Zheshang Bank IPO poses big test for market

The lender, potentially targeting some $1.9 billion from the listing, looks set to be Hong Kong's largest bank IPO in more than two years.

China Zheshang Bank started pre-marketing on Wednesday for its initial public offering in Hong Kong, egged on by tentative indications that investors are regaining their confidence as the stock market stabilises.

Based on the bank’s $7.6 billion book value as of the end of last year, the Hangzhou-headquartered bank could raise approximately $1.9 billion, assuming a standard 25% free float. That would make it Hong Kong's largest bank IPO since China Everbright Bank’s $3 billion listing in 2013.

According to the tentative timetable, Zheshang Bank will start bookbuilding next week with a view to listing on March 30. Citic CLSA, CICC, Goldman Sachs and ABC International are joint sponsors of the IPO.

Recent, albeit smaller, equity offerings in Hong Kong appear to have been well-received by the market, which may have encouraged the Zhejiang province-based commercial lender to push forward with its IPO plans.

Last month Chinese property developer Jiayuan International priced a $143 million IPO at the top end of its indicative price range and subsequently saw the share price gain 4% at the launch. In the secondary market, meanwhile, IBM achieved favourable pricing when it sold $150 million-worth of Lenovo shares as part of the year's first block trade.

Due to its larger size, though, Zheshang Bank’s IPO is likely to be a much tougher test of investor sentiment in Hong Kong, which has seen relatively few new equity issues so far this year after being crowned the world's leading IPO hub in 2015. 

Zheshang Bank's indicative deal size is more than double the city’s total IPO proceeds of $811 million so far this year, according to Dealogic data.

Adding to the challenge, Zheshang Bank will almost certainly have to sell its shares at a premium to other Chinese banks.

According to the China Banking Regulatory Commission, state-owned Chinese banks are forbidden to sell shares at below their book value. With Hong Kong-listed Chinese banks mostly trading at about 60% to 75% of their respective book values, the implication is that Zheshang Bank will have to market its deal at a valuation premium of at least 25% over its peers.

Aggressive strategy

Zheshang Bank is one of the 12 joint-stock commercial banks approved by the China Banking Regulatory Commission. Unlike city commercial banks, joint-stock commercial banks are recognised as nationwide lenders and own licences to operate cross-regional businesses.

While most large Chinese banks adopt a conservative business model, Zheshang Bank is more aggressive in terms of its business strategy and asset allocation. It has a much higher exposure to riskier interbank and investment assets, which generates higher yields than the traditional deposit and lending business.

The bank grew its financial assets (including trust plans, asset management plans, and wealth management products) to 47% of total assets last year from 8% in 2012. The bank said the transition from low-risk lending and credit business to high-risk investment products was a result of interest rate liberalisation and narrowing interest rate spreads.

Such a strategy allowed the bank to report strong bottom-line growth of 38.4% last year, despite falling margins and rising credit costs. By comparison, China’s so-called Big Four banks reported average earnings growth of about 0.5% in the same period.

Zhejiang is known for its large number of start-ups and small- and medium-sized enterprises. It has nurtured some well-known technology companies, including Alibaba and Dianrong.com. Zheshang Bank’s lending to SMEs accounted for 50.3% of its total loans in the first nine months of last year.

Despite the high exposure to the riskier SME credit, the bank has managed to keep its non-performing loan ratio lower than other Chinese banks. Its NPL ratio was 1.22% as of the end of September last year, the lowest among all of the country's 12 joint-stock commercial banks, Citic CLSA said in a report issued to clients on Wednesday.

Even so, one doubt prospective investors might have is whether Zheshang Bank can maintain the strong earnings growth of its investment business at a time when Chinese economic growth is slowing. Profit margins from its lending business are also likely to be squeezed if China's central bank continues cutting interest rates.

According to Citic CLSA estimates, the bank’s NPL ratio looks set to increase to 1.6% by the end of this year and to 1.9% by end-2017.

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