BANKING: Citigroup, HK Investors Orphan China Banks

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Bottom line: Foreign investors will give China bank IPOs a cold shoulder for the rest of this year due to concerns of a bad debt crisis, potentially driving valuations even lower than their already depressed levels.

Zheshang Bank delays IPO plan

A couple of banking stories are spotlighting the rapidly fading attraction of Chinese lenders to foreign investors, who fear the banks are standing on the cusp of a bad loan crisis fueled by China’s cooling economy. The first item has Citigroup (NYSE: C) selling its 20 percent stake in China Guangfa Bank for $3 billion, after original plans to list the bank collapsed due to lack of investor interest. The second item has China Zheshang Bank also delaying plans for a $1 billion Hong Kong IPO for similar reasons.

Both developments come as Chinese banks listed in Hong Kong now trade at extremely low multiples due to concerns about their individual health and China’s broader economic slowdown. Leading lender ICBC (HKEx: 1398; Shanghai: 601398) now trades at a paltry price-to-earnings (PE)  multiple of just 5, while Bank of China (HKEx: 3988; Shanghai: 601398) trades at an even lower 3.8.

Sentiment towards these banks isn’t likely to improve anytime soon, even though few if any are likely to fail. But some could be forced to consolidate at low prices or accept government bailouts if their bad debt loads become too heavy. That prospect is most likely what’s casting a cloud over the market for new bank listings.

Let’s begin with Citigroup, which first purchased its 20 percent stake in Guangfa back in 2006 when China began allowing foreign banks to invest in their Chinese counterparts. Now Citi says it is selling that stake to China Life (HKEx: 2628; Shanghai: 601628) for an undisclosed amount, though other media are reporting the price as $3 billion. (company announcement; English article; Chinese article)

Citi originally bought the stake for $610 million a decade ago, as part of a wave of strategic investments by foreign banks in their Chinese peers. But those investment mostly proved to be disappointments, since the foreign partners failed to derive any strategic benefits from the partnerships. Citi also previously purchased a smaller stake in Shanghai-based SPD Bank (Shanghai: 600000), but later sold that in 2012 for similar reasons.

The latest reports note that Citi had been trying to get rid of the stake for a while, and failed at 2 previous IPO attempts. Failure to find any strategic advantage from their China investments was a primary reason driving earlier sales of bank stakes by their foreign owners, but now the bigger reason could be growing concerns about health of the banks themselves.

Money-Moving Difficulties

Those kinds of concerns were most likely the major factor behind Zheshang Bank’s decision to postpone its plans to raise up to $1 billion through a Hong Kong IPO. (English article; Chinese article) Some media reports say a primary reason for delaying the plan was recent difficulties many Chinese investors are facing when trying to move their money outside the country.

Those issues are probably a real factor, since Beijing has made moving money offshore more difficult in recent months to try and relieve pressure on the yuan, which has lost around 5 percent of its value over the last year. In this instance China’s foreign exchange regulator is taking the unusual step of denying its role in the IPO’s delay, perhaps trying to show that Zheshang itself is responsible for the lack of interest in its shares.

I suspect that reality is somewhere in between. The truth is that China is indeed cracking down on mainland investors who use backdoor means such as fake trade invoices to move their money out of the country. Thus that could be a factor here. But I do also suspect that international investors are also giving the listing a thumbs down.

At the end of the day, these 2 moves don’t bode well for more Chinese bank listings for the rest of the year. If I were a contrarian I might say that now looks like a good buying opportunity, since valuations are quite depressed and few banks are likely to actually fail. But I do think the worst is still in the future for these banks, which could quickly see their bad debts mount and be forced to accept government rescue packages that could dilute or even completely wipe out shareholders.

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