September 18, 2006	Monday	Sha'aban 24, 1427

INDIA’S banking sector, growing briskly – with overall lending expanding at a hefty 25 to 30 per cent clip – has been ripe for mergers and acquisitions for quite some time. But the country’s staid central bank, the Reserve Bank of India, and even the federal government, is not eager to stir up things.

There is stiff political opposition to major changes in the banking sector, especially with the powerful leftist parties – major backers of the United Progressive Alliance government – having a huge stake in the nationalised banking sector, where they control most of the unions.

But the managements of most public sector banks are restless, fearing a sharp decline in their share of the market, as aggressive new private sector banks steal the thunder from them. State-controlled banks continue to have a dominating share of the banking business – estimated to be around 75 per cent – but many have lost their top corporate clients to private banks.

The leftists are stiffly opposed to the government reducing its stake in nationalised banks to below 50 per cent, and are not too keen on their raising additional funds, either domestically or abroad. But most of the top public banks – including State Bank of India, Punjab National Bank, Bank of Baroda and Bank of India – are eager to expand their overseas operations.

Similarly, spunky public sector banks – such as Corporation Bank and Oriental Bank of Commerce (OBC) – are willing to take on their private sector (and even international) rivals head-on, but are hamstrung by a clutch of rules relating to investments, expansion, even recruitments and promotions.

Worried over the slow pace of change in the banking sector, three nationalised banks last week decided to do something dramatic: Corporation Bank, OBC and Indian Bank are going in for a strategic alliance, to not only take on the new players, but also established nationalised banks.

The new alliance would pitch for business as one entity, and hope to multiply their business. Corporation Bank already has a similar alliance with Life Insurance Corporation of India (LIC), the state-controlled insurance behemoth. OBC has a strong branch network in north India, while both Corporation and Indian Bank are major players in the southern states of Karnataka and Tamil Nadu.

The three banks have a total of over 3,600 branches, and combined assets of nearly Rs1.5 trillion. The three together would emerge as the third largest banking entity, after State Bank of India (SBI), the country’s largest with assets of Rs4 trillion, and ICICI Bank (the largest private bank) with assets of Rs2 trillion.

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NEW private sector banks, and international ones have been growing remarkably, driving the sector. India’s retail lending business grew by 120 per cent last year. According to international consultancy, McKinsey & Co, the business has been growing at a compounded annual growth rate (CAGR) of over 30 per cent over the last six years.

Retail banking is expected to continue growing at such a terrific clip over the next five years, and by 2010, retail assets are expected to burgeon to $300 billion. Not surprisingly, many international players are eager to enter the fray. GE Capital, a subsidiary of American giant General Electric, expects its retail business to burgeon to $10 billion by 2010, from the present level of $1.5 billion.

About 40 foreign banks, with total assets of about $30 billion, are currently operating in India – having a network of 225 branches – but the RBI has imposed a restriction on expansion. Earlier, the central bank had capped branch expansion at 12 a year (for all foreign banks); this has now been raised to 20.

There are also restrictions on domestic acquisitions – at present they cannot acquire over five per cent equity in a domestic bank – but over the next few years there will be dramatic changes, as international banks will be allowed to acquire up to 74 per cent stake in private Indian banks. The local subsidiaries of foreign banks will also be treated at par with domestic banks.

Public banks are naturally concerned over the likely fall in their share of the business, and are preparing to build up their armoury for the battles of the future. International banks like Citibank, HSBC, Standard Chartered, ABN Amro, Deutsche Bank, and Barclays are already aggressively pushing their retail portfolios in India.

Many of them have launched a slew of new products, primarily targeting young and affluent Indians, who eagerly lap up credit cards, housing loans, auto finance and other retail products. “India,” said Rainer Neske, member of group executive committee, Deutsche Bank, “is one of the most exciting growth markets in the world today. We want to expand our presence as much as the regulator will allow.”

Barclays Bank has nearly doubled its net profit in India, and also getting into the lucrative retail banking business. And private Indian banks – including ICICI, HDFC, UTI Bank and Kotak Mahindra (KMB) – are furiously expanding their retail portfolio.

Though ICICI Bank ranks second in terms of assets – after SBI – in terms of market capitalisation, it has overtaken SBI. ICICI Bank has a market cap of $10.5 billion, almost double that of SBI ($5.3 billion). Even a relatively new entrant, like KMB, has seen its market cap zoom to $2.1 billion, making it the third largest bank, overtaking century-old institutions.

Uday Kotak, executive vice-chairman and managing director, KMB, notes that the three-year-old bank will be having a record staff strength of 10,000 by next year, up from 1,500 in 2003. Private Indian banks have also seen excellent bottom-line growth. For the first quarter of the current fiscal, they have reported record net profit: KMB’s has gone up by 125 per cent, HDFC Bank’s by nearly 50 per cent, UTI Bank’s by over 30 per cent, and ICICI by 17 per cent.

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WITH the RBI being tight-fisted as far as new branches are concerned, most banks (public, private and international) are eager to acquire other institutions. So when a private sector bank – United Western Bank (UWB) – collapsed earlier this month, there were a host of suitors wanting to acquire it.

The RBI last week cleared the proposal by IDBI Bank (formerly Industrial Development Bank of India Ltd) to acquire UWB. The federal government placed UWB under a moratorium following a recommendation by the central bank, and depositors were prevented from withdrawing over Rs10,000 from each account.

Satara-based UWB, which is located in the heart of the affluent agricultural belt of western Maharashtra, has been mismanaged for years. The bank has notched up losses of over Rs2 billion over the past two years, and has major problems relating to bad debt.

Nearly a score of banks – including the likes of Citibank and Standard Chartered, ICICI and HDFC Banks and state-controlled Canara Bank, Corporation Bank and UCO Bank – were interested in acquire the loss-making bank. The RBI, however, rejected all the proposals, but cleared the one by IDBI and announced a scheme of amalgamation.

IDBI Bank (with deposits of Rs260 billion) offered to pay Rs28 a share to UWB’s shareholders, much higher than the market price. It also promised to honour the deposits (of 2.2 million depositors) worth Rs6.5 billion. UWB has a branch network of 240, but IDBI will be free to shut down loss-making ones.

The bank, which will be spending Rs1.5 billion for the acquisition, will also be able to double its branch network to 450 following the amalgamation. IDBI will initially keep UWB as a distinct unit, and may merge it at a later stage. It may also have to inject an additional Rs3 billion for provisioning, relating to UWB’s bad debts amounting to a whopping Rs5 billion.

In the past, when banks went bankrupt, the government would virtually force public sector banks to acquire the ailing institutions, to rescue depositors. But shareholders of the banks would not be compensated. The amalgamation of IDBI and UWB is the first instance when shareholders are also being paid by the acquirer.