This article is written by Siddhant Jain. This Article main goal is to examine the regulations and procedures surrounding the merger in banking sector in India. Around the world, a significant amount of local and foreign banks are involved in merger and acquisition activity. The Indian financial system is governed by a variety of legislation that apply to various institutions. The Banking Regulation (BR) Act, 1949, SBI Act, 1955, and the Banking Companies (Acquisition and Transfer of Undertakings) Act, 1970 and 1980, are the primary pieces of legislation that regulate bank mergers also makes an effort to explain the RBI’s rules and examine the RBI’s involvement in bank mergers. The Article is divided into 4 parts specifically focussing on Basics of Merger in Banking Sector, Voluntary Merger in Banking Sector, Compulsory Merger in Banking Sector, & NBFC Merger.

Here is the Part 1 of the Study- Introduction to Merger & Acquisitions in Banking Sector.

INTRODUCTION

In the contemporary corporate landscape, mergers and acquisitions (M&A) represent a strategic approach utilized by corporations to foster growth, expand their market presence, and address financial challenges. The significance of M&A transactions has become increasingly prominent, underlining their pivotal role in shaping the corporate realm today.
It is evident that India has a number of recognised regulations that apply to different types of corporate restructuring, including

• the SEBI Act, 1992
• the Companies Act, 2013
• Banking Regulation Act, 1949[1]
• SCRA- Securities Contract Regulation Act, 1956
• the Industries (Development & Regulation) Act, 1951
• SARFAESI
• SBI Act, 1955 (State Bank of India Act, 1955)

Recent trends indicate a shift in the landscape of mergers and acquisitions within India. These trends have had diverse effects across various sectors of the economy. Notably, the banking sector serves as a cornerstone of the economy, with a significant portion being government-owned, albeit with private minority shareholders in some instances. Banks are increasingly incentivized to pursue mergers to achieve global reach, enhance synergies, and acquire distressed assets from smaller banks.

One significant aspect driving bank mergers is the reduction of competition within the sector. Consolidation allows for the redirection of funds previously allocated to competitive endeavors towards the growth of banking operations. Additionally, mergers provide a lifeline for banks burdened by substantial bad debt portfolios and poor revenue, offering support for their continued survival. It is imperative that mergers involving financially unviable banks in India proceed expeditiously to facilitate the restructuring of weak banks, ensuring the continuity of employment for their workforce, efficient utilization of blocked assets, and ultimately contributing to the nation’s prosperity through increased financial flows.

EVOLUTION OF BANKING INDUSTRY IN INDIA

In India the banking Sector has undergone a significant evolution, transitioning from a tightly regulated industry to a liberalized and contemporary one. Initially, the landscape was dominated by small money lenders who provided loans. The establishment of banks during the colonial era marked a pivotal moment in the industry’s growth.

Prominent among these institutions were Bank of Calcutta which was established in the year 1806 and later it was rebranded in the year 1809 as Bank of Bengal, alongside the Bank of Madras which was established the Bank of Bombay in the year 1868, and the Bank of Madras in the year 1843.

Notably, emerged from the amalgamation of four banks:

1. the Madras Bank,
2. Carnatic Bank,
3. Bank of Madras, and
4. the Asiatic Bank. In 1921,

the amalgamation of the three presidency banks led to the formation of the Imperial Bank of India. Additionally, during the early 1900s, several private banks emerged, operating without regulation and exploiting the economically vulnerable segments of society. In response to these challenges, the Reserve Bank of India (RBI) was established in the year 1935 under the Reserve Bank of India (RBI) Act, 1934. Despite RBI’s establishment, the growth of the banking industry remained sluggish. To streamline the operations of approximately 1100 commercial banks, the Government introduced the Banking Companies Act in 1949, subsequently renamed the Banking Regulation Act in 1966.

Following liberalization, the banking Industry underwent significant transformations. The government sanctioned foreign investment, enabling foreign banks to establish branch offices in India, and allowing small domestic banks to expand their footprint nationwide. Furthermore, the introduction of payment banks enhanced accessibility within the banking structure. Regulatory oversight of banks primarily rests with the Reserve Bank of India (RBI) Act, 1934, and the Banking Regulation Act. The Reserve Bank of India issues notifications, , circulars, and guidelines periodically to regulate the banking industry.

EVOLUTION OF NON-BANKING FINANCIAL COMPANIE’S INDUSTRY IN INDIA

In the year 1960s, Non-Banking Financial Companies (NBFC) were established in India with the intention  to serve as an alternate financial solution for investors whose needs cannot be met adequately by the traditional banking system. Initially, their operations had minimal impact on the banking industry due to their relatively small scale. However, as these financial entities acted as intermediaries in complex financial transactions, the necessity for a distinct regulatory framework became apparent. Consequently, the Reserve Bank of India (RBI) took proactive measures to regulate Non-Banking Financial Companies, introducing Chapter III B into the RBI Act, 1934, granting the Reserve Bank of India limited authority to oversee deposit taking companies.

