bank within a period of two months from the date of issue of this circular. In case, the present MD does not satisfy the prescribed ‘Fit and Proper’ criteria, the UCB shall initiate the process for appointment of new MD immediately. If a UCB had appointed WTD, the bank shall follow the same procedure to comply with these directions.

BoD of UCBs are required to deliberate all aspects of appointment of MDs in details in the board meetings and take an appropriate decision in the matter.

Earlier to the promulgation of ordinance relating to amendments to Banking Regulation Act,1949 in June 2020, only certain provisions of B R Act,1949 was made applicable to Co-operative Banks by amending section 56 of B R Act,1949.CEOs of UCBs are familiar with those provisions. As a matter of fact they were rigorously complied with since a long time.

The Co-operative Character  of the UCBs was not very much effected in UCBs. The regulation relating to  management of UCBs vested with RCS and banking related activities were regulated by RBI. The dual control was predominant. The Board of Directors had more say in the management of UCBs.

CEOs of UCBs were appointed as per the provisions of KCS Act,1959 and KSS Act. CEOs so appointed were vested with powers under the provisions of section 29G of KCS Act, Rule 14-AM of KCS Rules and the Bye Laws of the respective UCBs.

In the light of the amendments to Banking Regulation Act,1949 RBI is now vested with more powers to control the management of UCBs also. The powers vested with RCS has now been diluted. Still only some provisions of KCS/KSS Act applies to UCBs like election of Board, amendment of Bye Laws, filing of disputes etc

There are many  amendments to various sections of  Banking Regulation Act,1949 brought into effect through an ordinance promulgated in June 2020.It will take some time for the MDs/CEOs to understand the various provisions of the Act in its entirety. Some important sections will be dealt with in future for the benefit  of the reader.

In terms of section 10B(1A)(ii) of B R Act,1949(AACS) the management of the whole of the affairs of a co-operative bank shall be entrusted to a Managing Director who shall exercise his powers subject to the superintendence, control and direction of the board of Directors.

Para 3.1 of the direction on appointment of MD in UCBs states as follows

Managing Director, who may also be designated as Chief Executive Officer or by any other name, is a person who is entrusted with the management of the whole, or substantially the whole of the affairs of a UCB, subject to the regulations or directions issued by the Reserve Bank from time to time. MD shall function under the overall general superintendence, direction and control of the Board of Directors (BoD).

Explanation

The Managing Director may also be designated as Chief Executive Officer or by any other name like General Manager. In a very small bank he/she is even called as Manager. Presently in most of the UCBs the designations Chief Executive Officer and General Manager is being used. It is left to the decision of the Board of the UCB to decide the designation. But RBI will address them as Managing Director.

The Managing Director is entrusted with the management of the whole or substantially the whole of affairs of a UCB. He/she will play the similar role as that of erstwhile CEO.

He has to carry out the affairs of the UCB, subject to the regulations or directions issued by the Reserve Bank from time to time. RBI is vested with powers to issue direction under section 35A of the B R Act, 1949(AACS). Any direction issued by RBI from time to time should be complied by the MD.

MD shall function under the overall general superintendence, direction and control of the Board of Directors. However the direction issued by the Board should not contravene the direction of RBI issued from time to time. The MD and the BoD should be familiar with all the directions issued by RBI from time to time including master directions and circulars.