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STATE BANK OF INDIA

Version 21/10/2008

The 200 year old State-run bank with a huge legacy was innovating to
outpace competition. Would it succeed?

This case was prepared by Dr. Narender L. Ahuja, International Management Institute,
New Delhi as a basis for classroom discussion rather than to illustrate either effective
or ineffective handling of a management situation. The case study was supported by the
Aditya Birla India Centre at London Business School.

Copyright © 2008 London Business School. All rights reserved. No part

London Business
of this case study may be reproduced, stored in a retrieval system, or
School reference
transmitted in any form or by any means, electronic, mechanical,
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photocopying, recording or otherwise without written permission of
London Business School.
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On taking over as the Chairman of State Bank of India (SBI) - India’s largest
public sector bank, in 2006, O.P. Bhatt had announced his plans to increase the
SBI group’s market share by 1% every year.

Some critics felt the targeted increase was not ambitious enough, and given the
bank’s status as the country’s largest bank, its huge financial muscle, a nation-
wide branch network and an enviable base of over 100 million customers, SBI
should have been able to do better than that.

The bank, despite its relative ‘Gorilla’ size, had in fact been losing out on
market share for the past several years, and reversing the trend would not have
been easy in view of the intense competition from private sector banks. The
efficiency of SBI’s operations had also been on the decline.

The worst of the competition had not yet come, as, foreign banks were set to
enter India in a big way from 2009-10. Though a number of foreign banks had
been operating in India for long, there had been restrictions on their expansion
which were going to be removed. Given their gigantic financial might, they
would have been able to gobble up private sector local banks and make life
difficult for the public sector (PSU) banks like the SBI.

Were the critics underestimating the resilience of the 200 year old SBI, its
capacity and determination to re-engineer its business to not only recapture the
lost market share and improve profitability but also to meet competition head-
on? SBI was probably the only home-grown bank that had the potential of
competing and battling it out with foreign banks in the post-2009 era and
thwart their plans to take over the Indian banking sector.

With competition knocking at the door step, time had been running out for SBI.
Would it succeed in getting its house in order, innovate and strategize its
business to thwart competition and resurrect itself to the position of leadership
in Indian banking?
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Banking history in India

The origin of the State Bank of India goes back to 1806 when the Bank of
Bengal was set up as the first limited liability joint-stock bank sponsored by the
Government of Bengal. The Bank of Bombay (1840) and the Bank of Madras
(1843) followed the Bank of Bengal. A banking innovation of those days had
been that these three banks were allowed to issue currency notes, which would
be accepted for payment of public revenues within a limited geographical area.
These banks, known as Presidency Banks, also innovated the concept of
deposit banking in India, as at that time people in general were not in the habit
of leaving money with banks for safekeeping.
By 1921 these three banks had been amalgamated to form the Imperial Bank of
India, thus creating a giant among Indian commercial banks, with 70 branches.
The Imperial Bank performed the triple role of being a commercial bank, a
banker's bank and a banker to the Government, and continued to play a
dominant role in Indian banking until the setting up of the Reserve Bank of
India (RBI) in 1935.
With the establishment of RBI as the central bank of the country, the quasi-
central banking role of the Imperial Bank came to an end and the Imperial
Bank was converted into a purely commercial bank. By the time India attained
independence in 1947, the Imperial Bank had expanded its network to 172
branches and had more than 200 sub offices spread all over the country.

In the years after Indian independence, the Imperial Bank and other commercial
banks in India had increased their operations substantially but the banks were
mostly located in a few metropolitan and urban cities, while the vast rural areas
remained almost completely un-banked. In order to serve the economy in
general and the rural sector in particular, the Government in 1955 decided to
create the State Bank of India by taking over the Imperial Bank. The State
Bank of India had been constituted through an Act of Parliament after Reserve
bank of India acquired a majority stake in the Imperial Bank. At that time it
had 480 branches and offices, and owned more than a quarter of the resources
of the Indian banking system. Later in 1959, the State Bank of India was
allowed to take over eight former State-run banks as its subsidiaries, known as
SBI Associate banks.

By 1969, the Government had nationalized 14 large commercial banks and 6

more banks by 1980, thus bringing majority of the banking sector under direct
control of the State.

