Amalgamation negative for BoB but positive for Dena Bank

In a major move aimed at consolidation in the public sector banking space, the government of India has announced the merger of three state owned lenders—Gujarat originated Bank of Baroda (BoB), Dena Bank and Karnataka based Vijaya Bank. The proposal calls for “alternate mechanism” route for merger and will be subject to board approval of individual banks.

Many believe that the proposed merger is effectively a plan to bail out beleaguered Dena Bank that has been placed under the prompt corrective action (PCA) by Reserve Bank of India (RBI). The Gross NPAs of Dena Bank is at 22 per cent raising the question whether merging it which contributes 20 per cent of the consolidated business, a means to use the capital of somewhat better managed banks.

Contrary to the earlier statements of the government for the need to merge weaker banks with stronger ones, the proposed merger is a bit different, as the two relatively better placed entities – BoB and Vijaya bank will have to carry the burden of elevated NPAs and low capital ratio of Dena Bank. Dhananjay Sinha, head of research, economist and strategist at Emkay Global Financial Services said, “While mergers are long awaited imperative, I think the plan lacks solidity unless there is a serious quantification of capital impairment. Also one needs to know what is the clear Tier 1 capital, haircuts and what is the government’s commitment toward further capital infusion; these are vital information that is still awaited.”

“Assuming 75 per cent haircut for unprovided impaired assets (NNPA, which now subsumes the restructured assets), the combined Tier 1 capital would stand at around 4 per cent. Also the combined ROA will stand at zero; a combinations that hardly exudes confidence to grow market power,” added Sinha. “While one awaits clarity on the share swap ratio, the stronger entities would stand to lose owing to the burden of NPAs and the decline in capital adequacy ratios. On the flip side, weaker banks or banks that are part of PCA framework stand to gain as the wait towards merger / consolidation comes to an end,” says Aalok Shah and Gaurav Jani of Centrum Broking in a report.

“Also, it has been just three years when Jayakumar, the only private sector banker moving in into managing PSU banks after the announcement of another mega reform scheme ‘Indradhanush’, began changing the face of BoB. My sense is that, burdening him with tackling problem banks, especially Dena Bank, can shift management focus away from BoB’s complete resurrection. So there are risks for BoB,” said Sinha. With business productivity of BoB being much superior compared to both Dena and Vijaya Bank, there could be rationalisation and union issues. “Integration related issues (people, processes and infrastructure) could derail the revival process in the PSU banking space. One also needs to monitor the pace of NPA resolution and capital requirements from regulatory requirement point of view,” said the analysts of Centrum Broking.

The amalgamated entity would be India's 3rd largest bank after State Bank of India and HDFC Bank. Dena Bank has GNPA/NNPA ratio of 22 per cent and 11 per cent respectively and the bank has posted loss for three consecutive years. It has a tier 1 ratio of 8.1 per cent but it has a strong CASA ratio of 40 per cent. It is Maharashtra based bank with 1858 branches.

Vijaya Bank has one of the best asset quality and capital ratio in the industry with GNPA and NNPA of 6.2 per cent and 4.1 per cent. Vijaya Bank has not posted any loss during the NPA cleanup exercise. Vijaya Bank is Karnataka based bank with branch network of 2129. It has CASA ratio of 25 per cent. BoB has healthy and the highest Provision coverage ratio of 60 per cent among the PSU banks. BoB’s loan book has grown at an average rate of 9 per cent in last 5 quarters. It is Gujarat Based Bank with 5502 branches. As on Q1 FY19, the merged entity would have 9,489 Domestic branches, a loan book of Rs 6.4 lakh crore, CASA ratio of 34.1 per cent on a deposit base of Rs 8.4 lakh crore. The combined entity would have a net-worth of Rs 63,400 crore. The Gross NPA/Net NPA would be 12.4 per cent and 5.7 per cent while the provision coverage ratio would be 57 per cent and Tier-1 ratio at 10.4 per cent.

Ashvin Parekh managing partner Ashvin Parekh Advisory Services LLP said, “We are in September and the benefits of the merger would be visible only post 2019 after the elections are over. So the timing of the announcement is just right. Having said that, we know that Dena Bank is a problem bank placed under the Prompt corrective action framework of the RBI and so a bold decision was required. Since all the three banks are listed, the move is right from industrial relations point of view. However I feel a smooth integration will take at least four to eight quarters.”