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HDFC-HDFC Bank merger to shake up financial sector, says Fitch

The recently-announced merger between India’s second-largest bank, HDFC Bank, and its shareholder HDFC Ltd, may have long-term implications for India’s banking and non-bank financial institution (NBFI) sectors, Fitch Ratings said on Tuesday.

The proposed merger could redefine the competitive landscape for banks, and increase the prominence of mergers and acquisitions (M&A) among banks seeking to close the market-share gap with the merged HDFC Bank, it said. It could, the rating agency said, also influence the evolution of the NBFI sector, particularly for large entities that have nurtured banking ambitions amid tightening sector regulations.

“Indian banks intermediate roughly 60% of system credit, but face stiff competition as the market is fragmented and products are fairly homogeneous. Three rounds of state bank mergers since 2017 have led to some consolidation but with limited impact on pricing power,” it said.

Fitch believes that the proposed merger of the HDFC entities and the recently announced acquisition of Citibank India’s consumer business by Axis Bank could encourage banks to turn to M&As.

“Large NBFIs could be acquisition targets, given their higher-margin products, large pools of priority-sector customers and loans, and potential cross-selling opportunities,” it said, adding that the regulatory attitude towards such acquisitions will be an important factor in their success.

The combined HDFC entity will have an asset base of $340 billion, nearly half the size of the largest bank, State Bank of India, and double its nearest competitor, ICICI Bank. It will account for nearly 14% of system loans and 9% of system deposits, – a roughly 300-basis point jump in loan market share and about 100 bps for deposits from the standalone HDFC Bank.

According to Fitch, both entities stand to gain from the deal. HDFC Bank will gain about 500 new branches, improve its operating efficiency as HDFC Ltd’s cost to income ratio is 10% versus the bank’s 36%, and diversify its loan book, as the bulk of the loans will be mortgages. HDFC Ltd will benefit from greater liquidity and a gradual shift to lower-cost deposits to support a more competitive offering in the large-ticket housing space.

“The harmonization of NBFI regulations with that of banks over the past few years may have played a role in the merger decision,” it said.

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