Corporate Restructuring via Amalgamation in Private Sector Banks

A Case Study of HDFC Bank and Centurion Bank of Punjab

______________________________________________________

a) Prof. Deepak Tandon (b) Manish Vohra & Meenakshi Saluja

Professor –Finance PGP IInd Year students (Finance) IILM, Plot 69, Sector 53, Gurgaon manish.vohra.pgp09@iilm.edu,

Email - deepak.tandon@iilm.edu meenakshi.saluja.pgp09@iilm,.edu

9811688833

ABSTRACT

Amalgamation in the Indian Banking Industry are the most happening arena apropos the

ballooning effect of NPA (Non Performing assets).Deregulation, favorable economic, financial

conditions and the structural legal changes have strategically made the” survival of the fittest”

theorem as a reality in the Indian Banking Sector. Keeping in view the financial restructuring of

the Banks and the aftermaths of the amalgamation the authors have attempted the intricacies and

financial basis of the amalgamation in the Banking sector. The authors have empirically studied

the basis of the scheme of amalgamation of HDFC Bank and Centurion Bank of Punjab. The

main aim of this research is to evaluate share swap ratio of this merger apart from what they have

benefited individually.. Extensive use of the EPS (earning per share) Discounted Cash Flow,

Terminal Value techniques has been explained whilst calculating the Share Exchange Ratio

(SER) and NSE (Net Share Exchange Ratio). Other key parameters of the strategic fitness in

terms of cultural approach of business have also been discussed. Post the merger, HDFC Bank’s

gains and the economies of scale have also been elaborated.

Key Words

SER (Share Exchange Ratio) NSE (Net Share Exchange ratio)

DCF (Discounted Cash Flow Technique) EPS (Earning Per Share)

TV (Terminal Value) WACC ( Weighted Average Cost of Capital)

INTRODUCTION

In order to nurse corporate health and growth pattern of developing and developed countries

especially eradicating sickness in industries, the concept of mergers and acquisitions is very

popular in current scenario. Moreover, it is significantly popular concept after 1990s in India on

the birth of liberalization and globalization. The basic crux of Mergers and Acquisitions are

consolidating the process of survival of existing undertakings, large groups absorbing small

entities, cooperation of international business units welcoming to participate in the development

of nation’s economic growth and prosperity, to eliminate industrial sickness, to take tax

advantages, or free from stringent formalities of official procedures and red tape and corporate

restructuring and reorganization to meet challenges in the stiff competitive open market economy

demand such a task of mergers and acquisition.

The prevalence and success of consolidation in the banking sector across the world and the

compulsions imposed by globalization will make this dictum more visible in the Indian financial

system in the near future. The financial sector reforms set in motion in 1991 have greatly

changed the face of Indian banking. While the banking system in India has done fairly well in

adjusting to the new market dynamics, it would not be clichéd to reiterate that greater challenges

lie ahead.

The financial sector would be open to international competition once the tone for the rules of the

game is set under the WTO. Banks will have to gear up to meet stringent prudential capital

adequacy norms under Basel-II as they compete with banks with greater financial strength.

In the past, mergers were initiated by regulators to protect the interest of depositors of weak

banks. But it is now expected that market led mergers may gain momentum in the coming years.

The smaller banks with firm financials as well as the large ones with weak income statements

would be the obvious targets for the larger and better run banks. The pressures on capital

structure in particular is expected to trigger a phase of consolidation in the banking industry and

the pace would be swifter than we can conceive of today.

Bank mergers in India have often been viewed as shotgun marriages: A strong bank takes over a

weaker institution -- usually one that is about to go belly-up -- at the behest of the country's

central banker, the Reserve Bank of India (RBI). Sometimes the deal doesn't make sense, but

regulators force it through.

.

• The merger of the banking companies in India attract Section 44 A of the Banking

Regulation Act 1949 unlike other companies which are bound by Section / s 390 – 396 of

Indian Companies Act 1956. The central government has powers to undergo the drill of

amalgamating two banks as follows:

1. Draft scheme is to be approved by the respective boards of the amalgamating banks and

pass the same in EGM (Extraordinary general Meeting) of the shareholders.

2. Majority (2/3 rd) voting of the shareholders is passed.

3. Scheme to be submitted to RBI for vetting giving compliances of Section 44 A (4) of the

Banking Regulation Act 1949

4. Scheme of merger need not be approved by the High Court as mandatory for banks under

the Companies Act 1956.

Value Creation through Merger and Acquisition

A merger will make economic sense to the acquiring firm if its shareholders wealth is

maximised. Merger will create an economic advantage (EA) when the combined present value of

the merged firms is greater than the sum of the individual present values as separate entities.

