Illegal business model that placed municipalities at risk derailed VBS
• Failure has been depicted as result of Reserve Bank attack on black bank
The story of the failure of VBS Mutual Bank, which was put into curatorship on Sunday, has been dressed up by the bank’s chairman and by some in black business and the twitterati as an attack by the big Reserve Bank on a small but successful black-owned bank.
In fact, it is a classic story of a small bank that chose to do business in a way that was excessively risky, making it all but certain that it would fall over sooner or later, taking shareholders’ and depositors’ money with it.
The twist in the tail, probably, is that VBS could and did carry on doing risky banking with impunity because it had political cover, at least until December.
Chances are that as curator Anoosh Rooplal and the regulators start getting to the bottom of what’s really inside the bank’s book over the next few months, the story could turn out to be more dodgy, and the fallout more sad, than anyone can guess at this stage.
VBS was one of SA’s homeland legacies. Established in 1982 as the Venda Building Society, it was granted a mutual bank licence in 2000. That it chose to be a mutual bank, rather than a fully licensed commercial bank, is a part of the story of the bank’s demise.
It had grown rapidly based on taking in municipal deposits that were illegal because of its mutual bank status. But for banking regulators, the far bigger problem was that its continued reliance on a relatively small number of large municipal deposits was excessively risky, because any or all of them could ask for their money back at short notice. That was what prompted the liquidity crisis that brought VBS down.
Legislation governs mutual banks and they are regulated lighter than commercial banks that are licensed under the Banks Act.
Mutual banks don’t have to be public companies as banks do, and they don’t have to hold nearly as much capital.
The legislation was designed for smaller entities and the regulatory requirements aren’t nearly as demanding as they are for banks. That is why the Municipal Financial Management Act prohibits municipalities from investing their money in mutuals. Municipalities have their challenges and as the legislators clearly didn’t want them taking any risks with their deposits, they restricted them to banking with licensed commercial banks.
Despite this prohibition, VBS had over the past two to three years taken in as much as R1.5bn in municipal deposits — at peak, from just 21 municipalities. That provided the basis on which the bank grew its lending book very fast over the period.
It built up a R1bn book of small enterprise finance, much of it in large loans to black contractors supplying fuel to municipalities and provinces.
The bank grew its home loan book to about R300m, much of it in rural areas, including the R7.8bn home loan controversially granted in 2016 to VBS’s most famous client, former president Jacob Zuma.
That the deposits from municipalities were illegal was one problem, and the Treasury, which oversees the Municipal Financial Management Act, clearly wasn’t aware of the full extent of it.
The issue emerged in parliamentary questions in 2016. In August the Treasury sent letters to the six municipalities known to have deposits with VBS to warn them this was illegal.
That doesn’t seem to have deterred municipalities or VBS, which apparently carried on touting for municipal business, increasing the number of municipalities depositing with it from 13 in August to 21 by the end of 2017, and the size of the municipal deposit base from R1bn to R1.5bn over the period.
The number is now down to R1bn, though by the weekend it was clear that had any one of the municipalities wanted its money back, VBS would not have had the cash to pay them.
The municipalities were mainly in Limpopo, North West and Free State, two of them so-called “premier league” provinces that had been ardent Zuma supporters. Effectively, they financed his home loan.
One theory is that VBS and the municipalities just carried on precisely because, until December, they had the political cover to do so. Indeed, late in 2017 VBS took the Treasury to court to challenge its efforts to stop municipalities from putting their money with the bank, though VBS didn’t pursue the case.
For banking regulators the problem was not that the deposits were illegal but that VBS’s banking model was so risky. When only a few clients account for such a large part of the bank’s deposits — even if 21 clients deposit R1bn, making up half the bank — relying as it did on a relatively small number of short-term deposits from municipalities who could, and eventually did, demand to be repaid meant the core of the problem was not that the deposits were illegal but rather that they were highly concentrated and highly risky.
“Whether these deposits were legal or illegal, it was a risky strategy to take a small number of very large deposits and lend them long term,” Reserve Bank deputy governor and registrar of banks Kuben Naidoo said.
VBS chairman Tshifhiwa Matodzi, who was also chairman of one of the bank’s largest shareholders, Vele Investments, complained in a letter to Naidoo on Friday that “all hell broke loose” from 2012 when the Reserve Bank started highlighting compliance issues after black managers and a black board took over at VBS.
But the Reserve Bank seems only to have become concerned about two years ago, when it became clear just how fast the bank was growing and just how dependent it was becoming on municipal deposits.
The banking regulators met VBS management often and warned them that their business model was too risky and they needed to diversify their sources of funding. Even so, the bank continued on its reckless path and deposit withdrawals by some municipalities in 2017 put huge pressure on the bank’s liquidity. A series of “liquidity incidents” on the national payments system culminated in the February 16 incident in which VBS effectively defaulted on a payment to a municipality. VBS belatedly applied for a full banking licence on February 26, evidently in the vain hope this might solve its liquidity problem by bringing in fresh deposits.
As VBS continued to bleed cash, the Reserve Bank and Treasury met its two large shareholders, the Public Investment Corporation and Vele Investments, to see if they could devise a rescue plan. They declined, it seems, to put more cash into VBS. Curatorship was then the only solution.
As the Treasury has emphasised, curatorship is not liquidation: the point of curatorship is to try to find a rescue plan for the bank, which the curator will be looking to do. The question will be to what extent the bank’s assets, mainly its lending book, cover its liabilities to depositors, who include hundreds of individuals and stokvels along with municipalities. Small depositors are protected; larger ones could lose a lot of money, and the bank’s shareholders will lose the most.
But the biggest loss, perhaps, is that yet another small South African bank has failed because it wanted to grow too fast, with a business model that was too risky, and didn’t heed warnings from the regulators to go easy.
That VBS happened to be a politically well-connected black-owned bank in a country that is seeking more diversity and competition in its banking sector just makes the story sadder — and more disturbing.