HDFC’s merger with HDFC Bank is the third in a series which started in 2020.
Here is the story of the second merger which was actually a merger with four banks.
The 1999 merger was an appetizer for HDFC Bank. It had to wait for eight years for the main course. In February 2008, the boards of HDFC Bank and Centurion BoP agreed to the biggest merger in Indian banking history, valued at Rs95.1 billion.
Centurion Bank, promoted as a joint venture between 20th Century Finance Corporation Ltd. and its associates and Keppel Group of Singapore, was set up around the time that HDFC Bank opened shop, but it floundered till a group of investors led by Rana Talwar’s Sabre Capital Worldwide Inc. took over the reins in 2003.
Rana, a former CEO at Standard Chartered Bank, is a growth junkie and a strong believer in aggressive acquisitions, something that cost him the job at the British bank. For Centurion Bank, he pushed through three acquisitions in a row, taking over the Indian operations of Bank Muscat in 2003, acquiring the Bank of Punjab in 2005 (becoming Centurion BoP) and Lord Krishna Bank Ltd. in 2007.
There were tough negotiations for this deal and quite a few breaking points—even at the board meeting that gave the nod to the merger. The meeting at Ramon House lasted for 11 hours, till almost midnight. Aditya wanted the board to take an independent view on whether or not the acquisition was required. There was intense discussion on valuation and certain tax liabilities of Centurion BoP.
Rana Gurvirendra Singh Talwar
Deepak got to know Rana when he was working with Citibank in India.
One fine morning, out of the blue, Rana called Deepak and offered to merge. The discussion didn’t move much. Months later, Rana called again. This time, there was urgency in his voice. He wanted to do something very soon.
Deepak called him over for lunch at his house on a Sunday. Over Heineken beer and lunch, Centurion BoP’s Managing Director, Shailendra, Rana, Aditya and Deepak discussed a possible merger and swore to keep it confidential. “They were in a hurry and for some reasons Rana was saying that either we do it today or he will go across the road,” Deepak told me. Rana possibly meant that if Deepak was not interested, he would approach another bank.
Too many retail loans were going bad and they had to set aside a fat sum to take care of bad loans. This would have affected Centurion BoP’s earnings and stock price. Rana wanted to seal the deal to cover up the March earnings.
A few days later when they finally shook hands, Deepak called Venu (Yaga Venugopal Reddy, then RBI Governor). Not too many in the Indian financial sector address Reddy as Venu and that shows Deepak’s relationship with him, which goes back to the early 1990s when Reddy was with the Finance Ministry.
“I want to see you.”
“What for?”
“Something very urgent and important… We had a talk with Rana. We want to take over Centurion Bank of Punjab.”
“No need to see me. We are happy. Leeladhar [Deputy Governor V. Leeladhar] will call you.”
It was around 6 p.m. and Leeladhar had just left his office on Mint Road in Mumbai and was on his way home on Napean Sea Road. Once he heard from his boss, Leeladhar called Deepak and returned to his office. He was heading the critical department of Banking Operations and Development at the RBI.
Other deputy governors called Deepak and said he had solved their problem.
The Original Suitor
HDFC Bank was not the original suitor. Rana had first spoken to Deepak about merging his bank with Infrastructure Development Finance Co. Ltd. (IDFC), of which Deepak was Chairman.
IDFC’s Managing Director Rajeev Lall had always felt the need for a banking licence to get access to the cheap funds desperately needed for infrastructure financing, but could not take the idea forward because the then Finance Minister P. Chidambaram, I am told, was not inclined to say ‘yes’ to it. Creation of IDFC was Chidambaram’s idea to address the infrastructure financing concerns in a growing economy. It was part of his 1997 dream budget.
“How about merging with HDFC Bank?” Deepak suggested. At this stage, Aditya got involved. Till then, V. S. Rangan, then Financial Controller of HDFC, was the other person in the know of things. Rangan is now Executive Director at HDFC.
Shailendra remembers the lunch and beer at Deepak’s home. “Deepak suggested a swap ratio to which Rana said ‘no’. He wanted to improve it,” Shailendra told me.
Rana wanted one share of HDFC Bank for every 23 shares of Centurion BoP. He was basically trying to squeeze the last
drop but Deepak was not playing ball; they walked away from the meeting. After months of negotiations the deal was struck—but at a different ratio.
Rana insisted that HDFC Bank must agree to absorb all the people from Centurion BoP. Aditya agreed.
“Leave Off-site; I Want You in Mumbai”
Paresh was not in Mumbai. He was attending an off-site on credit at Jaipur, Rajasthan when he got Aditya’s call: “Can you come back? There’s work for you here.”
Paresh sensed something. “I am required in Mumbai; something has come up. You guys continue with the rest of the agenda,” he told his colleagues and took the next flight to Mumbai. It was a long drive to the airport.
Aditya wasn’t in Mumbai either. He was on an all-India tour to review performance of all local offices of the bank. His colleagues call this the ‘Bharat Yatra [India Voyage]’. Aditya was in Hyderabad. After talking to Paresh, he called Sashi and asked him to look at all information on Centurion BoP available in the public domain.
Sashi picked up his laptop and headed straight to the conference room on the sixth floor at the bank’s headquarters with his colleague Deepak Majithia. The security locked the conference room from outside. By midnight, a two-page fact sheet on Centurion BoP was ready.
Paresh was back in office the next day. Both Paresh and Sashi had apprehensions about the quality of Centurion BoP’s assets. They were also concerned about the price at which the bank’s stock was trading. Its price-to-book ratio was ‘4’, equivalent to that of HDFC Bank. The bank was not cheap by any means.
