The third banking wave: bigger, better
After the misadventures of 1993 and success stories of 2001, it remains to be seen if the RBI will be liberal with its licences now
The Reserve Bank of India will give out banking licences to private sector entities this year after a gap of a decade. While the jury is still out as to how many licences would be given, the central bank's experience in the last two instances will have a bearing on the number.
In 1993, when the banking sector was opened up for more private sector players, the RBI doled out nine licences. Of the nine banks set up, only five remain solvent (IndusInd Bank, HDFC Bank, ICICI Bank, Axis Bank and IDBI Bank), with the other four (Times Bank, Centurion Bank, Global Trust Bank and Bank of Punjab) having to be merged with others owing to financial problems. Three out of these four banks were set up by individual promoters, while one was set up by a non-banking finance company (NBFCs).
Owing to an almost 50% failure ratio in 1993, the RBI refrained from giving out licences until 2001, when only two licences were issued. One was to Ashok Kotak and Uday Kotak for setting up Kotak Mahindra Bank and another to Rana Kapoor for starting YES Bank. Both these banks have grown in size and stability over the years and are strong success stories. The RBI has so far not given bank licences to large business houses, but this could change now as the new guidelines state that entities or groups in the private sector can set up banks.
Even contentious real estate companies and brokerage companies have not been ruled out.
And, as prospective applicants get ready with their blueprints in 2013, NBFCs are seen as stronger contenders than the rest given their past experience. Analysts feel NBFCs such as Shriram Group, L&T Finance, IDFC and Tata Capital could be the main contenders this time around .
HDFC Bank, ICICI Bank and Axis Bank were also promoted by large financial institutions. IndusInd Bank was promoted by a diversified corporate house, the Hindujas. ICICI Bank was incorporated with a total paid-up capital of R165 crore and was listed within four years of commencing business. After parent company Industrial Credit and Investment Corporation of India merged with the bank, the bank has grown to be the largest private sector lender today. From a negligible market share of below 1% in 1995, it has expanded to a market share of nearly 20% today in advances.
Real estate companies or those that have a large exposure to realty sector can take heart that HDFC Bank was promoted by Housing Development Finance Corp, an NBFC concentrated largely in realty. Even the regulator can put aside some of its worries given the bank's track record.
HDFC bank has grown its market share to over 15% from as little as below 1% in 1995. The bank is also considered as the most valued bank by analysts.
Both ICICI and HDFC Bank have built a strong retail franchise and the latter has even reached out to smaller towns, an otherwise public sector bank strong point. The 1993 bank licence wave stirred sleepy public sector banks to become more customer-friendly or lose business as private banks came in with superior technology. In 2001, the two banks added to the cut-throat competition.
The objective of inviting new players this time around is to provide access to banking to a wider geography and going into unbanked areas.
Even today, public sector banks claim a lion's share in the business due to their geographic reach, but are nevertheless being threatened by their private peers.
Whether new players achieve this aim of the government and the regulator to reach out to unbanked areas remains to be seen.
The HR tug-of-war
The banking industry needs to hire 9-11 lakh people in the next five years, a number that will inflate with new players
Once new banks are set up after the Reserve Bank of India issues bank licences to new players, the scramble for talent is going to get intense for the banking sector over the next five years. The new players will look to poach the existing talent base, especially at leadership roles. And, experts say, it will be the public sector banks that will bear the brunt of a probable exodus as people search for better, performance-friendly pay packages and career growth.
The main targets will be public sector banks and most people would be willing to move as compensations are not up to the mark, said a public sector bank official.
This isnt something new for the banking sector, which saw a similar move in 1994, when the then deputy managing director of State Bank of India took over as the head of UTI Bank. A large number of SBI staff moved with him. In more recent times, new-age private banks like YES Bank have absorbed several officials from rivals such as HDFC Bank.
A September 2012 report by management consultancy Boston Consulting Group notes the banking industry will need to hire a massive 9-11 lakh employees over the next five years. This number will inflate further with new players in the field. With many graduates under-qualified to take banking roles, manpower shortage could worsen. RBI data says banks added 42,000 jobs in 2011-12, taking employees in banks to over 10 lakh.
PSBs acknowledge their banks could be the main poaching grounds for the new entrants as they are handicapped by relatively lower salary levels and irritants like frequent transfers.
Already plagued by growing retirements, public sector banks could see an exodus of people, particularly at the junior to mid-level positions. It would be more cost effective for banks to poach people with some banking experience rather than recruiting and training freshers, said a senior SBI official.
Around 30,000 employees in public sector banks are set to retire in 2014-15. With experienced bank professionals leaving and new recruits not fully prepared to take over, a serious vacuum in the middle and top management is on the cards.
By 2015, around 80% of general managers, 65% of deputy general managers, 58% assistant general managers and 44% of chief managers would retire, says a report by the government-constituted Khandelwal committee on human resource policies in public sector banks.
Private sector banks, on the other hand, will be targeted at the mid-senior-level positions as they will be vital in devising strategies to build the fee-based banking side of the business. Bankers say as it will be difficult to compete with incumbent players on traditional banking, the new entrants may dedicate more resources towards modern banking and services.
