Is consolidation imperative?

Considering the current unsettled financial imbroglio at the international level and its probable impact, both direct and indirect, on the working results of the domestic banking sector during the next few years, the major concern for the smaller banks is: can they afford to retain their individual identity?

Whether consolidation is imperative for enhancing their competitive strength is a major debatable issue. The new generation banks, adopting the inorganic growth path, are eager to takeover smaller banks. Some of the chairmen of public sector banks, who loudly announced their desire to take over banks from the north or south, because wider geographical presence was tacitly assumed by them to be contributing to the strength of the bank, appear silent now. And the government's stand on consolidating the banking structure is not clear.

The smaller banks, however, are not free from the threat of takeover by the new generation banks and the foreign banks, which are eager to invest in the capital of these banks. Taking over the smaller banks may not bestow unlimited advantages on the bigger banks, as smaller branches which handle very small volume of business may become the speed-breakers. One peculiar problem of the Indian banking sector is the preponderance of small branches, whose contribution to the total business is disproportionately small. About 42 per cent of the branches are handling less than Rs.5 crore of deposits per branch. Their share in the total deposits mobilised is 12.8 per cent and only 3.1 per cent in credit deployment as on June 2008. The proportion of small branches would vary from bank to bank. However, the number of such small branches being as large as 32,058, every bank would have its own share of such relatively less remunerative branches.

Another peculiarity of the distribution of branches is their concentration in certain districts in a couple of states. Rationalisation of the dispersion of branches would necessarily lead to the closure or shifting of many of them, after the mergers. In Kerala, for example, all the four private sector banks are clustering their branches in a few districts like Thrissur, Ernakulam, Pattanamthitta and Kottayam. Instead of cutting into each other's business, they can plan to extend their branches into new pastures by selecting good centres from the list of the next 100 banking centres published periodically by the RBI. Since there is a proposal now to dispense with the licensing of branches, it should be easier for these banks to expand their branch network to suit their convenience.

Merger of smaller banks in the private sector may not result in creating very strong big banks. In the past, bank mergers have taken place with a view to prevent the weaker banks going into liquidation. The recent mergers of some of them in the south have been the rescue operations for bailing out the banks in distress. If any bank slips into the position of financial difficulties, then perhaps as a rescue measure it could be taken over by a bigger bank.

Competition for survival

The inevitability of competition for survival is becoming more visible in the operations of banks big and small. There is a growing competition among them to capture a bigger share of the market, to be stronger. While these banks compete with each other, they face tougher competition from the influx of foreign banks. In the context of globalisation, more foreign banks are expected to enter the Indian banking sector. They find India as a highly remunerative destination. Many of them earn much more than the domestic banks, despite the fact that they have very little presence in India, unlike the domestic banks.

Confining their operations to major cities, they generate higher volume of profit compared to their Indian counterparts. Commenting on the threat from the foreign banks' operations in India, the chairman of a public sector bank was reported to have said, "If a bank like Industrial and Commercial Bank of China comes to India, we would be nowhere." This is one of the biggest banks in the world with over 10,000 branches (compared to State Bank of India, another bank with world-class status, having 11,111 branches as on date).

Foreign banks provide a real threat to Indian banks, by entering into the retail credit segment. In making credit and debit cards popular, they have captured a bigger share of the growing market. Foreign banks numbering 29 and having 280 branches in India mostly in urban and metropolitan centres, have nearly doubled their expenditure on advertisement and publicity during the last two years, from Rs.375 crore to Rs.708 crore during FY2008. Compared to this, the 28 public sector banks having 54,238 branches jointly spent Rs.548 crore on publicity during this period. Other private sector banks have spent Rs.485 crore, a major share in which is that of the new generation banks. It is quite revealing to note that nearly 40 per cent of the total ad spend of the banking sector in India is incurred by foreign banks.

Analysing the pattern of publicity adopted by some of the smaller banks, it may be mentioned that most of them are not rightly focused. Using a film star or a cricket player as brand ambassador, for example, may not help attract large number of new customers to the bank. While the utility of the multimedia cannot be ignored, other non-conventional means of image-building should be explored, as was being done by some of the small banks in the south before the emergence of the omni-present electronic media. Distribution of exercise books to school children in selected areas or providing black boards or benches to elementary schools in backward districts may yield better results than paying sumptuous amounts to the brand ambassadors.

