What does the HDFC-HDFC Bank merger mean for shareholders?

The surprise announcement of HDFC and HDFC Bank’s merger took everyone by surprise. The Street, on its part, gave thumbs up to the merger with shares of both the financial entities skyrocketing up to 16% intra-day yesterday. The merger, if it sails through, will create India’s biggest financial behemoth by market-capitalisation. However, the key word here is ‘if’ the merger sails through. In an unexpected announcement on Monday, HDFC Bank said that it will completely subsume its sister-firm HDFC in a share swap deal. The shareholders of HDFC Ltd will receive 42 shares of the bank for 25 shares held, and existing shareholders of HDFC Ltd will, thus, own 41 per cent of HDFC Bank. Shares held by the housing finance company in the lender will be extinguished, making HDFC Bank a full-fledged public company. However, the merger will have to stand the test of regulators, especially the Reserve Bank of India and the insurance regulator. Back in 2020, the banking regulator did not allow Axis Bank to single-handedly own a significant stake in the life insurance firm. This precedent, analysts believe, could prove to be true for the HDFC – HDFC Bank merger as well. Presently, HDFC owns nearly 48% stake in HDFC Life. If the combined entity owns a bigger share, the merged entity might have to pare its stake over the next 15-18 months. Presently, banks can own more than 50% stake in an insurance company. But, they have to trim down the stake over a period of time.

Moreover, RBI has been mulling capping a bank’s ownership in an insurance firm at 20%. All these regulatory requirements, analysts say, will have to be watched. That apart, analysts say investors need to be cautious as far as FPI inflows in the merged entity are concerned. This is because, domestic mutual funds, right now, can hold 10% of their entire corpus in a single entity. The third overhang could be on the financials. According to early estimates by global brokerage Macquarie, HDFC Bank will have an excess SLR/CRR asset requirement of around 70,000-80,000 crore rupees and will need an incremental 90,000 crore rupees agriculture portfolio to meet PSL norms. These low-yielding portfolios, the brokerage says, could be a drag on the merged entity’s P&L. Refinancing HDFC Ltd’s funding with low-cost deposits will be another key factor for the success of the merger. Analysts fear, HDFC Bank’s effective CASA could go down to 35% from 47% post merger. Investors, therefore, should be patient in order to accrue benefits from the proposed merger. From valuation standpoint, analysts say HDFC Bank's valuation can jump from less than 4x Price-to-Book Value to 5-6x Price-to-Book Value in 1-2 years. Against this backdrop, the two stocks’ movement will yet again be the key driver for the markets on Tuesday. Besides, stock-specific action and other global cues will guide the indices. The benchmark S&P BSE Sensex and the Nifty50 indices ended above their key psychological levels of 60,000 and 18,000, yesterday, cheering the merger.

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