Deutsche’s long-term China bet looks a stretch
Several foreign banks have recently sold their strategic stakes in Chinese banks, but Deutsche Bank is putting down a bigger bet. The German lender is spending $840 million to increase its stake in Hua Xia Bank. Chinese bank stakes may have some scarcity value, and Deutsche wants to diversify away from investment banking. But its ability to influence Hua Xia looks limited.
Hua Xia bank is one of the most capital-hungry banks in China. Before the fundraising, its Tier 1 capital ratio was 6.8 percent, below that of most Chinese banks, which have capital ratios of 10 percent of more.
True, Hua Xia is growing quickly. Earnings are expected to rise by 34 percent year-on-year in 2010 — high even by Chinese standards. But Hua Xia’s return on equity of 13 percent is on the low side, and the shares are not cheap. Hua Xia trades at 17 times 2010 expected earnings, a 45 premium to the sector, according to Goldman Sachs. Its first investment in Hua Xia has appreciated about six times since 2006. This one is very unlikely to do as well.
Hua Xia has a valuable national license, and is small enough for foreign investors to exert some influence. Deutsche has two board seats, and a credit card joint venture with almost 1 million customers.
Increasing its commitment to Chinese banks at a time when rivals are pulling back should win some valuable goodwill in a highly regulated market.
Deutsche may have decided that increasing its stake was preferable to seeing its influence diluted. The opportunity to take the maximum 20 percent allowed for any single foreign lender is rare.
But even after the capital increase, Deutsche will no longer be the largest shareholder — a position it has held since March. The fundraising will allow Capital Steel to edge ahead of Deutsche, with a 20.28 percent stake.
Increasing exposure to China fits with Deutsche’s broader strategy, which is to build up businesses that will help balance its investment banking arm. However, Deutsche is hardly flush with capital itself: its core Tier 1 capital ratio dropped to 7.5 percent at the end of the first quarter. The Hua Xia bet looks like one it can ill afford at this point.