The government’s move to merge two better-performing public sector banks (PSBs) – Bank of Baroda and Vijaya Bank – with a weak one – Dena Bank – is a good strategy to ensure stability of both, operations and the credit profile of the consolidated entity.
The success of the three-way merger will be crucial as it will pave the revival path for other weak PSBs, mainly those under the PCA framework.
It will reduce the capital burden for the government over the long term, and enable better management of a smaller set of large nationalised banks. Also, with fewer PSBs around, capital allocation, performance milestones and monitoring would become easier for the government.
Says Krishnan Sitaraman, Senior Director, CRISILs Ratings, “Such consolidation will engender economies of scale, and can structurally improve operating efficiencies and governance. It will also help the merged entity to participate in credit growth opportunities and defend turf. In the past five years, PSBs have ceded ~10% market share of banking assets to private banks, and could lose another 10% over the next three years if capital constraints continue.”
Challenges on asset quality and profitability, erosion in networth and high dependence on government for capital support continues to hamper the growth aspirations of PSBs, especially under the PCA framework. PSBs account for over 80% of the ~Rs 10.4 lakh crore stock of non-performing assets (NPAs) in the banking system as on June 30, 2018, and reported aggregated P&L losses of ~Rs 1 lakh crore for the past 5 quarters. This has resulted in a further weakening of the capital position of most PSBs.
In this context, the government’s announcement of Rs 2.11 lakh crore recapitalisation for PSBs up to March 2019 would be insufficient in terms of growth capital this fiscal. Successful consolidation of PSBs can address the capital conundrum in future.
“Any merger of the scale envisaged in the BoB-Dena-Vijaya case will entail near-term pain for the consolidated entity. However, the long-term structural benefits are compelling enough to push forth on the consolidation path,” Sitaraman said.
The assurance by the government that jobs of employees will be protected and service conditions will not be adversely impacted should reduce the potential for employee discontent.
The merger of associates with the State Bank of India (SBI) was relatively easier because of common branding and technology, and the mothership’s strong balance sheet, which could cover asset-side risks of subsidiaries.
However, the option of merging better performing PSBs with the weaker ones are few. The ability to manage potential challenges in terms of balance sheet, people and processes, and their impact on growth and operating metrics over the medium term, will determine the success of future mergers.