Sunday, May 15, 2011

Malaysia Banking Sector consolidation third round?

THE banking landscape, which has gone through considerable reform and consolidation, is set for exciting changes again. This time, it will be driven by bigger players that aim, through a market-driven process, to gain further strength and traction as competition intensifies.
With the process of liberalisation well under way, the competition comes from all sides as different sets of players emerge. Apart from the fight in the traditional retail market, new entrants are tapping the global, commercial, Islamic, wholesale and investment banking space.
On the corporate level, bank mergers and acquisitions are coming alive again with Hong Leong Bank leading the charge through its recent acquisition of EON Bank.
Yvonne Chia expects the fight for profitable market segments to intensify in Malaysia.
In fact, a number of bank stakes are up for sale. Dubbed banking consolidation round three, the resulting combinations will be keenly watched.
M&A scenarios
The hottest deal now is the sale of the 25% stake held by the Abu Dhabi Commercial Bank (ADCB) inRHB Capital Bhd. So far, three to four parties have submitted their bids for the stake for which the asking price is said to be around two times book value or RM10 per share.
At RHB, the talk on M&A revolves around two elements sale of the ADCB stake and even RHB itself.
Speculation on a possible RHB/CIMB merger has resurfaced. It was first mentioned as part of a game plan when CIMB took over Southern Bank Bhd, and RHB was seen as the next potential takeover target for CIMB.
The rumours on a possible RHB/CIMB merger were stoked following a recent statement by CIMB chief Datuk Seri Nazir Razak on its ambition to be among the top three in Asia in terms of market capitalisation.
No doubt there will be duplication in the investment and corporate banking business, but that is seen to be the fastest route to the top among Malaysian banks in terms of market capitalisation.
Some analysts consider CIMB to be strong enough to do another merger, following its merger with Southern Bank five to six years ago.
Datuk Seri Abdul Wahid Omar ... ‘The industry will have to go through a consolidation phase.’
The Employees Provident Fund (EPF) which holds a 45% stake in RHB Capital, will be looking at a compelling price and reason to sell, having put the bank on a firmer foothold and doubled its profits.
Another statement that had the market talking was the Prime Minister's statement that he might consider a higher stake in AMMB Holdings Bhd by the Australia New Zealand Banking Group (ANZ)which currently has a 24% stake.
“There's no smoke without a fire.'' says an analyst. Reports had speculated that AMMB chairman Tan Sri Azman Hashim, who indirectly holds a 17% stake, may be looking to sell out.
The limit on foreign shareholding in banks is 30% but applications for stakes exceeding that threshold may be considered on a case-by-case basis.
ANZ is reported to be one of the potential bidders for the ADCB block; if ANZ succeeds in buying a stake in RHB, it would need to merge AMMB with RHB, analysts noted.
Another potential M&A may be from the Alliance Financial Group (AFG), whose strategic shareholder, Langkah Bahagia, is looking to exit. Langkah Bahagia effectively owns 14.8% of AFG via Vertical Theme which is a joint venture between Langkah Bahagia (51%) and Temasek (41%) that collectively owns 29% of AFG.
Tan Sri Azlan Zainol ... ‘Eventually there will be probably four or five banking groups.’
DBS is reported to be another bidder for the stake in ADCB. If it does buy into RHB Capital, AFG could be merged with RHB or Temasek could sell off its stake in AFG.
Push factors
The relatively saturated domestic banking market is a natural push factor for larger banks to sustain and expand their dominance locally, notesMalaysian Rating Corp Bhd (MARC) vice-president and head of financial institution ratings Anandakumar Jegarasasingam.
As for smaller banks, consolidation within themselves will help to ensure such an exercise takes place on their own terms.
“The business of banking has evolved into one where economies of scale in funding and lending activities is of great importance, thus acquisitions are preferred over organic growth by those seeking to enlarge their franchise,'' he says.
“Ambitions of certain banking groups to achieve regional flagship status require the creation of a stronger domestic franchise that can, in turn, support their regional ventures,'' he explains.
