Chorus for consolidation!

The chorus for consolidation within the banking industry has surfaced again, this time more emphatically, whilst some are scouting for opportunities for mergers and acquisitions.

Diminishing margins on account of lower interest regime and higher capital requirements in tandem with the envisaged post-war boom in demand for credit are some of the key drivers for consolidation within the financial services industry.

Second biggest private sector bank HNB’s Managing Director Rajendra Theagarajah said that last year an industry-consolidated framework became reality and expressed hope that going forward the framework would be consistently strengthened.

“It is the bank’s intention to be involved from a leadership standpoint in the future development of this initiative by actively pursuing opportunities for growth through mergers and acquisitions,” Theagarajah said in his review in HNB’s 2010 Annual Report.

“We are actively looking for mergers and strategic investments to strengthen the group,” number three private sector player Sampath Bank’s Managing Director Harris Premaratne has disclosed in his review in the bank’s 2010 Annual report.

The best case for industry consolidation has been articulated by NDB Bank Chairman Manik Nagahawatte and former Central Banker. Incidentally NDB in the past had explored several options for a big merger though it had failed to succeed so far.

“While the present banking model provides stability in turbulent times, incremental change alone thereto may not suffice to meet the expectations of a resurgent Sri Lanka,” Nagahawatte said in his review in NDB’s 2010 Annual Report.

“If bank consolidation is to be made a reality, the banks may be encouraged to embark on it by effecting legislative changes that would facilitate merger procedures,” he added.

He said that the proposed reduction in margins is desirable and timely from an economic perspective. The country urgently needs to increase savings, while also making borrowing more affordable, if development goals are to be realised.

Intermediation costs presently compensate for a level of administrative and bad debt costs both of which are higher than regional norms. However, if interest margins are cut without reduction of these costs, profits and returns will necessarily plunge, making the task of attracting needed new capital more difficult. High expenses flow largely from the lack of scale.

A plethora of private banks compete with the dominant Stawe banks for market share, resulting in the wasteful duplication of resources. Modern banking requires costly investment in systems, branch and ATM distribution, branding, marketing, staffing and training. Pooling of these costs, in an appropriate manner, will help in reducing interest margins without reducing shareholder returns.

The NDB Chairman also said that the Central Bank in a very progressive move was reported to be looking favourably at appropriate bank mergers, with these benefits in mind.

In their respective 2010 annual reports private sector leader Commercial Bank, Seylan Bank and Nations Trust  Bank were silent on the issue of consolidation.

Nevertheless the fresh call for industry consolidation by others is being welcomed by analysts but some are sceptical given the fact that previous choruses for consolidation were shot down for several years by those with vested interests or those who failed to see challenges ahead. This was partly over fears some business tycoons or groups may control the industry, whilst some also pointed to financial systemic risk, etc., in the event of such developments.

However, the banking industry is now enriched with some valuable lessons though learnt late for healthy consolidation. Even if consolidation takes place, most analysts believe there are enough players to ensure competitiveness as well as financial system soundness.

At present there are 22 licensed commercial banks, of which six are fairly large, in awddition to nine licensed specialised banks within the overall financial services industry.