What Standard Chartered lacks in raw size, it more than makes up for in terms of emerging markets presence and knowledge as well as exemplary management policies, making it a prime takeover target.
Is Standard Chartered Bank the most desirable bank in the world? It is present in most of the fastest-growing markets in the world, with geographical diversity through its exposure to Asia, Africa and the Middle East, good risk management, motivated multi-cultural staff and an exemplary corporate social responsibility (CSR) commitment. Its well-founded knowledge of how to operate in a diversity of emerging markets is something that many banks hanker after, while its CSR policy means that it makes less headline-grabbing mistakes than its rivals.
Its operating profits are balanced between retail at 47% and wholesale at 53% – the latter’s turnaround is now complete – which is an equilibrium that stands it in good stead when it comes to risk management.
Its well-managed service hubs in Chennai, India and Kuala Lumpur, Malaysia are part and parcel of its operations in a way that other banks have not always managed, in many ways due to its multinational staff and multinational presence – being posted to the service hub in Kuala Lumpur is not seen as exile, as it might in a bank that does not have an important presence in Malaysia.
Unsurprisingly, the price earnings ratio of this most attractive bank stands at 16.4 times, a hefty premium to the 11 times average of its peers, as investors value its growth possibilities and its takeover potential. With a market capitalisation of $32.3bn, only 13% of that of Citigroup, which is the largest bank in the world, and 54% of that of French bank Société Générale, the 20th largest bank in the world, Standard Chartered is accustomed to being on the receiving end of bid speculation.
Potential buyers
According to the former chief executive of a top 10 global bank, there are few banks that have not run their slide rules over the Standard Chartered numbers. But, he says: “Their valuation is their defence.” Bloomberg analytics show that in the past five years, its shares have appreciated 45%.
“The reality is there is no guarantee of independence for any company in the world. In that regard, I don’t think Standard Chartered is any different. You only earn the right to be independent if you are producing good results,” says Standard Chartered group chief executive Mervyn Davies.
“We are producing great results, we have a very clear strategy, we have lots of growth opportunities and we have shown over the past few years that we can also create value from that position.”
Taking his points in turn, there are no doubts about the results. In 2005, pre-tax profit rose by 24% to a record $2.68bn, profit on average capital was 30% and total assets grew by 52% to $215bn, according to The Banker, which places Standard Chartered as the seventh largest bank in the UK and the 61st in its Top 1000 listings. Non-performing loans as a percentage of total loans were kept at 2.37%, and the cost/income ratio was 55.6%.
This year, first half results show that operating income before tax rose 15% to $1.52bn, compared with the first half of 2005.
Global strategy
Standard Chartered’s declared strategy is also clear: to be the world’s best international bank, leading the way in Asia, Africa and the Middle East. Putting to one side the usual mission statement hyperbole, the bank has moved systematically on this front – even before this was its official intent. Former group chief executive Rana Talwar’s acquisition of Grindlay’s in 2000 was instrumental in positioning Standard Chartered as the leading international bank in India, Pakistan and Bangladesh and second in the United Arab Emirates and Sri Lanka, as the acquired entities were merged with the bank’s existing operations.
This followed on from the acquisition of Nakornthon Bank in Thailand in 1999. And in early 2005, Standard Chartered acquired Korea First Bank for $3.3bn. At a swoop, that increased by an order of magnitude Standard Chartered’s existing exposure to the world’s 11th largest economy, giving it the fifth largest branch network in South Korea. It pulled out of the bidding for LG Cards in Korea this summer for a variety of reasons.
Kai Nargolwala, the board director with direct responsibility for the merger, notes that the integration of the Korean bank was completed four months ahead of schedule and it became earnings accretive after six months rather than the forecast 12.
The renamed SC First Bank looks capable of delivering the promised revenue growth – operating profit before tax in Korea was up 50% in the first half of 2006 compared with the second half of 2005 – although it is still a tad early to say.