For example, if firm P and firm Q merge, and they separately worth Vp and Vq, respectively and

worth Vpq in combination, then the economic advantage will occur if:

Vpq > (Vp +Vq)

Vpq = Vp + Vq + Synergy

The economic advantage is equal to:

EA=Vpq – (Vp+Vq)

Acquisition or merger involves costs. Suppose that firm P acquires firm Q. After acquisition P

will gain the present value of Q, i.e Vq, but it also have to pay price to Q. Thus, the cost of

merging to P is: Cash paid – Vq. For P, the net economic advantage of merger (NEA) is positive

if the economic advantage exceeds the cost of merging.

Net Economic Advantage =Economic advantage – cost of merger

NEA= [Vpq-(Vp+Vq)] – (cash paid – Vq)

The economic advantage, i.e., [Vpq – (Vp + Vq)], represents the benefits resulting from

operating efficiencies and synergy when two firms merge. If the acquiring firm pays cash equal

to the value of the acquired firm, i.e. cash paid – Vq = 0, then the entire economic advantage of

merger will accrue to the shareholders of the acquired firm. In practice, the acquired and

acquiring firm may share the economic advantage between themselves.

 

The Indian Banking System and Economic Reforms 

Keeping in view the structure of the Commercial banks in India and the growth of the Economic 

reforms, Mergers and Acquisitions are most sought after means of reconstruction.  

The economic reforms brought about a comprehensive change in the competitive landscape of 

the  Indian  Banking  System  forcing  many  of  the  incumbent  banks  to  adopt  mergers  and 

acquisitions with the objective of restructuring themselves in order to enhance their efficiency, 

profitability,  and  competitive  strength.  In  addition,  the  Government  introduced  policy 

initiatives aimed at deregulation and encouragement of mergers with a view to  increasing the 

size, profitability, and  financial strength of  Indian Banks  thereby enhancing  their capability  to 

compete  globally.  This  climate  of  relaxed  merger  regulations  fostered  an  increase  in  the 

number of merger deals among  Indian  firms.  In  light of  this,  the dearth of empirical  studies 

examining efficiency benefits  flowing  from  these mergers  is  surprising. The  following  section 

provides a review of the few such studies that comprise this literature on Indian bank mergers. 

 

B. OBJECTIVES OF THE STUDY

1. To study the SWOT analysis of the consolidation of the two banks. Since the banking

industry has already challenges in terms of managing capital. branch network, people,

technology; a need for low cost technology is felt. Various parameters of profitability

(operational efficiency and net interest margin, net interest income, non performing

assets) need to be studied.

2. Changes in the key managerial personnel, infusion of capital, operational efficiencies,

new products, work culture, improved ratings and profitability’s are the necessary

outcomes of the Indian banks consolidation and help to increase or sustain the interest

income. This can be easily depicted in the mergers among the Indian banks.

3. To study the profiles of the two banks namely Centurion Bank and HDFC Bank, Swap

Ratio, Suitability analysis and the aftereffect of synergies of the merger.

4. To give a transparent, scalable, reliable table as a tool for the researcher giving explicitly

the situation of pre – merger and post – merger of the two banks in the study.

C. METHODOLOGY

Case study analysis: Merger between HDFC Bank Ltd and Centurion Bank of Punjab

About HDFC BANK

Promoted in 1995 by housing development finance corporation (HDFC), India’s leading housing

finance company, HDFC Bank is one of India’s premier banks providing a wide range of

financial products and services to its over 11 million customers across over three hundred cities

using multiple distribution channels including a Pan-India network of branches, ATMs, phone

banking, net banking and mobile banking. Within a relatively short span of time, the bank has

emerged as a leading player in retail banking, wholesale banking, and treasury operations, its

three principal business segments.

The bank’s competitive strength clearly lies in the use of technology and the ability to deliver

world-class service with rapid response time. Over the last 13 years, the bank has successfully

gained market share in its target customer franchises while maintaining healthy profitability and

assets quality.

As on December 31, 2007, the bank had a network of 754 branches and 1,906 ATMs in 327

cities. For the quarter ended December 31, 2007, the bank reported a net profit of Rs. 4.3 billion,

up 45.2%, over the corresponding quarter of previous year. Total balance sheet size too grew by

46.7% to Rs.1, 314.4 billion.

About Centurion Bank of Punjab

Centurion Bank of Punjab is one of the leading new generation private sector banks in India. The

bank serves individual consumers, small and medium businesses and large corporations with a

full range of financial products and services for investing, lending and advice on financial

planning. The bank offers its customers an array of wealth management products such as mutual

funds, life and general insurance and has established a leadership ‘position’. The bank is also

strong player in foreign exchange services, personal loans, mortgages and agricultural loans.

Additionally the bank offers a full site of NRI banking products to overseas Indians.

On August 29, 2007, Lord Krishna Bank (LKB) merged with Centurion Bank of Punjab, Post

obtaining all statutory and regulatory approvals. This merger has further strengthened the

geographical reach of the bank in major town and cities across the country, especially in the

State of Kerala, in addition to its existing dominance in the northern part of the country.

