What is the insurance hurdle that the merger of HDFC Ltd and HDFC Bank is expected to face?

Amidst the stock market celebrations of the $40 billion merger of HDFC Ltd with HDFC Bank, the markets are apprehensive of a new problem that could crop up. This problem pertains to the life and general insurance businesses that HDFC has a stake in. RBI could raise serious objections over the stake that this merger would give HDFC Bank in the insurance sector. Even in the past, RBI has been averse to banks foraying into insurance due to risk mismatch.

As a result, RBI has wanted the banks to limit its ownership stakes in insurance companies in the larger interest of systemic safety. It must be noted that the merger of HDFC Ltd and HDFC Bank will create a $240 billion behemoth. However, post the merger, the life and general insurance subsidiaries of HDFC will have to move and become subsidiaries of HDFC Bank. Here, I am talking about HDFC Life Insurance and HDFC Ergo General Insurance.

It is not just HDFC Ltd and HDFC Bank that are dominant players in their interest. Even the two insurance companies viz. HDFC Life and HDFC ERGO General Insurance hold leadership positions in the life insurance and non-life insurance space respectively. Obviously, RBI will not be comfortable with 2 mega insurance companies being directly owned by HDFC Bank. That is exactly where the big hurdle to the merger is likely to arise from.

Of course, there are ways and means to get around these challenges. One option is to create a holding company structure to hold these insurance companies instead of HDFC Bank directly owning stakes. That has a downside too. For instance, it will have an impact on the balance sheet and also escalate costs like stamp duties and taxes. This may have a negative impact on the ROE of HDFC Bank, a key metrics for the market valuations.