From HDFC to IDFC First Bank: Decoding Big Bank Mergers And Their Impact

The banking industry in India has seen tumultuous changes in the post-Covid world. While there were several mergers of public service banks (PSU banks) in 2020, the trend of banks merging seems to continue. In 2023, three significant mergers have happened so far. HDFC Bank completed its merger with HDFC Ltd on July 1, IDFC First Bank Ltd approved a proposal to merge IDFC Ltd and IDFC Financial Holding Co with the bank in the first week of July and ICICI Bank announced the acquisition of ICICI Securities in June end. 

This is despite banks reducing their non-performing assets considerably in the last couple of quarters and also witnessing a credit growth. 

How will these mergers impact the Indian economy and what is the rationale behind such consolidations? Let's take a look. 

 

PSU Vs Private 

The last three years have seen mergers of private banks as well as PSU banks. However the two different types of mergers need to be studied differently as the rationale behind them is different. 

Chokkalingam G, banking analyst and founder of Equinomics Research Pvt Ltd told The Core, "The PSU banks were competing with each other. So the merger happened to prevent duplication of branches in the same location and also to increase the size of banks in a big way. But the merger in the private sector banks is different. Apart from increasing the size of banks, it was to increase profitability." 

PSU banks were merged primarily with the aim of cost-cutting, efficiency and reducing unwanted competition among the banks. However, analysts pointed out that the merger of banks with non-banking counterparts under the same parent company is primarily done to increase the value of market capitalisation and also to ensure shares get better value. It also gives the non-banking segment better exposure to low current account and savings account or CASA deposits. 

"When a bank merges with a non-banking division of the parent company or a non-banking entity, it gains access to the bank's low-cost funds, particularly from CASA accounts. This provides a significant advantage for the bank and enables the offering of more diversified and competitive products in the market," said Mayuresh Joshi, head of Equity Research India.

In terms of lending, banks have an edge over finance companies, as banks have access to low-cost CASA deposits. For many banks, this CASA deposit is as high as 40-50% of the total deposits, whereas many finance companies don't have access to public deposits and even if they have access to public deposits, they don't have access to low-cost CASA deposits. So finance companies merge with banks to get access to cheaper deposits. In the process, they aim to improve profitability and increase shareholders' wealth.

 

Other Factors 

Even within the private sector, there are different factors that led to the mergers. Here are some major driving factors behind the recent mergers as per the analysts. 

- NBFCs Failing To Get Banking License

The merger of both HDFC and IDFC First can be studied from the perspective of better performance of non-banking financial institutions (NBFCs), said analysts. However, for ICICI the rationale is, apart from increasing the size, it is also to improve overall profitability. 

"Now, the NBFCs are in a very sweet spot as the cost of capital has been relatively low but credit has expanded brilliantly. Be it in terms of car loans or housing loans, all the large NBFCs have been outperformers. RBI is not coming out with too many bank licences, so NBFCs look for banks where they can have better targets. It becomes a very lucrative buy for someone who is running a NBFC and then there is an opportunity to be with a bank," said Sanjiv Bhasin, director of IIFL Securities. 

 

- Minimising Exposure To Unsecured Loans 

The banking sector has struggled badly after Covid because of rising NPAs, which banks have been able to bring down only in the last few quarters. 

"In certain cases, such mergers can contribute to reducing the bank's exposure to unsecured loans, mitigating associated risks," added Joshi. 

The risk of loan default was even higher for the NBFC sector as the lending rates are higher as compared to banks. With mergers, the non-banking section will also be able to offer loans at reduced rates, highlighted the analysts. 

"The lending rate is very high for security companies because they don't have access to public deposits and low-lift CASA deposits. By merging with the banks they can get money from the bank and they can lend to the customers for margin funding at much lower rates. Thus, they will be able to compete with other standalone security firms which do not have banking facilities," added Chokkalingam. He even mentioned that the security divisions of banks can offer lending to equity broking clients at least 200 bps lower than what standalone broking firms can offer. 

 

- Better Cross-Selling Opportunities

Analysts The Core spoke to also highlighted that the mergers create substantial cross-selling opportunities as seen in the case of the HDFC Bank and HDFC Ltd. HDFC Ltd, with its extensive network of over 445 offices across the country, can effectively cross-sell banking products to customers.

"The merger provides higher cross-selling opportunities and distribution leverage for the bank, along with the pre-existing prudent lending practices and a strong deposit franchise of the lender. To meet the bank's priority-sector lending target (40%), the merged entity must increase its lending towards the priority sector," said Joshi. 

 

What's The Impact Of These Mergers? 

While such mergers boost the business of the individual entity, it also creates an adverse impact on the overall banking ecosystem, the analysts said. 

Such mergers provide tough competition to smaller banks, insurance companies, and brokerages. 

"Now banks with such mergers will have all the products and services in-house, be it the insurance products or the broking products. So the standalone insurance companies or the standalone brokerage will find it difficult," said Chokkalingam. 

 

Also Read: Finance Giants HDFC-HDFC Bank Merge From July 1