Between 1969 and 1991, the major achievements of the banking system in India
were twofold:
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(i) a rapid expansion of bank branches in rural and semi-rural areas –

the total number of bank branches of all scheduled banks in India
had increased from 8,269 in June 1969 to 61,724 by March 1991;
more importantly, out of the new branches opened during this
period, about 64% had been opened in the rural areas, and
(ii) the flow of bank credit to priority sectors had increased to about
40% of the total bank credit. Social banking had taken firm roots
in India.
However, profitability of the PSU banks had suffered as enthusiastically
interfering politicians used the banking system to achieve their political
objectives. Important decisions such as, whom to lend, how much to lend and at
what terms to lend, which normally should have been taken by bank
managements were virtually snatched away from them. Bank managers were
instead expected to achieve Government stipulated targets of subsidized loans
with little regard to asset quality, recoverability of loans or even interest
serviceability.

The Winds of Change

The year 1991 had witnessed India entering into a phase of transition from a
semi-controlled to a market-oriented economy. In the process of economic
reforms, banking industry had been deregulated to a large extent and the Reserve
Bank of India had initiated reforms aimed at the following, amongst others:
(i) strengthening competition by encouraging entry of private banks and
abolition of branch licensing;
(ii) increasing bank profitability by reducing Statutory Liquidity Ratio
(SLR) from a high of 38.5% in 1992 to 25% and reducing Cash
Reserve Ratio (CRR) from a high of 15% in 1992 to less than 6%.
Another milestone step taken was to deregulate interest rates on bank
deposits and loans, thus allowing banks to determine their interest
rates according to prevailing market conditions, and
(iii) improving the quality of financial management in banks by setting
capital adequacy norms. Banks were required to have a capital
adequacy of 4% by 1993, which was raised to 8% by 1996, and was
set to be further enhanced in 2008. Banks were also asked to improve
accounting practices and make provisions for NPAs.

By the time financial sector reforms had been undertaken in 1992, the
accumulated losses of the PSU banks (which accounted for about 85% of the
banking system in India) had become so high that majority of them had run
through their capital, and a staggering 25-30% of the bank loans were classified
as non-performing, with the underlying situation probably much worse.

The change in business environment had come as a rude shock to PSU banks
which had for long functioned in a highly controlled environment. The new
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deregulated system meant that they had to operate in a competitive, market-

oriented environment. In addition to the threat of competition, the PSU banks had
to fight other challenges including outdated technology, powerful staff unions and
extremely poor financial health. Social banking coupled with political
intervention had resulted in an indiscriminate branch expansion, over-
employment, low efficiency and poor loan recoveries which had made many bank
branches unviable.

Between 1992 and 2000, the managements of SBI and other PSU banks spent
much of their time and energies in revamping their businesses to make them
financially viable and profitable. The PSU banks started computerization of
branches and added fee based services to increase income as well as initiated
improved accounting and risk management practices.

The progress was initially very slow due to tough opposition by the staff unions,
particularly to computerization of banking operations which they thought would
affect their employment. Slowly the losses of PSU banks reduced and profits
started rising. While majority of these banks had run out of their capital by the
advent of reforms, all the 28 state-run banks had transformed into profit making
institutions by 2006. Equally significant was the decline in the average ratio of
their net non-performing assets (NNPA) to the total advances which came down
to below 2%; the remaining NPAs had either been sold out to asset reconstruction
companies such as ARCIL, or written off.

The improved performance of the state run banks had been enabled by a high rate
of GDP growth in the country, which had led a phenomenal increase in banking
business and credit appetite of the industry and other sectors. It was supported by
a good degree of political will on part of the Government. The PSU banks were
also lucky that during 1990s, the private sector banks had just been getting started
and did not pose any major threat.

Hardly had the PSU banks emerged from the 1990s’ shake-up when they came up
against unprecedented cut-throat competition that began in the early years of the
new millennium. Private sector banks like ICICI Bank that had come of age along
with new tech-savvy banks like Kotak Mahindra Bank and Yes Bank had started
pinching on the business of the PSU banks. Another threat was the emergence of
large and powerful non-banking finance companies (NBFC) such as Reliance
Capital, Bajaj Capital and Mahindra & Mahindra Finance which competed
with PSU banks in their lending operations. Some foreign banks had also set up
NBFCs (like Citibank’s ‘Citi Financial Consumer Finance Limited’) to add to
the competition. The real battle however was still a few years away when foreign
banks would enter the fray in a big way.

In 2006, the Indian banking system consisted of 28 PSU banks (SBI, its seven
associate banks and 20 nationalized banks), 33 private banks and 35 foreign
banks. In addition there were local area banks, regional rural banks, urban co-
operative banks and a huge number (over 109,000) of rural co-operative banks,
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which together served a large rural clientele but represented only a small
proportion of banking business in the country.

