Strong economy and weak banking can hardly coexist. We have been stuck with weak banking for the last eight years in a row despite most wanted reforms like the introduction of the Insolvency and Bankruptcy Code, drive for financial inclusion like Jan Dhan and introduction of Mudra. There were 40 mergers and takeovers during the post nationalisation period, including the SBI merger. One wonders whether we have drawn lessons from these experiences.
Looking at the immediate past, the merger of State Bank of India with associates is yet to deliver the intended results. Some 5,000 branches were wound up effectively guillotining the reach to the rural clientele. Decision-making is at its lowest speed. Highly informed sources say that the merged associate bank staff at all levels are looked down upon by the pre-merger SBI. Achievement motivation is at its low levels.
Even as such settling was in the process, the second bout of merger took place with Bank of Baroda, Vijaya Bank and Dena Bank. While the SBI balance sheet took two years to come back to profit, BoB jumped to profit at the end of the first year itself. Obviously, emboldened by the apparent frictionless mergers in the immediate past, the Ministry of Finance announced merging ten banks into four.
Can this be at any worse time than now, when headwinds of recession are blowing hard and global uncertainties are on the rise with trade wars between the US and China and our own economy’s GDP growth tanking to 5% this quarter, the lowest in the last eight years?
Twenty-five years have passed since the Narasimham Committee recommended for six large banks but warned that it should not be with a combination of weak banks. Watch out: just eight months ago, all the targeted banks were under the Prompt Corrective Action Plan (PCA). Nine of the ten have net NPAs above the danger level of 5%. Further, all these banks are to be recapitalised meaning that they are weak upfront on capital. Lately, their balance sheets are saddled with derivatives and guarantees that may move up and add to the losses. Therefore, those targeted for merger are weak banks and not strong ones.
Former RBI governors YV Reddy, D Subbarao and Raghuram Rajan have cautioned the government over consolidation of banks as a panacea for the ills of the banking system.
While past accomplishments are no guarantee to future success, past failures can serve as a good foundation for enduring success.
Out of Sync
Every merger or acquisition is expected to create value from synergy of some kind, and yet all the statistics show that successes are in the minority and failure can be quite expensive.
Excepting that all the targeted banks have technologies in sync, no other synergies are seen on the horizon. Each suffers from a heavy baggage of NPAs with several of them in the uncertain National Company Law Tribunal (NCLT) window.
Banking is all about financial intermediation. People are at the epicentre of banking both before and behind the counters. The culture of institutions is intertwined with the diverse cultures spread across the country. The success of mergers across periods and nations is elusive regarding human resource and cultural issues.
Canara and Syndicate Banks are of the same soil and they have a better prospect than the rest to derive the advantage of merger. All the other merging banks would struggle to synergise on cadre management, incentive system, risk practices, etc. Let us not forget that there is a 74% spurt in bank frauds in PSU banks and several of them emanated from system weaknesses. It is, therefore, important that the big banks start becoming humble and learn lessons instead of becoming conglomerates of unwieldy nature. Banking basics and customer service can hardly be bargained.
The government after hindsight decided to start the Development Banks to fund infrastructure projects and relieve the PSU banks from this window as experience amply demonstrated that they are not cut for that job well due to their funding long-term projects with short-term resources.
McKinsey recently warned in an article: “Today’s environment is characterised by rising levels of risk emanating from the shift to digital channels and tools, greater reliance on third parties and the cloud, proliferating cyberattacks, and multiplying reputational risks posed by social media. Faulty moves to make risk management more efficient can cost an institution significantly more than they save.” Will the new Chief Risk Officers, when appointed, be capable of taking care of this concern?
In another study on M&A, Becky Kaetzler et al argue for a healthy Organisational Health Index post-merger where they say that unhealthy acquirers destroy value, while healthy acquirers create value and tilt the odds toward success. Leaders considering mergers should first assess their organisation’s own health to better gauge whether to take the merger plunge. In the instant case, all the organisations in the target are not at the expected health in the financial sector.
Leadership for transformation and good governance are critical for financial mergers to be successful. These emerging big four out of the ten should prove on these two counts that they hold these necessary virtues.
The announcement on governance improvements simultaneously released by the Finance Minister needs a lot more assurance on the selection processes for Independent Directors, non-executive Chairmen and their role. It would, in fact, be prudent to introduce a Declaration annually as to her/his contribution to the organisation so that the Board and the Directors can measure up the achievements against such statement. A bigger reform required from the owner is a pledge not to interfere in loan sanctions and move a resolution in Parliament that no party would indulge in loan write off either for the farm or other sectors unless the areas are affected by severe natural calamities.
Further, higher capital allocation with or without Basel III cannot prevent bank failures triggered by systems, people and processes. Capital infusion should be done after specific commitments from the capital-deficit banks on the credit flow to the prioritised sectors, revival and restructuring of viable enterprises in accordance with the RBI mandates and recovery of NPAs.
There can be no energy without friction. The envisaged mergers are bound to have friction and it is the future that decides whether this will bring positive or negative energy. It’s to be hoped that even renewable energy through the cross-culture merger would bring the intended results. Let us not forget the dictum – ‘too big to fail’ would eventually require the government to bail them out of any failure that ordinary citizens would not like to see or wish.
(The author is an economist and risk management specialist)