Centurion Bank of Punjab now operates on a strong nationwide franchise of 394 branches and

452 ATMs in 180 locations across the country, supported by employee base of over 7,500

employees. In addition to being listed on the Indian stock exchanges, the bank’s shares are also

listed on the Luxembourg stock exchange.

Centurion Bank is India’s fourth largest private-sector bank, after the significantly larger ICICI

Bank, HDFC Bank and UTI Bank. Centurion's balance sheet is of modest scale, much smaller

than those of major private-sector banks. The bank is capitalized to support rapid growth, and its

high fixed operating costs suggest that profitability is leveraged to asset growth. Centurion's

acquisition of Bank of Punjab has substantially bolstered its distribution franchise, widened its

product and customer mix, and gives it the

Platform to aggressively expand its balance-sheet; which it has hitherto achieved quite well. It is

predominantly a Consumer bank – with almost 70% of its loans are in relatively high yield

segments. Its distribution concentration is largely in the Western and Northern parts of the

country, and it is seeking to acquire a mid-sized bank in the Southern parts of the country, to

broaden and expand its distribution franchise. Bank Muscat is the largest shareholder in the bank

post-merger with a 20.5% stake; Keppel Corp holds 9.0% and 18.6% is held through GDRs.

Sabre Capital and BOP promoters hold 4.4% and 5.0%stakes in the bank, respectively.

HDFC Bank and Centurion Bank of Punjab have decided to merge. It is the largest merger in the

space in recent times and perhaps the beginning of the consolidation wave in the BFSI sector.

The HDFC Bank-CBOP merger is a smooth exercise when it comes to the marriage of

technology at both banks. The merger comes as no surprise. With further liberalization, post-

2009, an account of WTO regulations, there would be greater accessibility for foreign banks to

Indian shores and vice-versa. With competition hotting up, Indian Banks will have to gear up to

compete with their global counterparts in terms of products, technology and people.

MERGER OF HDFC BANK WITH CENTURION BANK OF PUNJAB

Merger with Centurion Bank of Punjab in the swap ratio of 1:29

The boards of both HDFC Bank and Centurion Bank of Punjab (CBOP) have approved the

merger between the two banks in the ratio of 1:29(1 share of HDFC Bank for 29 shares of

CBOP) HDFC bank would also consider selling shares to HDFC in order to maintain its holding

over 20%. We rate this merger as neutral for HDFC Bank on as a long term perspective.

However on a short term basis, it is negative for HDFC Bank’s stand-alone financials and

shareholders

At the current price, the CBOP’s is richly valued compared with that of HDFC bank despite

CBOP’s lower banking franchise, inferior return ratios and higher NPAs. CBOP’s asset book

constitutes about 20% of that of HDFC Bank; while its profit is merely 11%.Following is a

summary of the key business parameters across HDFC Bank and CBOP.

Shareholding pattern of HDFC Bank on 31Dec 2007

Face value 10.00

Promoter’s holding

No. of shares % of holding

Indian Promoters 82443000 23.28

Subtotal 82443000 23.28

Non Promoter’s holding

Institutional Investors

Banks Fin. Inst. And Insurance 10068939 2.84

FII’s 94087619 26.57

Subtotal 116142534 32.80

Other Investors

Private Corporate Bodies 28598234 8.08

NRI's/OCB's/Foreign Others 6019811 1.70

Govt 3841342 1.08

Others 78110019 22.06

Subtotal 116569406 32.92

General public 38920380 10.99

Grand total 354075320 100.0

Shareholding pattern of CBoP on 31Dec 2007

Face value 1.00

Promoter’s holding

No. of shares % of holding

Subtotal N.A N.A

Non Promoter’s holding

Institutional Investors

Banks Fin. Inst. and Insurance 1142025 0.06

FII's 501898631 26.80

Subtotal 512107247 27.34

Other Investors

Private Corporate Bodies 782415732 41.77

NRI's/OCB's/Foreign Others 13299320 0.71

Directors/Employees 11080829 0.59

Others 287341856 15.34

Subtotal 1093907310 58.40

General public 266724046 14.24

Grand total 1872738603 99.99

Main Highlights of Merger

• The merger was effected using the ‘pooling of interest’ method. The bank’s main task

was to harmonize the accounting policies and, as a result, HDFC Bank took a hit of Rs. 7

bn to streamline the policies of erstwhile CBoP itself. Of this Rs. 7 bn, around 70% went

toward the harmonization of accounting policies relating to loan- loss provisioning and

depreciation of assets, and the balance 30% reserves write-offs were toward the merger-

related restructuring costs like stamp duty, HR and IT integration expenses.

• The loan book size of erstwhile CBoP was close to Rs. 150 bn, largely constituted by

retail loans with only around 15% of corporate loans. In terms of asset quality, the gross

NPAs at the end of March2008 were around 3.8% and net NPAs at around 1.7%. The

harmonizing was done to bring in more stringent provisioning requirements for

identifying NPAs as the existing norms of the erstwhile CBoP were comparatively more

relaxed. The duration of CBoP’s lending portfolio is around 18-20 months so the risk of

incremental slippage would continue in near future; however the bank is confident of its

strong recovery management process and anticipates lesser pain.