In the year 1997, the Reserve Bank of India implemented significant amendments to Chapters III C and III B of the RBI Act, 1934, aimed at enhancing the regulatory and supervisory framework. These changes facilitated the expansion of NBFC operations, diversification of financial instruments and market products, and technological advancements within the sector. Subsequently, in the year 2016, the Union Cabinet of the country approved FDI (foreign direct investment) through a regulated Non-Banking Financial Companies route, further bolstering the sector’s growth prospects.

However, as the governance of Non-Banking Financial Companies’s grew increasingly difficult and complex, there arose a need to rationalize and consolidate regulatory oversight. In response, the RBI introduced the Scale Based Regulation, a revamped regulatory framework for Non-Banking Financial Companies’s. This new framework of, Scale Based Regulation known as the SBR Framework, encompasses various elements such as capital requirements, governance norms, and prudential regulations. NBFCs are now categorized into a four-tier pyramid based on factors like asset size, business activities, systemic interconnectedness, and perceived risk. This categorization ensures that NBFCs are subject to appropriate levels of regulatory scrutiny, with stricter controls imposed on entities deemed to pose higher risks.

ANALYSIS OF THE STUDY

This part of the research paper will delve into ain-depth analysis and examination of M &A within the banking Industry, elucidating their meanings and distinctive features.

Merger:

“A merger entails the consolidation of two or more corporations into a single entity, with one corporation surviving while the others lose their separate corporate identities.”All of the merged corporations’ assets and liabilities are assumed by the surviving business. One corporation transfers its shares, obligations, and assets to the other firm in exchange for:

a. Equity shares in the transferee corporation,

b. Debentures in the transferee corporation,

c. Cash.[2]

Acquisition:

Acquisition, also known as a takeover, involves the acquisition of a smaller corporation by a larger one. It may occur in either a hostile or friendly manner and typically involves the bidding and target corporations. In business combinations, an acquisition refers to one corporation purchasing a controlling interest in the share capital of another existing company.[3]

Distinguishing Merger Processes under CA, 2013 and BR Act, 1949:

A merger is facilitated via a tribunal-led process under the Companies Act, 2013 that is started by submitting an application to the NCLT (National Company Law Tribunal)[4]. On the other hand, the Reserve Bank of India (RBI) Amalgamation Directions[5] regulate the specific conditions for the merger and amalgamation of banking businesses, even if the businesses Act, 2013 permits mergers and amalgamations between two corporations. The Banking Regulation Act, 1949’s Section 44A describes the regulations governing banking company mergers and amalgamations. Notably, the Banking Regulation Act’s provisions complement the Companies Act of 2013 rather than diminishing its restrictions. Therefore, unless otherwise noted, compliance with the Banking Regulation Act is in addition to compliance with the Companies Act, 2013.

Moreover, a crucial element pertains to the consolidation of an Indian bank and a Non-Banking Financial Company (NBFC). The terms of the RBI Amalgamation Directions and Sections 230–232 of the Companies Act, 2013 regulate the merger of an Non-Banking Financial Company with a bank.

These guidelines cover two kinds of mergers:

• the combination of two private banks
• the combination of an NBFC with a private bank.[6]

MERGER GUIDELINES- APPROVAL AND CONSENTS REQUIRED FOR ENTERING INTO A DEAL UNDER THE BANKING REGULATION ACT, 1949

Approval from Board of Director & Shareholders:

In accordance with the BR Act, the proposed combination of an NBFC and a bank must be approved by both Boards, not just the members who are present and voting, but also by a two-thirds majority of the whole board. Furthermore, because of their responsibilities arising from the special character of the banking business, independent and non-executive directors are required to sign deeds of covenant with the bank.[7] The scheme of arrangement must then be presented to the bank’s shareholders after being approved by the board. A majority of the present and voting shareholders, or two thirds of their total worth, must approve this. For these motions, proxy voting is another option open to shareholders. No shareholder may use their voting rights to surpass the ceiling set under the BR Act. No shareholder may exercise more voting rights than 10% of the total voting rights of all shareholders due to the BR Act’s ceiling on voting. The proposed scheme should not be put to a vote by shareholders until the boards of the participating banks have given their approval. The boards took the following factors into account while accepting the draft scheme:[8]

• The parties’ due diligence; the valuation at which the combined company’s assets, liabilities, and reserves are proposed to be integrated into the final combined company’s books and the impact of such incorporation.
• If separate valuers calculated the swap ratio, did they take into account the valuer’s training and expertise, and did they assess if the swap ratio is appropriate and fair?
• The ownership patterns of the merging firms and any actual holdings in the combined business that might need permission or be in violation of RBI regulations.
• How the merger will affect the combining firms’ capital sufficiency and profitability.
• modifications to the board of directors and their adherence to RBI regulations.

