SBI’s Associate Banks: From A Princely Past To An Agile Future

The State Bank of Mysore was set up in 1913 by Maharaja Krishna Raja Wadiyar IV of the princely state of Mysore. On the other hand, the Patiala State Bank was founded by Bhupinder Singh, the Maharaja of Patiala State, on 17 November 1917 – with one branch in Patiala of undivided India.

A century later, these banks, now among five associate banks of the State Bank of India, will be merged with the parent bank, bringing their independent history to a close.

The merger between SBI and its associates was approved by the government in May 2016 and will be formalised at the start of the new financial year. Balance sheets will be merged. Branches will be rebranded to carry the SBI brand.

SBI Chairperson, Arundhati Bhattacharya. (Photo: PTI)

It is unprecedented, said Arundhati Bhattacharya, chairman of SBI in an interview with BloombergQuint. I don’t know of any instance in the world where five banks have been merged at the same time, she said.

The merger will be a complex one. Tens of thousands of accounts will need to be merged, branch overlaps will need to resolved, staff will need to be relocated, diverse corporate cultures will need to blend.

“We had about seven teams working simultaneously. There was one on credit, there was one on accounting principles, there was one on HR, there was one on organisation... So we have done a hell of a lot of work on this,” Bhattacharya said.

Still to expect a completely smooth transition would be naive. As in any integration, rationalisation of merged operations and staffing will be the toughest part. The SBI expects to relocate 1,800 branches over the next three years. Some business specific branches like those targeting the mid-corporate branches would be shut down.

Management of staff will be tougher. A voluntary retirement scheme has been offered at associate banks and hiring plans for the coming year have been put on hold. To absorb the rest of the staff, reskilling and retraining operations are underway.

Not surprisingly, the merger was opposed by employee unions. KS Krishna, general secretary of All India State Bank of India Employees Association (AISBEA) told BloombergQuint that merging associate banks with SBI will lead to job losses as well as closure of branches.

About 1,800 branches are likely to be closed and employees are being forced to retire through the voluntary retirement system, said Krishna.

For SBI, the merger will land the bank in the league of the top 50 global banks. The associate banks will add Rs 60,000 crore to the SBI balance sheet, taking it up to Rs 28.68 lakh crore. It will now be five times as large as HDFC Bank, the second biggest bank in the country. 

On the flip side, the bank will see its non performing assets (NPA) ratio worsen and provisioning needs increase. At the end of the December quarter, the consolidated gross NPA ratio stood at 8.70 percent as compared to SBI’s standalone gross NPA ratio of 7.23 percent.

In the lead up to the merger, the associate banks have cleaned up their balance sheets and large stressed accounts have been recognised, said Bhattacharya. “They have assured us that they have recognised stress wherever required. However we will have more confidence on that once the balance sheets are merged.”

A report by Bank of America-Merrill Lynch released in February this year said that the merger is likely to bring medium to long term gains to the SBI. However, absorbing the workforce will remain a challenge.

Bank Of America Merrill Lynch Report (16 February 2017) In our view, the merger may eventually provide medium to long-term benefits to SBI, especially as it should optimize costs and reallocate branches, etc. However, integration of 70,000 plus employees (33 percent of the parent workforce) will be a key challenge.

A Princely Past

Many of SBI’s associate banks, like their parent, date back to the days of the princely states. When State Bank of Mysore was set up in 1913, it started with an authorised capital of Rs 20 lakh, according to the bank’s website. When the State Bank of Patiala was set up in 1917, it acted as both a commercial bank and a central bank to the state.

The same was the case for the Bank of Hyderabad, which was established in 1941 during the reign of the last Nizam of Hyderabad, Mir Osman Ali Khan. The Bank of Hyderabad also managed currency for the state which was, at the time, the Osmanian Sicca. The currency reached the end of its road after India annexed Hyderabad into the Indian Union in 1948 and the Hyderabad Bank, as it was formerly called, turned into a commercial bank.

