SBI’s Associate Banks: From A Princely Past To A Blue Chip Future

The State Bank of Mysore was set up in 1913 when Maharaja Krishna Raja Wadiyar IV of the princely state of Mysore set up Mysore Bank. At the other end of what is now India, Bhupinder Singh, Maharaja of Patiala State, founded the Patiala State Bank 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 formalized at the start of the new financial year. Balance sheets will be merged. Branches will be rebranded to carry the SBI brand.

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, rationalization of merged operations and staffing will be toughest part. SBI expects to relocate 1800 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.

K.S. 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 1800 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 about nine lakh crore crore to the SBI balance sheet, taking it up to Rs 32 lakh crore from Rs 23 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 recognized, said Bhattacharya. “They have assured us that they have recognized stress where ever 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 SBI. However, absorbing the workforce will remain a challenge.

A Princely Past

Many of SBI’s associate banks, like the parent, date back to the days of the princely states. When State Bank of Mysore was set up in 1913 under the patronage of Maharaja Krishna Raja Wadiyar IV, it started with an authorised capital of Rs 20 lakh, according to the bank’s website.

State Bank of Patiala, set up in 1917 by Bhupinder Singh, Maharaja of Patiala State, 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.

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

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.

“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,” said Krishnakumar while explaining that the associate banks have done well in their own regions.

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 T.T. 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.

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 specialized 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,” she said.

This story has been edited to reflect the correct size of SBI’’s assets and that of the merged entity.