Aditya wasn’t yet back in Mumbai. Over telephone, he told Paresh and Sashi to meet Keki, HDFC’s Vice Chairman and Managing Director then. Keki, Deepak’s trusted lieutenant, was also on the board of HDFC Bank. On a Saturday, at Ramon House, they told Keki, “It’s not attractive and it doesn’t make any economic sense to take over this bank at this point.” After the meeting, Paresh went to the Hanuman temple near St Xavier’s High School at Dhobi Talao, his Saturday afternoon ritual in Mumbai.
Aditya returned over the weekend and joined Shailendra and Rana at Deepak’s house for the Sunday lunch. Neither he nor Deepak were fully convinced but said, “Let’s try and explore.”
They were given just three days to perform due diligence. A team of a dozen officers with heads of audit, credit, legal and operations trooped into the Centurion BoP headquarters at Mahalaxmi in Mumbai to check facts and figures.
50:50
The findings were 50:50. The numbers weren’t great but Centurion BoP’s network of 404 branches across India was a big positive. “If I were to superimpose Centurion BoP on HDFC Bank after cleaning it up, would the earnings per share in three years be more than what we would have done in organic basis? The answer was ‘yes’. It made sense,” Sashi said.
Paresh had a certain level of comfort with Shailendra being a former colleague from Citibank and HDFC Bank, but nonetheless he decided to go through the entire exercise meticulously. When negotiations reached almost the last stage, he switched off for a few hours. “I am willing to drop it,” Paresh told Aditya as he felt they were asking for a little too much.
There was hard bargaining.
Both banks being listed entities, there was price discovery in the market but Paresh still insisted on a discount to the market price. Only when everybody accepted that—one share of HDFC Bank for every 29 shares of Centurion BoP—was the stock market announcement made.
There were a few nasty surprises, minor though. The holes in the credit portfolio weren’t deep but there were business-related issues. “Our impression was that they hadn’t run the shop tightly. It’s more related to processes and integrity at lower levels. Some branch managers were taking deposits but not putting the money into the system,” Paresh said. Centurion BoP had done three acquisitions in quick succession but hadn’t integrated all the portions fully. The issues surfaced from lack of control and loose supervision.
It took about a year to integrate Wholesale Banking, Treasury and Retail Systems and many employees of Centurion BoP left. Integration of two banks is very different from integration of two manufacturing outfits. Here, beyond business models and employees, millions of customers have to be integrated. Cheques, debit and credit cards, ATM cards, demand drafts—every single instrument needs to be uniform. If one messes up, one will lose customers. Centurion BoP had 2.5 million customers.
Technology was indeed an issue but there was no disruption as many might have feared. Both banks had centralized processing but with different vendors—Finacle for Centurion BoP and i-Flex for HDFC Bank. Finacle was superior to i-Flex’s retail solution but HDFC Bank stuck to its vendor.
At the end of the day, apart from purely technical aspects, such decisions are driven by facts such as the number of people who need to be trained, the number of branches that need to be converted and the costs involved. HDFC Bank had almost doubled the branch network and three times the people.
The Markets Give a Thumbs Down
On the day the share swap ratio was announced, Centurion BoP shares, which had run up in anticipation of the merger, fell by 14.5% to Rs48.25. HDFC Bank shares fell by 3.5% to close at Rs1,422.70 a share.
Centurion BoP was about 20% of HDFC Bank’s size in terms of the balance sheet (Rs1.31 trillion versus Rs254.04 billion as of the third quarter of 2007–08) and even less than 20% in terms of profits, but was 55% in terms of branches.
Region-wise, Centurion BoP had about 170 branches in the north and around 140 branches in the south. Most of these branches were located in Punjab, Haryana, upper Rajasthan, Maharashtra, Goa, Kerala and Tamil Nadu where economic growth is higher than in other Indian states. After the merger, HDFC Bank became No. 2 in Mumbai and Delhi in terms of branch presence, second to India’s largest lender, SBI.
All for Branches
At an internal meeting, Aditya told his colleagues, “Don’t go by the fact that they have low businesses. They have only two products, savings and insurance. We have all the products. With our product range and execution, we can build the business. You’re getting the infrastructure.”
Deepak admits they paid on the higher side but defends it saying it was for the branches: “To get a branch licence from the RBI takes time and here we were getting readymade branches.” That was the case those days. The RBI since has liberalised the branch licensing norms for Indian banks.
The challenge before HDFC Bank was to get back to where it was on all these parameters and create value after the integration was completed. It set a deadline of 30–36 months for the completion but managed to get it done in 24 months. In two years, HDFC Bank got back to the pre-merger CASA and cost-to-earnings ratio level, and in three years, it covered the ground on bad assets.
This was done in a very difficult environment. Four months after the merger, US investment bank Lehman Brothers collapsed, leading to an unprecedented credit crunch across the globe.
After the collapse of Lehman Brothers in September 2008, one of Aditya’s colleagues apparently said they could have bought Lehman Brothers for $1 instead of paying so much for Centurion BoP!
In hindsight, it was possibly a risk worth taking, to close up with ICICI Bank, the largest private lender then, and power the retail business. HDFC Bank has a much bigger retail portfolio than ICICI Bank though the latter had spotted the opportunity ahead of it and went headlong into the field.
CONCLUDED
Extracts from HDFC Bank 2.0 (Jaico Publishing House)
Writes Banker’s Trust every Monday in Business Standard
Latest book Roller Coaster: An Affair with Banking
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