BackThe Big Bank With a $15 Billion Conundrum in China
HSBC has a big stake in a Chinese lender that it can’t easily sell and that could require a big write-down.
PremiumHSBC Holdings has a $15 billion headache in China—a big stake in a local lender that it can’t easily sell and that could require a big write-down.
Long after most other Western banking giants have exited similar positions, HSBC has held on to its roughly 19% position in Bank of Communications, an investment that dates back to 2004. HSBC, Europe’s largest bank by market value, has said the stake is strategically important for its ambitions to grow in Asia.
But over the years, a gulf has opened up between HSBC’s valuation of the shareholding and the lower value implied by BoCom’s stock price. In August, HSBC put its internal valuation at $23.9 billion, or about $14.5 billion above the level suggested by the shares.
In recent months, two smaller institutions, London-based Standard Chartered and Canada’s Bank of Nova Scotia, have written down their own stakes in Chinese lenders.
The valuation of BoCom is a “long-festering problem" for HSBC, research provider Autonomous said recently. “We do suspect that one day HSBC will have to take the plunge on impairing the BoCom stake," analyst Manus Costello wrote in an October note to clients.
The questions over BoCom, including whether HSBC could contemplate a sale, aren’t just about arcane accounting issues. They also reflect HSBC’s unique position as a huge Western bank that has staked much of its future on growing in mainland China and in Asia more broadly.
“HSBC is desperately trying to straddle between the Chinese political system and the U.S. dollar-based political system," said Andrew Collier, managing director of Orient Capital Research in Hong Kong.
The bank, which has more than $3 trillion in total assets, already earns most of its income in Asia. It has a dominant presence in Hong Kong and a major footprint in mainland China, with particular ambitions in insurance and managing wealth. For years, HSBC has been paring back in North America and Europe to focus more on Asia, despite heightened geopolitical tensions between China and the West.
Against that backdrop, several analysts said that HSBC, practically speaking, is limited in what it could do with the stake in BoCom—China’s sixth-largest bank by assets, according to Moody’s Investors Service. To expand in China, HSBC needs Chinese government approval for a series of licenses; a disposal would risk angering authorities and disrupting those plans, they said.
“To sell assets in China would be an indication that they had no faith in the future of the Chinese economy and that they’re placing their bets with the West, which would not go over well" in China, Collier said.
If HSBC impaired the stake, that would hit earnings, according to Costello at Autonomous. A write-down to the level implied by the stock price would cut HSBC’s tangible book value—one of the key measures that investors use to value banks—by 7%, Costello said.
HSBC says its valuation of BoCom is in line with accounting rules, and is based on a detailed analysis of historical earnings and long-term projections for cash flows, inflation and interest rates. It says management doesn’t have discretion in choosing whether to take an impairment.
“There is a rigorous accounting process and we will just follow the process," HSBC Chief Financial Officer Georges Elhedery told analysts on an October call.
A big write-down, if it occurred, would be a black eye for HSBC, and would affect headline profit. But it wouldn’t affect some of the measures that bank investors care most about.
That is partly because complex banking rules currently require HSBC to deduct more than $16 billion from its total stash of core equity Tier 1 capital, a key financial buffer, because of the stake.
Any write-down would cut that deduction by a commensurate amount. That means the bank’s core Tier 1 capital ratio, an important measure of financial strength, would hold steady, Elhedery told investors in October. He said the bank’s dividend-paying ability would also hold up.
HSBC first invested in Shanghai-based BoCom in 2004, paying $1.75 billion for its stake. It bought another roughly $1.7 billion in BoCom shares in 2012, a move that held its stake steady when the Chinese bank raised fresh capital.
By holding on, HSBC has diverged from most other big international banks. Institutions such as Bank of America, Citigroup and Goldman Sachs previously owned stakes in Chinese lenders but sold those positions after the global financial crisis.
The investments had become less attractive under postcrisis rules requiring banks to set aside more equity for minority investments in other financial institutions. The investments also failed to give the U.S. banks greater access to China’s economy, analysts said at the time.
HSBC is BoCom’s second-largest shareholder after the Chinese government, and holds two board seats. The two banks also have a “resource-sharing agreement," under which HSBC has provided staffers to assist BoCom, HSBC disclosures show.
Over the past two years, it has received $1.44 billion in dividends.
Chinese banks such as BoCom have been squeezed by lower interest rates on loans and record-high savings levels, after years of pandemic restrictions hurt consumer confidence and led many households to hoard cash.
BoCom’s profit fell almost 3% in the latest quarter. Its net interest margin, or the gap between what it earns from lending and what it pays for funding, stood at 1.3% in the first nine months of this year, down 0.2 percentage point from a year earlier.
For banks such as HSBC and Standard Chartered, “how easy is it saying you’re dumping a Chinese bank?" asked Daniel Tabbush, a Thailand-based banking analyst and consultant.
“I think it’s literally impossible to do. I think the geopolitical backlash would be too devastating. Besides, it’s sending the completely opposite signal of what these banks have been telling us for years."
—Elaine Yu contributed to this article.
Write to Josh Mitchell at joshua.mitchell@wsj.com
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