The imminent shakeout

A few months ago, Banking Secretary N S Sisodia held a high-level meeting with a few public sector bank CEOs in Jaipur. At the meeting, the CEOs were asked to offer their views on consolidation in Indian banking.

But with routine topics "" priority sector lending and kisan credit cards "" dominating the discussions, no chairman really touched on the issue seriously. Besides, most believed felt that should the mergers & acquisitions (M&A) scene hot up, they could only be the acquirers.

What Sisodia could not do, the finance ministry notification "" giving foreign banks the green signal to increase their presence in India "" has successfully done. They are crawling out of the cocoon of complacency and taking a hard look at their balance sheets.

The ministry has permitted foreign banks to set up 100 per cent subsidiaries in India and allowed them to acquire up to 74 per cent equity in existing private banks.

Theoretically, only the private banks should feel threatened. But the public sector banks seem to be more concerned because they feel the seeds for a shakeout are being sown and the state-run banking industry will not be left out of the consolidation drive.

In fact, the chiefs of some of public sector banks that are relatively small and do not have a national presence are eagerly looking forward to the shakeout. Says one such CEO: "Everything is possible. I can be an acquirer or be acquired. One thing is for sure, the industry cannot escape consolidation."

Until recently, this bank chief used to be answerable only to the government, and whenever there was a crisis, he knew that he could get fresh capital to wipe off the red from his balance sheet. Now, lakhs of investors, analysts and foreign institutional investors (FIIs), besides the government (which still holds a substantial chunk in his bank), scrutinise his performance while his eyes constantly follow the price movement of his bank's stock on the bourses.

In the recent past, Punjab National Bank (PNB) took over private sector Nedungadi Bank. It is now in the process of acquiring IFCI, too. But both these cases were forced mergers, a rescue operation initiated by the government.

Bank of Baroda's acquisition of Benaras State Bank two years ago and a local area bank in south Gujarat now fall in the same category.

But the next round of M&As in banking will have a different dimension. The guiding principal will be strategic importance.

State Bank of India (SBI) is set to kick off the trend by buying out the government's stake in the Infrastructure Development Finance Corporation (IDFC) and converting it into an SBI subsidiary.

The next player could be the Industrial Development Bank of India (IDBI), although nobody has a clear idea about the government's plan for IDBI.

Last year, the finance ministry bounced the idea of merging IDBI with SBI but did not get a positive response from the bank management. Now, it may revive the plan. Alternatively, one or more banks may be merged with IDBI.

Industrial Investment Bank of India (IIBA), a puny, Kolkata-based financial institution, is also up for grabs. It can be merged with IDBI or even gobbled up by a local bank.

Once the repositioning of the three institutions "" IDBI, IDFC and IIBI "" is taken care of, the real M&A game will will see some of the big players like SBI, PNB, Bank of Baroda, Bank of India and Canara Bank getting bigger, and relatively small public sector banks that are still regional players being merged with others.

The seven associate banks of SBI can also play a big role in this game. At the moment, there are 19 nationalised banks, besides the SBI and its seven associate banks, taking the number of state-run banks to 27. An internal finance ministry study, which has not been made public, is believed to have envisaged a smaller pack with a pan-Indian presence.

It has even asked the Reserve Bank of India (RBI) to set up a committee to look closely at the consolidation issue. Overall, the number of scheduled commercial banks is bound to shrink as some of the private sector banks will be taken over by foreign players.

To ensure a smooth passage to the new zone, the government needs to amend the Banking Regulation Act and drop its stake below 51 per cent, which was proposed a few years ago but has not occurred owing to political compulsions. It also needs to take a relook at the norms that govern M&As in the banking sector.

Currently, the merger of two nationalised banks is governed by the Banks Companies (Acquisition & Transfer of Undertaking) Act, 1970, which calls for submitting the scheme of merger to both houses of Parliament. This procedure was followed when New Bank of India was merged with PNB "" the only instance of merger of two nationalised banks.

In the case of private banks, the M&A rules are laid down in the Banking Regulation Act, where the scheme of amalgamation is approved by the RBI. If a listed entity is involved in the deal, the scheme also needs court and shareholder approval. There are no rules for the merger of a bank with a non-banking entity.

Once the regulatory issues are in place, some Indian banks could also emulate the examples of Reliance Infocomm and Tata Motors, and look for overseas acquisitions.

In fact, over the past year, some big banks (big, that is, in the Indian context) have been aggressively focussing on their overseas operations. SBI now has 48 overseas offices spread over 28 countries covering all the time zones.

Last year, SBI closed its Jakarta and Sao Paulo representative offices as part of an exercise to restructure its representative office network, but upgraded its representative office in Moscow.

It is in the process of upgrading the Sydney and Shanghai representative offices to full-fledged branches and opening branches in Chittagong in Bangladesh and Cape Town and Port Elizabeth in South Africa.

SBI also has two wholly-owned subsidiaries (SBI Canada and SBI California), two subsidiaries (Indo-Nigerian Merchant Bank Ltd and SBI International Mauritius Ltd) and two joint ventures (Nepal SBI Bank Ltd and Bank of Bhutan).

Bank of Baroda is present in 16 countries with 61 offices, besides a subsidiary in Tanzania and a representative office in China. It has six subsidiaries in the UK, Hong Kong, Guyana, Botswana, Uganda and Kenya and an associate in Lusaka "" Indo-Zambia Bank Ltd.

Bank of India has 18 branches and three representative offices spread across four continents with presence in all major financial centres "" London, New York, Paris, Tokyo, Singapore and Hong Kong. Last year, it opened two new representative offices at Shenzhen (China) and Ho Chi Minh City (Vietnam). It has two subsidiaries and one associate outfit in Hong Kong, where it also manages a deposit-taking company.

At least some of these banks do not have any capital constraint for acquisitions. They are believed to be seriously exploring options abroad.

The obstacle is World Trade Organisation norms, which do not allow them to pick up any financial player in any country unless they have the most favoured nation (MFN) status. This forbids any acquisition bid in neighbouring countries like Sri Lanka.

However, they can set their eyes on some of the para-banking outfits in the US or building societies in the UK. Some banks are actually looking at these possibilities to prop up their foreign operations, which at present do not account for more than 20 per cent of total business for any Indian bank.

The sooner that happens, the better. Let the local banks join hands with the manufacturing sector to take the India story abroad.