• The CASA ratio at the end of June 2008 was 45%. This in line with expectations of

analysts as CBoP had a much lower CASA ratio of around 25% compare to 56% of Pre-

merged HDFC Bank. By the end of the year, the target CASA ratio is around 47-48%.

This would primarily be driven by an increasing contribution of low-cost deposits from

the erstwhile CBoP’s branches.

• Of the total non- interest income of CBoP, fee income constituted around 50% which was

generated mainly through distribution of insurance products (Aviva) and from processing

fees. In line with regulatory and operational issues, these streams of income have

temporarily been discounted. This aspect act as a drag on the ‘other income’ of the

merged entity and it would take 2-3 quarters for the issues to be addressed. Till these

issues are resolved positively, the ‘other income’ growth (primarily the fee income)

would remain muted for the merged entity.

• The cost/income ratio of the merged entity has increased to around 56% from 50% levels

for standalone HDFC Bank. The increase was expected as CBoP’s C/I ratio was around

60%. HDFC Bank has retained almost all the employees of CBoP and expects to achieve

full synergies and efficiencies, in terms of the restructured HR and IT processes, in the

next 2-3 quarters. This means that by Q4FY09, the entire workforce would be working at

full efficiency levels as that of the existing bank and the technology and IT-platforms

would be completely integrated to support efficient performance. The aim is to reduce C/I

ratio to around 52-53% by the end of FY09.

KEY BUSINESS PARAMETERS (Rs Million)

HDFC BANK DEC-07 CBOP DEC-07

Branches (Nos) 754 394

ATM (Nos) 1906 452

Customer A/C (M) 10 2

Debit cards (m) 5.0 1.1

Credit cards (M) 3.5 0.2

LIABILITIES

Deposits 993,869 207,100

CASA Deposits 505,630 50,740

CASA Ratio % 51 25

Share capital 3,541 1,873

NETWORTH 113,584 19,633

Other liabilities 206,942 27,306

Total liabilities 1,314,395 254,309

ASSETS

Advances 713,868 150,835

Retail 364,073 90,228

Other assets 600,527 103,204

Goodwill

TOTAL ASSETS 1,314,395 254,309

NET NPAs 2,798.0 2544.0

CBoP Trades at a premium to HDFC Bank (as on December 2007)

CBoP’s current valuations are significantly higher versus HDFC Bank when compared on

traditional valuation parameters such as P/BV and P/E. However, on franchise-based valuation

parameters, the valuation appears comparable.

COMPARATIVE VALUATIONS

HDFC Bank Dec 2007 CBoP Dec 2007

Price as per agreed swap ratio (Rs) 1,475 51

Fully Diluted MCAP (M) 524,658 112,158

Current P/BV (Dec-07) 4.6 5.7

FY08E

BV Rs 333.9 11.8

EPS Rs 45.6 1.0

P/B (X) 4.4 4.3

P/E (X) 32.3 51.4

ROE % 17.7 10.6

FY09E

BV Rs 382.8 12.8

EPS Rs 63.0 1.3

P/B (X) 3.9 4.0

P/E (X) 23.4

38.7

ROE % 17.6 10.9

Franchise Based Valuation

MCAP/Branch Rs (m) 695.8 284.7

MCAP/customer A/C (E) Rs 52,465.8

44,863.3

MCAP/total deposits (X) Rs 0.5 0.5

MCAP/CASA Deposits (X) 1.0

2.2

MCAP/ Total Assets (X) 0.4 0.4

AFTERMATH OF THE MERGER

A. Branch expansion/Size – likely determinant of the merger

The biggest benefit to HDFC Bank from this acquisition would be addition of 394 of CBoP’

branches [which are concentrated in the states of NCR (55), Punjab (78), Haryana’s(28),

Maharashtra (39) and Kerala (91)]. About 60% of CBoP’ advances are to retail (v/ss~50% for

HDFC Bank) with dominance in the areas of mortgages, personal loans, 2-wheelers and

commercial vehicles (CVs).

Both banks earn higher net interest margins — HDFC Bank is at 4%+ and CBoP is at ~3.6%.

Moreover, the banks have a similar business model and philosophy underlined by a thrust on

branch network expansion, retail assets, high margin business and strong fee income sources.

B. HDFC Bank would emerge as the biggest private bank in terms of branches

HDFC Bank has always maintained that fast branch expansion is a key ingredient that will

sustain its high CASA deposits and margins. This merger with CBoP would result in the

combined entity having 1148 branches at present, which is the largest branch distribution

network for a private bank in India (ICICI Bank currently has 955 branches). This apart, HDFC

Bank would gain dominance in states like Punjab, Haryana, Delhi, Maharashtra and Kerala.