In the FY06 and FY07, the Indian economy witnessed a high growth rate of
close to 9%, the second fastest in the world behind only China. Booming
conditions had prevailed in almost all sectors of the economy. Banking had
been at the centre-stage, supporting corporate endeavors to expand domestically
as well as overseas.

While banking business in the country had been fast increasing, SBI’s market
share had been declining. In 2006, SBI had a market share (as a % of all banks’
deposits + advances as per data published by the RBI) of around 17%, down by
more than 3% since the turn of the century. SBI was not the only PSU bank
complaining, “Our real threat emanates from the new-generation private banks
like ICICI bank and foreign banks, who are every day making fast inroads into
our market share. They are now entering our traditionally strong areas of SME
(small and medium enterprises) and agriculture”, said the chairman of Punjab
National Bank (another PSU bank).

In the deregulated environment, private sector banks had been growing fast,
even though they were still small in size as compared to SBI. In particular,
ICICI bank had been determined to capture a considerable market share at any
cost and by any means – organic or inorganic. It had made several strategic
acquisitions including Sangli Bank, Bank of Madura, Anagram Finance and
ITC Classic Finance etc. to expand its reach in various parts of the country.
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State Bank of India

Bhatt was confident of increasing the market share, “We are losing our market
share and this has to be reversed. I want the SBI group to gain at least 1%
market share every year of which SBI should get over 0.50%.” [Financial
Express, March 2007].

He was aware that increasing market share was not an end in itself, and better
performance would have to be reflected in increasing profits and the return on
net worth (RONW). For the first time, ambitious profit targets were being set for
not only SBI’s own operations but also for its associate banks and its subsidiaries.
SBI set a target of increasing its associate banks’ profit by 26% (CAGR), and
33% for the subsidiaries. The management of ICICI Bank had also declared in a
meeting with the media that its business and profits were expected to grow at a
compound rate of about 30% per annum.

As Table-1 shows, SBI was still the largest bank in India, with assets amounting
to Rs. 4,940 billion ($121.79 billion), net worth of Rs. 276.4 billion ($6.81
billion) and net profits of Rs. 44.07 billion ($1.08 billion) for the year ending
March 2006. ICICI Bank was the leading private sector bank with assets worth
Rs. 2,521 billion ($62.15 billion), net worth of Rs. 225.6 billion ($5.56 billion)
and net profit of Rs. 25.4 billion ($0.62 billion). Other leading PSU banks (such
as Punjab National Bank and Canara Bank) and private sector banks like HDFC
Bank had been left far behind. Foreign banks operating in India at that time
including Citibank and Bank of America had relatively a much smaller presence
in the country in terms of assets base, net worth and profits.

Table-1: SBI Vs. Peers: Assets, Profits and Net Worth

(Year ending March 2006) 1 INR = 0.0254453 USD (Oct 2007)

Total assets Net worth Net Profit

Rs. Billion Rs. Billion Rs. Billion

State Bank of India 4940 276.4 44.07

ICICI Bank 2521 225.6 25.40

Punjab National Bank 1453 93.8 14.39

Canara Bank 1328 71.3 13.43
HDFC Bank 735 53.0 8.71
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ICICI Bank had clearly emerged as a strong competitor with capacity to dethrone
SBI from the top position in the future. While SBI had been losing market share,
ICICI had been increasing its market share and even expanding the size of the
market by carefully tuning its business to the customers’ needs. It had invested
heavily in building the ICICI brand, the effect of which was obvious when a
market survey carried out in 2005 showed that a majority of the sample
respondents thought ICICI was the largest bank in India, while in fact it was the
old SBI. [Business India, Dec, 2005]. ICICI had outperformed competition on
almost all parameters of growth in business, profitability, productivity and
efficiency.

The Technology Front

What was the secret of ICICI’s successful business model? One major factor
that had initially tilted the balance in favour of ICICI bank was its modern
technology platform which was regarded as being at par with foreign banks if
not better. The technology platform adopted by ICICI bank had an entirely
web-based architecture which would not require the backing of huge servers
placed in its branches. It was cost-efficient and capable of handling large
volumes of low ticket transactions, virtually creating a branchless banking model
where more and more customers could be served without them having to visit the
bank’s branches. Using its superior technology platform, ICICI Bank defined and
packaged its products and services in such a way that they could be mass sold.

ICICI was particularly popular among the younger generation due to its high level
of efficiency and being the leader in introducing modern methods of banking,
including ATMs, debit and credit cards, anywhere banking, Internet banking,
phone banking as well as allied services such as bank account linked online
investments, share trading services and so on. Through its subsidiaries, it also
diversified into insurance, BPO, share broking and even trading gold coins.

