M&As among banks drawing to a close

By HARI RAJ

THE results are in! The banking sector's recently-released fourth quarter results for the 2006 financial year (FY06) were generally in-line with analysts' expectations, with some even doing better than expected (see chart for details) in performances largely attributed to better non-interest income. 

On a more macro level, recent developments including the liberalisation of foreign exchange policies and incentives in the property market such as the abolition of real property gains tax bode well for the sector. 

A foreign house reckons that Malaysian banks offer a good value proposition relative to the region, namely superior earnings growth at price earnings ratio discounts to the regional average, while their return on equity profile and dividend payments are also noteworthy. 

However, the word on the street is that the merger and acquisition theme that has dominated the sector for some time is drawing to a close.  

Indeed, after ANZ Bank's tie-up with AMMB and the Employees Provident Fund (EPF) wrapping up the tussle for RHB Bhd and RHB Capital Bhd, only the likes of EON Capital Bhd and Affin Bank are being touted as possible candidates for strategic partners. 

Though neither bank is likely to send investors' pulses racing, the foreign house believes that the entry of a credible foreign strategic partner is likely to result in an overnight perception re-rating that could drive their stock prices upwards in the short term. 

Likewise, Aseambankers reckons that the only excitement in the sector comes from the mergers and acquisitions (M&A) angle, but even that is skewed primarily towards EON Cap. 

Still, it looks like the fundamentals are holding firm, as the bank-backed research house points out that the underlying trend of banks' health is intact. Across the board, analysts noted lower growth in loan loss provisions, improved net non-performing loans (NPL) ratios and higher treasury gains on the back of a bond-market rally. 

Islamic appeal 

Last month, at the Global Islamic Financial Forum, Prime Minister Datuk Seri Abdullah Ahmad Badawi announced that foreign investment committee (FIC) rules had been relaxed to allow 100% foreign equity ownership in Islamic financial institutions in order to spur growth in the Islamic banking sector. 

The analyst fraternity largely viewed these measures favourably, with one noting that it may be just the push required for additional strategic alliances along with the possibility of local banks looking to hive off their Islamic subsidiaries. Other benefits mentioned included the possibility of more innovative product offerings, though competition remains a spectre. 

“Given the fact that other countries are looking to become Islamic hubs as well, it is this sort of commitment to liberalising the sector that will send a positive image and increase Malaysia's attractiveness. Hopefully, many such measures will follow in order to increase Malaysia's competitive appeal,” says an observer. 

It's a worthwhile initiative, as Aseambankers notes that sequential Islamic income growth slowed to 2.2%, despite year-on-year growth remaining healthy at 20.6%. 

“We believe the slower growth partly reflects the generally more lacklustre loan growth in 4Q06, as well as the more competitive landscape with the foreign counterparts now aggressively penetrating into the domestic markets,” says the research house. 

That competition, of course, has been brought about by the entrance of three foreign Islamic banks into Malaysia, namely Al-Rajhi Bank, Asian Finance Bank and Kuwait Finance House. With the majority of these banks looking to use Malaysia as a hub for the region, there is also a belief that local banks' regional aspirations may be faced with similar competition, going forward. 

Going forward 

It looks like loans growth is expected to pick up this year, as a foreign research house indicates anecdotal evidence following bank visits that a revival has been taking place over the last three months. This revival took place on the back of spending predicated by the 9th Malaysia Plan (9MP) as well as positive impact from the stock market as it filters through the banking system. 

“This is reinforced by a strong surge in loan approvals in the past quarter, after a whole year of decline in 2006. Provisioning charges and loans remained stubbornly high in 2006 at 87 basis points as banks complied with regulatory requirements for legacy non-performing loans (NPLs) between five and seven years,” says the house. 

Incremental provisioning charges are expected to fall on the back of this, while it expects further reductions in sector provision charges and loans on the back of general improvement in collateral values as, among others, domestic macro conditions strengthen, NPL sales increase and default rates reduce. 

Aseambankers concurs, noting that the slow hire purchase market is seen to be bottoming up while business loans have picked up in demand, particularly from small and medium enterprises and certain sector-specific loans such as construction. 

“However, we believe that more significant growth will only materialise in the second half of the year as the 9MP starts to kick in,” it adds, going on to say that there may be potential for higher provisioning as banks build up their loan loss coverage. 

The house does sound a cautionary note, indicating that margins may come under pressure. Gains from re-pricing of liabilities would be negated if the overnight policy rate remains at the same level, and a more competitive lending landscape has emerged, underscored by the foreign entrants' aggressive expansions of their branch networks. 

“Competition looks to be a recurring theme, going forward, but it's survival of the fittest out there,” says a long-time observer. “Perhaps this is just what local banks needed to spark them into action.”