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Why Postal Savings Bank’s IPO isn’t just another Chinese bank offering

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Can the Postal Bank deliver the returns investors are seeking?

The first ever stamp issued in China, according to the records of the China Customs Museum, was designed by the Englishman Robert Hart.

Hart served as inspector-general of imperial China’s maritime customs service for 48 years until 1911. He was entrusted to oversee the biggest revenue source of the Qing government: the taxing of imported opium.

After the Opium Wars, the foreign powers began running their own makeshift postal services in China. That led Hart to push for the Qing court to set up its own, more comprehensive service to meet growing business demands, especially in the treaty ports, or enclaves controlled by foreign governments.

An imperial postage stamp was deemed necessary. However, sticking the emperor’s portrait on an envelope, as the Royal Mail had done with Britain’s monarch, was deemed inappropriate. The first alternative design handed to Hart – a naked woman – was viewed by the Englishman as offensive. Eventually the designers came up with a five-clawed dragon, to symbolise traditional imperial power.

Issued in 1878, the so-called ‘Large Dragons’ became the first Chinese postage stamps. They also marked the beginning of the state-run postal service.

China Post, as the service is known today, has travelled a long distance since then. Indeed, the state firm’s banking unit, China Postal Savings Bank, is likely to command a valuation close to $50 billion after listing in Hong Kong next week.

Some think investors are buying into the stodgiest state lender of them all; others that it’s unrivalled branch network offers unique opportunities.

How big is Postal Bank?

Awarded a formal banking licence only in 2007 the lender is the youngest commercial bank in China. Before its initial public offering, few investors knew much about the bank besides the fact that its reach is very, very big. Indeed, Postal Bank has the largest distribution network among the Chinese banks, with 40,000 outlets (more than double ICBC’s total) covering 99% of Chinese cities and counties.

The bank also boasts the largest retail customer base: as of March this year, Postal Bank provided financial services to 505 million personal account holders.

In fact, it began to offer savings deposit accounts in 1986 – with the backing of the central bank – by leveraging the tens of thousands of post offices that acted as its agents. Postal Bank’s reach rapidly expanded to remoter regions and villages, and it steadily increased its range of products and services.

The latest era in the bank’s development began in late 2015 when it was recapitalised and 10 pre-IPO investors were brought in. Previously low-key, it is now in the limelight thanks to its Hong Kong listing. Despite pricing its shares towards the low end of market expectations, the bank is still poised to raise up to $7.4 billion ahead of its trading debut next Wednesday. According to Bloomberg, the IPO is set to be the largest globally since Alibaba Group’s $25 billion New York offering in September 2014.

Is its valuation attractive?

The fundraising exercise – in which Postal Bank is selling 15% of its enlarged capital – has valued the lender at nearly 9 times last year’s net profit and 1.2 times its net book value (as of March this year).

When Royal Mail went public on the London Stock Exchange in 2003, its shares surged nearly 40% on their first trading session. The strong debut sparked accusations that the British government had undervalued a 500 year-old national treasure and privatised it at fire sale prices.

Of course, the Chinese government is loathe to face similar criticism and as such requires that any state bank IPO is priced above book value. The bookrunners of Postal Bank’s listing have achieved that but, in doing so, have made its stock more expensive than its peer group of state-backed lenders – all of which trade at lower book value levels in the secondary market.

For instance, ICBC, the biggest bank in the world by asset size, is trading this week in Hong Kong at 5.6 times its 2015 earnings and 0.86 times its book value. In fact, nearly all the major state banks have been trading below their net book values in recent years. Some of the smaller regional banks are available at even more distressed valuations.

That makes Postal Bank look expensive. And according to Singtao Daily, the retail tranche was filled only 1.6 times, with less than 30,000 investors showing interest, ranking demand for Postal Bank’s shares as the lowest among the “big six” Chinese bank IPOs. When ICBC went public in Hong Kong 10 years ago, it was the hottest ever offering, with nearly 1 million retail investors subscribing to the bank’s listing.

Postal Bank promises to return no less than 10% of its net profit as a dividend, Hong Kong Economic Times has noted. But that’s unattractive too, given that most Chinese banking stocks carry a dividend yield of around 30%.

Some analysts simply think there are too many banking shares already available from China. “There are 19 Chinese banking stocks [excluding Postal Bank] on the Hong Kong bourse… It just won’t excite investors with another coming to the market,” Hong Kong Economic Times wrote.

How different is Postal Bank?

