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Consolidation: The next wave

Dec 5, 2003

With the recent acquisition of UTI Bank's stake by HSBC, the activity in private sector banking stocks has intensified. Another private sector bank, Centurion Bank, is also witnessing a change in shareholder structure. Do these moves indicate that Indian private sector banks are being increasingly looked upon as acquisition targets by foreign investors as well as banks? Do these recent moves point out to a round of consolidation in the banking sector? Before we answer this question we need to examine the factors that can lead to consolidation in the sector. First and foremost the issue of FDI (foreign direct investment) limit in private sector banking companies has been a major dampening factor as far as foreign investments (which could potentially lead to consolidation) in the sector are concerned. Despite the announcement by the finance minister in the 2003-04 budget regarding the raising of FDI limits in the banking sector, nothing concrete has been done regarding the same. Finance Minister Jaswant Singh had proposed a hike in Foreign Direct Investment (FDI) limit of private (and foreign) banks from the current 49% to 74%.

The issue regarding voting rights of investors in a banking entity is also a dampening factor for acquisitions by foreign players in the Indian banking sector. Currently, the voting rights of any entity that holds 10% or above stake in a private sector bank, is limited to 10%. That means that even if an entity held 49% stake in a bank, his voting rights would be limited to 10%, signifying a cap on management control irrespective of the size of holding in a private sector bank.

While the above-mentioned concerns have been the main reasons for the lack of consolidation in the sector, the situation seems to be changing for the better. The finance ministry has indicated that there may be changes in both these policies. The issue regarding voting rights is soon to be amended. Regarding FDI investment limits also, there are indications that the limit may be raised to 74% shortly. All these developments indicate that the government is keen on further opening up the banking sector to investments as well as foreign expertise. The HSBC deal (if it goes through) may actually be the beginning of a wave of consolidation in the future.

If we take example of the UTI Bank - HSBC episode, while there is no doubt that the move has indicated global interest in hiking stake in the banking sector in India. However, what does it mean for the shareholder in the end. True that with a partner like HSBC, UTI Bank's perception among customers gets a leg up. It could bring expertise, both in terms of technology and strategy for UTI Bank. For HSBC, which is looking to expand its base beyond bigger Indian cities, UTI Bank could be an ideal platform, not to mention cost efficiencies for both parties. Even here, one should note that the HSBC offer has been shot down by the other FIs invested in UTI Bank. So, in the short to medium term, HSBC is likely to be forced to be a passive 'investor' (as it itself has stated). However, as time goes by and the legislation regarding FDI in the sector becomes more liberal, HSBC is likely to take a shot at management control.

So in our view, investors should look at opportunities on a case-to-case basis. More importantly, they should look at the benefits that two merging partners bring to the table and what it means for the bank's growth prospects. The consolidation positives are likely to be a long drawn affair and if one is investing in banks with this motive, investment horizon needs to be long term to reap in the full benefits.

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