Could SG win the bidding war for GDB?

The French bank believes its less aggressive bid for Guangdong Development bank could play in its favour in the race to buy China''s 12th largest lender.

French bank SG says it is still in the running to win the bid for China's 12th largest lender nationally and the second largest lender in Guangdong province. Senior executives claim the race is far from over despite rumours that a rival bid from Citigroup bid has been 'informally' accepted.

"We haven't received any notification from the Chinese authorities that our bid has not been successful," comments Jean-Louis Mattei, SG's head of international retail banking, speaking by telephone from Shanghai.

Sources close to Citigroup also confirm that the US bank - the largest in the world by assets and net income - is awaiting approval from all the relevant government authorities. "Anything could still happen," the Citigroup executive acknowledges.

The bidding for the troubled Chinese bank, which has a capital adequacy ratio of just 2%, has been in progress since summer last year. The long delay reflects the difficulty the Chinese government has had in making up its mind.

The main sticking point appears to be that both foreign bids require the rewriting of existing regulations, since both players want stakes in excess of the 20% cap by a single foreign buyer, or 25% by joint foreign buyers. SG's bid for 24% of the troubled state-owned bank contravenes existing policy, but not to the same degree as Citigroup's which is looking for up to 45%.

The Citigroup bid is all the more ambitious since private equity player Carlyle Group is also looking for a 10% stake. One observer argues that it would be very natural for Carlyle to sell out to Citigroup in a few years time, potentially giving the US player an absolute majority.

In contrast, SG's partners are all Chinese (apart from a 1% stake sought by the French development agency), with Sinopec looking to buy 21% and Huawen ( an investment vehicle attached to the China Daily), aiming for a 19% stake. Two other Chinese investors, Jilin Trust and Dalian Shide are each seeking 10%.

In addition, SG's 24% stake does not amount to a blocking stake of 33.1% which, under Chinese banking regulations negates the two-thirds majority required to change the company's ordinances, raise capital or carry out mergers and acquisitions. Citibank's stake alone, even without Carlyle, would give it a veto position on all these issues.

The smaller SG stake means it would have to work with its Chinese partners rather than running the bank on its own terms, as the Citigroup bid would allow if successful. French bankers believe this is more harmonious and could be a more appealing model to Chinese regulators on the back of widespread Chinese concerns that foreign banks are acquiring too many of their assets.

According to Moody's, about 12% of Chinese banking equity (from the big four state banks to credit cooperatives) is in the hands of foreign investors.

"Any country's financial industry is considered strategic," points out Mei Yen, Moody's China bank analyst. "In China you have the unusual situation of key banks such China Construction Bank and Bank of Communications being sold only to foreign investors via foreign IPOs. There is a great deal of resentment about this."

In terms of firepower and prestige, however, Citigroup is undoubtedly the winner. The US bank recorded global net income of $17 billion in 2004, compared to SG's $3.72 billion. By that metric, on the Fortune 50 Global Financial Institutions list, the US bank is the most profitable in the world, while SG comes in at number 28 behind French banks BNP Paribas and Credit Agricole.

Citigroup also has a longer track record in investing in, and working with, Chinese banks following its acquisition in 2003 of a 4.6% stake in Pudong Development Bank, one of five banks listed on the mainland stock market. In December, Citigroup announced it was quadrupling its stake in PDB to 19.9%.

SG was also in the bidding for Huaxia Bank in September last year, but lost out and Huaxia Bank ended up selling a combined 14% stake to Deutsche Bank (9.9%) and private European bank Sal. Oppenheim for $329 million.

Sources close to the Huaxia deal suggest that the Chinese side was interested in a large international group because it has international plans of its own. As regards GDB, neither side has released many details of the bids they have submitted to the Chinese government.

In cash terms they are broadly similar, with Citigroup making the highest bid, Rmb 24.1 billion ($2.98 billion), while SG has offered Rmb 23.5 billion and Ping An Insurance Rmb 22.6 billion. However, the three bidders have different requirements in terms of the size of government guarantees to hedge against asset deterioration. Ping An's bid is said to be the weakest in this respect because it requires the strongest guarantees.

On the surface, it may seem surprising that foreign banks are piling into Chinese banks given that under WTO-mandated opening measures they may roll out their own branch networks next year. But this is because the freedom accorded foreign banks from next year is largely cosmetic.

The high capital infusion the Chinese regulatory authorities require per branch and their veto rights on where foreign players can open branches make the strategy less attractive than buying stakes in local Chinese banks to exploit their links to retail customers. Retail banking is the most important battleground because lending to Chinese retail customers is the only segment closed to foreign investors.

The sector opens up next year and that makes GDB's 500 branches in China's wealthiest province very attractive, especially for SG, which has five branches in China, compared to eight for Citibank and 10 for HSBC. "Such a branch network would give us a distribution system for selling products, for example from our existing asset management joint venture with Bao Steel," Mattei concludes.

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