It is worth noting that analysts generally do not mention an “acquisition risk” when talking about the bank, even though further acquisitions are part of its growth pattern, because of its expertise in integrating them.
This summer Standard Chartered acquired a controlling stake in Union Bank, which will make Pakistan the bank’s 10th largest profit contributor.
The only large Asian markets with profitable consumer banking operations where the bank would like to have a larger presence and does not, are Taiwan (notwithstanding a deterioration in the consumer credit market) and, arguably, Japan. Both would involve acquisitions.
In Africa, which does not have the growth potential of Asia and is responsible for only 8% of the bank’s income, an acquisition may also be on the cards. African experts say that, considering Standard Chartered’s commitment to the continent, an acquisition in South Africa would allow it to consolidate its regional interests, currently run out of London. Of the various top banks there, the rumoured talks with First Rand reportedly collapsed over terms, while Absa was bought by Barclays Bank. This leaves only Nedcor, which might be sold by controlling shareholder Old Mutual, an insurance firm, and former associate Standard Bank, which is trading on a high earnings multiple, as well as smaller but fast growing entities such as African Bank.
Niche African banking
In Nigeria, the other large African market, the bank has chosen to grow organically, like most of its international peers. It also has a very profitable business niche in banking for non-governmental organisation (NGOs), multilateral organisations and state development agencies involved in Africa.
Standard Chartered’s view is that it can leverage its unique Asian/African presence on the back of China’s new interest and investment in Africa, and growing trade flows between Asia and Africa. After all, it argues, how many banks can offer Mandarin speakers in Africa? This is also a big part of its appeal – multiculturalism (see below).
Africa also provides a third leg to the Standard Chartered strategy, along with Asia and the Middle East. (Anecdotally, all the staff at the bank have had the strategic message so drummed into them that the three regions come out in their speech as one word: AsiaAfricaMiddleEast).
“The danger is that everybody assumes we are just all Asia but we are not,” says Mr Davies. “Africa and the Middle East are also very important.” Asia does, however, dominate the bank with, in descending order, Hong Kong (which includes some earnings from its China operations, mainly the Pearl River Delta), South Korea, India, Singapore and Malaysia plus other Asia-Pacific (China,Thailand, Indonesia, Taiwan, Vietnam) delivering over 72% of 2005 earnings.
The current surge in petrodollars means that Mr Davies sees Qatar and the United Arab Emirates as the countries that will surprise the most in the Middle East in the next five years, due to their unexpectedly high growth. As more of the oil funds are invested in the region, unlike in the last boom, banks with local networks are due to benefit more. Last year, the Middle East region plus south Asia, which Standard Chartered groups together, delivered $808m in income, equivalent to 11% of total income.
Mr Davies, sitting in his office with oversized furniture in Aldermanbury Square, the bank’s low-key headquarters in the City of London, is certainly right about the “growth opportunity”. The 2007 forecasted gross domestic product (GDP) growth in nine of the bank’s most important markets ranges from a low of 3.7% in South Korea to 5.2% in Nigeria and 8.5% in China. Most of its more significant markets (it is present in 56 countries and territories) are underbanked, in terms of both the numbers of people who have bank accounts and the many more services that could be sold to those who already have accounts. Also, growth of financial services is generally a multiple of the growth of an emerging economy.
Value was formerly the bank’s bête noire. It had an enviable footprint, but was always seen as the bank that would deliver jam tomorrow, rather than today, on the back of a weak wholesale bank. Things have changed: the one year total return on the shares is 29.7%, according to Bloomberg.
It is not just Mr Davies who admits that the wholesale business was the problem child of the bank. “I think the transformation of wholesale banking has been the transformation of the bank,” he says.
Michael Helsby, UK bank analyst at research firm Fox-Pitt, Kelton, agrees. “Mervyn [Davies] has definitely rejuvenated the performance of the wholesale bank on the back of a more focused approach. While lots of this can be attributed to the turnaround of Asian markets as the Asian economies recovered from the crisis in 1998, revenue growth has accelerated from 8% in 2001 to 14% in 2005,” he says.
