HDFC & HDFC Bank Merger: Reasons, Impact & Analysis

HDFC Bank and HDFC Limited (HDFC Ltd) announced on Monday that the two entities are going to merge. It is going to be one of the biggest Mergers and Acquisitions (M&A) deals in the Indian financial sector.

There was a sharp rise in the share prices of these two entities following this announcement, which were up by over 7% in the early trading hours.

According to HDFC Bank, the transaction is expected to close in the next 18 months, subject to finalisation of regulatory approvals and other customary closing conditions. The subsidiary/ associates of HDFC Ltd will also be transferred to HDFC Bank.

According to the transaction structure, India’s largest housing finance company, HDFC Ltd, with Assets Under Management (AUM) of Rs. 5.26 trillion and a market cap worth Rs. 4.44 trillion, will merge with HDFC Bank, which is India’s largest private sector bank as per assets, with a market cap of Rs. 8.35 trillion.

What does this merger mean?

This proposed merger will result in reducing HDFC Bank's exposure proportion to unsecured loans, and it will also bolster the capital base.

The merger will be beneficial for HDFC as well as HDFC Bank, as after the merger, HDFC will merge into HDFC Bank; the shareholders of HDFC Bank will turn into 100% shareholders of HDFC.

There is already a positive impact on the stock prices, and it is expected to help both companies to increase their profitability.

Reason for the merger

In India, private sector banks need scale to cater to the dormant demand for credit in the economy in the upcoming decade. So, the banking sector is set for consolidation. It can be the merger of banks with NBFCs (Non-Banking Financial Companies) in some cases having complementary credit profiles.

The merger of HDFC Ltd. and HDFC Bank was long expected because it provides the entities access to cheaper funds and franchise. The merger is expected to be a win-win situation in the long term for shareholders of both entities.

Share swap ratio of the transaction
As on the record date, shareholders of HDFC Ltd. will receive 42 shares of HDFC Bank for 25 shares of HDFC Limited. The combined balance sheet of Rs. 17.87 trillion & Rs. 3.3 trillion net worth will enable larger underwriting at scale.

Impact of the merger

• Mitigation of single product risk: As per experts, the HDFC and HDFC Bank merger will mitigate the single product risk and enhance the assets’ diversity of the combined entity. With this, it will offer mortgage products seamlessly compared to the current assignment route.
• There may be a rise in foreign investment: As per the HDFC Bank CEO Sashidhar Jagdishan, they have added 730 branches in 2022. With this announcement, they may ramp it up further, as that not only helps the bank to mobilise deposits but also increases the distribution of affordable home loans. The proposed transaction will merge HDFC Investments and HDFC Holdings with the parent mortgage company. Subsequently, HDFC will also merge with its banking arm. As a result, all the group companies will become direct subsidiaries of HDFC Bank. Besides the bank, HDFC is a holding company for HDFC General Insurance, HDFC Life, HDFC Mutual Fund, HDFC Venture Capital, and HDFC Credila.
• Merged entity may get included in the MSCI Index: According to experts, the upcoming robust growth in the infrastructure sector in the next few years will prove to be beneficial. Also, cross-selling products will increase credit growth in the economy, by which the large customer base will benefit. Also, there is a possibility that the merged entity will get included in the MSCI INDEX. As of now, the stake of HDFC Bank is an FII; after the merger, the stake will be reduced and will be instrumental in potential inclusion.
• Change of ownership: Post-merger, HDFC’s shareholding in HDFC Bank will end, and HDFC Bank will be owned 100% by public shareholders. Existing shareholders of HDFC Ltd will own 41% of HDFC Bank, and the market value of the merged entity will be approx. Rs. 12.9 lakh crores.

Gain for HDFC, HDFC Bank and Shareholders

• Gain for HDFC: The biggest gain for HDFC will be access to well-diversified, low-cost funding and a wide customer base of HDFC Bank Ltd.
• Gain for HDFC Bank: The merger will enable HDFC Bank to build its own housing loan portfolio. The home loan market is at the middle of a strong up-cycle, along with tailwind for the real estate sector. It provides a stable secured asset class with lucrative risk-adjusted returns. It will increase the balance sheet of the merged entity, enabling it underwriting the large ticket size loans.
• Shareholders: Shareholders will also benefit as the share prices will increase and the companies will become more profitable. HDFC’s existing shareholders will get shares in HDFC Bank, i.e. every 25 shares held in HDFC will get shareholders 42 shares in HDFC Bank.