C.Positive aspects of the merger:

(1) increased footprint and metro presence;

(2) cost-income ratio has room for improvement;

(3) Enhanced management bandwidth to enable entry in to International business; and

(4) Both banks have senior managements of high caliber who have worked with Citigroup at

some point in their career.

Negatives:

(1) Merger likely to be EPS dilutive for the next two years, due to valuations; and

(2) Integration of LKB branches may pose a challenge.

Major benefits accruing from the merger:

• Wider distribution reach: 32% of CBoP branches are in metros

The merger will add close to 394 branches to HDFC Bank’s network of 750 branches, almost

50% increase in the existing network, while adding close to 19% to its asset base. HDFC Bank’s

branches are currently spread throughout the country, whereas CBoP has a strong presence in

Punjab, Maharashtra, and with the acquisition of LKB, now in Kerala as well. In view of RBI’s

stringent license policy, metro licenses have been hard to come by for most banks.

With the merger, HDFC Bank’s metro branches will increase by 44% in one shot, while its non

metro branches will increase by 57%.

Table 1: Expanding metro reach by 44%

CBoP HDFC

Metro 127 287

Non Metro 267 467

Metro Proportion 32% 38%

Non Metro Proportion 68% 62%

Chart 1: HDFC Bank to be largest private sector bank in terms of branch network

Table 2: More number of branches would lead to reduced cost of funds

FY08E FY09E FY10E

No of branches 1,148 1,398 1,598

CASA Ratio 48.4 48.4 48.9

CASA per Branch 477 540 663

Business per Branch 915 870 1,117

Cost of Funds 5.0 4.9 4.

• Scope to enhance productivity

CBoP’s, as a standalone bank, cost to income ratio is high at 63%; however, merging with a

larger organization like HDFC Bank gives significant scope for operating leverage with

economies of scale. There is also scope for improvement in utilization ratios with improvement

in branch and employee productivity to near HDFC Bank’s levels.

Table 3: Scope for improved utilization of branches

INR mn HDFC Bank CBoP Merged

entity

Business/branch 2,289 908 1,812

Business/employee 80 65 77

Assets/branch 1,762 645 1,376

Assets/employee 61 46 58

PAT/branch 24 5 17

PAT/employee 0.8 0.3 0.7

• complementary Overlay

CBoP has traditionally been strong in high yielding SME and retail segments, while HDFC Bank

has an enviable retail deposit franchise. With the merger, CBoP’s ability to grow its loan book

will complement HDFC Bank’s deposit franchise. On the product portfolio side, both the banks

have a strong foothold in vehicle financing, which is a natural synergy.

Chart 2: Retail loan break up

Higher productivity to help HDFC Bank bring down cost to income ratio

Improvement in productivity levels will help HDFC Bank lower CBoP’s cost to income ratio

over the medium term. High cost to income ratio, mainly due to lower productivity of some

merged branches and employees, has played a big role in restraining CBoP’s return ratios.

• Strong and experienced management team: HDFC Bank may add international

business

CBoP has a strong and experienced management team. The management has demonstrated its

capability to integrate diverse organizations by successfully reaping synergies of the merger with

Bank of Punjab. We expect the CBoP team to strengthen HDFC Bank’s management bandwidth

and consequently the latter may add international banking to its services kitty.

Table 4: Senior management team of HDFC Bank

Name Position

Mr. Aditya Puri Managing Director

Mr. Vinod G. Yennemadi Head, Finance, Administration, Legal and

Secretarial

Mr. Harish Engineer Head, Wholesale Banking

Mr. Sudhir Joshi Head, Treasury

Mr. C. N. Ram Head, Information Technology

Mr. Bharat Shah Head, Merchant Services

Mr. G. Subramanian Head, Audit, Compliance and Vigilance

Mr. Paresh Sukthankar Head, Credit and Market Risk and Human

Resources

Mr. A. Rajan Head, Operations

Mr. Abhay Aima Head, Equities and Private Banking and Third

PartyProducts

Mr. Kaizad Bharucha Head, Credit and Market Risk

Mr. Pralay Mondal Head, Retail Assets and Credit Cards

Ms. Mandeep Maitra Head, Human Resources

Mr. Ashish Parthasarthy Head, Trading

Mr. Rahul N. Bhagat Head, Retail Liabilities and Marketing

Mr. P.V. Ananthakrishnan Head, Capital Markets and Commodity

Business

Mr. Bhavesh Zaveri Head, Wholesale Banking Operations

Mr. Aseem Dhru Head, Business Banking and Commercial Transportation

Group

Mr. Shyamal Saxena Head, Branch Banking

Mr. Navin Puri Head, Branch Banking

Mr. Jimmy Tata Head, Corporate Banking

Mr. Sashi Jagdishan Head, Finance and Administration

Near term performance likely to be muted; benefits to accrue over medium term

The merger is positive from a strategic perspective; however, from minority shareholders’

perspective it is EPS dilutive, at least till FY09E. Consequently, we believe that near term stock

performance is likely to be capped due to this EPS dilution. With better utilization of branches

and rationalization of employees with organic expansion of business, the merger is likely to be

EPS neutral in FY10E. Upside risks exist in the form of sooner-than-expected merger synergies.