However, he has a caveat: “While this has clearly helped returns, the big driver of the improvement since Mervyn [Davies] took control is the improvement in bad debts. Net non-performing loans in the wholesale bank have fallen from $1.6bn in 2001 to $300m in 2005. The same driver has been evident at the rest of the bank.”
Already in 2006, the bank envisages the net improvements in bad debts reversing, while the rising global interest rate cycle will also have an effect on credit quality.
The wholesale bank was turned around through a focus on costs and on products that will give better returns, although it has not abandoned its traditional trade finance, cash management and foreign exchange business. In 2005, operating profit for this unit rose 22% compared with 2004.
The wholesale banking unit has continued its move into project finance, debt capital markets, derivatives and structured finance and M&A. The bank’s aim is not to compete with the bulge bracket banks but to leverage its unique network – for instance in advising Chinese company Sinopec as it moved into Africa, being involved with Indian and Malaysian companies as they make acquisitions abroad, and being the lead bank in China Construction Bank’s Rmb3bn ($376m) mortgage-backed securitisation issue.
“I think it is about share of wallet but also share of mind,” says Gareth Bullock, group head of strategy. “The top three banks get the lion’s share of [a company’s] business. It has been a very important strategic direction of our bank to be one of the top three providers.”
Standard Chartered has increased its recognition as a lead bank to its corporate clients to 46% in 2005 from 33% in 2000, according to a survey of Asian banks by Greenwich Associates.
Mr Bullock points out that, as Asian economies grow, so does the level of sophistication of their corporates, which are looking for additional products. The bank’s SME focus also means that it grows with those clients.
Additionally, the bank is introducing the Asian clients who use its wholesale banking arm to Fleming Family & Partners, a private company that manages money for wealthy families. In December 2005, it bought a 20% stake in the firm. The alliance aims to leverage the Standard Chartered relationships and the Fleming expertise for Asian families with a net worth of more than $100m. The bank still needs to address how it targets the private banking segment and this model – taking a stake in a established niche business – may be the one it follows.
To those who suggest Standard Chartered needs a bigger presence in the UK and US markets to round off its wholesale offering, Mr Bullock answers that the bank is already present there and “we are not tempted for one moment to participate in the domestic UK or US market. Do we want more [corporate] customers in the UK and the US? Yes, those who have business in our markets.”
The competition on the corporate side is different in each country, although the classic names of HSBC and Citigroup arise often, while good local banks are providing Standard Chartered with strong opposition, albeit more on the consumer side than the wholesale side.
Entrepreneurial culture
“It is in the nature of Standard Chartered to be entrepreneurial. That introduces incremental risk as well as opportunity,” says Mark Thomas, UK analyst at independent research firm Keefe Bruyette & Woods. “Strategically, I am very happy with that because you know what you are buying: a unique entrepreneurial culture in emerging markets.”
“However, it does make timing even more critical,” he adds, referring to when an investor should buy the shares. The bank’s shares reached a 52-week high of £15.98 ($30.35) on March 3 and have since fallen with the emerging markets sell-off to £13.16.
The bank argues its exposure to more markets and more products means the risk factor is overstated. Where the dire state of the Zimbabwe economy or the problems in Taiwan would have hit it hard five to 10 years ago, this is no longer the case. “In many ways, although we do operate in what many people consider to be riskier parts of the world, if you look at the sheer spread of our business, it gives us considerable diversification,” says Peter Sands, group finance director.
The bank is accustomed to coping with everything from severe acute respiratory syndrome to earthquakes and, for instance, already took a charge for Zimbabwe in 2005. Although it is concerned about its 800 employees in its 24 branches in the southern African country, as the only foreign bank that remained open throughout the carnage of the civil war in Sierra Leone, the problems in Zimbabwe are not a big deal.
