IndusInd Bank Ltd. and Bharat Financial Services Ltd. have entered into exclusive talks to consider a merger, the two companies said on Monday. The deal is likely to be accretive right from the start, Romesh Sobti, managing director and chief executive officer of IndusInd Bank told BloombergQuint over the phone. He also said that the Bharat Financial portfolio has stabilized following the volatility seen during the demonetisation period and added that the deal will not add unnecessary volatility to the IndusInd Bank business. Edited excerpts:
Q: Why is IndusInd Bank pursuing this deal? Microfinance has never been the bank’s core focus so why a merger with Bharat Financial?
A: Over the last five-six years, we have been pursuing a particular business model on microfinance. We have a good sized book already. We have almost 2 million (20 lakh) customers and a book of about Rs 3,000 crore. Microfinance has always been close to our heart and this will help us build scale here.
The microfinance business does a few things. One, of course, it is entirely priority sector. In our book, risk weightage will fall on the microfinance portfolio.
And I think the deal becomes accretive on day 1 because the margins will improve dramatically and the cost of funds will fall for the microfinance institution.
We understand this business very well. We have been doing it for a long time. In fact, even in ABN Amro we used to do microfinance and we had almost a million customers. We had found that these are livelihood loans, its part of our mission to do this and also its a viable business which had done well over a period of 20 years apart from a few hiccups here and there.
Q: Post the merger, microfinance will make up about 10 percent of the book based on published number. Is that small enough to ensure that the broader IndusInd Bank book is not exposed to volatility inherent in the microfinance business?
A: By the time the deal concludes, the microfinance book will be about 8 percent of the overall loan book. The volatility that you refer to should be seen over a longer period of 10-15 years. Apart from the Andhra Pradesh crisis, which was caused by a peculiarity in that state, and demonetisation, which was a black swan event, microfinance has been a relatively stable business. The credit costs will probably come to less than 1 percent, which is not high given the yields.
We have a diamond book which was almost 6 percent. We have a vehicle finance book which is about 30 percent. So I think the microfinance business is quite stable and much more stable than people think.
Q: Between the potential to raise liabilities from the rural markets and generate assets, which is a more important consequence of this deal for you?
A: The first point is really the asset book which comes on board with a much higher margin. Also the combined cost of funds will fall as the cost of funds at the bank is much lower. The next stage will be when we can use the network to expand the savings bank account network. This was already happening as more than 100 branches of Bharat Financial were originating for us. Then the whole cross-selling on other products will also happen. Ultimately, we will look at building products like micro insurance etc.
But the first point is assets, followed very quickly by the generation of liabilities. So that’s the sequence.
Q: Talks have been on for sometime. Even now you have announced an exclusive period of talks. What is holding back a full deal announcement? Does it have anything to do with due dilligence on the asset quality side because I know there has been an increase in bad loans over the last few quarters?
A: Deals of this nature take time. Of course there has been some volatility over the last few quarters because of demonetisation. But concerns around asset quality have been put completely to rest. Their own norms of recognition and provisioning are very strong. Very few people know that Bharat Financial has a recognition norm of 60 days instead of 90 days. They have provided for the book so that’s all in the past. Collections have also picked up and are between 99-100 percent. There is always the question of right valuation. Those sort of things took time. Now we have reached the last mile and I think we should conclude this soon.