Thinning margins also force banks to look for efficiencies; in Malaysia, the margin is said to be around 3% compared with Singapore (2.5%) and Indonesia (5%).
Yvonne Chia, group managing director of Hong Leong Bank, expects the fight for profitable market segments to intensify in Malaysia.
“The banks will need to address the challenging task of adopting risk-based pricing along Basle lines in a very liquid and low interest rate environment where the price war remains unabated,'' she tellsStarBizWeek.
The war for talent is unrelenting and will continue. Return on shareholders' funds of banks is increasingly under pressure with additional capital requirements under Basle 2/3.
“The need for scale efficiency, fee income, balance sheet and capital strength and deposit liquidity further powers the shift to consolidate, to capitalise on combined market coverage, talent and benefits of scale.
“Additional scale allows investment and encourage innovative business models to serve evolving market needs. In essence, it allows already successful franchises to take the business to the next level,'' says Chia.
Too big to fail?
Many who recall big banks in the West crashing during the recent financial crisis will ask: “When will they ever learn that big is not always beautiful?''
In fact, big banks may be less nimble and innovative. In extreme cases, their formation may lead to cartelisation, to the detriment of consumers.
However, that tendency could be limited as banks compete heavily against each other, an analyst points out. While in the area of mortgage loans, the rates are getting cheaper, it is noted that rates for credit cards stay consistently high among all the banks.
Analysts caution against systemic risk if the largest banks merge to form banks that can be deemed “too big to fail”.
“In the US, that threshold is 10% of loans. However, in the Malaysian context, there is already a high concentration of assets in the largest banks in Malaysia,'' says an analyst.
However, in the consolidation process, Bank Negara would be in a position to decide which mergers are in the best interest of the banking sectors and the economy in general, he adds.
Analysts view that consolidation generally results in better pricing, cheaper cost of funds as well as product reach.
As margins narrow with higher competition, banks are likely to come up with more products to earn more money, thus giving better choices to consumers.
“If the partner and chemistry are right, the M&A can work,'' says an analyst, pointing to the two major ones that have worked CIMB and Southern Bank in the retail space; the tie-up between AMMB with ANZ has resulted in profitability.
In some instances, for example, the card business, the merger between CIMB and Southern Bank has seen improved service levels, says an analyst.
“Eventually, there will be probably four or five banking groups,'' says Tan Sri Azlan Zainol, chairman of RHB Bank. “The consolidation will be driven by those with strong capital base, strong shareholders and the need to expand regionally.''
The management should not be restricted to just local talent. “We need the best,'' Azlan says. “We should not be too restrictive but look into hiring foreigners.''
According to Jegarasasingam, there is considerable fragmentation of market share among the smaller banks, with the three large local banks accounting for nearly 40%-45% of assets in the Malaysian banking sector.
The three small local banks (including EON Bank, which has since been acquired by Hong Leong Bank) account for only 7%-8% of banking sector assets.
Consolidation of Hong Leong and EON Bank will enable both groups to reach out to a larger customer base and most segments, with a broader range of products, services and solutions to reach out to over 300 branches and 1,200 self-service terminals.
“With the combined Hong Leong/EON Bank, we reassert our strong position in the retail segment. For the business segment, we have doubled up our market share, making us a more pre-eminent player. Internally, it will augment career opportunities for our employees with a larger and growing Hong Leong group riding on strong growth ambitions,'' Chia tells StarBizWeek.
The customer will also benefit as evolving market trends that include mass adoption of portable devices, mobile interaction and social networks point to the need to offer more relevant, integrated and seamless solutions and offerings.
Not a shrinking pie
Consolidation usually refers to shrinkage. And while the local pie is shrinking via this consolidation process, licences are issued to a host of global, commercial and Islamic banks from overseas.
According to Chia, these moves to consolidate and at the same time, expand certain niches, are specifically targeted.
“There are new segments that are under-served and a need to cater for the changes arising from Asean integration as well as the rise of India and China as more important trading partners.
