'Forced mergers, a failure'

The consolidation of banks and non bank financial institutions (NBFIs) to create a robust financial sector in the country has not been satisfactory as mergers, according to financial sector experts were forced by the regulator and not driven voluntarily.

Experts said that there cannot be forced mergers. It should be done willingly by entities in the best interest of shareholders. The Boards should see the merits of a merger. Merging two entities has its pros and cons.

Two entities with large asset bases can reduce costs and enhance operational efficiency. Financial analysts said that the merger of banks and NBFIs should have been done voluntarily after creating an enabling environment with legislative changes to avert post-consolidation ambiguity taking a cue from Singapore which created such an environment before initiating consolidation.

Former NDB Bank Chairman Sunil Wijesinghe said that Boards of merging entities should take into account the positives of the 'marriage' and not blindly agree to merge because the Central Bank calls for a merger.

“The NDB Bank saw the merits of the merger with DFCC Bank and that's why we agreed to merge. Forced mergers are not possible.

Consolidation should be in the best interests of shareholders,” Wijesinghe said. Chairman of the Committee appointed by the government to study the mergers, Dinesh Weerakkody said that to create an enabling environment for voluntary consolidation of banks is a normal business activity and should be encouraged by the government by providing the legal framework and doing away with impediments and disincentives.

Consolidation should be driven by the entities themselves and the time lines for it should be expanded to give a more realistic time frame.

However, even in voluntary consolidation the success rate of mergers is low.

Mergers to be carried out within a stipulated time frame as specified in the Central Bank Master Plan will have less chances of succeeding and it should be avoided in the future. Weerakkody said that when banks consolidate voluntarily, steps are taken to protect its interests and it would not participate in a merger or acquisition unless it is driven to benefit all stakeholders.

"Since experience suggests that some stakeholder groups may oppose consolidation to safeguard their own vested interests, the Central Bank can encourage consolidation by implementing a regulatory regime depending on the size and strength of banks as measured by key prudential factors,” Weerakkody said.

He said that the Banking Act and Directions need to be amended to provide a robust platform for organic growth and consolidation.

The involvement of the State in private sector banks must be reduced either through the application of the same aggregated shareholder limits as applicable to private shareholders or by placing a cap on aggregate voting rights to promote good governance and stability within private sector banks.

The Consolidation Road Map for NBFIs unveiled by the Central Bank Road Map was designed to broadbase the capital structure of the sector and, therefore, addressed only one aspect of the problem facing NBFIs, experts said.

They said that promoting strong balance sheets, efficiency, improved operational costs, greater financial inclusion and inculcating better norms of governance among the NBFIs, are much broader reforms than those proposed in the 2013-14 Central Bank Road Map.

Currently over 50 Non-Bank Financial Institutions (NBFIs) are registered under the Central Bank and many of them have low capitalisation but operate on high ratios even risking depositors’ funds and causing stress within the financial system. Liquidity issues arise in the NBFI sector due to poor capitalisation and weak governance structures, lapses in operational policies and weaknesses in the regulatory framework.

“Institutional consolidation to reduce the large number of players is, therefore, only one aspect of the corrective action needed to create stable NBFIs.

Issuance of licences at will over the years, the weak supervisory framework and skill level, poor transparency and delayed supervisory action have all contributed towards this situation," Weerakkody said.

"Hence, a more engaged, transparent and an assertive regulator is needed to strengthen the legal and the regulatory framework of the financial sector,” he said.

-LF