“These were quasi-central banks who were managing the currency given by the British government and they were also doing commercial banking at the same time,” said Amol Agrawal, a doctoral candidate in banking history from IIM Bangalore who has studied regional banks in depth. In case of Hyderabad, the bank also had a currency printing function. It was a proper central bank as we understand it today, said Agrawal.

The Bank of Travancore came into existence in 1945, largely due to numerous banking failures in the south. The state got into action and floated its own bank, Agrawal said.

Post independence, when the RBI started auditing these banks, some startling facts came to the fore. The central bank found that most banks were following unsound practices and didn’t conduct their business operations carefully.

RBI History - Volume 2The Bank’s inspections revealed, in several cases, an alarming state of affairs. Many of these banks followed unsound, or at any rate ‘unorthodox’, banking practices. The staff of these banks were, as a rule, poorly qualified and trained. In the case of one state bank, the Bank’s inspectors discovered, several years had elapsed since its accounts were audited.

In 1959, the history of these banks took a turn when it was finally decided to bring them under State Bank of India’s fold in the form of associate banks. The process wasn’t an easy one, according the details in the RBI History - Volume 2.

It took years of back and forth before the RBI could convince these banks, which functioned as quasi-central banks, to shed their aristocratic past. The process was completed with the passage of the Subsidiaries Act in 1959.

An Idea Whose Time Has Come

SBI Branch (Photo: Reuters)

As associates of SBI, each of these banks led a double life. They had control over branch level operations but the overall strategy was decided at SBI’s headquarters in Mumbai, A Krishnakumar, former managing director of SBI told BloombergQuint.

That’s not to say that they weren’t doing what they were meant to do - fighting for a share of the business in the areas that they operated in. In some cases, the fight was even with its own parent.

The associate banks have done well in their own regions, Krishnakumar said.

A few decades ago there used to be fierce competition between the associate banks and the SBI on their turf... the kind of competition you would see between SBI and any other bank, for instance. These banks really managed to get customers away from SBI to their own branches, in some cases.

Krishna of AISBEA said that the associate banks have contributed immensely to the local development, which is evident from their market share that is more than any other banks. This is one argument that the unions have pushed to oppose the merger.

Still, it was often debated whether the associate banks should just be merged with the parent. The first time such a merger was suggested was in 1964 by the then Finance Minister TT Krishnamachari. The idea, however, took much longer to actually fructify.

Attempts were made in 2008, when the State Bank of Saurashtra was merged with SBI, and in 2010, when State Bank of Indore was folded in. Finally, last year, the government approved the merger of all remaining associate banks in one shot.

Bhattacharya felt the timing was right for a few reasons. Among them, the rapid changes in banking. “...To keep up to speed is becoming more and more of a challenge. For that you need to be nimble but you also need to be big,” she said.

The merger of the associate banks could also prove to be a test case for wider consolidation in the public sector banking sector.

A Krishnakumar, Former Managing Director, SBIWe have 20 odd other nationalised banks who are doing exactly the same thing and have the same principles, policies and execution. Instead of having 20 such banks, why not have just five or six banks. So yes, if the SBI experiment goes well, I think the government will sit down and merge some banks to create a larger entity.

According to Krishnakumar, an ideal structure for the banking sector going forward should include large PSU banks, local area banks, co-operative banks and other specialised entities to deliver banking services in the country.

Bhattacharya shares that view. She told BloombergQuint that it is important for India to have about four banks that are the size of SBI. These could be public or private sector entities.

This consolidation may run alongside fresh attempts at diversification within the banking sector. In July 2014, the RBI introduced the concept of small finance banks and payment banks to target certain segments of business like small and medium financing and remittances.

Could existing localised banks have morphed into such diversified entities? Bhattacharya doesn’t think so. She points to legacy problems that prevent these banks from being agile enough for the new age.

If the legacy banks want to become that agile, they need to evolve very fast and the legacy is not allowing them to.

(The article has been published in arrangement with BloombergQuint.)

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