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Asia-PacificApril 3 2005

Regulation change puts India’s foreign banks on a short leash

New regulations for foreign banks in India have ended hopes of unrestrained growth in the expanding retail finance market. Foreign banks cannot acquire a local private bank except in the case of a weak bank, identified by the regulator. Additionally, local subsidiaries set up by foreign banks will not be able to open branches freely. These restrictions will stay in place until 2009, when fuller deregulation is expected, including allowing market acquisitions of local private banks.
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The new policy, announced by the Reserve Bank of India (RBI), the central bank, on February 28, is likely to encourage foreign banks that want to grow in the $43bn retail loan market to pursue organic growth. They may, however, continue to pick up small stakes in profitable private banks until they are allowed to acquire them.

Responding to the new rules, HSBC said it will pump in $180m of capital to support organic growth, and will look at setting up a retail finance company.

Citigroup, the Netherlands’ RaboBank, and GE Money, the consumer finance arm of General Electric, are already running retail finance company subsidiaries; current regulations impose fewer restrictions on them because they cannot collect public deposits freely.

Standard Chartered also plans to set up a retail finance firm and is also open to picking up a small stake in a private bank. The group’s CEO, Mervyn Davies, told the local media it would pursue both organic growth and acquisitions as opportunities arise.

Bankers say the incentive to set up a local subsidiary is by no means irresistible. Although it means a lower tax on profits, foreign bank subsidiaries must dilute 26% of their equity to local investors in due course, and will not enjoy any advantage in opening new branches.

HSBC, which bought 14.6% in UTI Bank, a profitable private bank, will have to dilute its stake to below 5%, the maximum limit permitted for cross-holdings in banks. Niall Booker, HSBC’s CEO in India, said that the bank’s shareholding will be diluted to around 12% after UTI Bank’s $200m global depository receipt offering in March, and that HSBC is in discussion with the central bank on ways to further reduce its holding.

Several other foreign banks and foreign private equity investors have bought small stakes in private banks. Scotiabank picked up 4.9% in Bank of Punjab in February, and Warburg Pincus bought around 2.7% in Kotak Bank last December.

The only route available to a foreign bank that wants to grow through acquisition is to buy one of the dozen or more weak private banks. BankMuscat owns a 33% stake in one such bank, Centurion, which is being turned around by a team led by former Standard Chartered chief Rana Talwar. ING owns a controlling 43% stake in ING Vysya, and Bart Hellemans, who heads the bank, says becoming an ‘Indian’ bank has brought the freedom to expand.

However, several large foreign banks that looked at investing in troubled private banks – such as Centurion and Global Trust – were not tempted enough to buy them.

Together 33 foreign banks in India have a 7% share of the total bank liabilities and assets. Standard Chartered, HSBC, Citigroup and ABN AMRO – some of which have been in India for more than a century – have a strong local banking franchise. They have managed to build a large customer base – using a wide network of ATMs and direct selling agents – with a small number of bank branches.

If any of these were to acquire an ailing bank, it would have to be merged into their existing operations because the rules do not allow a foreign bank to have more than one banking entity.

While foreign banks are clearly keen to expand, they might prefer to put their capital to work by growing organically – including acquiring subsidiaries in retail finance and asset management, and through joint ventures in retail insurance.

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Read more about:  Analysis & opinion , Asia-Pacific , India