The Reserve Bank (RBI) made the announcement on Tuesday, dashing the hopes of 17 other contenders including Citigroup, Standard Chartered, HDFC and ICICI Bank.
IDBI has been issued with a draft scheme of amalgamation and the central bank has given both IDBI and United Western two weeks to consider the scheme and revert. Feedback is also being sought from members of the public, including the banks' shareholders, depositors and creditors.
Suitors were attracted to United Western for its network of 230 branches. Current RBI regulations restrict branch expansion by a fixed number of licenses issued each year.
Citigroup for example, despite offering banking services in the country since 1902, has only 39 branches in 27 Indian cities. Earlier this year, the US bank made a play for Ganesh Bank of Kurundwad but eventually lost to Federal Bank.
Standard Chartered has also used M&A as a means of growing its presence in the region, most recently purchasing Union Bank of Pakistan.
Acquiring United Western gives IDBI instant access to an extensive network of branches and an opportunity to increase its footprint.
It is not clear what criteria the RBI used to evaluate the various bidders. Though analysts were sceptical that a foreign bank would emerge victorious in this race, given the potential cultural issues involved in post-merger integration. The RBI is also following past precedents in awarding United Western to a state-controlled bank.
IDBI will offer Rs28 (60 US cents) for every fully paid share of United Western representing an outlay of around Rs1.5 billion to shareholders.
The price represents a 30% premium to United Western's Tuesday closing price of Rs21.5. The bank's share price fell on 2 September when the RBI placed the bank on a moratorium for erosion of its net worth. However, it recovered a few days later on general bullishness and because the bidder quality seemed to reassure investors that their interests would be protected.
Analysts suggest another Rs4-5 billion of recapitalisation costs will also be required. IDBI closed at Rs62.25 in a bullish Mumbai market with the Sensex gaining 110 points.
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