This article has been written by Srijita Dutta, pursuing a Diploma in M&A, Institutional Finance and Investment Laws (PE and VC transactions) from LawSikho.
Table of Contents
Introduction
Bill Gates once said, ‘Banking is necessary, Banks are not”. This speaks volumes about how the banking industry has flourished and come far from where it once started. It is today one of the strongest forces of the Indian Economy. In the last few years, there has been utmost growth and very significant changes in the industry. Even when the world was facing a financial breakdown, this sector kept running towards advancement. What started as just money-lending, in the form of zamindars who would then lend money by means of mortgage of land property of the borrowers, today has transformed into SMS Banking, Net Banking and services like ATM’s and fund transfer some of which only require a phone and internet. This can be explained as nothing short of a revolution. This in turn also plays as a catalyst to the economic development of India through savings, investments and high-yield growths.
Banks can be categorised into 2 categories i.e. Public and Private banks. A public sector bank is the one where the Government holds a majority of the stake, mostly 51%. On the other hand, a private bank is the one where shareholders own the majority of the shares which can be people in general or corporate entities. They are the owners and hence have control over the bank. Irrespective of being public or a private bank, these organisations have the same duties and functions. Nowadays, public banks are slowly taking the roads to become private sector banks. The citizens of the country still trust a public bank more because the government adds the factor of financial security whereas a private bank adds the factor of technological updates and faster results.
Current scenario
The Indian banking system consists of 12 public sector banks, 22 private sector banks, 44 foreign banks, 56 regional rural banks, 1,485 urban cooperative banks and 96,000 rural cooperative banks. RBI Reports say that the assets of public sector banks were calculated at approximately Rs. 108 lakh crore, in Financial Year 20. Total assets across the banking sector increased to US$ 2.52 trillion in Financial Year 20. With the digital payments revolution coming into the picture, it’s said to bring changes in the way credit is disbursed in India.
Ownership of banks
The answer to who owns the bank plays an important role as to how much the public trusts in its working. As we know a public sector bank is majorly owned by the government, it makes the citizens not only want to work in a government undertaking but also invest in it. Some of the most known public sector banks are The State Bank of India (SBI), Punjab National Bank (PNB), Bank of India (BOI) and Bank of Baroda. The Government owns more than 51% of shares in all these banks. In Budget speech 2021, it was announced that some of the Public Sector banks were to go through privatisation. This stirred up a lot of objections from the union because the public fears that privatisation will cause a lot of problems to them. One of the main being the lack of financial security. When the Government is a majority stakeholder, it is believed that they will pull up all means to not let it run out of resources.
But in earlier times, a similar situation had taken place. In 1969, the government had nationalised 14 banks, and then 6 more. With time, a lot of flaws came out in PSUs. For example, they were unable to match the demands of the people and it was necessary to increase efficiency. This was the main reason why in 1991 that privatization had started. This brings the entire thing to a full circle because, with time, the Government realized that private banks only serve the ones with money, leaving out the poorer sections to dry out. Hence today when again the government wants to privatize, the unions are against it. With privatisation coming into the picture, it will mean that the ownership of public banks will now shift gradually to the citizens and companies.
When it comes to ownership of private banks, the Reserve Bank of India suggests diversity in ownership. This means that more people should own fewer shares in comparison to fewer people owning large chunks of shares. This results in avoiding monopoly. To ensure that this takes place, certain guidelines have been set up. Foremost being:
i) corporate houses are not allowed to start a bank.
ii) One needs approval from the RBI if they want to acquire more than 5% voting rights in a bank.
iii) A bank can buy upto 10% shares in other banks. If necessary, the RBI may permit more.
iv) In a private bank, be it any source of foreign investment, the maximum capacity allowed is 74% of the paid up capital of the bank.
v) This means it is mandatory for 26% of the paid up capital of the bank to be of indian residents at all times.
vi) In some banks regulatory concerns are absent; in such scenarios , if the Board of Directors permit, one can hold higher shareholding.
Acquisition of banks
An acquisition can be defined as a process of one company buying stakes in another company that leads to them getting controlling rights of the target company. This means buying stocks, or assets or anything that will give them more than 51% shareholding. On the other hand, a merger is a combination of two or more companies to form a single entity. A merger is similar like an acquisition or a takeover but the only difference is that in a merger, existing shareholders of both companies retain a shared interest in the new corporation while in acquisition one company acquires a bulk of acquired company’s stock by willingness or unwillingness of another company.
In 1993, the government prioritised economic prosperity and merged banks. The New Bank of India was merged with the Punjab National Bank. This was the first merger between nationalized banks and the number of nationalized banks in India was reduced from twenty to nineteen. In 2019 the Government decided to merge 27 public sector banks and reduced the count to 12. The banking sector has ever since gone through numerous mergers and acquisitions in order to strategically grow towards development. Revamping production and market expansion are some of the primary purposes of this sort of consolidation. Along with this, there are some more benefits or mergers and acquisitions of banks:
- Market expansion leads to a broader geographical area, which means a bigger scale of operations can take place.
- When two or more banks come together, their capital and human labour also comes together. This results in instant increase of efficiency and lower risk profile.
- It basically prevents the increase in bad loans and non performing assets, and on the other hand technology and business gaps are filled. With every advantage, there are always some disadvantages that come along. Similarly in the process of M&A deals, these are some demerits that can happen in the process.
- Amalgamations of banks are done most of the time to save a bank from drowning in debts or to keep them working in spite of financial breakdowns. In this case, a lot of tax paid by the public gets used in the capital.
- In this technical process, often things like employees’ work culture fit are not considered. This may result in not getting the best of results when human labour of two organisations come together.
- The concept and execution does not always run parallel. Bringing two teams together can sometimes end up in failure of the product company because there is always a possibility of clashes being the powerful heads.
There are a lot of regulations that govern these changes. Starting from the Banking Regulation Act of 1949, section 44A talks about amalgamations. Further, section 2A recently amended in the Banking Laws Act, 2011 explains the non-applicability of the provisions of the Competition Act to any banking company. This was done to provide a catalyst in the process of the banking sector. Under the Companies Act, 2013 it’s specifically mentioned under chapter 15, that a merger between a company and bank will require a High Court and RBI’s approval.
Some bank mergers and acquisitions that received the cabinet approval and were to take effect from April 1, 2020 includes the following:
- Allahabad Bank with Indian Bank
- Oriental Bank of Commerce (OBC) and United Bank of India with Punjab National Bank (PNB)
- Syndicate Bank with Canara Bank
- Corporation Bank and Andhra Bank with Union Bank of India
Conclusion
The reforms along with mergers and acquisitions aim to bring significant changes in the banking sector. What looks to the layman as just two teams coming together, is actually a plethora of work for the legal, operations, finance and other teams of both the banks involved. Over the years, a lot of challenges have been faced that today has helped the banks to overcome global shocks. In my personal opinion, even though the concept of strong big banks acquiring poorly functioning banks does help them survive, it brings down the assets of the bigger bank. What also can be done to bring the Indian banking industry on a global platform, is to merge two strong banks to be able to make an entity strong enough to compete with foreign banks. When any sort of agreement for consolidations are signed, integration and implementation should be prioritised so as to get the best possible results.
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