In the investment banking space, the expansion from universal broker status has led to the creation of six non-bank backed investment banks alongside the existing nine bank-backed arms.
According to U Chen Hock, CEO of OSK Investment Bank, finding its own niche and achieving scale through regional operations is a primary way to sustain this new growth area.
The setting up of new Islamic banks also represented another dynamic growth area in the banking sector.
About 30 new banking franchises have been created and these include locally incorporated foreign banks, investment banks, Islamic banks and international Islamic banks, says Promod Das, head of financial institution ratings at RAM Ratings.
The regional theme will ensure expansion in businesses overseas. A few Malaysian banks are already making significant headways to seek growth outside Malaysia to tap the Asean growth and integration.
“Regional and cross-border investment, trade, foreign exchange and wealth flows will further accelerate the regionalisation imperative,'' says Chia.
Expansion in the banking sector is also via the e-equation' of mobile and online banking.
“The next generation of consumers expect easier and faster access to financial information with many expecting 24 /7, ubiquitous access.
“Providing digital age offerings will come under the spotlight and will redefine customer engagement and relationship management for the banking industry,'' says Chia of Hong Leong.
Datuk Seri Abdul Wahid Omar, president and CEO of Maybank, does not see these two trends consolidation and expansion as contradictory.
“The need for the banking industry to expand will be there as long as consumer and business demand grow to expand the economy and in turn it is the banking sector that also drives the economy,'' he says.
As Malaysia becomes a developed economy, it is the larger banks with their economies of scale and scope that will have the ability to provide a wider range of products and services at a lower cost.
“For this to happen, the industry will have to go through a consolidation phase where banks will grow not just organically but through acquisition of smaller banks,'' says Wahid.
The major issue is ensuring that the right banks are merged; there must be a business fit that complements each other with as little duplication as possible. Reducing this duplication will take time, given that retrenchments or relocation of employees could have regulatory restrictions as seen in the previous consolidation of 1999-2002, where banks were not allowed to retrench staff for two years following a merger.
“Experience has shown that banks can often see a decline in productivity upon a merger and in practice, mergers can take two to three years before they become value accretive, depending also on the valuation of the acquisition.
“In the interim, if investors see greater value elsewhere, the resulting depressed share price could have negative implications. for example, in raising capital,'' says an analyst.
Another issue for smaller banks in attracting foreign banks to become a strategic partner is that the limit on foreign shareholding could be a hindrance although this could be resolved on a case by case basis as indicated by Bank Negara.
Jegarasasingam of MARC cautions against small Malaysian banks from expanding into regional markets, which are generally risky and complex to manage.
In consolidation exercises, heavy competition among potential acquirers may, at times, result in a sub-standard due diligence exercise arising from the eagerness to close the deal ahead of competitors, he says.
”Any merger or acquisition should not merely be driven by attractive pricing. Such deals should also be evaluated in terms of the potential value proposition and the effort required for extracting results out of the deal.'' he adds.
Future direction
With so many measures taken to boost Islamic banking, repositioning the banking system in the competitive global arena as the international Islamic financial centre has become a priority, says Promod.
He also expects some relaxation of foreign equity ownership in domestic banks, removal of some existing restrictions on locally incorporated foreign banks and the issuances of more licences that will encourage competition.
Currently, commercial and investment banking businesses are held under different legal entities in a universal banking group, he notes.
“There may be more flexibility to remove these regulatory walls in search of administrative efficiency.
“Bank Negara's next financial sector blueprint might also create regulatory and market undercurrents to consolidate the role of financial co-operatives and development financial institutions, an area which was not prioritised in the last financial sector master plan,' he says.
Promod does not discount the possibility of a shake-out in the stand-alone investment banking space.
“There clearly has emerged a huge gap in franchise between the large investment banking powerhouses that are part of universal banking groups and their much smaller stand-alone rivals.
“This fiercely competitive space naturally does not favour smaller players,'' he says.
Datuk Charon Wardini Mokhzani, corporate and investment banking deputy CEO of the CIMB group, however, feels there is room for different types of investment banks on a growing capital market.

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