PSU bank mergers: Is it actually good news for shareholders?

Mergers are likely to keep state-run banks busy with the integration process for a long time.

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Among the four mergers, the combined entity of Allahabad Bank and Indian Bank will have the lowest net NPA.
The government’s move to consolidate 10 public sector banks into four large ones is ostensibly aimed at improving operating efficiency, governance and accountability and facilitate effective monitoring. However, the mergers will bring their own set of challenges and may not lead to value accretion for shareholders.

Larger not always stronger
The mega-merger involves integration of six weaker PSU banks with four better performing ‘anchor’ banks. Andhra Bank and Corporation Bank are to be merged with Union Bank while Punjab National Bank will absorb both Oriental Bank of Commerce and United Bank. Canara Bank will absorb Syndicate Bank, while Indian Bank will assimilate Allahabad Bank. The rationale is evident—banks saddled with bad loans or weak operating metrics are to be integrated with stronger, more efficient banks. Besides, banks working on a similar technology platform (core banking solutions) are being merged to ensure smooth integration. To support this consolidation, the government will be infusing capital into the anchor banks so that transition does not translate to sacrificing growth.


Over the years, several of the merging banks have steadily lost market share and relevance owing to slack management. During 2018-19, these banks only contributed around 13% to the overall incremental loan growth. This lackadaisical approach led to piling of stressed assets and eroding capital. Logic suggests the mergers will lead to higher scale of operations, resulting in improved efficiency and lower costs. “The benefit can either be on the costs side where significant overlaps in specific states can be eliminated over time without any impact to business. Some of these banks could look to enter newer locations with a stronger understanding of the local market,” suggests a Kotak Securities note.

On the assets front, there would be a significant change in the market share of these banks. The four combined entities will enjoy 25% share of incremental loan growth. Rakesh Kumar, Research Analyst, Elara Capital, believes the entities will become more competitive. “These four merged entities could change the competitive landscape for large private banks in mid- & large-corporate segments and for old-generation private banks in the MSE segment,” he says. With the proposed merger, analysts see the market share of large PSU banks getting back on par with private banks. “Mergers may make it difficult for private banks to gain faster market share as most anchor banks are large or will be larger post-merger,” says Pritesh Bumb, Research Analyst at Prabhudas Lilladher.

However, for the expected benefits from the mergers to materialise, greater emphasis on corporate governance is critical. “The decision to merge banks is a good remedial measure, but continued focus on corporate governance and adherence would be of prime importance,” asserts Kumar. Without removing administrative barriers, creating a larger bank may not necessarily lead to a stronger one, suggest analysts.

Besides, the road ahead is likely to be long-winding. These mergers are likely to face many operational challenges initially, pushing up costs. After receiving board approval, the merged banks would probably take 18-24 months to synchronise all processes. Past examples of amalgamations in public sector and private banks show they are a time-consuming exercise. “We believe operating expenses could go up in the near to medium term. Banks would also face higher expenses related to VRS,” says Kumar.

How financials of anchor banks will change after mergers
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Source: Kotak Securities

How the mergers stack up
Among the four mergers, the combined entity of Allahabad Bank and Indian Bank will have the lowest net NPA (non performing assets), while boasting the highest provisioning coverage and strongest CASA (current account and savings account) franchise. “Indian Bank’s merger with Allahabad Bank will help it emerge as a strong entity with reach, improving provisioning coverage ratio (PCR) and strong CASA ratio,” suggests Bumb. The merged entity also has the least branch overlap.

However, this diversity in cultures may prove challenging during integration and may also lend no major cost benefits from the merger. Further, Indian Bank will see deterioration in its asset quality owing to Allahabad Bank’s unhealthy loan book.
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Meanwhile, greater synergies are likely to accrue from the merger of Syndicate Bank with Canara Bank as both have similar cultures and geographical presence.The merged entity will become the fourth largest lender in the country, with better provisioning and capital ratios post-merger. The combined entity of Union Bank will see improved provisioning and capital ratio after merger with Andhra Bank and Corporation Bank. However, its asset quality position will take a hit, with the merged bank likely to report the highest gross NPA ratio among the four entities.

Also read: Bank mergers: Which customers will be affected and how
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Analysts favour rival public sector and private banks
While most of the anchor banks will take a near-term hit on asset quality, share-swap ratios for the merger will not favour the smaller banks. Shares of these merging banks have corrected sharply since the announcement. Analysts recommend staying away from merging entities till more clarity emerges.

“SBI and Bank of Baroda along with the leading private banks (Axis Bank, ICICI Bank and HDFC Bank) would be in a stronger position for the next few years, while transition issues rankle other public sector banks,” reckons Kotak Securities. The brokerage believes that under its swap ratio assumptions, the negative impact would be the highest for Union Bank and Indian Bank. The mergers will keep staterun banks busy in the integration process for a long time and thus help private banks further consolidate their business market share, suggest Emkay Global analysts Anand Dama and Rahul Malani. They retain buy on SBI and maintain positive bias towards leading private banks with ICICI Bank and HDFC Bank among the top picks.
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