On a visit to India in May, General Electric CEO Jeffrey Immelt was pestered by journalists wanting to know if he was going to buy a bank in India. The cross-examination was prompted by Mr Immelt’s declaration that he sees a great market for consumer finance in India and GE was ready to make “bold decisions” to grow its financial services business in the country.
The company expects to grow revenues from India five-fold to $10bn by 2010. Mr Immelt, who held a closed-door meeting with central bank officials in Mumbai, was measured in his reply to the question: GE was open to acquiring a bank when the opportunity presented itself and the company was willing to look at targets where the central bank said it preferred investment, he said. Meanwhile, the company would continue to grow organically by developing its own branch network, he added. GE Money, GE’s consumer finance arm, is set to expand its presence in India, which it has identified as one of its four major developing markets in the world along with Brazil, Russia and Mexico.
Barriers to overcome
Foreign banks may be keen to tap the opportunity that an expanding economy and rising income levels of the middle class in India represent for consumer finance but there are significant political and regulatory barriers that restrict market access. Curiously, while China is busy selling stakes in its banks to foreigners, Indian finance minister
P Chidambaram has categorically ruled out for now the privatisation of the 27 state banks, which own three quarters of all banking assets. Then, early this year the central bank ruled out acquisitions of local private banks by foreign banks until 2009, except in the case of weak banks that need to be turned around.
A limited number of branch licences are available each year to the 40-odd foreign banks in India (12 under India’s commitment to the World Trade Organization), making it difficult to compete with the mammoth Indian banks. These banks will find it hard to build a distribution network large enough to build the scale that is so vital in consumer or retail banking. With a market share of just under 8% of banking assets, the question that foreign banks must consider is whether it makes sense for them to pursue their retail ambitions or whether they should stick to niche areas.
Undeterred
Some large foreign banks appear undeterred and are still excited by the prospects. “The market for consumer finance is under-penetrated in India at about 2%-3% of GDP, compared with 25% in some European markets,” says Nicholas Windsor, head of personal loans at HSBC. Existing customers of the bank account for roughly a third of its sales of retail credit products, and the rest come from sales through direct channels including a mobile sales force, he says.
P R Seshadri, managing director of Citifinancial, Citigroup’s finance company arm in India, reckons that the consumer finance asset business is worth about $45bn and expects it to double over the next five years.
Murali Natrajan, head of consumer banking at Standard Chartered, India, says: “There is nothing that works better and is more cost effective than getting feet on the street in this business. It needs someone who can explain the product, get the documentation done and the service delivered to the customer.” Standard Chartered has 78 branches in India and 70% of its 6500 employees work for the consumer bank in addition to 6000 direct sales agents.
Yet bankers agree that competition is tough and building distribution will be the key. “When a business gets commoditised as fast as this one has, the guy who has the best distribution wins,” says Mr Seshadri. Citifinancial has 250 branches compared with Citibank’s 40 or so.
“Spreads have shrunk to just around 120 basis points on mortgage loans, one of the fastest growing segments. Building scale and segmenting the market is vital,” says Mr Natrajan.
A way in
One clear trend that has emerged is that several foreign banks are now keen to set up finance companies, if they do not already have one, because there are fewer restrictions on expansion of the distribution network of such companies. HSBC and Standard Chartered are in the process of securing regulatory approvals to set up finance companies and are ready to bring in extra capital.
In June, Development Bank of Singapore (DBS) announced plans to purchase a 37.5% stake in Cholamandalam Finance, a large Indian finance company, for Rs2.2bn ($50.6m). Deutsche Bank, which exited the retail market a couple of years ago, is reportedly considering a re-entry via the finance company route, although officials at the bank would not confirm it.
GE Money says it is investing $10m to expand its presence in the country from 118 branches in 50 cities at present to 228 branches in 110 cities.
The flipside, though, is that there are more restrictions on a finance company raising retail rupee deposits than on a bank, so these companies must borrow from the bond or money markets to fund their loans. That could push up their cost of funds – but only marginally, according to foreign bankers. “The advantage in India is that if the company is incorporated locally it can borrow from the local bond markets,” says Mr Seshadri.
Citifinancial has a capital base of $160m, of which $50m was brought in early this year. At a leverage of eight-to-nine times its capital, the company can build a portfolio of about $1.5bn. It has already listed its debt on the local stock exchange.
Mr Natrajan says that funding will not be a problem for the finance company that Standard Chartered plans to set up (to sell “small ticket personal loans”) so much as getting the processes and products right.
Courting customers
A pioneer in consumer finance in India, Citifinancial says a finance company is integral to its strategy of reaching under-served customers. “There is a large mass of people to whom bank credit is not normally offered because they do not have the legal paperwork required by banks or are first-time users of credit,” says Mr Seshadri. The key distinction he makes is that these are under-served customers rather than sub-prime borrowers (in the sense that they may not have defaulted on debt in the past), a category that is familiar in more mature markets. Once these customers mature they will eventually migrate to the bank, he says.
HSBC’s Mr Windsor reckons that banks that are willing to go “below the 15 million-odd credit card users who represent the formal market” could find a larger market of 50-60 million potential borrowers. HSBC is securing regulatory approvals to restructure its existing businesses, by merging its stockbroking and capital market subsidiary into the new finance company that it plans to set up with an equity capital base of $50m.
Alternative approach
Other foreign banks have taken a somewhat different approach by choosing to remain minority investors, perhaps awaiting fuller deregulation. Rabobank, the Dutch bank, has a finance company subsidiary in India and owns a 20% stake in the newly launched Yes Bank, which was set up by two of its former senior employees. Some foreign private equity investors, including Citigroup Venture Capital, own small stakes in the bank, taking the foreign shareholding in it to about 38%. They have two directors on its board and Rabobank has offered a $50m line of credit and support in product development. Being an Indian bank allows Yes Bank to grow free of restrictions on branch expansion. Rana Kapoor, CEO and managing director of the bank, says: “There is a significant change in mindset and we are now seeing strong home country banks emerge.”
The recent IPO by Yes Bank was subscribed 30 times over and prominent investors included India’s state-owned banks as well as international investors, says Mr Kapoor. The bank is forging partnerships with Indian banks in areas where it sees “no need to replicate distribution” and can exchange skills for reach, he says.
Singapore penetrates
An economic agreement signed at the end of June between the prime ministers of Singapore and India will allow three Singaporean banks – DBS, United Overseas Bank and OCBC – “national treatment” if they incorporate subsidiaries in India. Sources told The Banker that the agreement allows for 15 branches of these banks to be opened in India over a period of five years. Of the three banks, only DBS – which is 28% owned by the Singapore government’s investment arm, Temasek – has operations in India and it is not known whether the other two have plans to set up shop in the country.
