Forced Merger
Ernakulam district in Kerala is a much sought-after destination for setting up branches by leading banks. Even IDFC Bank, the new kid on the block, was quick to set up an outpost. But the countrys largest bank, State Bank of India (SBI), is facing a problem of plenty there. SBI's proposed merger with Kerala-headquartered State Bank of Travancore is doubling the bank's branches in the district to close to 200 overnight.
The merger with five associate banks (plus Bhartiya Mahila bank) will bring similar challenges for SBI in major districts in the country. More so, in states where the associate banks are headquartered - Rajasthan, Karnataka, Andhra Pradesh, Punjab and Kerala.
In fact, the branch gridlock is just one of the many pain points. For instance, the stressed loans of the five associate banks (gross NPAs and restructured loans) add up to a staggering Rs 35,396 crore. This amounts to almost half of SBI's stressed loans portfolio of Rs 66,117 crore in 2015/16. In contrast, the deposits, advances and assets of these banks is less than one-fifth of SBI.
The merger itself - to be completed by March 2017 - is the biggest in the Indian banking industry. The bank is swallowing five associate banks with assets of Rs 6.03 lakh crore - it's almost equal to the size of the countrys largest private bank ICICI Bank that has assets of Rs 7.17 lakh crore. The merged SBI entity would have deposits of Rs 21 lakh crore; advances of Rs 18 lakh crore; net profits of Rs 11,589 crore; 24,000-plus branches; 58,000 ATMs and 270,000 employees. Compare these figures with ICICI Bank - deposits of Rs 4.21 lakh crore; advances of Rs 4.35 lakh crore; net profits of Rs 9,726 crore; 4,450 branches; 14,305 ATMs and 74,000 employees. "It is easier to merge the balance sheet numbers, but the real challenge is to merge the people (and culture), products (and clients), branches (and personal touch), etc.," remarks a banking consultant. Even the government felt the need for continuity at this juncture by extending the term of Chairman Arundhati Bhattacharya for a year. This merger would be a test case for a bigger consolidation among public sector banks (PSBs), which control more than two-thirds of the banking operations in India. Recently, Bank Board Bureau Chairman Vinod Rai hinted at a merger of two large PSBs in the near future. The government plans to have less than 10 large PSBs eventually, from 27 currently. "We have seen this happening in China, Australia and Malaysia. In Australia, 80 per cent of banking is done by four large entities. The same is true for China. It does help if you have large organisations of similar size, right kind of governance framework, technology, etc.," says Bhattacharya.
Elephant on the Prowl
Is SBI biting off more than it can chew? In the past decade, SBI managed to merge only two associate banks. Many say the current decision to merge all the associate banks - State Bank of Travancore, Mysore, Hyderabad, Patiala and Bikaner & Jaipur - is a bold decision. Motilal Oswal, a leading brokerage firm, in its report has observed that amalgamating all associate banks together and then merging that entity with SBI could have significantly reduced the integration risk. Is the government in some hurry? A year ago, Bhatta- charya herself had remarked that the time was not right to kick start the merger. "There are a lot of challenges (that the bank is facing) and those challenges are more immediate than merging banks," she had said. In a year, Bhattacharya has become a torchbearer for the government's push for consolidation. "It's a win -win for both," she says. Clearly, it's a forced merger by the owner (government), which is pushing for a mega consolidation to drive possible synergies. This merger is relatively easier as there is a holding company-subsidiary relationship. Bhattacharya is banking on the expanded reach. "There will be efficiencies out of rationalisation of branches, a common treasury operation and proper deployment of a large skilled resource base," says Bhattacharya.
Size Is the Only Driving Force
Mergers help in acquiring access to new geographies or product suite. For instance, Kotak Mahindra Bank with 640-plus branches, mostly in West and North India, acquired ING Vysya Bank for building a presence in a new geography. This Bangalore-headquartered bank had 570 branches, mostly in South India.The ING acquisition also brought product expertise in crop loans, foreign exchange and handling an MNC client base. Similarly, HDFC Bank pounced on Centurion Bank of Punjab for its presence in North India. In the SBI case, size is the only targeted objective. "Beyond a certain point, size doesn't matter to help raise resources. SBI already enjoys a very good rating from global agencies," say experts. Globally, the merger will put the bank in the top 50, up from its current 52nd position. The other banks of the same size globally are Canada's Bank of Montreal, Denmark's Danske Bank and Japan's Sumitomo Mitsui.
