China Construction Bank’s purchase of Brazil’s Banco Industrial e Comercial (BicBanco) for about $730 million in cash is the latest push by a Chinese bank overseas.
Chinese banks have been gradually following their clients outside of China, many of whom are expanding in Latin America. ICBC bought 80% of Standard Bank’s Argentine division last year, and has hung out its shingle in Peru and Brazil.
Private companies such as automaker Jac Motors as well as tech firms Lenovo and Huawei have made large investments in Brazil, Latin America’s largest economy. But the biggest investors have been state controlled such as China National Petroleum Corp and Cnooc, which in their latest move acquired rights to drill in Brazil’s Libra offshore area last month.
“The Chinese government is clearly upping its investments in Brazil and turning its gaze to the banking industry,” said Eduardo Rosman an analyst at BTG Pactual.
China’s demand for raw materials has made it Brazil’s biggest trading partner. BicBanco is well placed to take advantage of these flows as working capital loans and trade finance account for nearly 75% of Bicbanco's total loans.
Trade between China and Brazil has almost tripled in value between 2011 and 2012, jumping from $44 billion to $125 billion in that period alone, according to Oxford Economics analysts.
“Trade growth between Brazil and China is coming from the increasing importance of both countries within the international marketplace,” said Claeiber Abreu at JP Morgan in Brazil.
However, Chinese banks have moved cautiously. Unlike their US, European and even Japanese peers, Chinese banks have largely remained domestic institutions. In recent years they have been expanding aggressively in Hong Kong on their doorstep to gain experience in an open market and improve their risk management. Tentative steps at expansion further afield have largely been directed at emerging and resource rich markets. Deal sizes have also been relatively small.
CCB's purchase is only equivalent to about 0.4% of CCB's shareholders' equity, and Bicbanco's assets are equivalent to about 0.3% of CCB's assets, as of September 30.
Timing of the transaction is also cautious. In 2010 Brazil’s economy was growing at a 7.5% annual clip and local banks’ valuations were climbing. CCB bid for WestLB’s Brazilian assets last year but was out priced by Japan’s Mizuho Financial Group.
Since the boom days of 2010 the economy has cooled sharply and grew at a just 0.9% last year, and so have banks’ share prices.
CCB is paying just 1.1 times historical book value for BicBanco. The bank traded at around 0.96 times reported book value prior to the announcement and at 0.6 times book before rumours of a potential sale prompted a rally.
The sharp slowdown in Brazil’s economy has taken its toll on the country’s banking sector and non-performing loans have risen sharply. BicBanco, which focuses on small- and medium sized enterprises, is no exception.
“BicBanco had serious credit quality issues and has been delivering ROE well below 10%,” said Carlos Firetti, an analyst at Bradesco.
CCB has taken its time looking through the São Paulo-headquartered lender’s books as a result of the economic slowdown, said people familiar with the deal.
“BicBanco has been implementing a major overhaul, trying to improve its loan portfolio by increasing provisions related to the stock of bad credits originated in 2010,” said Eduardo Rosman an analyst at BTG Pactual.
As a result, its profitability shrank and ratings agency Moody’s recently downgraded BicBanco’s credit rating from investment grade.
For CCB, the second largest commercial bank in China by assets and loans, the deal is an important strategic move that gives it a banking license and a platform to lend in Brazil to its Chinese customers and local businesses.
It is CCB’s first acquisition outside of Greater China. The deal took a long time to gain the support of senior management, said people familiar with the matter. "A lot of patience was needed to clinch this deal," said one of them.
CCB, the world’s fifth largest listed bank by market capitalization, has grown overseas but up until now it has adopted an organic strategy. CCB’s overseas network includes branches in Hong Kong, Singapore, Frankfurt, Johannesburg, Tokyo, Seoul, Ho Chi Minh City, New York, Sydney, Melbourne and Taipei.
The transaction marks CCB’s entry into Latin America and the first time a Chinese bank has acquired a controlling stake in a Brazilian bank.
CCB is buying all of the shares owned by BicBanco’s founding Bezerra de Menezes family, led by Jose Bezerra de Menezes. CCB is buying 72% of BicBanco’s shares for 1.62 billion Brazilian reais ($723 million), or 8.90 Brazilian reais ($3.99) each.
Citigroup advised BicBanco and Morgan Stanley advised CCB.
Once the acquisition is completed, CCB will make a mandatory tender offer aimed at BicBanco’s minority shareholders on the same terms.
The deal has been about two years in the making. The Bezerra de Menezes family wanted to monetize its holding as the next generation were not stepping up to run the lender, according to a person familiar with the family’s thinking.
As a result, BicBanco’s top managers toured Japan, South Korea and China courting prospective buyers.
The deal is expected to close next year and is subject to approval by Chinese and Brazilian banking and antitrust regulators. It also needs the Brazilian government to authorise, via a presidential decree, the presence of a foreign shareholder in the bank’s voting capital.
However, the deal comes at a time of an increasing backlash against Chinese investment in Brazil. A 2010 law restricted land purchases by foreigners, and was aimed at Chinese investors.
Cnooc and CNPC's participation in the consortium that won rights to drill in Brazil’s Libra offshore area last month prompted widespread protest against foreigners exploiting Brazil's resources.
But analysts were upbeat the deal will go through even if it does take time.
“The regulatory authorities have participated in the process and the sale should be concluded close to the end of the year,” said Carlos Firetti, an analyst at Bradesco after talking with BicBanco’s management.
He added that, in similar processes, such as the acquisition of Redecard by Itaú for example, Central Bank approval takes three to six months, and a presidential decree (approving a controlling stake by a foreign bank) can take longer.