Brighter prospects

The country's largest housing finance company, Housing Development Finance Corporation (HDFC), which is a non-banking financial company (NBFC), has been announced to be merged with HDFC Bank but approval from shareholders of both companies, Reserve Bank of India, stock exchanges, Securities and Exchange Board of India (SEBI) and other regulators is yet to be received — which may take between 15 to 18 months. The boards of these companies have approved the merger of HDFC Limited and its subsidiaries — HDFC Investments and HDFC Holdings — with HDFC Bank.

At present, HDFC Limited has 1.1 crore customers and assets of Rs 6.23 lakh crore while HDFC Bank has 6.8 crore customers and assets worth Rs 19.38 lakh crore. After the merger, the integrated entity will become one of the largest banks in the world and, according to an estimate, its market cap will be USD 20,000 crore (Rs 15.12 lakh crore in rupees). However, even after the merger, its balance sheet will remain half that of the State Bank of India.

The merger will take place in two phases. First, HDFC Investments and HDFC Holdings — wholly-owned units of HDFC — will be merged with HDFC. After that, HDFC will be merged with HDFC Bank. At present, HDFC, along with its subsidiaries, holds 21 per cent shares in HDFC Bank.

The amalgamation will also be done in shares. For every 25 fully paid-up shares of HDFC with the face value of Rs 2, 42 shares of HDFC Bank with the face value of Rs 1 will be swapped. After the merger, HDFC Bank will become a company with 100 per cent common shareholders, and existing shareholders of HDFC will hold 41 per cent shares of HDFC Bank. The merger will not have any negative impact on the employees of HDFC. Rather, they will benefit much because, after the merger, they will be able to get both banking and non-banking facilities in the same branch.

Why was the sudden announcement of the merger of HDFC with HDFC Bank made? This question is hovering in the minds of every person involved in the merger. It is believed that preparations for the merger were already underway. Due to the decision of the Reserve Bank of India to introduce uniform rules for the operation of non-banking financial companies (NBFCs) and banks, it was not easy for HDFC to run the company smoothly and earn profits. In such a situation, the only option left with HDFC was to either take the loss or choose the path of the merger. Since the merger option was beneficial to HDFC, therefore, the company's management thought it better to go for it.

The merger will enhance the bank's portfolio of products. Especially, the home loan product will touch new heights, as the mortgage loan portfolio with competing lenders is very small. HDFC Bank has grown home loans at a compounded annual rate of 25 per cent in the last five years. Despite this, it has a market share of 11 per cent. While HDFC has provided housing loans to more than 90 lakh customers in 45 years, there is further scope for wide expansion in this area.

The global rating agency, Standard & Poor's (S&P), says the merger of HDFC with HDFC Bank will improve the amalgamated entity's market share and significantly increase its revenue. However, S&P also said that statutory reserve requirements and priority sector lending norms could negatively impact the profitability of the amalgamated entity in the short term. About nine per cent of HDFC's portfolio is from real estate developers, where the asset quality is poor compared to the rest of the bank's portfolio. Nevertheless, S&P believes that with adequate capital and provisioning, the amalgamated entity will be able to meet the increased risk of this portfolio. S&P also said the merger would improve the amalgamated entity's ability to raise funds at a competitive rate. The income of the amalgamated entity will improve even more in the next five years and its debt may increase by 42 per cent to Rs 18 lakh crore. Also, the market share of the integrated entity may increase to 15 per cent.

However, even after the merger, it will not be possible for the amalgamated entity to be included in global indexes like MSCI and FTSE as it will not be able to meet the required parameters. Due to this, the integrated entity will face difficulties in getting foreign investment. It is worth noting that it is easier for companies included in the global indexes of MSCI and FTSE to get foreign investment. After the announcement of the merger, HDFC Bank's stock jumped 14.3 per cent and HDFC's stock rose 16.5 per cent, but as soon as the market came to know that the merger is unlikely to increase foreign investment, its shares registered a fall.

The investment limit for foreign portfolio investors in HDFC Bank is 74 per cent, of which about 70 per cent has already been invested. About 26 per cent of the Foreign Institutional Investor (FPI) limit in HDFC Bank is used by parent HDFC, which is classified as a foreign entity as more than 50 per cent of its shareholding is with foreign entities. In addition, HDFC Bank has an FPI limit of 19 per cent on its American Depository Receipts (ADRs), which are traded on the New York Stock Exchange.

After the merger, the cost of funding the amalgamated entity will come down, which will enable it to offer cheaper mortgage loans. According to an estimate, only 30 per cent of HDFC customers have accounts with HDFC Bank. So, there is a lot of scope for selling additional products to existing customers. After this merger, the integrated entity can also benefit from the rational use of employees.

In the private sector, Bajaj Finserv, Axis Bank, and ICICI Bank have already grown, increasing their retail customers, high-tech data-based services, and geographic reach. Along with these fronts, it is expected that after the merger, the amalgamated entity of HDFC and HDFC Bank will benefit on many other fronts also.

Views expressed are personal