Money & Banking

Mega bank mergers come with mammoth issues

Radhika Merwin BL Research Bureau | Updated on August 31, 2019 Published on August 30, 2019

Each set of banks proposed to be merged are riddled with challenges   -  Getty Images/iStockphoto

After the merger of SBI with its five associate banks two years ago and Bank of Baroda with Dena Bank and Vijaya Bank last year, consolidation among other PSBs was long-awaited. The Centre’s move to lay down a concrete roadmap for consolidation has no doubt ended the uncertainty over the matter.

But the Centre, once again being the matchmaker (rather than the bank boards), has set off one of those shotgun weddings that has been brokered in the past, triggered by the weakening state of small PSBs and frugal finances of the Central government, rather than by complementarities, growth potential or cost efficiency. What else could explain the merger of say PNB with Oriental Bank of Commerce and United Bank or the other adhoc matches?

Read more: Govt banks on big bang mergers as GDP tanks

Each set of banks proposed to be merged are riddled with challenges. It is also unclear as to who will take charge of seeing such mammoth entities through the integration process, given that many of bank chiefs’ terms are due to expire over the next few months.

Importantly, minority shareholders are likely to face the brunt of these mergers as was the case with BoB or SBI.

Past mergers sketchy

From what was gathered from the FM’s press conference, cost savings from network overlaps, ability to scale up business manifold and banks operating under the same core banking system (CBS) appears to have been the rationale for bunching up few banks with others.

The pitch has a familiar ring to it. The Centre had put out the very same reasons for the merger of BoB with Vijaya and Dena or SBI with its associate banks. The existing state of affairs at each of these large banks suggest the weak links in the Centre’s approach to the consolidation theme.

SBI’s asset quality woes that got accentuated with the merger of its associate banks two years ago are yet to ease. In the latest June quarter, SBI added ₹16,212 crore to its already large bad loan book of over ₹1.6 lakh crore. The first quarterly results (June 2019 quarter) of BoB after its merger with Vijaya and Dena Bank revealed tell-tale signs of stress on profitability and asset quality, a fallout of merging with a weaker and under-capitalised bank (Dena).

The Centre’s argument that the large institutions created by the merger will help ramp up lending also does not hold water. BoB saw a modest 6-odd per cent in the June quarter, while SBI’s 12 per cent growth for its size and reach is disappointing.

The proposed mergers can end up in a worse situation, given their much weaker balance sheets and lack of strong leader at the helm to steer the integration process.

No strong link

Let us start with the PNB, OBC and United Bank merger. While the merger would create the second largest PSB in terms of size, thanks to PNB’s large balance sheet, there isn’t one bank in the basket that is strong enough to carry the merger through.

Fraud-hit PNB is already saddled with weak core income and capital ratio. The bank’s GNPA is a high 16.5 per cent as of June 2019. Oriental Bank and United Bank have bad loans of about 13-16 per cent. The amalgamated entity will have CET 1 ratio of 7.5 per cent, just above the regulatory requirement of 7.375 per cent. It is little surprising then why the Centre decided to infuse the maximum capital into this entity (₹16,000 crore). Given the weak finances of these banks, it is likely that the Centre will have to continue to support them going forward too.

BoB itself has been given a notable ₹7,000 crore of capital – the bank’s Tier 1 capital which stood at 10-11 per cent in recent quarters fell to 9.5 per cent in the latest June quarter.

Again Union, Andhra Bank and Corporation have huge bad loans of 15-16 per cent. All three banks had incurred huge losses in the March quarter. The Centre has understandably proposed to infuse a significant ₹11,700 crore into the merged entity. But the Centre’s burden may not ease in the coming year.

The merger of Canara and Syndicate Bank is possibly among the better fits, with Canara Bank relatively a stronger entity with lower GNPA ratio of 8.7 per cent. But Syndicate Bank’s higher bad loans and the fact that both banks have a low provision cover of less than 50 per cent, capital needs could be significant. The Centre allocating ₹6,500 crore into the entity could help, but again integration issues could arise.

Lastly, in the merger of Indian Bank with Allahabad Bank, the former’s relatively stronger financial metrics and capital base, offers some comfort. Indian Bank is the only PSB that has not received capital from the Centre since the FY15 fiscal. The bank’s lower bad loans and stronger capital adequacy ratio has been a big draw for investors. The Centre has hence proposed to hand out only ₹2,500 crore of capital into this entity.

But given that Indian Bank is south-based and Allahabad has more presence in the North and East region, synergies appear elusive.

Governance reforms

While the Centre has announced slew of reforms to improve the governance in PSBs, how these are implemented will need to be seen. The Banks Board Bureau, which was created with a lot of fanfare proved a damp squib. Also, with the merger proposals being pushed forward by the Centre as the majority shareholder rather than the bank boards, it is somewhat difficult to rest hopes on overhaul of the governance at PSBs.

That being the case it raises concerns over who takes over the reins of these mammoth entities. SBI’s merger with associate banks was steered by Arundhati Bhattacharya, and that of BoB by PS Jayakumar, both experienced to take over the challenge. It is unclear how the Centre will address the issue of leadership at these entities over the coming months.

In the past, the government infusing capital at abysmal valuations has been eroding banks’ book value significantly, hurting minority shareholders. Large mergers that are used to bail out weak banks and are not market driven, only leave public shareholders short-changed, as was in the case of SBI or BoB. How can these banks hope to raise capital from the market in future if minority shareholders continue to be short-changed?

Published on August 30, 2019
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