Alternative business strategies

The smaller banks have to reorient their business strategies to cope with the growing competition of bigger banks. They cannot afford to carry on the excess baggage of less remunerative business activities which they have been carrying on traditionally. As they are now computerising their operations, they should explore the possibility of increasing their fee-based income, which is a major contributor to the revenue of foreign banks. They have to enlarge their operations to reshape their extensively spread branches into the retail outlets of financial super markets. Their rural branches have to be reorganised as the strategic component of the rural financial infrastructure. The branch network and the big reservoir of skilled manpower - which the foreign competitors do not possess - have to be fully exploited to develop an edge over them.

One of the strategies for business expansion adopted by both the new generation banks and the foreign banks is to go for more ATMs than branches. Besides widening the presence of banks, ATMs reduce the pressure on manpower needs. Among the small banks only Karur Vysya Bank has more ATMs (291) than branches (274). Many of the banks, no doubt, have arrangements for sharing the ATMs. There appears to be reluctance on the part of many among them to share their ATMs with other smaller banks operating in the same region. A strategic understanding among them would be more beneficial, as they can save the cost of having their own ATMs. If in the highly competitive area like telecommunication, various players can come together to use the signal towers jointly, why not the banks use the ATMs jointly? A couple of years back, when a mutual fund house promoted by a public sector bank approached a Kerala-based small bank seeking its services for selling its MF products, that little bank summarily rejected the offer, fearing that it may lose its deposits. Now it is reported that the same reluctant bank is selling the MF products of half a dozen fund houses and is earning a good amount of revenue from this business.

For their survival, the smaller banks should adopt strategic realignment of banking operations, both for resource mobilisation and credit deployment. Encashing the excellent rapport already built over the years with customers, who have grown big with them, is an effective means of achieving the desired results. It should not be difficult for them to accelerate the growth of low cost deposits like savings bank deposits. If Axis Bank could achieve a growth of 63 per cent in its savings bank deposits during FY2008 by offering the same regulated interest rate of 3.50 per cent, what prevented the smaller banks to achieve at least a 30 per cent growth in mobilising such deposits? Realistic action programmes have to be worked out and implemented efficiently. Each one of the smaller banks has its own customer base carefully nurtured for generations. Enhancing the exposure to such groups of borrowers, especially for their modernisation programmes, may not be risk-prone. Such areas should be explored from the developmental perspective.

Looking ahead

Some of the older banks are likely to be lulled into a state of complacent under-performance, to borrow a phrase from Sumantra Ghoshal's book, Managing Radical Change. Induction of young executives from diverse backgrounds, as is being done by some banks, is likely to bring about some positive changes. The bifurcation of the chief executive's position into a part time chairman and a full time chief executive officer as directed by the Reserve Bank of India also may contribute to strengthening the operational dimensions.

However, a more expedient process for attaining sustained and profitable growth would be the adoption of Blue Ocean Strategy propagated by Prof. Chan Kim and Prof. Renee Mauborgne in their internationally best-selling book of the same name. Its sub-title explains the theme clearly as: How to Create Uncontested Market Space and Make the Competition Irrelevant. Instead of waging a bloody war to raise the market share, making the ocean red, it is desirable to create new market space outside the shrinking profit pool. Product innovation in an over-crowded market makes competition irrelevant. Perhaps the invention of Pigmy deposit scheme by Syndicate Bank back in 1928 and its repackaging recently could be considered as a good example of such a strategy. Adoption of such a process would be instrumental in rendering rivals obsolete and unleashing new demand.

Blue ocean strategy has to be bank-specific and maybe, even region-specific. Small banks have to convert their regional concentration into operational advantages. For example, they can take up micro-finance in selected cluster of branches. They would have an edge over the micro-finance institutions, whose overhead costs and cost of funds are quite high. Canvassing savings bank deposits, not the zero balance accounts, at an interest rate of 3.50 per cent, they can mobilise reasonably good volume of resources, as is being done successfully by some grameen banks. This could be used to build up the micro-finance portfolio. Servicing the same with the existing field staff would be cost-effective, compared to the outfits of micro finance institutions. Financial inclusion would be more meaningful and remunerative as well, if these banks can draw up realistic plans for the same. There are many other avenues in the rural and semi-urban areas, where these banks can create their own markets, remuneratively. - (Concluded).