New Delhi: Amidst opposition from sections against mergers in the banking sector, the Reserve Bank of India (RBI) has made a clear case for consolidation among banks. In a latest study of banking mergers in the post reform era, the RBI said that the banks have registered significant gains in efficiency and profitability after mergers.
Further, the four public sector banks have made greater efficiency gains than their private sector peers, the RBI said, after analysing seven merger cases of relatively large banks. In the case of the Punjab National Bank, the Union Bank of India, the Oriental Bank of Commerce and the Bank of Baroda, change in the average return on assets (RoA) during the post-merger period over pre-merger period was positive and statistically significant, the RBI said in the report on ‘Currency and Finance 2006-08’. The RoA indicates how much profit a company generated from a rupee of assets and a positive change in RoA means profit generation has increased. The RBI has said that the efficiency of banks improved due to mergers as well as the overall improvement in the banking sector.
The RoA was positive but insignificant for two private sector banks namely, ICICI Bank and Centurian Bank of Punjab (CBoP). CBoP was later merged with HDFC Bank in May 2008. The RoA of HDFC Bank declined after the mergers with Times Bank in 2000 and CBoP. Apart from improvement in the efficiency, the level of competition improved in the banking sector even as the total number of banks declined after 1998-99, mainly because of stronger banks taking over smaller or financially weak banks, RBI said, noting that the, “improvement was indicated in various measures of concentration ratios and competition indicators”.
Former CMD of Canara Bank MBN Rao says that merger helps a bigger bank that is acquiring smaller one based on the synergies in geographical spread and relative expertise in functions. Not only did public sector banks gain higher in terms of the RoA, their operating costs also declined sharply than the private sector players. The mean of operating cost-assets ratio (CAR) during post-merger period declined for three public sector banks—Union Bank of India, Oriental Bank of Commerce and Bank of Baroda. However, in case of the private sector banks—HDFC Bank, ICICI Bank and Centurion Bank of Punjab and the state-owned Punjab National Bank—the mean of operating cost-assets ratio was higher during post-merger. This meant that, “these banks (private
sector) could not realise efficiency gains in terms of operating expenditure emanating from M&As,” the RBI said.
Noting that the banking sector needs further consolidation, ICICI Bank research head G Ramachandran said, “in most mergers, branch expansion is complimentary, then there is lot of de-listing, which improves the balance sheet (of the merged entity).” Apart from speeding up banking sector reforms, M&As will help India in carrying out other financial sector reforms and enable a move towards uller capital accounting convertibility, he said. Analysts argue that the government should promote voluntary mergers that are based purely on the business logic.
“In India, merger of banks that started from 1969 has been mainly a rescue act and not voluntary. RBI and Sebi should support voluntary mergers. As regards profitability, all the banks that have merged are doing very well. Take for example HDFC Bank and CBoP HDFC Bank has gained in strength since the merger of CBoP with it took place,” says chief general manger of PNB Arun Kaul.
Arguing that consolidation is the way forward, Kaul said that were 14,000-15,000 banks in the US in 1884, which has now shrunk to 7,000. Since the nationalisaton of banks in India in 1969, 33 mergers have taken place in the banking space, involving 25 mergers between public and private sector banks and the eight among private sector banks.
ICICI Bank, Oriental Bank of Commerce and Bank of Baroda have topped the list with each of them being involved in three mergers. Ashvin Parekh, Partner & National Leader-Global Financial Service, Ernst & Young, notes that there is a need for greater clarity in valuation norms of public sector banks.
Though in the Banker’s list of the top 1000 banks of the world (July 2007), there were 27 Indian banks as against 20 in July 2004, the combined assets of the five largest Indian banks—SBI, ICICI Bank, PNB, Canara Bank and Bank of Baroda, on March 31, 2006 were only about 51% of the assets of the largest Chinese bank, Bank of China, according to RBI. Also, Bank of China was roughly 3.6 times larger than SBI. The total assets of SBI also were less than 10% of the top three banks in the world.
Incidentally, the Raghuram Rajan Committee on financial sector reforms, has proposed that the government, “sell small under performing public sector banks, possibly to another bank or to a strategic investor, to gain experience with the process and gauge outcomes.” The RBI study clearly shows the outcomes have been good so far and can be used to build a case for gradual dilution of government ownership of banks.
