This article has been written by Parth Sharma pursuing a Diploma in Legal English Communication – oratory, writing, listening and accuracy at LawSikho and has been edited by Shashwat Kaushik.

It has been published by Rachit Garg.

Introduction

The banking sector of a country is considered to be an integral part of its financial system. A nation’s economy revolves around its banking system. Strong banking indicates that the financial backbone of a country is strong and that a concrete path has been laid for growth and development. The Indian banking sector is advancing at a phenomenal rate, and its condition is considered to be far better than that of the other major economies in the world. Indian banks have proven resilient to global economic downturns. The financial market and technology are also constantly changing, and banks often have to compete fiercely in order to capture a substantial customer base. This is where the role of mergers and acquisitions (“M&As”) becomes vital for the banks.  Merger refers to the amalgamation of two separate entities into a single entity, with one losing its corporate existence. An acquisition is the act of taking over the controlling interest in the share capital of a smaller entity from a bigger entity. M&As have been used by banking companies throughout the world to increase their market dominance. It is considered to be the best and most effective way to enter new markets and gain the existing customer base of the target bank along with its technological capabilities. The modern corporate world has resorted to the strategy of M&As for the extension of the domain of its business as well as to manage the financial struggles that have emerged due to the economic slowdown.

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As the economy opened, Indian industries were exposed to international and domestic competition, forcing them to restructure their business operations with the support of M&As. For the Indian banking industry, the adoption of M&As has proved to be rewarding, as they have been able to expand their global outreach through mergers. And as acknowledged by the RBI in its occasional paper, acquirer banks’ efficiency and financial performance have been reported to have improved post-merger.

Benefits of M&A for Indian banks

The following are the benefits of M&As for Indian banks:-

A survival necessity for weaker banks

With the advent of international banks in the Indian market, a lot of banks struggle to survive amidst the increased competition. M&As tend to stabilise weaker banks by diversifying risk management. The existence of weaker banks is not wiped out with the support of stronger banks, and the stronger banks get to expand their customer base as well.

Economics of scale

Due to the amalgamated customer base, the product becomes more profitable. The range of banking products is expanded for the revised customer pool, and broader options for financial instruments are provided as well. The merged bank gets a stronger risk management plan along with an expansion in market capitalisation.

Increased financial liquidity

M&As ensure direct access to capital for a cash-strapped bank. Mergers guarantee an increase in financial liquidity and enable the banks to utilise their pool of resources properly. Post-merger, several projects can be undertaken by the merged bank that could not be undertaken due to the paucity of financial resources.

Advancement in the technological aspect of banking

The advent of E-banking has somewhat replaced the traditional methods of banking. Having a technological edge is imperative for a modern bank in order to retain and expand its customer base. M&As enable banks to adopt the latest technology for delivering better services to their customers.

New opportunities for skilled and talented

With the amalgamation of two banks, their workforce also combines. Hence, with an increased workforce, banks can utilise their talented workforce to gain an edge over their competitors. M&As also provide fresh opportunities for the employees of the merged bank, as they provide better networking opportunities and expose them to a larger pool of resources. 

Mergers in private and public banks

Since the year 1969, India has witnessed numerous bank mergers. Most of these mergers were the result of banks failing to sustain themselves and, therefore, having to merge with big banks to ensure their survival. Of these bank mergers, the State Bank of India witnessed 12 mergers. The Bank of Baroda and Punjab National Bank witnessed the merger of 5 banks each. In 1969, the policy of nationalising commercial banks was aggressively pushed by the Indira Gandhi Government. Out of the 14 nationalised banks by the Indira Gandhi Government, 10 are still robust and retain their identities. The argument presented by the government for nationalising private banks was that the private banks were often involved in shady dealings and that nationalised banks were suffering in the market because of the unfair competition given to them by the private banks. Another reason for nationalisation was that the private banks focused primarily on the urban population, as a result of which the rural areas were deprived of the facilities of effective banking. As a result of nationalisation, Public Sector Banks (PSBs) captured a huge market share, out of which, at present, post-M&As, only 12 survive.

The Indian commercial banks were struggling in terms of operational and distributional efficiency, in response to which the government of India appointed several committees to figure out the structural changes needed to strengthen the banking system. The emphasis of the Banking Commission in 1972 and the Committee for the Functioning of Public Sector Banks in 1978 was on restructuring the banking system so that credit delivery could be improved. However, it was the Narasimhan Committee, set up in 1997, that primarily emphasised the convergence and consolidation of the Indian banks. The recommendations for mergers were not limited to only PSBs; the committee also suggested reforms to strengthen the mergers of private sector banks with Non-Banking Finance Companies as well. Another significant suggestion laid down by the committee was that there must be 2 -3 Indian banks that can be oriented globally to compete with foreign banks, and for banking to reach rural areas, a massive grid of 8–10 national banks along with local banks should be formed.

