How 2% shareholding rule makes bank boards businessmen’s clubs

Infograph: TBS

In the aftermath of the 2010 stock market crash, the regulator introduced a new directive next year, requiring sponsors and directors – excluding the independent ones – to hold at least 2% of a company's shares to qualify as a director. Collectively, sponsors and directors were mandated to own a minimum of 30% of the company's shares.

Investors initially welcomed the move, hoping it would reinvigorate the stock market.

The expectation was that directors, especially those who didn't already hold the required shares, would purchase more to retain their board positions or seek new directorships, leading to a market revival.

However, despite the optimism and the country's stable macroeconomic conditions, the stock market remained sluggish for nearly a decade, showing little improvement until 2020. While the 2% shareholding rule had little positive impact on the market, it left a lasting negative mark on Bangladesh's banking sector. 

Industry insiders argue that the Bangladesh Securities and Exchange Commission (BSEC) has severely undermined corporate governance, reinforced family control over banks, and pushed competent individuals off bank boards simply because they did not meet the shareholding threshold – an uncommon requirement globally.

Take the case of M Syeduzzaman, a respected former finance minister and Bank Asia's chairperson from 1999 to 2008. Despite his extensive experience, he was rendered ineligible to continue as a director because he held less than 0.4% of the bank's shares.

Similarly, Commodore (retd) Mohammad Ataur Rahman, who led Islami Bank Bangladesh Limited as chairman for 13 years, owned only Tk35,000 worth of shares, while Shah Abdul Hannan, another former chairman of IBBL, had just Tk25,000 worth of shares in the bank.

Critics, including Muhammad Abdul Mannan, chairman of First Security Islami Bank and former managing director of Islami Bank, call the 2% rule "a black law" that has caused irreversible damage to the banking sector.

According to Mannan, this requirement has concentrated ownership of the banking sector into the hands of a few powerful families, compromising the interests of depositors.

"If the rule didn't exist, we wouldn't have seen some groups and individuals taking control of banks one after another. The ownership would still be in the hands of the public," Mannan said.

He also said the BSEC has handed over the banking industry to a few families by enforcing this rule, jeopardising corporate governance and the wider banking system.

For instance, he said, 70% of First Security Islami Bank's deposits have been lent to 200 persons in Chattogram, 29% deposits given to some people in Motijheel and Gulshan, and remaining 1% for the rest of the country.

"This is the worst kind of capitalism. In collaboration, these oligarchs lent the public's deposits to each other by ignoring rules," said Mannan.

Atiur Rahman, former governor of the Bangladesh Bank, still recalls the case of M Syeduzzaman, who was unable to join the board of Bank Asia due to new shareholding regulations.

"He approached me, and I raised the issue with the finance ministry, but nothing came of it," Atiur told The Business Standard.

AKM Shaheed Reza, an industrialist and former chairman of Mercantile Bank, also criticised the rule, calling it a "wrong move" that prevents talented individuals from joining boards due to insufficient shareholdings.

"By enforcing this large shareholding requirement, an oligarchic system has been created," Reza said, noting that prior to the rule change, directors only needed to hold shares worth Tk10,000 to qualify.

Reza argued that the 2% rule is one of the key factors behind the degradation of Bangladesh's banking sector. He said the rule, which was introduced by the previous government to stimulate the stock market, has backfired.

"What has been the result? Shares of many banks are now trading below their face values," he said, adding that the rule has instead led to the creation of monopolistic cartels within the banking sector.

Reza urged the interim government to repeal the 2% shareholding requirement and suggested a new provision – requiring directors to hold shares worth Tk50 lakh for at least one year – as a more effective alternative.

"This change is critical because currently, the money sponsors and directors have in a bank is at best 2%-3% of the bank's total deposits. Yet, they act as though they are the bank's owners," Reza noted.

Infograph: TBS

No incentive for qualified individuals

Anis A Khan, former managing director of Mutual Trust Bank, pointed out the stark contrast between bank ownership in Bangladesh and in Western countries such as the US and those in Europe where large corporations own banks.

"In Bangladesh, private banks are owned and controlled by individuals, which undermines good governance and allows vested interests to prevail," said Anis, who has extensive experience working with both domestic and foreign banks.

Anis also noted that foreign banks appoint highly qualified and capable individuals to their boards as independent directors, offering them substantial compensation for their services. In contrast, independent directors in Bangladeshi banks receive a mere Tk10,000 per board meeting, a figure that was Tk8,000 a decade ago.

"There's little incentive for qualified individuals to join a bank's board for such a small amount of money," Khan concluded.

Faruq Ahmad Siddiqi, former chairman of BSEC, told TBS that the 2% requirement has effectively barred numerous domain experts and veteran professionals from serving on the boards of listed companies as they are not major shareholders.

"The consequences of turning bank boards into businessmen's clubs are now evident," he added.

Faruq Ahmad also noted that the mandatory 30% collective shareholding by sponsors and directors alone could have addressed the key issues – ensuring sufficient ownership, boosting demand for listed shares, and maintaining accountability.

Rezaul Karim, executive director and spokesperson of the BSEC, said after the 2010 debacle, all stakeholders except for the listed companies opined for a minimum of directors' ownership of a company, and the regulator acted accordingly.

"A writ petition by sponsor directors was filed when the BSEC was pushing for compliance in the middle of the past decade. But the petitioners failed," he added.

What the then-BSEC chairman says

M Khairul Hossain was the BSEC Chairman when the 2% shareholding requirement was introduced in November 2011. He held the position until 2020.

Khairul explained that it was implemented in response to popular demand from all stakeholders except the listed companies themselves.

"Investors were raising concerns about many promoters selling off shares at inflated prices in 2010, which diminished interest in their companies. And this was a real issue," Khairul told TBS.

He noted that some promoters initially filed a writ petition against the regulation. However, investors joined the case to support the regulation, and the court ultimately ruled against the promoters.

Pointing out the impartial enforcement of the rule, the former BSEC chairman cited the example of Awami League leader Abdul Jalil, who lost his directorship at Mercantile Bank due to the 2% shareholding requirement.

"This was about setting priorities based on circumstances, not targeting individuals," Khairul stated. "As contexts evolve, regulations can be modified through comprehensive stakeholder consultations."

Independent directors lead most Indian pvt banks

The ICICI Bank, one of India's largest private sector banks, has a board of directors comprising 13 members, of whom 10 are independent directors, including the chairman. The remaining three members are top executives of the bank, including the managing director. 

A similar structure is found at the HDFC Bank, which has six independent directors out of 12 total members. Also, there are two non-executive directors on the board, providing an independent perspective without any material financial interest in the company, allowing them to offer unbiased oversight and decision-making. Notably, the chairmen of both banks serve in a part-time capacity.

At Kotak Mahindra Bank, where promoter Uday Kotak holds a significant stake, the bank's chairman is an independent director.

This diverse governance structure is made possible by a significant presence of institutional investors, who hold the majority stakes in many private banks in India.

For major banks like these, foreign institutional investors are often the largest shareholders, owning between 40%-45% of total shares. Domestic institutional investors, such as mutual funds and insurance companies, also maintain substantial stakes.

In October last year, the Reserve Bank of India mandated that private sector banks must have at least two full directors in addition to the managing director. This requirement has been deemed necessary due to the increasing complexity of the banking sector.