HDFC – HDFC Bank merger: What it means for customers and investors of the companies

April 5, 2022 Trading 4 min read
HDFC – HDFC Bank merger: What it means for customers and investors of the companies

HDFC Ltd., India’s largest housing finance company, on April 4 announced a ‘transformational’ merger with HDFC Bank, the country’s largest private sector lender. The move is intended to create a financial services behemoth, with enormous synergies, cross-sell opportunities and long-term value for all stakeholders.

“This is a merger of equals,” said HDFC Bank Chairman Deepak Parekh announcing the contours of the deal. The veteran banker summed it up by saying, “After 45 years in housing finance and after providing 9 million homes to Indians, we have to find a home for ourselves. And we have found a home in our own family company, HDFC Bank.”

So, what is a merger?

A merger is an agreement between two existing companies to unite into a new single unit. It is a voluntary fusion of two companies into one new legal entity on equal terms. Mergers mostly involve stock-for-stock deals rather than cash buyouts.

The advantages of merger are they help companies expand their reach, gain market share, reduce competitive risks, diversify products and increase profitability.

The benefits of a merger for investors can be immense, if implemented well. The biggest advantages of a merger are the economies of scale and scope. Mergers of companies in a similar sector with identical internal policies and matching culture can improve efficiency, deal with competition and protect industry from closing. Mergers create value for shareholders and investors by entering new markets or gaining greater share. 

Specifics of the HDFC – HDFC Bank scheme of merger:

> The shareholders of HDFC Ltd. will get 42 shares of HDFC Bank for every 25 shares of HDFC Ltd. held by them, as on record date

> The current shareholding of HDFC Ltd. in HDFC Bank of around 21% will be fully extinguished

> After the completion of the deal, all subsidiaries of HDFC Ltd. will be held by the bank

> HDFC Ltd. shareholders will hold a 41% stake in the combined entity after the merger

Banking behemoth in the making

HDFC Ltd. had total assets of Rs 6,23,420.03 crore, turnover of Rs 35,681.74 crore and net worth of Rs 1,15,400.48 crore as on December 31, 2021. HDFC Bank had total assets of Rs 19,38,285.95 crore, turnover of Rs 1, 16,177.23 crore and net worth of Rs 2,23,394.00 crore as on December 31, 2021.

The subsidiaries of HDFC Ltd., HDFC Investments Ltd. and HDFC Holdings had total assets worth Rs 341.37 crore and Rs 244.43 crore, as on December 31, 2021.

The advantage of merger is that a combined balance sheet of Rs 17.87 lakh crore and Rs 3.3 lakh crore net worth would enable larger underwriting at scale.

HDFC Bank said the CEO of the bank Sashidhar Jagdishan will continue to be the CEO of the combined entity. The current HDFC Ltd. senior management will occupy senior positions within the combined entity.

The transaction is expected to be completed by the third or fourth quarter of FY24 and it is subject to shareholders, creditors and regulatory approvals, including from central Reserve Bank of India (RBI), Insurance Regulatory and Development Authority of India (IRDAI), Securities and Exchange Board of India (SEBI), Competition Commission of India (CCI) and stock exchanges.

What prompted the deal?

Over the last few years, various regulations for banks and non-banking financial companies (NBFCs) have been harmonised, thereby enabling the potential merger, Parekh said.

Recent changes in the regulatory environment for NBFCs imply that the deal makes more sense. In 2020, RBI mandated large NBFCs with an asset base of more than Rs 50,000 crore must convert into commercial banks. Additionally, RBI’s recognition norms for non-performing assets (NPAs) are almost the same for banks and NBFCs.

RBI guidelines mandate banks to maintain 4% of their net demand and time liabilities as Cash Reserve Ratio (CRR) and invest 18% of these liabilities into government bonds under Statutory Liquidity Ratio (SLR). Additionally, banks and NBFCs are also required to maintain high-quality liquid assets under Liquidity Coverage Ratio norms. The banks are also required to lend 40% of their adjusted net bank credit to agriculture and allied activities, small businesses, and affordable housing, among others covered under the priority sector.

The reduction in SLR rates, deepening of the affordable housing bond market and creation and deepening of the Priority Sector Lending (PSL) Certificates market, have created a conducive environment for the amalgamation of the two entities.

The merged entity’s share of priority sector loans is expected to come down and HDFC Bank would need to meet the norms after the merger. However, Jagdishan said the bank would resort to buying priority sector lending certificates (PSLC) initially to meet the norms.

HDFC Bank has requested the RBI to allow it to adopt a phased approach in meeting key regulatory requirements after the merger. It has also requested the regulator time to allow it to “grandfather” certain assets and liabilities of HDFC. 

What the merger means for customers of both companies

The combined entity is expected to bring together the complementary strengths of the two organisations. It would have significant cross-selling opportunities as about 70% of HDFC Ltd. customers do not bank with HDFC Bank, while around 80% of HDFC Bank customers do not have mortgages.

HDFC Bank has a presence in more than 3,000 cities through its 6,342 branches. It has a large customer base of 6.8 crore and a well-diversified low-cost funding base. The benefit of merger for customers is that proposed transaction would broaden the combined entity’s home loan offering. The merged entity is expected to benefit from HDFC’s sizable home loan portfolio and access to HDFC Bank’s low-cost funding and huge customer base.

What the merger means for investors

As of March 31, 2022, HDFC Bank has 8.43% and HDFC has 5.66% weight in the Nifty50 Index. This, when combined, would be 14.09%.

The merger could likely lead many mutual fund managers to revisit their portfolios. As per the norms, diversified mutual fund schemes cannot invest more than 10% in individual stocks. The asset managers, at present, can hold both the stocks, but after the merger, they will have to hold only one stock within the regulatory limits. This is likely to reduce the ability of the fund managers to take exposure in the combined entity. 

The shareholding of HDFC Ltd. is regarded as foreign institutional investment or FII investment. According to media reports, FII shareholding in HDFC post-merger will be around 66% while the FII cap is at 74%. Therefore, the extinguishing of shareholding will open-up around 7-8% headroom for fresh FII investors into HDFC Bank.

The market expects benefits of the merger for investors who gave a thumbs up to the deal, as reflected in the buying interest seen in the shares on Monday along with the trading volumes. Shares of HDFC Ltd. ended 9.30% higher at Rs 2,678.90 apiece and HDFC Bank closed 9.97% higher at Rs 1,656.45 apiece on the BSE Monday

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