We expect 34% growth in balance sheet and 37% growth in EPS CAGR over FY08-10E. The

proposed issuance to HDFC is likely to provide adequate capitalization and enable strong

organic expansion over the next two years. The stock is trading at 3.0x FY10E adjusted

book(post merger) and 19.0x FY10E earnings

POST MERGER CONSOLIDATION

At a swap ratio of 1:29, it would lead to dilution of 21% for HDFC Bank. HDFC Bank would

issue 76m shares ( fully diluted) to CboP shareholders.The merger would worsen HDFC Bank’s

RoEs, CASA ratio and asset in the near term and make valuations additionaly

expensive.Presented belo is a snapshot of the merged entities

POST MERGER SNAPSHOT (Rs M)

HDFC Bank CBOP Merged

(Dec 07) (Dec 07) (Dec 07)

Branches Nos 754 394 1148

ATM Nos 1906 452 2358

Liabilities

Deposits 993,869 207,100 1,200,969

CASA Deposits 505,630 50,740 556,730

CASA Ratio(%) 51 25 46

Share Capital 3541 1873 4301

Net Worth 113,584 19,633 225742

Net worth net of goodwill

Other liabilities 206,942 27,306 234,248

Total liabilities 1,314,395 254,039 1,660,959

Total liabilities Ex Goodwill 1,314,395 254,039 1,660,959

Assets

Advances 713,868 150,835 864,703

Retail 364,073 90,228 454,301

Other assets 600,527 103,204 703,731

Goodwill 92,525

Total Assets 1,314,395 254,039 1,660,959

Total Assets Ex Goodwill 1,314,395 254,039 1,660,959

Net NPA (%) 0.4 1.7 0.6

Net NPAs (Rs m) 2,798.0 2,544.0 5,342.0

FY07 PAT (Rs.m) 11,415 1,214 12,629

FY08E PAT (Rs.m) 16,211 1,966 18,176

FY07 RoE (%) 17.7 10.6 1

analysis

BASES FOR DETERMINING EXCHANGE RATIO

Valuations based on 31, Dec 2007

1.Market Price Method

SER=Market Price of CBoP

Market Price of HDFC Bank

SER= 51

1475

SER= .0003458

No. of shares to be exchanged=SER X Pre merger no. of shares of CboP

NSE= .0003458 x 18,730lacs

NSE= 6.476834lacs

No of shares after merger= Equity shares of HDFC Bank + No. of shares to be exchanged

No. of shares after merger = 3,541 lacs + 6.47683 lacs

No. of shares after merger= 3547.4768 lacs

Post merger combined EPS= PAT of HDFC Bank + PAT of CboP

No. of shares after merger

Combined EPS= 11,415(m) + 1,214(m)

3547.4768 lacs

Combined EPS= 12,629(m)

354.74768(m)

Combined EPS= 35.599

Note: The market price taken above, the price at which swap ratio is actually calculated.

2.Earning per share

SER= Earning per share of CboP

Earning per share of HDFC Bank

Earning per share (EPS) = Profit after tax

No. Of shares outstanding

EPS of CboP = 1,22.920(crore)

187.3(crore)

EPS of CboP = .67

EPS of HDFC Bank = 1119.07(crore)

35.408(crore)

EPS of HDFC Bank = 31.6

SER = .67

31.6

SER= .021

That means 21 shares of HDFC Bank will be exchanged for 1000 shares of CboP.

3.Net Asset Value Method ( Based on 31, march 2007)

NAV per share = net worth of company

No. Of outstanding shares

Net worth of CboP = company’s share capital + reserves & surplus

Net worth of CboP= 156.69 crore + 1239.41 crore

Net worth of CboP= 1396.1 crore

No . of outstanding share = 156.69 crore

NAV per share = 1396.1crore

156.69 crore

NAV per share = 8.909

Note : Par value per share is 1

4.EBITDA multiple= Enterprise value ( Based on 31, march 2007)

EBITDA

Where,

Enterprise value = Market value of equitty + Market value of debt

EBITDA = Earning before interest, tax, depreciation and amortization

Market value of equity = market price * no. of outstanding shares

Market value of equity of CboP= 59.10 *156.69 crore= 9260.38 crore

Market value of Debt of CboP = 14,863.72 crore

Enterprise value of CboP= 24,124.10 crore

EBITDA = 1,646.53 crore

EBITDA Multiple = 24124.10 = 14.65

1,646.53

Note: Closing price of CboP(NSE) on 31, dec 2007 was Rs. 59.10

Sales Multiple = Enterprise value

Net sales of curent year

Enterprise value of CboP= 24,124.10 crore

Net sales on march, 2007 = 1268.53 crore

Sales Multiple= 24,124.10 = 19.017

1,268.53

CONCLUSION

Summarizing the above results

Market price method

SER= .0003458

Net asset value method

NAV per share (CboP)