The reputation of some of China’s top bankers has been tarnished over the past decade and a half – a period during which Beijing partially privatised its largest banks in some haste. For example, in 2005 Zhang Enzhao, then chairman of China Construction Bank, was arrested for taking bribes in exchange for approving soft loans – just months ahead of the lender’s public offering in Hong Kong.

Postal Bank has had its share of personnel problems too. Tao Liming, its first president, was arrested for corruption in 2012. That scandal delayed an earlier IPO. And there was a reminder of the incident, Caixin Weekly says, not long before the current fundraising effort when reports emerged the 62 year-old banker died in custody in June.

However, since policy bosses have instructed Postal Bank to offer the simplest banking products to the widest possible customer base, Postal Bank could claim it has the simplest business model, and thus arguably the cleanest loan book.

“The majority of our assets are classified as low risk, with very limited exposure to high-risk sectors such as overcapacity industries, local government financing vehicles and real estate industries,” it said in its prospectus, highlighting that its non-performing loan ratio was 0.81% as of March – significantly lower than its peers’ average of 1.73%. Hong Kong Economic Journal also sees the potential in the lender’s core business as the Chinese government extends policy incentives to improve the livelihoods of people in rural areas. “China Postal Savings Bank, in a way, is even more ‘agricultural’ than the Agricultural Bank of China,” the newspaper claimed.

The bearish camp is less convinced that Postal Bank is worth the premium, even with its unparalleled reach. “Chinese banks are increasingly competing online; the value of having an extensive bricks and mortar branch network has diminished significantly compared with 10 years ago,” a banking analyst at Capital Securities Corp told Bloomberg. And certainly, an investment in Postal Bank is a ‘reverse’ punt on the prospects for mobile banking. If customers start conducting most of their banking on apps, the branch network is less of an asset. In fact, payment apps from Alibaba and Tencent have already captured about the same number of customers as Postal Bank. Mobile banking is taking longer to penetrate China’s rural areas, however, and the tech giants seem to be spreading their bets. Both made investments in Postal Bank last year.

Who are the other shareholders?

In December last year Postal Bank raised $7 billion from 10 international investors, which included Singapore’s Temasek (a serial investor in Chinese banking stocks) and the World Bank’s IFC unit. Lu Jiajin, Postal Bank’s president, said at the time that the deal was an “example of mutually beneficial cooperation between China and the world”.

But this time round only a fraction of its IPO shares will go to foreign investors. Up to three-quarters of Postal Bank’s global offering was pre-sold to a group of so-called “cornerstone investors”, or buyers that get priority by putting in large orders and promising not to sell their stakes for at least six months.

Less common in other markets, the practice was introduced in Hong Kong when Chinese state firms began to float their shares offshore. Some of Hong Kong’s richest tycoons reprised a recurring role as cornerstones (asked to do so because their presence helped to stir interest from the city’s retail investors).

In recent years the cornerstone money has increasingly come from Chinese government-owned entities. All six cornerstone investors in Postal Bank’s global offering are state-controlled firms. The investment arm of China Shipbuilding Industry Corporation and Shanghai’s main port operator will each cough up about $1.2 billion for a 15% slice of the IPO (assuming the over-allotment option is exercised). Power provider State Grid and the acquisitive Hainan conglomerate HNA Group have also taken part.

The main worry is this will mean a big portion of the stock will be illiquid, defeating the whole point of going ‘public’ in the first place.

For instance, HK01, a news portal, reckons Postal Bank’s H-shares may end up as “Z-shares” – or zombie stocks – a term coined by local bankers for Chinese stocks that are listed in Hong Kong but thinly traded.

And China Post’s role in the bank?

China Post Group will remain as the bank’s controlling shareholder. The state giant earned Rmb440 billion in revenues last year. The mail service employs nearly one million staff, although in an era of email and e-commerce, it has come under pressure to make drastic reforms, just like its global peers. It may privatise other divisions.

Of course, postal privatisations tend to be controversial. In the case of Japan Post the process nearly cost Prime Minister Koizumi Junichiro his job – and it took many years before Japan Post’s banking and insurance units went public in late 2015. The trio combined to raise $12 billion, although the Hong Kong Economic Journal thinks that the Chinese postal giant may be better placed.

“Compared with Japan Post, Postal Bank has a rosier picture thanks to its customer base and flexible policies,” it reports. “China Post is the nation’s top logistics firm… Farmers in remote regions can place orders online, and sell their products to cities through the bank’s network. It can also provide establish start-up funds to support entrepreneurs who produce organic food.”

Time to push that envelope…

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