Dark clouds
There are some potential “banana skin” risks that would prove much more material, such as avian flu or increased US protectionism against China, or a slowdown in commodity demand that would affect intra-regional trade in Asia, plus the other trade corridors that are Standard Chartered’s forte, or a major change in exchange rate policy or central bank policy, or a credit card crisis such as the one that affected South Korea, or a North Korean attack on the south. Additionally, it is still highly exposed to Hong Kong (22% of income), as well as South Korea (14% of income).
A Morgan Stanley report on the bank was entitled How much is too much? Pricing the unique. That headline encapsulates the bank’s appeal.
In an October 2001 interview with The Banker, former Standard Chartered CEO Mr Talwar chuckled as he remembered: “Running Citibank in Asia, I had a file on Standard Chartered that I used to dust off once a year but we never did anything [about buying it].”
Temasek Holdings, which holds about $60bn in global investments for the Singaporean government, and bought the 12% stake in the bank held by the Tan Sri Khoo Puat Estate in March, says it cannot respond to any queries on the bank until all regulatory approvals for the acquisition have gone through. Some analysts and investors suggest Temasek might envisage merging Standard Chartered with DBS, the Singaporean bank in which it holds a 28% stake, to create a pan-Asian giant.
Takeover target
Whether it will be taken over by Temasek or others is unknown. There are reasons other than the obvious one of high growth for doing so. For instance, one analyst suggests that Bank of America might be interested, to take advantage of its excellent Indian and Malaysian hubs for outsourcing.
On the other hand, assuming China and India continue growing at the forecast rates, Standard Chartered will grow with them on the back of its strong position in both markets and become even more difficult to take over, as it becomes larger and holds onto its high valuation.
No-one, though, should forget that the bank, which opened its first branches in 1858 in Calcutta and Shanghai, is an emerging markets bank, which is riskier than a bank based in the developed world. Managing its high growth in diverse markets is a challenge, while the unwinding of the global imbalances affecting the world economy may be messy and Standard Chartered could well be one of the biggest sufferers. avian flu also hovers on the horizon.
Ultimately, these are temporary problems that Standard Chartered, an exceedingly well-managed bank with a leading knowledge of risk in emerging markets, can manage. Meantime, it is running ahead of the pack in a number of its policies, it is delivering results and it encapsulates the excitement of the markets it is in. It is no surprise that it is the world’s most desirable bank.
MULTICULTURAL RECRUITMENT POLICY
In the terrorist attack on the World Trade Center, the skyscraper in which Standard Chartered was housed collapsed. Luckily, no-one died. Phil Moody, who worked for the bank’s financial institutions group at the time and had convened a meeting of executives of 12 different nationalities for the morning of 9/11, spent the next couple of weeks organising their accommodation and then travel home. Most had lost their documents, a complicated issue when dealing with countries including Vietnam, China, Bahrain, Indonesia, Singapore and Pakistan.
That underlines one of Standard Chartered’s strengths. It counts 80-odd nationalities among its staff, 50% of whom are ethnic Chinese. “Of our 45,000 employees, 12,000 are Indians, 5500 are black Africans, 5500 Koreans. So one of the great things about this place is the culture, it is the United Nations, every type of religion, every type of sect all mixed together,” says Mervyn Davies, group chief executive.
Its board of directors, however, is much less diverse. Gareth Bullock, group head of strategy, admits as much, but argues that “there is a time issue, you don’t wave magic wands. Increasingly, there has been a lot of cross-border movement of staff [to develop their careers] and as time goes by that mix will change in the highest echelons of the company”.
An example of this cross-border movement is the eight Korean desks the bank has opened in India and other countries where Korean multinationals are doing an increasing amount of business.
To recruit the best graduates in markets such as China and India, where demand is so high, Standard Chartered’s executives believe their proposition – that the bank of the future is one that incorporates corporate social responsibility into its DNA – is crucial.
About 65,000 graduates applied to join the bank last year and, according to the bank, 50% of those recruited cited corporate responsibility as a factor in their decision to join it.