Though SBI had the largest number of branches in India, they were working on a
standalone basis and this was proving to be a big disadvantage. To overcome the
problem, SBI undertook the world's largest centralized core banking project to
link up its branch operations and transform into a modern, competitive entity.
A more sophisticated SBI with modern technology and processes would
challenge India's leading private banks and economically expand its services to
remotest rural areas, giving a thrust to potential business.

Due to a technology upgrade, SBI had the largest number of ATMs (5572 of its
own and another 3743 ATMs of its associate banks) in the country. Along with
its associate banks, it had a huge network of 13908 branches to serve its over
100 million customers.

SBI had also been investing in upgrading technology for faster transfer of
funds through the banking system. Indian banking achieved an important
milestone in this respect with the implementation of the Real Time Gross
Settlement (RTGS) system in May 2004 which would enable electronic transfer
of funds on real time basis. Predictably, SBI took a lead and was involved in
the first transaction using RTGS, when Standard Chartered Bank transferred an
amount of Rs. 100 million ($2.42 million) to SBI on behalf of Hindustan Lever
Limited. RTGS was very useful for instant settlements of high-value inter-bank
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payments in a secure environment. It would help companies in better

management of funds, with time and cost savings.

Organizational Review

As a part of its evolving strategy to increase its market share, SBI had created
three new strategic business units (SBUs): (i) the rural business group, to focus
on rural and semi-urban markets, (ii) treasury business group to focus on
growth in fee based services, and (iii) new business group, that would consider
a number of new ideas including private equity and renovating card business.
The bank planned to build a 10,000-15,000 people strong team for the
marketing function in these areas to increase business.

Rural banking was the new buzz word in banking circles. As the fruits of high
economic growth in the country percolated to rural areas, the income levels in the
semi-urban and rural areas were bound to rise providing an unprecedented
opportunity to banks to expand business in these regions. ICICI Bank and SBI as
well as other players in the banking sector were looking at rural thrust as the next
big thing in banking. In this respect, SBI group’s large network of branches could
in future prove to be a blessing, as the rural thrust could turnaround even the
unviable branches and add to the bank’s bottom line. But clearly it would not
happen by itself and needed appropriate strategy and action.

The right choice of technology would play a crucial role in this respect. But
would technology work in rural India where literacy levels were still pitiful?
According to ICICI’s Chief of Retail Banking, Vaidyanathan, "What is
surprising is that even in rural India, technology works. The rural people might
not be literate but they are intelligent. In fact, I was surprised to know that
nearly 18% of our transactions in rural areas were online" [Business India,
December 2006]. This proportion was fast increasing.

Marketing Innovations

In a marketing innovation, SBI decided to use outsourcing as a way to increase

its outreach and improve market share in the rural and semi-urban area.
Outsourcing was already being extensively used by private banks for non-cash
transactions such as creating new business, but the Reserve Bank of India had
started allowing banks to use outsourcing even for cash transactions. This
involved engaging NGOs, micro-finance institutions, cooperative societies and
post-offices for creating new business, collection of deposits and disbursal of
small-ticket loans. The SBI employees’ associations had opposed the move on
account of security concerns. According to them, allowing third parties to
handle cash transactions on behalf of banks was dangerous for the banking
industry and economy as a whole. The SBI management however went ahead
in spite of their opposition.

SBI had also intensified its promotion and advertising campaign to reinforce its
brand, mobilize deposits and increase business. The bank branches were being
renovated and given a more welcome look. The internal functions were also
being reorganized to improve efficiency.
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To expedite delivery of retail loans, SBI had started a project in which Retail
Assets Central Processing Centres (RACPC) would be set up in major cities. In
alliance with India’s largest car maker Maruti Udyog, it launched a new facility
which enhanced online connectivity between RACPC and Maruti dealers and
allowed centralized processing of loan facilities on real time basis. These steps
reduced the time for appraisal of loans significantly and ensured faster delivery
of services to retail and small customers.

Managing Profit Margins

Among other things, profit margins in banking to a large extent depended on

the net-yield on the loans advanced by a bank as well as management of
operating costs.

Credit deposit ratio which reflected the bank’s ability to convert deposits into
loans was regarded as crucial for a bank’s viability. The statutory regulations
required that 40% of the loans should be made to the priority sector. Therefore,
only a careful allocation of advances to various sectors and clients could help
in satisfactory management of yield on advances while keeping the risk factor
low, and meeting the statutory regulation.

