Bank of Baroda, Dena, Vijaya merger: How NPA-ridden Dena Bank just got an unofficial bailout package

The Narendra Modi government’s decision to merge three State-run banks — Bank of Baroda, Vijaya Bank and Dena Bank — isn’t an unexpected one, given that this consolidation is an idea that has been discussed for a long time. It is also a step carrying far lesser risk for a political leadership than going for outright privatisation that will irk trade unions. Beyond the initial excitement of the merger announcement — which will create India’s third largest bank by assets, a closer look will show that the three-way merger is actually an unofficial bailout package for bad loan-ridden Dena Bank, which is one of the most struggling lenders in the sector. The other two — Bank of Baroda and Vijaya Bank — have relatively healthier balance sheets. Dena Bank is already under Prompt Corrective Action (PAC) of the Reserve Bank of India on account of high bad loans and negative return on assets. Its NPA levels are among the highest for Indian banks. As on 30 June, Dena Bank’s Gross Non-Performing Assets (GNPAs) stood at 22.69 percent, which makes it the fifth highest NPA-ridden bank among State-run lenders. [caption id=“attachment_5205491” align=“alignleft” width=“380”] Representational image. PTI[/caption] Being under PAC, the bank has restrictions on lending and fresh recruitment. Due to high provisions, Dena Bank’s first quarter marked a loss of Rs 722 crore as compared with a loss of Rs 133 crore in the corresponding quarter last year. Following the merger, Dena Bank’s chances of survival are better, since it will be part of the bigger entity that has more bargaining power to grab a bigger share of government capital. In one step, the bank is escaping the spotlight. Compared to Dena, Bank of Baroda is a turnaround bank that has been improving its performance rapidly. Its gross NPA levels are in lower double digits and the bank posted a profit, which more than doubled, in the latest quarter on higher net interest income. In 2015, the government had effected certain top-level management changes in Bank of Baroda by bringing in private sector candidates and this appears to have helped its fortunes. Similarly, Vijaya Bank too is a relatively better performing bank in the PSU lot; it showed a decline in the first quarter profit figures on account of higher provisions, but if one looks at interest income growth and asset quality, the bank is much better than its peers. Gross NPAs, at end of first quarter, stood lower at 6.19 percent in the first quarter against 6.34 percent in the previous quarter. Its net NPAs too declined to 4.1 percent from 4.32 percent on a quarter-on-quarter basis. Dena Bank has a capital adequacy ratio of 10.6 percent — not far from the minimum required level while Vijaya and Bank of Baroda have 13.9 and 12.1 percent respectively. To sum up, this is a merger of two healthy banks with one weak, capital-starved, NPA-ridden candidate and it is easy to see who stands to gain the most. The healthier duo will have to absorb the NPA shocks and capital needs of the target entity.

Having said that, from a reform-perspective, consolidation among State-run banks gives the industry certain benefits. It helps to create large-sized banks that can then work to build enough muscle mass to compete in a global banking industry presently dominated by large-sized lenders. With a Rs 10 lakh crore asset size, the post-merger Bank of Baroda-Vijaya Bank-Dena Bank entity will still not be a match for the top global banks (even SBI is not big enough to be among the top banks on the global list), but India is slowly creating large-sized banks. Through a series of mergers, perhaps the country will have five or six large banks that can be groomed to compete in the global market. This makes sense now also because RBI has now started giving permits to a number of small banks that can focus on expanding small-scale banking activities in rural areas. In any case, it did not make sense to control the ownership of so many banks in an ambitious economy. There has been no progress on the privatisation of State-run banks which would have been the ideal case to bring in private talent and money. The IDBI Bank-LIC deal can be hardly called a privatisation move, since LIC is technically a government-run entity. Thus, with not enough political will and scope for privatisation of these banks, consolidation seems to be the only way to keep the momentum going for banking sector reforms.

But there is an important question the government will need to answer when it goes ahead with the PSB consolidation drive: Does the merger solve the NPA problem of State-run banks and the insatiable capital hunger of these banks, especially the weaker ones?

Take the Bank of Baroda, Dena Bank and Vijaya Bank merger for example. The combined entity will have a total gross NPAs of Rs 79,320 crore, which as a percentage of total advances stand at around 13 percent. How will the merger help in addressing this problem? What is happening here is only the process of bundling of a few small problems into a bigger one. The work culture and management inefficiencies that led these banks to the present situation, and the onus on the government to feed capital to these banks all remain the same. Had it been a sell-off instead of a merger among PSBs, fresh private money would have come in and more efficient management which would have been accountable for efficient use of that money. This is something former RBI governor Raghuram Rajan had pointed out in 2015 . Rajan’s main points were that the merger of two (or more) unhealthy banks in the financial system will create an unhealthy entity that would lead to the creation of a bigger problem in the economy. Secondly, even in the case of the merger of an unhealthy bank with a large healthy bank, the merger would bring problems to the acquiring bank. Thirdly, in the event of a merger of a weak bank with a strong bank, the acquirer will have to deal with the cultural problems that arise out of the merger, besides dealing with the primary challenge — the bad loan pile in the weak bank, thereby creating difficulties for the strong bank. The point is that if consolidation is the way ahead for the government, it will have to invest equally in a management revamp and out-of the-box solutions to address the NPA problem, beyond the Insolvency and Bankruptcy Code resolution. If the fundamental problems are not addressed, consolidation will end up as unannounced bailout packages for zombie banks. Data support by Kishor Kadam