In 2019, the Government of India announced that 10 PSBs were to be merged into 4. In this massive consolidation, Vijaya Bank and Dena Bank were merged with the Bank of Baroda. Oriental Bank of Commerce and the United Bank of India were merged with the Punjab National Bank. Syndicate Bank was merged into Canara Bank. The Allahabad Bank was merged with the Indian Bank. Andhra Bank and Corporation Bank were amalgamated with the Union Bank of India. Out of these mergers, the State Bank of India witnessed the merger of 6 PSBs. These were the State Bank of Bikaner and Jaipur, the State Bank of Hyderabad (SBH), the State Bank of Mysore (SBM), the State Bank of Patiala (SBP), the State Bank of Travancore (SBT), and the Bharatiya Mahila Bank. This mega-merger reduced the number of PSBs to 12 from 27. The principal objective behind merging these banks was to establish next-generation banks and achieve the target of a trillion-dollar economy. The merger has resulted in the weaker banks showing positive results. The mean technical efficiency of the acquirer banks also increased post-merger from 90.88 to 94.24 in the span of 4 years. The consolidation is based on the government’s strategy to empower the PSBs to compete in both domestic and international markets. Post-merger, the State Bank of India, among all banks, holds a market share of 22%. Punjab National Bank, post-merger, holds a market share of 8%.

The practise of M&As is becoming prevalent in private-sector banks as well. The merger of HDFC with HDFC Bank has been approved by the NCLT. The merger is considered to be the biggest corporate amalgamation in history, with combined assets worth over 18 lakh crore post-merger. Private sector banks are likely to be at the forefront of the fresh phase of bank consolidation between FY 22-24. Inorganic growth opportunities resulting from the buoyancy shown in the equity markets have enabled large private banks to grow in size by acquiring smaller and weaker private banks. It has been further reported that the PSB mergers have caused a significant shift in business towards the private sector banks. The PSBs have witnessed a sharp decline in their credit market share. The private banks seem to have been steadily gaining credit market share and have taken over the around ten percent market share of PSBs in deposits and advances in the last five years. The large private banks have further continued to grow their market share at the expense of the small private banks that have struggled due to a shortage of capital inflow resulting from chronic asset quality problems. The current economic slowdown has also contributed to forcing these small private banks to consolidate with the bigger ones. 

RBI’s take on bank mergers in india

In 2016, guidelines were issued by the RBI pertaining to the merger process of private sector banks in India. The guidelines apply to the merger of two banking entities and also govern the merger of a banking entity with a non-banking financial institution (NBFC). As per the guidelines, the RBI, under the Banking Regulation Act 1949, has the authority to exercise its discretion in authorising the voluntary merger of two banking entities. However, these powers are applied only in the case of a voluntary merger between two banking companies. The NCLT, under Sections 232 to 234 of the Companies Act of 2013, holds the ultimate power to authorise merger plans between a banking company and a non-banking company. This position has also been affirmed by the Bombay High Court in the case of Indusind Enterprises And Finance… vs. Indusind Bank Ltd., 2003. In order for the amalgamation process to be complete, the plan must be ratified by a two-thirds majority of the total board members. 

Law dealing with M&As in India

The Banking Regulation Act of 1949 governs the merger of two banking entities. As per Section 44A, for banks to merge, the approval of two-thirds of the shareholders of each bank is necessary. Then the proposal is sent to the RBI for its approval of the merger plan. The Banking Regulation Act of 1949 has armed the RBI to propose forced and involuntary mergers of banks in cases where they are financially weak. The forced mergers are done by the RBI in order to protect the deposits of the customers of the weak banks. Section 45 of the Banking Regulation Act, 1949,  states that the RBI may apply to the Central Government for suspension of the operations of a banking company and for passing an order of moratorium in respect of that banking company. During the moratorium, if RBI is of the opinion that, in the public interest, in the interest of the depositors, or in the interest of the banking system of the whole country, it is necessary to prepare a scheme for the reconstruction of the bank or for the merger of the bank with a stronger bank, then it may do so. The Companies Act, 2013 mandates under Sections 234 to 234 that the approval of the RBI is necessary to voluntarily merge a banking company with an NBFC. The approval of the RBI to carry out such a merger is given after the boards of the respective banks and the NBFC have given their assent to moving forward with the merger plan. After the RBI’s approval, the merger plan is filed before the National Company Law Tribunal for its approval.

The Competition Act of 2002 also regulates M&As taking place in the banking sector. The act focuses on the anti-competitive practices that may be exercised by banks with M&As in order to gain a competitive edge in the market. As per the Act, the Competition Commission of India was to be notified of the amalgamations taking place. However, in 2017, the nationalised banks were excluded for not complying with the requirements of the Act. The government did this to ensure quick consolidation of the PSBs. 

Conclusion

The banking sector is on the path to becoming one of the fastest-growing sectors in India. The banking sector has flourished since the liberalisation policy of 1991. The banks have resorted to M&As in order to grow their market size. However, the use of M&As has been resorted to by many banking companies that could not sustain their operations independently due to the sluggishness shown by the market, which was a byproduct of the economic slowdown. The slowdown has forced a lot of weak banks into amalgamations. M&As have been used by some large banks as a strategic tool for the expansion of their businesses. M&As have also helped in the emergence of many international players in the Indian market. Post M&As, the profitability of struggling banks has been shown to have improved. However, the competitiveness in the market has also increased, and that has resulted in the banks using the tool of M&A to gain an unfair competitive edge over competitors in the market. Though M&As are useful for banks to overcome the impact of losses that occurred due to increasing NPAs, the abuse of power by big players in the industry by entering into anti-competitive amalgamations has to be checked by the government. The government, in consultation with the RBI, should introduce regulations that prevent anti-competitive practises so that mega-mergers won’t negatively affect the Indian banking system.  

References

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