A part of the bank funds could be invested in Government securities and other
financial securities. There was a trade off between risk and return: for example,
industry loans were typically more profitable but were considered risky, while
investment in Government securities would have been low risk but also low
return. Some PSU banks wanted to be seen as playing safe and preferred
investing in Government securities (even above the minimum statutory limit)
to avoid being blamed for poor decision making if the loans disbursed turned
out to be bad.

In addition to increasing income from fund-based business, SBI was trying to

increase income from fee based services. Towards this objective, it had set up
subsidiaries to diversify into specialized financial services such as life
insurance (SBI Life Insurance Company Ltd), funds management (SBI Funds
Management Private Ltd), cards and payment services (SBI Cards and
Payments Services Private Ltd), factoring (SBI Factors and Commercial
Services Private Ltd.), and also a subsidiary for investment banking and retail
plus institutional broking called ‘SBI Capital Markets Ltd (SBI CAPs)’.
However it did not yet have an online share trading portal like ICICI Bank, and
was behind its rival in launching new products and services.

Cost management was another crucial factor if SBI wanted to achieve

sustainable competitiveness. A significant cost item was the interest expense
on deposits because deposits formed the major source of funds for any
commercial bank. Banks in India offered three types of deposit accounts:
current account deposits, savings account deposits and the term (or fixed)
deposits. Banks did not pay any interest on current account deposits which
made it the cheapest sources of funds. Interest paid on savings accounts
deposits was around 3.5% - 4.00% per annum, while the term deposits was the
costliest source with interest rates going as high as 9.5-10.50% per annum in
May 2007 on fixed deposits for 3-5 years.
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SBI had a higher proportion of term-deposits as compared to its peers and had
been focusing on current and savings account deposits to reduce its overall
interest cost. Such efforts had started showing results, the SBI’s average cost of
deposits had seen a healthy decline from 7.6% in 2002 to 4.9% in 2006, even
though it was still higher than its peer group. To sustain the lower cost of
deposits and to further reduce it, SBI’s quality of customer service needed to be
at par with or even better than the competing private and foreign banks. In a
meeting with the media, Bhatt pledged to make SBI the number one bank in
customer service.

Manpower issues

As compared to its lean and mean competitors, SBI was over staffed even
though it had effectively reduced its work force by about 5% over five years.
Over staffing resulted in a miserable performance in terms of productivity
measures such as ‘business per employee’, in addition to a huge wage bill.

Retaining talent was another concern. 'That's a big issue. Earlier, some of the
best talent used to join us. Today, that's certainly not the case,' said SBI
Managing Director Bhattacharya. Due to Government restrictions, PSU banks
including SBI could not pay competitive pay packages to the private banks and
foreign banks. As a result, the more talented staff would often change jobs.
Many foreign and private sector banks had succeeded in hiring staff from the
PSU banks, which ironically went to prove that the PSU banks did have the
talent but this was not properly harnessed. In contrast, ICICI was able to retain
its talent which ensured successful implementation of strategic moves.

The employees of SBI had been for long demanding a raise in their
remuneration and had even gone on a strike on several occasions to protest
against low compensation levels. A possible solution to the compensation issue
was to implement ESOP (employees’ stock option) schemes, so that when the
equity market values increased, the additional value to the employees would
compensate for the lower wages.
However, there was a catch with regard to stock market prices. The current
regulation allowed foreign investors to hold a maximum of 20% equity in PSU
banks, as against up to 74% foreign shareholding permitted in private sector
banks. There was a strong demand from foreign investors for good Indian
banking stocks as was reflected by the fact that over 71% of ICICI equity
shares were held by foreign investors, either directly or through the route of
ADRs. The ICICI shares at that time were trading at a P/E multiple of 36 times,
as compared to the P/E multiple of merely 11 times in case of SBI. ICICI Bank
had a much higher market capitalization of Rs. 817 billion ($19.87 billion) as
compared to SBI’s Rs. 715 billion ($17.39 billion), even though ICICI Bank
was a much smaller bank with a lower EPS as compared to SBI. Market
operators felt that if the upper limit of 20% foreign shareholding in PSU banks
was relaxed, it would allow free play of market forces to determine a fair
valuation of SBI and other PSU banks’ equity shares.