8.909

EPS method

SER= .021

EBITDA multiple of CBoP

14.65

SALES multiple of CboP

19.017

HDFC Bank gearing for competition (would become 2nd largest)

ICICI Bank, the largest private sector bank in the country, is likely to open around 425 new

branches by June 2008, taking its total tally to 1,380. HDFC Bank, which currently has 754

branches and approval for 200 other branches, is in for stiff competition from ICICI Bank its

peers who are eager to increase their share in the low cost deposit base. Hence, the current

merger will catapult HDFC Bank with the highest network among private banks.

Additional branches counter balance high deal value

At times when branch licences are difficult to come by and with the possibility of the sector

opening up to foreign competition post March 2009, leading domestic private banks are unlikely

to sit idle. There is high possibility that these banks scale up their reach through the organic and

inorganic route. We feel CBoP’s major presence in the northern part of the country (in Punjab

post its merger with Bank of Punjab) and in the south (post its acquisition of Lord Krishna Bank)

gives HDFC Bank sufficient room to

Leverage these branches going ahead.

Profitability and return ratios to be affected

HDFC Bank’s NIM at 4.5% is much higher than CBoP’s 3.6%, hence we expect NIM of the

merged entity to decline in the medium term, but show improvement once HDFC Bank is able to

leverage branches optimally. HDFC Bank’s productivity and profitability ratios are among the

best in the industry, which is also expected decline in case of the merged entity.

ANNEXURES

Standalone Financials

HDFC Bank

Income statement (Rs. Million)

Y/E March 2007 2008E 2009E 2010E

Interest income 66,479 101,515 143,045 187,147

Interst Expended 31,795 49,832 69,432 90,704

Net Interest Income 34,685 51,682 73,614 96,444

Change (%) 50.8 49.0 42.4 31.0

Other Income 15,162 23,061 27,791 35,506

Net Income 49,847 74,743 101,405 131,950

Operating Expenses 24,208 36,984 50,553 65,824

Operating income 25,639 37,760 50,852 66,125

Change(%) 47.9 47.3 34.7 30.0

Other Provisions 9,252 13,921 17,912 22,057

PBT 16,388 23,839 32,941 44,068

Tax 4,973 7,629 10,541 14,10

Tax Rate % 30 32 32 32

PAT 11,415 16,211 22,400 29,966

Change (%) 30.8 42.0 38.2 33.8

Proposed Dividend 2,236 3,201 4,268 5,691

BALANCE SHEET (Rs.

Million)

Y/E MARCH 2007 2008E 2009E 2010E

Capital 3,194 3,557 3,557 3,557

Reserves and Surplus 61,138 115,204 132,610 155,918

Net Worth 64,332 118,761 136,167 159,475

Deposits 682,979 1,010,810 1,354,485

1,760,830

Borrowings 60,980 63,795 78,086 99,190

Other liabilities& Provision 104,065 135,285 175,870

228,631

Total Liabilities 912,356 1,328,649 1,744,607

2,248,125

Current Assets 91,539 108,614 126,972 151,880

Investments 305,648 434,020 564,226 733,494

Advances 469,448 727,644 982,320

1,277,015

Net Fixed Assets 9,667 11,500 12,500 12,500

Other Assets 36,055 46,871 58,589 73,236

Total Assets 912,356 1,328,649 1,744,607 2,248,12

Key Assumptions (%)

Y/E MARCH 2007 2008E 2009E 2010E

Deposit Growth 22.4 48.0 34.0 30.0

Advances Growth 33.9 55.0 35.0 30.0

Investments Growth 7.7 42.0 30.0 30.0

Provision Charge 69.2 82.6 87.9 89.2

Dividend Per Share 7.0 9.0 12.0 16.0

E: MOST Estimates

RATIOS

Y/E MARCH 2007 2008E 2009E 2010E

Spread Analysis (%)

Avg.Yield-Earn Assets 8.5 9.5 9.7 9.8

Avg.Cost-Int. Bear.Liab 4.9 5.7 5.7 5.6

Interst Spread 3.6 3.9 4.0 4.1

Net Interest Margin 4.5 4.9 5.0 5.0

Profitabilities Ratios (%)

RoE 19.5 17.7 17.6 20.3

RoA 1.4 1.4 1.5 1.5

Int. Exp./Int.Earned 47.8 49.1 48.5

48.5

Other Income/Net inc. 30.4 30.9 27.4

26.9

Efficiency Ratios (%)

