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Attitudinal change on M&As need of the hour for RBI

The Reserve Bank of India has been touchy and conservative on M&As, but an attitudinal change to regulations is the need of the hour.

May 07, 2014, 04.00 AM IST
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Raghuram Rajan, as the governor of the Reserve Bank of India, has set the ball rolling on reforming the way policies are framed by questioning many of the old practices.
Raghuram Rajan, as the governor of the Reserve Bank of India, has set the ball rolling on reforming the way policies are framed by questioning many of the old practices.
When Reserve Bank of India Deputy Governor KC Chakrabarty said the central bank should end ‘regulation by discretion’, the plain-speaking banker was not letting out a state secret. He was stating what was common knowledge, but something that is hardly discussed. The Reserve Bank of India, though, remains probably the only vital institution in the country without taint, and the need for attitudinal change to regulation — especially to takeovers and amalgamations of companies in the financial services industry — is pressing given the needs of the economy.

Changes in banking regulation and supervision arena have been moving at a snail’s pace since economic liberalisation began in 1991, with conservatism dominating pragmatism as the history of robber barons weighed on the minds of regulators. Furthermore, the central bank itself was more a ward of the central government, with bureaucrats guiding policies in the interest of the masses, rather than market realities and needs guiding them as there was little trust in markets.

Things have begun to change since September last. The former Chicago University professor, Raghuram Rajan, as the governor of the Reserve Bank of India, has set the ball rolling on reforming the way policies are framed by questioning many of the old practices. Banks are free to open branches at their will. Banking aspirants are promised licences on tap. Derivatives trading are no longer viewed with suspicion. He is dangling carrots for banks that clean up books, and a stick for those trying to sweep bad loans under the carpet. The next big leap for Rajan may be takeovers and mergers in financial services. Given that many non-banking finance companies failed to make the cut in the recent banking licences game, it may be essential to be liberal on their plans to combine with banks, though with tough conditions.

“The merger and acquisition landscape so far has been restricted to distressed banks,” says Romesh Sobti, chief executive at IndusInd Bank. “There is nothing to believe that there is a framework either to encourage or discourage mergers and acquisitions. Theoretically, anybody should be allowed to buy a bank but it has to go through regulatory scrutiny.”

Liberal mergers and acquisitions have been a touchy subject for the RBI all along, given its fears about the abuse of such a regime by a few dominant shareholders. But that did not mean there were few such corporate actions. ICICI Bank, founded in 1955, is a standing example of growth through acquisition. It is an amalgam of at least five entities, including the erstwhile ICICI, a term lending institution, and ITC Classic, a non-banking finance company. So is IDBI Bank, an amalgam of term lending institution IDBI, and United Western Bank.
 


IndusInd Bank also benefited from the merger of Ashok Leyland Finance, a company belonging to the same founder, the Hinduja family. But these were among the lucky ones in Indian banking given that the RBI has turned down many merger proposals, or put obstacles to a smooth takeover of assets. When Standard Chartered bought American Express in India, it did not get all the branches. Hong Kong and Shanghai Banking Corp probably had the worst experience when it was forced to sell nearly a fifth of Axis Bank, then UTI Bank. In fact, it had to abandon the purchase of Royal Bank of Scotland’s assets here due to regulatory obstacles.

Attitudinal change on M&As need of the hour for RBI

It makes sense for entities like L&T Finance Holdings, Edelweiss Financial Services and Reliance Capital, which missed the licence bus, to convert themselves by combining with a bank as they try to lower their cost of funds — the only attraction in becoming a bank. ET had reported on April 23 that L&T Finance and Yes Bank had held talks over possibly combining the two. Will the RBI allow any possible merger of the two? “The RBI has allowed NBFCs to merge with banks — Ashok Leyland Finance with IndusInd, 20th Century Finance with Centurion Bank, etc,’’ says Saurabh Tripathi, leader, financial institutions practice at The Boston Consulting Group. “There is nothing per se against an NBFC’s merger with banks, but it should not violate other norms on ownership patterns, etc.’’ Since the RBI has already frozen licences for new NBFCs for a year and given that it is actively discussing differentiated bank licences it may begin to look at NBFCs merging with banks more positively if there is no dominant shareholder. Unlike in the past, when the regulator felt promoters of NBFCs could game the system, a merger of an NBFC with a bank could be seen as reducing the size of the shadow banking system, and make it adopt stricter banking regulations.



But caution should be the cornerstone of any merger in banking. “M&A in banking should go through regulatory scrutiny,” says IndusInd’s Sobti. “It cannot be free market.’’ In fact, more than the private sector, it is the public sector banks that may be in need of mergers as smaller-sized lenders struggle to expand their franchise when nimble private sector banks and NBFCs eat into their market share. The cash-strapped government is finding it difficult to invest capital in many banks. Also, the state control and government’s meddling in their affairs is driving investors away from them as was recently witnessed with the SBI’s share sale floundering. “There is a need for consolidation in the public sector banks space,” says Diwakar Gupta, former managing director at State Bank of India. The Reserve Bank of India and the government have to formulate a policy if they want consolidation. If the government stops giving capital to banks, they will have no option but to merge.” In a country where there are different kinds of institutional framework for lending — NBFCs, banks, co-operative banks, microfinance institutions, credit co-operatives, chit funds — a comprehensive guideline in black and white is essential. “With the evolving regulatory framework, the central bank could consider a bank and a NBFC merger by putting in regulatory and ownership checks,” says Ashvin Parekh, managing partner, Ashvin Parekh Advisory Services.

Few will dispute the need for a framework that will facilitate the elimination of inefficiency in the financial services, but it may not be permitted in the way it is done in the corporate world, or in the West. For regulators, it is difficult to forget the disastrous events that followed the three-way acquisition of Dutch lender ABN Amro by Royal Bank of Scotland, Belgium’s Fortis, and Spain’s Banco Santander.

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