A bigger challenge was to change the mindset at SBI, but it already seemed to
be happening. Competition was forcing the management to shed its inertia to
reach out to the customers. Sharing this perspective, the SBI Managing
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Director T.S. Bhattacharya elaborated on the change factor in SBI, "What did
an MD do earlier on? He came into the office, attended meetings, pushed files,
called on the bigwigs of the industrial world, met top RBI and finance ministry
officials and then went home. Now, it is not so. We go out and meet Maruti
dealers even in places like Jorhat, Jabalpur and Guwahati." Managers
throughout the hierarchy in SBI have realized that it was hard work. "The
potential was always there to be engagingly different. We are now working
towards being so.” [Business India, Dec’05]

Had the efficiency-quotient at SBI really improved? Some of SBI clients would
tend to agree, like the director of a steel company who said, "The speed at
which SBI now operates is far higher. In the case of my working capital needs,
SBI has already agreed to it, while other banks have yet to clear the paper-
work. On the project finance side, they are still slow. These days, even the
hierarchy involved in decision making has been flattened. For a growing
company like ours, this is very important." However, complaints of poor
customer service persisted. Complex documentation and slow processing of the
loan applications was reportedly a major irritant.
From a social point of view, SBI would remain a “mass” banking institution as
compared to foreign banks which specialized in “class” banking and catered to
the banking needs of only the top layer of customers. Most foreign banks also
specialized in a niche market. For example, Bank of America strategically exited
the retail business in India way back in 1999, and has since then focused on
corporate and investment banking. ICICI has on the other hand built a business
model based on universal banking and even diversifying beyond banking, Its
advertisement campaign highlighting “Opportunities Unlimited” for future
expansion of the bank, clarified its intention to becoming a financial
powerhouse covering a whole gamut of financial services under one roof.
Though SBI’s advertisements emphasized “Pure Banking, Nothing Else”, the
bank seemed to follow a business model similar to the ICICI bank.

Leadership

Building great institutions required decision making autonomy as well as

dynamic leadership. A distinct advantage that ICICI had was the complete
independence of its board of directors to decide and implement strategy, under
the stable leadership of Chairman K.V. Kamath. In case of PSU banks
including SBI, the finance ministry called the shots and there were bureaucratic
and political interferences at all levels. As the majority shareholder, the
Government appointed the Chairman/Head of the PSU banks, and normally the
Chairman’s tenure was far too short to develop and implement any long term
strategy. Since early 1980s, the longest tenure that any SBI chairman had
served was just 3.5 years by A.K. Purwar who retired in 2006. Bhatt would be
the first SBI head to have five years’ tenure after a long time.

Post 2009 Scenario

The threat of severe competition in the post 2009 scenario was worrying Bhatt,
“Some say foreign banks will enter India in a big way. However, it all depends
on the manner and phases in which the RBI will allow foreign banks to enter
India. This will be the major determinant. There will be substantial changes if
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any consolidation takes place in the Indian banking system”. Public sector
banks would hope that the foreign banks would be allowed to enter India
slowly rather than opening the flood gates all at once.

On the global front, SBI acquired a majority stake in a few small foreign banks
to expand its international operations, including the Indian Ocean International
Bank in Mauritius, Giro Commercial Bank in Kenya and PT Bank IndoMonex
in Indonesia. There was also a rapid increase in the number of SBI’s foreign
offices/branches from 54 in 2005 to 70 in 2006, expanding its operations
overseas. No major acquisitions were in the pipeline.

The Indian Government and the Reserve Bank of India had been encouraging
consolidation in the Indian banking industry by way of mergers and
acquisitions (M&A), to create a few large and strong global size banks instead
of a large number of small and weak banks which were unlikely to stand the
heat of competition from foreign banks. A number of M&A moves had taken
place involving several private sector banks, and a few involving the public
sector banks. In May 2007, a PSU bank, Canara Bank was reportedly trying to
take over another PSU bank, Dena Bank, but the move was resisted by the
employees of Dena Bank. SBI was increasingly integrating operations with its
seven associate banks, out of which some were likely to be merged with SBI
itself to consolidate operations.

Capital Adequacy and risk management

SBI had consistently maintained a higher capital adequacy ratio than the
minimum required. Capital adequacy norms prescribed the minimum amount
of capital that a bank should have as a percentage of its risk-weighted assets. In
2006, banks in India were required to maintain a capital adequacy of 9%, while
SBI’s capital adequacy stood at 11.88%. In fact at one time, in March 1998 it
was as high as 14.58%. While for risk coverage, higher ratio was better, an
unduly high ratio could be considered as burning the capital because the excess
capital could have supported a higher volume of business and help in earning a
return for the shareholders.

