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Banking opportunity: India calling?

Mar 11, 2005

It is not just the pink papers reporting that foreign financial entities (GE Money, Goldman Sachs and Merrill Lynch to name a few) are showing interest in Indian banking sector, but the concerned authorities in the country also seem to be encouraging the same. RBI's twin-phased roadmap for facilitating entry of foreign banks into India seems to be a step towards fulfilling the key objectives of competition, consolidation and convergence in the sector. But what is it that is enticing the foreign entities to the Indian shores? Here, we try to reason the same. Fragmented market

27 PSU banks, 25 private banks, 30 foreign banks and a host of cooperative and regional rural banks do not in any sense implicate that India, as a country, is under-banked. However, a comparison of the total credit outlay (consumer credit as a % to GDP) with some of the smaller economies suggest otherwise.

Source: CRISIL

Consumer credit accounts for a meagre 28.6% of the country's GDP and the buoyancy in the economy offers sufficient scope for it to grow. Although corporate credit has shown some signs of revival over the past few quarters, it has been the 'retail credit' segment that has accelerated the non-food credit growth. As economy progresses, demand for credit from this segment will continue to surge.

Despite the fact that the 'banking behemoths' have catered to a substantial portion of the demand, it is pertinent to note that they account for only half of the total pie and there is a reasonable room left for others to cash in.

Half of the pie…
FY04 (Rs bn) Advances Market share
SBI 1,955 22.7%
ICICI Bank 631 7.3%
Canara Bank 476 5.5%
PNB 472 5.5%
Bank of India 458 5.3%
Bank of Baroda 356 4.1%
HDFC Bank 177 2.1%
Standard Chartered 162 1.9%
Total 4,687 54.4%
Considering only scheduled commercial banks

The fact that the top 8 banks account for barely 54% of the market share suggests that several smaller players occupy the remaining 46%. It is here that the foreign players see the 'opportunity'. Although the smaller players together account for a reasonable share, most of them are undercapitalized, on a standalone basis. The need to cater to the burgeoning credit demand also calls for additional capital requirement, for which their foreign counterparts can come to the rescue of the smaller Indian banks. Also, since the new foreign players will not be allowed to expand freely, the ones taking the subsidiary route for expansion will not be subjected to rural branch norms (25% of branches to be set up in rural areas) as well as priority sector lending requirement (35%). They can thus concentrate their focus on the lucrative urban markets.

Non-food credit: Of prime significance
Gross bank non-food credit Rs 8,048 bn
FY04 Rs bn % of market
SBI 1,627 20.2%
ICICI Bank 486 6.0%
HDFC Bank 152 1.9%

Demand for non-food credit, from retail and corporate segments alike, is set to witness an uptrend given the economic and demographic changes in the country. The smaller banks (occupying 46% of market share) have neither the resources nor the ability to raise the same, to cater to the incremental demand. Foreign banks will thus capitalise on this opportunity, by either picking up stake in the smaller entities or setting up subsidiaries, thereby eating into the market share.

Food credit: Not a credible option
Gross bank food credit Rs 560 bn
FY04 Rs bn % of market
SBI 328 58.6%
ICICI Bank 145 25.9%
HDFC Bank 25 4.5%

The government mandation of fulfilling the minimum priority sector credit (of which 18% is food credit) has forced the domestic banks to cater to this segment despite the low profitability and vulnerability of asset quality. Particularly, it is the PSU banks that stand to be the 'scapegoat' in the regard. However, their foreign counterparts (new entrants) have the respite of being exempted from this and will thus not be looking at this 'not so credible' option.

Deposits: Key to low cost funding
FY04 (Rs bn) Demand deposits Time deposits Total Market share
Industry 2,250 12,794 15,044  
SBI 1,561 1,625 3,186 21.2%
ICICI Bank 156 525 681 4.5%
HDFC Bank 16 14 30 0.2%

Except SBI, no other banking entity in the country has a sizeable portion of market share of the total low cost deposits. Exemption from setting up branches in the rural areas will also enable the foreign entities to raise low cost deposits from the urban areas by consolidating the shares of several smaller players.

The bottomline is…

…that, the optimism about the foreign participation in the banking sector, has its own share of vices. While opening up the sector to more competition and consolidation, it is pertinent to safeguard the smaller domestic banks from getting cannibalized by their stronger foreign counterparts. With regulators like RBI and SEBI keeping a close watch we can hope that they do not fall prey to the vested interests of the foreign players.

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