Mortgage major HDFC Ltd and India’s largest private bank HDFC Bank are set to merge on July 1 to create a combined entity with a market capitalisation of Rs 14.37 lakh crore. The merger will benefit both shareholders and customers at a time of steady growth for the Indian economy.
HDFC Chairman Deepak Parekh and HDFC Vice Chairman Keki Mistry said on June 27 that the two companies will have separate board meetings after office hours on June 30, which would be the last board meeting of HDFC Ltd. After the merger, HDFC branches will continue, but the signboards will say HDFC Bank.
“Every employee under the age of 60 will be absorbed and salaries will not be reduced. HDFC Bank will need our people because they don’t have knowledge of mortgages,” Parekh said. There will be no golden handshake for employees of HDFC Ltd.
HDFC has said that the tentative ‘record date’ for determining shareholders of HDFC Ltd who would be allotted equity shares of HDFC Bank as per the share exchange ratio, is July 13, 2023.
“Both HDFC Ltd and HDFC Bank are working towards completing all the necessary formalities for completion of the proposed amalgamation as per the tentative dates,” HDFC said.
Mistry said the two organisations have different products. “The bank has everything other than housing and HDFC Ltd does only housing. The commonality of roles is limited. It is limited to certain corporate functions,” Mistry said.
The merger has received approvals from the Reserve Bank of India (RBI), insurance regulator Insurance Regulatory and Development Authority of India (IRDAI), the National Company Law Tribunal (NCLT) and the antitrust watchdog Competition Commission of India.
IRDAI has also approved the acquisition of shares of HDFC Life Insurance Company and HDFC ERGO General Insurance Company by HDFC Ltd, and the transfer of the entire shareholding of HDFC Ltd in HDFC Life and HDFC ERGO to HDFC Bank.
HDFC Ltd was set up by H T Parekh, the uncle of Deepak Parekh, in 1977. HDFC Bank was started in January 1995, after the RBI opened up the banking sector to private players. HDFC Bank has more than 6,300 branches globally and 18,000 ATMs. HDFC Ltd has 464 offices across India.
So why did the “HDFC twins” decide to merge?
Three key factors made it an opportune time to go ahead with the merger in April 2022. The prevailing low interest rate environment was supportive; RBI had lowered the CRR and SLR requirement from 27 per cent to 22 per cent; and there was high liquidity in the system.
According to a source, there was an additional factor as well: the leadership at HDFC Ltd was closing 70, and in view of the looming question of succession, it was felt that a merger with HDFC Bank will bring the best synergy benefits.
Banking sources said the proposal was put up even when Aditya Puri was MD of HDFC Bank, but could not go ahead due to several concerns. Puri stepped down from the position he had held for 26 years on October 26, 2020.
Although there had been speculation for long, the news of the merger was successfully kept under wraps until the actual announcement.
Does the merger make sense?
With the RBI tightening the regulatory environment for non-banking financial companies (NBFCs), especially with regard to NPA (non-performing assets) recognition norms, and making the regulations almost similar to banks, the incentive for keeping HDFC Ltd and HDFC Bank separate had been diminishing.
Also, banks, led by SBI, and new-age fintech companies have intensified the competition in the home loan segment.
However, business-related synergies could have been driven even without the merger. The bet by the management is that the increased size of the balance sheet of the entity will enable it to increase its competitiveness and create shareholder value. HDFC Ltd posted a net profit of Rs 16,239 crore in FY2023; HDFC Bank’s profit was at Rs 44,108 crore.
Will HDFC Bank benefit from the merger?
The merger will be more beneficial to HDFC Ltd since its business is less profitable — it can increase its product penetration, and funding costs are expected to come down.
However, HDFC Bank will get an unparalleled advantage through the mortgage portfolio, providing it a quantum leap in distribution to semi-urban and rural areas with a huge opportunity to cross-sell bank products to a very sticky client base.
“The combined entity will be able to extract substantial synergy benefits which abide well for all stakeholders and shareholders,” said an analyst.
While the merged entity will see some cost synergies, it is difficult to see how the merger will by itself help the merged entity increase its market share. HDFC Bank has been beset by the woes of its digital initiatives, and many parts of its retail banking are under pressure from fintech companies.
HDFC is facing increasing pressure from public sector banks in its mortgage business. However, the management does have the wherewithal to meet the short-term challenges and come out on top, an analyst said.
Another advantage of the merger is that the cost of borrowing will come down for HDFC. When this happens, the combined entity gains in terms of cost efficiencies, and is value accretive for shareholders.
And what will the merger mean for shareholders?
As part of the merger, 42 shares of HDFC Bank will be given for every 25 shares of HDFC Ltd. Post the amalgamation, HDFC Bank will be 100 per cent owned by public shareholders, and existing shareholders of HDFC Ltd will own 41 per cent stake in the bank. The foreign stake is around 8 per cent in the bank, and is likely to increase.
On June 27, the shares of HDFC rose 1.59 per cent to Rs 2,762.50; HDFC Bank gained 1.38 per cent to reach Rs 1,658.00 on the BSE.
What will be the impact on the financial sector?
Competition is expected to heat up, especially between HDFC Bank and SBI, which is India’s largest bank. The home loan segment has become attractive as non-performing assets are minimal.
According to ICICI Securities, HDFC Bank aims to double its balance sheet in five years, exhibiting 15% annual growth. Expanding its physical presence (it plans to double the number of branches in the next three years); focussing on digital capabilities (it plans to change tech stack in three to four years); enhancing the product ecosystem for better customer experience; and a push in newer segments (MSMEs) and geographies (rural and semi-urban areas) could enable the bank to achieve its targeted growth and profitability, it said.
The banking sector is expected to witness further consolidation in the coming months. Axis Bank recently acquired Citibank’s retail businesses in India for Rs 12,325 crore, and the government has put IDBI Bank on the block for privatisation.
According to a Standard & Poor’s ranking, State Bank of India retained its top position after its assets increased 2.64 per cent year-on-year to $725.08 billion. Owing to its proposed merger with HDFC Ltd, the pro forma assets of HDFC Bank rose 57.67 per cent to $441.05 billion, which enabled it to hold on to the second rank. ICICI Bank secured the third spot, with total assets of $238.49 billion.
What can be some of the challenges going forward?
While market participants feel the deal was inevitable given the current environment and shrinking of regulatory arbitrage for NBFCs, the biggest challenge was to meet the regulatory requirements.
A banker said that HDFC Ltd is into developer financing, but HDFC Bank doesn’t do it as of now. While doing it may increase risks, not doing it will weaken the mortgage finance business. Developer finance is key to sourcing mortgage customers from the project.
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