Approval from RBI:

After receiving approval from the Board and shareholders, the amalgamation is submitted to RBI for scrutiny.

The RBI Amalgamation Directions oversee the process of amalgamating an NBFC with a banking company. In order to begin this kind of amalgamation, the proposal must have the consent of a two-thirds majority of the bank’s board members—not just those who are present and voting. In addition, the banking business needs RBI permission prior to the merger plan being submitted to the Tribunal for ultimate approval, but only after receiving endorsements from the NBFC Board and its own Board.
The board must consider an amalgamation proposal’s possible effects on the combining company’s profitability and capital adequacy ratio while evaluating it. Following that, the merging corporation (bank) must provide specific documentation, such a valuation study to ascertain the share swap ratio and an elaborate calculation of this valuation, to RBI. This allows the RBI to evaluate the proposed amalgamation and assess its potential value.

Companies Act – for amalgamations with Non Baking Finance Company:

According to the Reserve Bank of India amalgamation Directions, Sections 232 to 234 of the CA, 2013 regulate the voluntary merger of anNon Banking Finance Company with a banking company and require Tribunal prior- permission.

Approval of CCI

A person or business is forbidden by the Competition Act and the CCI (Procedure in regard to the transaction of business relating to combinations) Regulations, 2011 from engaging in a “combination” that results in or is likely to result in a “appreciable adverse effect on competition” (“AAEC”) within the relevant market in India. As a result, the combination is nullified.
A merger or amalgamation is regarded as a “combination” for the purposes of the Competition Act if the new company has assets in India or overseas that are not under the financial thresholds specified in the Competition Act.

“Under Section 5(c)(ii) of the Competition Act, an enterprise amalgamation is considered a combination if the group to which such enterprises remaining after the amalgamation have or would have, assets valued at more than INR 4,000 crores (approx. USD 500 million) or turnover exceeding INR 12,000 crores (approx. USD 1.5 billion); or assets valued at more than USD 2 billion, including at least INR 500 crores (approx. USD 62.5 million) in India, or turnover exceeding USD 6 billion [including at least INR 1,500 crores (approx. USD 187.5 million) in India].”[9]

[1] Kabir, M, A., Hassan, A., &, Al-Sharka.s New Evidence on Shareholder Wealth Effects in Bank Mergers During 1980-2000 Journal of Financial Economics 34 (3), 326-348,

[2]Yurtoglu, Zulehner, C., B. B., Mueller, D. C., & Gugler, K., The Effects of Mergers: An International Comparison. International Journal of Industrial Organization, 21(9), 625-653, (2003).

[3] Harrison, J. S.& Hitt, M. A., Ireland, R. D., Mergers and Acquisitions: A Guide to Creating Value for Stakeholders: Oxford University Press,(2004).

[4] Section 230(1) of the Companies Act, 2013

[5] Section 2 of the Banking Regulation Act, 1949

[6] Master Direction- Direction 4- DBR PSBD No. 96/16.13.100/2015-16

[7] Master Direction – Chapter III, Direction 8, – Amalgamation of Private Sector Banks, Directions, 2016

[8] Master Direction – Chapter III, Direction 9, – Amalgamation of Private Sector Banks, Directions, 2016.

[9] Section 5(c)(ii) of the Competition Act, 2002

Please Find the Link to Part 1 of the article on Merger & Acquisitions in Banking Sector- Part 1 

Please Find the Link to Part 2 of the article on Merger & Acquisitions in Banking Sector- Voluntary Merger- Part 2

Please Find the Link to Part 3 of the article on Merger & Acquisitions in Banking Sector- Compulsory Merger- Part 3 – Vakalat Today

Siddhant Jain

Meet Siddhant Jain, a lawyer who thrives in the wild world of Business and Commercial Law—where boardrooms are battlefields, mergers are puzzles, and corporate jargon is his second language. Whether it’s navigating the maze of company law, tackling securities regulations, or guiding businesses through the stormy seas of bankruptcy and insolvency, Siddhant has done it all.

From crafting complex legal opinions on mergers to waving goodbye at company closures, Siddhant’s experience spans the corporate spectrum. When he’s not solving legal riddles, he’s busy sharing his insights through newsletters and publications, because why should only his clients benefit from all that knowledge?

If you’re looking for someone who can help you untangle the knots of business law (and maybe crack a joke while doing it), Siddhant’s your guy!

You can reach him out at siddhantjain2403@gmail.com