Operating Exp./Net Income 48.6 49.5 49.9 49.9

Employee Cost/Op. Exps. 32.1 35.8 36.9 37.0

Business Per Emp. (Rs.M) 51.3 51.4 55.7 61.3

Net Profit Per Empl. (Rs.M) 0.6 0.6 0.6 0.7

Asset Liability Profile (%)

Advances/Deposit Ratio 68.7 72.0 72.5 72.5

Invest./Deposit Ratio 44.8 42.9 41.7 41.7

G-Sec/Investment Ratio 73.8 67.5 64.9 62.4

Gross NPAs to Advance 1.4 1.3 1.4 1.5

Net NPAs to Advance 0.4 0.2 0.2 0.2

CAR 13.1 13.4 11.5 10.0

Tier 1 8.6 10.4 9.2 8.2

VALUATION

Book Value (Rs) 201.4 333.9 382.8

448.4

Price-BV(x) 7.3 4.4 3.9 3.3

Adusted BV (Rs.) 197.3 330.9 379.8

444.5

Price-ABV (x) 7.5 4.5 3.9 3.3

EPS (Rs) 35.7 45.6 63.0 84.2

EPS Growth (x) 28.2 27.5 38.2

33.8

Price Earnings (x) 41.3 32.4 23.4

17.5

OPS (Rs) 80.3 106.2 143.0

185.9

Price-OP (x) 18.4 13.9 10.3 7.9

E: MOST Estimates

Mann- Whitney U Test:

Parameters

HDFC

Rank

CBoP

Rank

Net Profit Margin (%)

13.57

17

7.25

9

Return on Net Worth

17.74

19

8.69

11

Return on Long-Term

Funds

74.91

24

64.29

22

Total Debt/ Equity

8.60

10

10.65

13

Reported EPS

35.74

21

0.82

2

Book Value (excluding

Revenue Reserve per

Share)

201.42

26

8.75

12

Capital Adequacy Ratio

13.08

16

11.05

14

Demand Deposits to

Total Deposits 29.00 20 15.21 18

Operating Income per

Branch

12.14

15

4.30

5

Financials Expenses per

Branch

4.65

8

1.66

4

Advance/ Deposit Ratio

68.70

23

75.49

25

Net NPA (%)

0.40

1

1.26

3

Net Interest Margin (%)

4.50

6

4.61

7

Total Ranks

206

Total Ranks

145

To apply the Mann- Whitney U Test to this problem, we began by ranking all the parameters

(considering both the banks together), from lowest (Rank 1) to the highest (Rank 26).

The symbols used in the Mann- Whitney test in context of this problem are:

n1= Number of items for HDFC Bank, = 13

n2= Number of items for CBoP, = 13

R1= Sum of the Ranks of the items in HDFC Bank, = 206

R2= Sum of the Ranks of the items in CBoP, = 145

Calculating the U Statistic:

We can determine the U Statistic, a measure of the difference between the ranked observations of

the two samples, by using the above values of n1, n2, R1, and R2.

U = n1*n2 + [n1*(n1+ 1)/ 2] – R1

U = 13*13 + [13*(13+1)/ 2] – 206

= 54 (U Statistic)

If the null hypothesis that the (n1 + n2) observation from identical populations is true, this

U statistic has a sampling distribution with a Mean of:

µU = (n1*n2)/ 2

µU = (13*13)/ 2

= 84.5 (Mean of the U Statistic)

and Standard Error of:

σU = √ [n1*n2*(n1+n2+1)/ 12]

σU = √ [13*13(13+13+1)/12]

= 19.5 (Standard Error of the U Statistic)

Testing the Hypothesis:

The sampling distribution of the U statistic can be approximated by the normal distribution when

both n1 and n2 are larger than 10. Because our problem meets the condition, we can use the

standard normal probability distribution table to make our test.

Assuming, the level of significance (α) to be 0.05 (95% confidence intervals), and testing the

hypothesis that these two samples were drawn from identical population

H0: µ1 = µ2 (Null Hypothesis: There is no difference between the two populations, so

they have the same mean)

H1: µ1 ≠ µ2 (Alternative Hypothesis: There is a difference between the two populations,

in particular, they have different means)

α = 0.15 (Level of Significance for testing the Hypothesis)

Since, we want to know that the mean score of either of the banks is better or worse than the

other; this is a two- tailed hypothesis test. As the level of significance is 0.05, the level of

significance on either side of the curve will be 0.025 (on both sides). Thus, the remaining value

of acceptance on either side will be, 0.5- 0.025= 0.475.

Now, we can determine critical z value from Appendix Table I.

The critical z value for an area of 0.475 is 1.96(z = +1.96, z = -1.96)

Now, using the equation to standardize the sample U statistic,

z = (U – µU)/ σU

= (54- 84.5)/ 19.5

= -1.564

Since, the acceptance region is from -1.96 to +1.96, and the calculated value of z lies within the

region (within the critical values of the test),

we conclude that the distributions and the means of two samples are same.