For the top management positions, all existing banks, including multinational bank officials with deep industry contacts and expertise, will be potential targets. The older senior executives who are close to their retirement age could be a good target for new banks as they have a lot of experience, Uday Shankar Roy, former deputy MD of SBI, had once said.
Shinjini Kumar, director, banking regulations, PwC India, says there is a possibility that top executives from other sectors like telecom and FMCG could be in line for top roles with the new banks. Kumar adds that the churn in the industry will significantly vary depending on the companies that are given licences and their business models. If a financial service company gets a licence, they already have people in retail and will not require to hire. But if a corporate house like RIL gets a licence, it will require a specialised workforce from the sector, adds Kumar.
The rural paradox
Existing banks, while conceding to the vast opportunity in rural areas, are unable to find a viable model, which will also be a challenge for new banks
Keeping in mind that half the countrys 1.2 billion people are still unbanked, the Reserve Bank of India, in its final guidelines on new banking licences, has said new banks will have to set up 25% of their branches in unbanked regions. But the RBIs intention to include more people under the financial system could be a difficult task to undertake for the new entities.
Setting up branches in rural India would mean increased cost and a solid distribution network, and even after that the banks will have to deal with low margins and minimal volumes.
Ashvin Parekh, partner, Ernst & Young, says, Inclusion is not an established and viable model still. Both volumes and profitability are low here. Parekh acts as a consultant to many companies that want to apply for a banking licence.
Most public sector banks that have ventured into financial inclusion and rural banking businesses do not have positive experiences. Even established private sector players like HDFC Bank seem to be finding it tough to service these regions.
It is difficult to service (the rural and semi-urban areas), the volumes are smaller, but the demand is there, says Aditya Puri, managing director and chief executive officer, HDFC Bank.
Parekh feels bank accounts that came into existence thanks to government programmes like the Mahatma Gandhi National Rural Employment Act (MNREGA) are not profitable for banks since the average monthly balance held in them is only around R200. Over and above, there is cost related to setting up relevant technology, power supply in branches and selecting the right geography for a branch, he adds.
Hemant Kanoria, chairman and managing director of Srei Infrastructure Finance, a banking licence aspirant, also echoes similar sentiments. It is not easy to set up operations in rural areas. It is like counting pennies. The margins will not be very high. The costs of setting up infrastructure in unbanked areas are also high, he says.
Over the past five to six years, Srei has been building its rural network by investing around R300 crore. The company now has 28,000 rural centres employing 1,200 people, mainly in the eastern and northern parts of the country, including Bengal, Assam, Uttar Pradesh and Orissa, says Kanoria.
Other non-banking finance companies (NBFCs) seem to be better poised to make use of this opportunity. The Shriram Group has already set up a number of rural centres across India to improve its presence. For NBFCs like Mahindra Finance, over 90% business already comes from semi-urban and rural areas.
In most other markets, it took about four to five years for the financial inclusion approach to turn viable, so the time required in India should not be drastically different, says Parekh.
Players who are already in the game say juggling between profitability and financial inclusion is not an easy game. Banks approaching the rural and unbanked locations in India will have to focus on giving out customised products to these customers, while turning their business model on its head.
A new trick up their sleeve
What the new banks will have to offer to not only compete with existing banks, but to also have an edge
Cut-throat competition in the banking sector has pushed sleepy public sector banks to ramp up their customer servicing efforts and private banks to outdo each other by becoming more tech-savvy.
The economy, which was dominated by a few public sector banks until the late 1960s, is now catered to by 26 PSU banks, 20 private banks and 41 foreign banks. All of them offer every possible bundle of products and services at the wholesale and the retail level.
To get a foothold in the banking industry, new entrants will have to offer similar products at a better cost.
Consultants say the business models of the entrants would differ. However, most would look at leveraging on their existing customer base, whether retail or wholesale, for more business.
Many entrants, especially non-banking finance companies, may look to build strength in the fee income base, as interest income initially may be small.
To generate interest income, you will need to have a branch network. So fee income is an easier bet, at least for the first few years, said an analyst at a consultancy firm.
Even for existing private banks, fee income is an integral part of their revenue and contributes at least 10-15%. Fee income for banks includes income from merchant banking activities, foreign exchange transactions, advisory functions, trade finance, etc. A recent survey by the Reserve Bank of India shows that foreign banks operating in India made R9,400 crore as fee income in 2011-12.
And since the new bank licence norms mandate all new entrants to adhere to priority sector norms, meaning that 25% of the branches must be in un-banked areas, they can generate customers from companies having a large rural presence.
As for business models, banks set up in the previous two licensing rounds, which had differing models, have grown in both size and profitability. For instance, IndusInd Bank was predominantly a wholesale bank, while HDFC Bank started its foray into retail before most other private banks.
New entrants are most likely to establish a wholesale business before actively seeking retail assets. Bulk deposits may be chased before savings accounts and term deposits are offered at competitive rates, feel consultants.