From 31 March 2008, banks in India would be required to implement Basel-II

norms for risk management and capital adequacy. They would need to raise
further equity resources to meet capital adequacy norms for their expanding
business. In June 2007, ICICI Bank pre-empted others in raising capital and
entered the capital market (for the third time in two years) with an additional
equity issue of $5 billion, partly domestic and the remaining in overseas
markets. The issue met with an encouraging response from institutional
investors, and the domestic part of the issue was fully subscribed within 20
minutes of its opening. SBI was also planning to raise a further equity of $1.5
billion by end 2007.

The Indian growth story remained intact and was likely to catch further
momentum. With a GDP growth of 8-10% being targeted for the next 10 years,
and banking business expected to grow at 30% per annum, the Indian banking
industry had the potential of writing a success story even brighter than the IT
sector, provided the PSU banks could put their houses in order and achieve
sustainable competitiveness.
 - 14 - CS-08-030

Stakeholders from within and outside the SBI were anxiously waiting for the
financial statements for the year ended March 2007, which would reflect the
impact of innovations and strategies implemented by Bhatt and his
predecessor. Bhatt knew the agenda for innovations was far from complete, but
before deciding on the future strategy it was important to understand the key
success factors in the emerging scenario and make a critical assessment of
SBI’s performance vis-à-vis the competition. As he received the financial
statements of ICICI Bank and his own, with a sense of urgency he set out to
make a comparative analysis using data given Exhibits 1-3 at the end as well as
other information available.
 - 15 - CS-08-030

Exhibit-1: SBI’s Balance Sheets and Profit & Loss Accounts

A. SBI Balance Sheets for the years 2003 to 2007

All figs in crores Rs

State Bank of India Balance Sheet

Year Mar 07 Mar 06 Mar 05 Mar 04 Mar 03

SOURCES OF FUNDS :
Capital 526.3 526.3 526.3 526.3 526.3
Reserves Total 30,772.26 27,117.79 23,545.84 19,704.98 16,677.08
Deposits 435,521.09 380,046.06 367,047.52 318,618.67 296,123.28
Borrowings 39,703.33 30,641.24 19,184.31 13,431.33 9,303.62
Other Liabilities & Provisions 60,283.15 55,829.23 49,767.97 55,791.18 53,521.84
TOTAL LIABILITIES 566,806.13 494,160.62 460,071.94 408,072.46 376,152.12

APPLICATION OF FUNDS :
Cash & Balances with RBI 29,076.43 21,652.70 16,810.33 19,041.28 12,738.46
Balances with Banks & money at Call 22,892.26 22,907.30 22,511.77 24,525.34 32,442.56
Investments 149,148.88 162,534.24 197,097.91 185,676.48 172,347.90
Advances 337,336.49 261,800.94 202,374.45 157,933.54 137,758.46
Fixed Assets 2,818.87 2,752.93 2,697.69 2,645.11 2,388.55
Other Assets 25,533.20 22,512.51 18,579.79 18,250.71 18,476.19
TOTAL ASSETS 566,806.13 494,160.62 460,071.94 408,072.46 376,152.12
Note: 1 crore = 10 million

B. SBI Profit & Loss Accounts for the years 2003 to 2007
P&L Account - State Bank of India

Year Mar 07 Mar 06 Mar 05 Mar 04 Mar 03

I. INCOME :
Interest Earned 39,491.03 35,979.57 32,428.00 30,460.49 31,087.02
Other Income 7,498.94 7,528.16 7,121.73 7,671.06 6,454.36
Total 46,989.97 43,507.73 39,549.73 38,131.55 37,541.38
II. EXPENDITURE
Interest expended 23,436.82 20,390.45 18,483.37 19,274.18 21,109.46
Payments to/Provisions for Employees 7,932.58 8,123.05 6,907.35 6,447.69 5,688.72
Operating Expenses & Administrative Expenses 1,942.13 1,808.99 1,506.06 1,300.41 1,083.71
Depreciation 631.51 763.68 752.21 698.34 493.69
Other Expenses, Provisions & Contingencies 5,422.34 5,516.29 5,379.62 5,440.15 3,898.66
Provision for Tax 3,103.11 2,140.71 2,447.22 1,566.06 2,148.88
Deferred Tax -19.83 357.89 -230.62 -276.28 13.26
Total 42,448.66 39,101.06 35,245.21 34,450.55 34,436.38
III. Profit & Loss
Net Profit 4,541.31 4,406.67 4,304.52 3,681.00 3,105.00
Source: www.capitaline.plus
 - 16 - CS-08-030

