MUMBAI (Reuters Breakingviews) - India’s financial sector is poised to have a refurbished champion. HDFC Bank, the country’s largest private lender, is set in July to complete its merger with its parent, partner and 26% shareholder Housing Development Finance Corporation (HDFC). The institution run by Sashidhar Jagdishan will sport a market value of some $140 billion and become a mortgage giant in a credit-starved market. It’s an enticing prospect for foreign investors, with some big caveats. The deal will be the third-largest M&A transaction on record in Asia, per Dealogic. It’s good timing for the tie-up, which has been the subject of speculation throughout the bank’s 29-year existence. Regulatory changes that have increased reserve liquidity requirements for non-bank lenders like HDFC have made it more sensible for some to become banks. Besides, India’s market has been evolving in favour of mortgage lenders. A seven-year-old law is forcing developers to deliver apartments on time with greater transparency, improving the average consumer’s confidence in the property market. It has also made home ownership more affordable. Yet outstanding mortgages equate to just 11% of the country’s GDP, HDFC estimates, compared with 18% for China and 52% for the United States. That’s a great opportunity for the larger, streamlined HDFC Bank – until now it sold most home loans it originated to its parent. Granted, government-controlled State Bank of India will remain the country’s largest lender. However, the share of mortgages in HDFC Bank’s portfolio will rise close to 30%, compared to SBI’s 20%. That will make Indian homebuyers the bank’s primary customer. With fewer than a third of HDFC’s borrowers also having an account with the entity on the other side of the deal, there’s ample scope for cross-selling them credit cards and vehicle loans, for example. That’d take a while to pay off, but it could bolster HDFC Bank’s already juicy valuation of 3 times forward book value; out of the traditional lenders, only Kotak Mahindra Bank trades on a higher multiple, at 4 times. Such institutions are a favoured way to invest in the Indian growth story; foreigners currently own 66% of the bank, and regulations cap overseas shareholdings at 74%, implying room to buy into the larger entity. HDFC Bank remains a fixer-upper in a couple of important respects, though. Jagdishan, who took the reins in 2020, needs to improve its technology and employee culture. It is still recovering from the fallout of a ban, imposed by regulators, on both sourcing new credit-card customers and launching new IT platforms for bringing in business after repeated outages on its internet banking channels. So far he has at least managed to get those restrictions lifted. Now he’s concentrating, Breakingviews has learned, on a broader technology upgrade, responding better to customers and overhauling an earlier strategy that was singularly focused on growth and led to the run-in with watchdogs. Yet with the merger, according to Jagdishan, likely to produce growth “pouring out of [his] ears”, that could prove a hard balance to strike.

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CONTEXT NEWS

Housing Development Finance Corporation said on June 19 it had agreed to sell a 90% stake in its education-loan unit Credila for 90.6 billion rupees ($1.1 billion) to a consortium of BPEA EQT and ChrysCapital. The Reserve Bank of India had asked the mortgage financier to reduce its stake in Credila to 10% within two years of the effective date of the former’s merger with HDFC Bank.

The merger of Housing Development Finance Corporation and HDFC Bank is likely to be completed by July, the bank’s Chief Financial Officer Srinivasan Vaidyanathan said in an earnings call on April 15. The deal was announced in April 2022. Housing Development Finance Corporation created HDFC Bank in 1994 and remains a 26% shareholder.