But size is no longer a fad after the 2008 global financial meltdown, when the government had to use tax- payers' money to bail out banks. Bernie Sanders, who recently failed to get the Democratic nomination ahead of Hillary Clinton in the US presidential election, has made a case for breaking up financial institutions too big to fail. "Half a dozen financial institutions hold assets equal to 60 per cent of the GDP, 40 per cent of the bank deposits, more than two third of the credit cards and 95 per cent of the derivative trades," said Sanders. SBI and ICICI Bank are already identified by the Reserve Bank of India as systemically important banks (SIBs). But there is a huge difference in their sizes - SBI will have a balance sheet of about Rs 30 lakh crore post merger against ICICI's Rs 7.7 lakh crore. SBI also has one-fifth of the share in the banking industry's deposits and advances. That clearly has the potential to create a systemic crisis.
"There will be efficiencies out of rationalisation of branches, a common treasury operation and proper deployment of a large skilled resource base"
The risk stems from the fact that SBI is not in the top quartile in terms of performance. For instance, HDFC Bank, the second largest private bank with one-fourth the assets of SBI, has a market capitalisation of Rs 3.26 lakh crore, far ahead of SBI's Rs 1.98 lakh crore (See A Laggard).
Mirror Image of Parent
SBI's associate banks are a mirror image of the parent. The SBI chairman sits on their board. The product basket has many similarities with focus on infrastructure (especially power), iron and steel, textiles and other segments like agriculture, home and auto loans. The branch network resembles an Ernakulam kind of a dilemma in every large town and city. Bhattacharya plans to spread the branches out to get better reach. The bank has already kicked off an exercise to use analytics to geographically locate each branch, find out their profitability, footfalls, etc. It has already set in motion plans to digitise the branches. "Maybe some of it (excess) we will convert into things like e-corner, branches that are more digitally powered with lesser people. We have to look at a mix and match of all these things,"says Bhattacharya.
The rationalisation of branches would be painful both for employees as well as customers. There is a fear amongst the associate banks' employees that their branches would be sacrificed in the bargain. "Integration of 70,000 employees, which is 34 per cent of the parent workforce as against size of business of 25 per cent of the parent's, will be a key challenge," says broking firm Motilal Oswal. Pradeep Shankar, former MD of State Bank of Indore, says new probationary officers at SBI get four increments at the time of confirmation. Officers of associate banks are not offered a similar deal, he points out. "But there are fast-track promotions for officers in associate banks. The process is a bit slower in SBI because of its large size. These things have to be rationalised post merger," says Shankar. In the merged entity, seniority will matter more for further promotions than the designation.
In the past, the retirement of a large number of people gave SBI a good opportunity to replace them with skilled people in technology, digital banking, advisory, treasury, etc. But the merger will not only put a lid on fresh recruitment but also force them to redeploy people from the excess workforce pool in new areas. However, Bhattacharya says the group is retiring about 13,000 people every year, which would neutralise the excess manpower. So, even if there is a little bit of extra staff, it would be adjusted in two years time. "I'm anyway set to lose 26,000 people in the next two years," says Bhattacharya. Experts say managing a large organisation like SBI would require organisational changes. A year after moving to the corner room, the SBI chief had actually sought two additional MD positions from the government apart from the current four MDs. "We are still seeking those two positions," says Bhattacharya.
The Bad Bank
Over Rs 1 lakh crore of bad loans and still counting. This huge portfolio of NPAs is disconcerting. SBI will have to deploy huge resources - both capital and people - to resolve the problem. A major chunk of it is coming from the associate banks - almost half of it. Bhattacharya wants to take on the asset quality challenge head on. "At the end of the day, associate banks are still part of my group company. Whatever they have is going to impact the group's balance sheet. It is better to understand what they are rather than ignore and hope that it would disappear," she says.
Many say the timing of the merger isn't right. SBI is swamped with bad assets, which requires provisioning from profits. Raising capital is a challenge because of low market valuations. Similarly, the disintermediation in financial services is taking place at a fast pace with new players like peer-to-peer (P2P) lenders, NBFCs and tech-savvy private banks disrupting the payments landscape. The challenges for the bank are far more significant than the merger. The danger is that the management bandwidth would be devoted to addressing the merger pangs.
And even if the bank sails through the integration challenges, the consolidation wont deliver the results unless there are governance reforms, a culture of meritocracy, succession planning and operational efficiencies. Until then, it's like betting on a dead horse.