Exhibit-2: ICICI’s Balance Sheets and Profit & Loss Accounts

A. ICICI Balance Sheets for the years 2003 to 2007

Balance Sheet ICICI Bank

All figs in crores Rs
Year Mar 07 Mar 06 Mar 05 Mar 04 Mar 03
SOURCES OF FUNDS :
Capital 1,249.34 1,239.83 1,086.76 966.4 962.66
Reserves Total 23,413.92 21,316.16 11,813.20 7,394.16 6,320.65
Deposits 230,510.19 165,083.17 99,818.77 68,108.58 48,169.31
Borrowings 51,256.03 38,521.91 33,544.50 30,740.24 33,178.53
Other Liabilities & Provisions 38,882.96 25,897.60 22,172.11 18,940.17 19,129.12
TOTAL LIABILITIES 345,312.44 252,058.67 168,435.34 126,149.55 107,760.27

APPLICATION OF FUNDS :
Cash & Balances with RBI 18,706.88 8,934.37 6,344.90 5,408.00 4,886.14
Balances with Banks & money at Call 18,414.44 8,105.85 6,585.08 3,062.64 1,602.86
Investments 91,257.84 71,547.39 50,487.35 42,742.86 35,462.30
Advances 195,865.60 146,163.11 91,405.15 62,647.62 53,279.41
Fixed Assets 3,923.42 3,980.71 4,038.04 4,056.41 4,060.73
Other Assets 17,144.26 13,327.24 9,574.82 8,232.02 8,468.83
TOTAL ASSETS 345,312.44 252,058.67 168,435.34 126,149.55 107,760.27
Note: 1 crore = 10 million

B. ICICI Profit & Loss Accounts for the years 2003 to 2007
P& L Account ICICI Bank

Year Mar 07 Mar 06 Mar 05 Mar 04 Mar 03)

I. INCOME :
Interest Earned 22,994.29 14,306.13 9,409.89 9,002.39 9,368.06
Other Income 6,962.95 5,062.22 3,539.67 3,066.83 3,165.32
Total 29,957.24 19,368.35 12,949.56 12,069.22 12,533.38

II. EXPENDITURE
Interest expended 16,358.50 9,597.45 6,570.89 7,015.25 7,944.00
Payments to/Provisions for Employees 1,616.75 1,082.29 737.41 546.06 403.02
Operating Expenses & Administrative Expenses 1,510.43 1,126.66 850.41 679.34 528.83
Depreciation 544.78 623.79 590.36 539.44 505.94
Other Expenses, Provisions & Contingencies 6,281.74 3,844.55 1,676.29 1,389.31 2,373.45
Provision for Tax 981.25 688.22 176.49 269.59 214.55
Deferred Tax -446.43 -134.68 342.51 -6.88 -642.59
Total 26,847.02 16,828.28 10,944.36 10,432.11 11,327.20
III. Profit & Loss
Net Profit 3,110.22 2,540.07 2,005.20 1,637.11 1,206.18

Source: www.capitaline.plus Note: 1 crore = 10 million

 - 17 - CS-08-030

Exhibit-3: Reserve Bank of India: All Scheduled Banks-Business in India.

Select Statistics
Last Reporting Friday March > > > 1990-91 2005-06 2006-07(P)

1 2 3 4
Number of reporting
banks 299 289 255

Aggregate deposits 1,99,643 2185810 2675595

Investment 76,831 749682 821448

Bank credit 125575 1572781 1998617

Cash-Deposit Ratio 13 6.6 7.5

Investment-Deposit Ratio 38.5 34.3 30.7

Credit-Deposit Ratio 62.9 72 74.7

http://www.rbi.org.in/scripts/BS_ViewBulletin.aspx, visited June 2007. (P): Provisional.
 - 18 - CS-08-030

References
- Ross Peter S., Commercial Bank Management, Irwin McGraw-Hill, Boston,
International Edition, 1999.
- Hitt Michael A., Ireland Duane R. and Hoskisson Robert E., Strategic
Management Competitiveness and Globalization, South-Western Thomson
Learning Publication, 2001.
- Van Horne James C., Financial Management and Policy, Prentice Hall of
India, 1998.
- Business India, December 2005 and December 2006.
- India’s Best Banks, The Financial Express and Ernst & Young, March 2007.
- Economic Times, Various issues
- CMIE Report on Banking, March 2007
- Reserve Bank of India Bulletin: Various issues
- Live Mint – Wall street Journal, New Delhi, Various issues.
- www.statebankofindia.com
- www.icicibank.com
- www.capitaline.plus
- http://www.rbi.org.in/scripts/BS_ViewBulletin.aspx