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Time to rethink China’s banking development strategies

With the 3-year lockup period expiring, Western banks are selling their stakes in Chinese banks to fill the hole on their own balance sheet. Chinese banks are rethinking their development strategies (source: WSJ):

Decisions by Bank of America Corp. and other institutions to sell down their stakes in Chinese banks signal more trouble for Beijing’s strategy of using foreign expertise to build a world-class banking system.

Since 2005, foreign financial institutions have pumped more than $25 billion into Chinese banks as part of a grand bargain engineered by Chinese regulators. Foreign investors would gain access to China’s banking market and in return teach Chinese banks how to operate profitably.

But the momentum for cooperation has been slowing. Now foreign banks, desperate to replenish balance sheets weakened by the global financial crisis, are starting to cash out.

On Wednesday, Bank of America trimmed its holdings in China Construction Bank Corp. to 16.6% from more than 19%, selling 5.6 billion Hong Kong-listed shares in a placement that raised $2.8 billion. In November, Bank of America paid $7 billion to almost double its stake in the Chinese bank.

Meanwhile, a foundation established by Hong Kong’s wealthiest tycoon, Li Ka-shing, is selling two billion shares in Bank of China Ltd. to raise as much as $524 million for the charitable group, according to a term sheet. A spokesman for the Li Ka Shing Foundation noted that the foundation still holds three billion shares in Bank of China, which “are part of our long-term holding and won’t be sold for a long time.”

Last week, UBS AG sold its entire 1.3% stake in Bank of China Ltd. for $808 million.

Banking analysts believe that other foreign banks are planning to unload stakes, though they say that such sales don’t necessarily point to problems in the relationship with Chinese partners. Bank of America and China Construction Bank have had one of the better relationships, analysts said.

Since taking its initial stake in 2005, the Charlotte, N.C., bank has assigned about 60 employees to work with China Construction Bank on an array of projects, from revamping its technology systems to updating branches to improving communications strategies, according to Bank of America spokesman Robert Stickler.

“We definitely will continue to be a long-term major shareholder of CCB and a long-term strategic partner,” Mr. Stickler said. “The fact that we sold a few shares doesn’t change that.”

Last month, Bank of America called off a similar sale, prompting speculation that it held back for political reasons. But Mr. Stickler said that wasn’t the case then, or now. “We have a very close relationship with CCB management and the Chinese government,” he said. “Nothing we were doing was a surprise to them.”

Investments by foreign banks with global reputations eased the way for Chinese banks to successfully list their shares overseas in 2005 and 2006. But three-year lockup periods, during which foreign investors weren’t allowed to sell their shares, are expiring.

The scramble to exit highlights the difficulties of Chinese-foreign banking partnerships that have suffered from mismatched expectations. Holger Michaelis, a partner at Boston Consulting Group in Beijing, said a major letdown has been technical assistance, such as with risk-control systems.

Chinese bankers are often frustrated by foreign advisers who have rich international knowledge and experience but can’t solve local problems because they don’t understand local conditions. That is altering Chinese bankers’ expectations that foreign advisers can offer immediate solutions, Mr. Michaelis said.

Some foreigners have bristled at their limited influence over bank operations and inability to gain ownership control. For years, foreign strategic investors have been anticipating a lifting of the 20% cap on foreign stakes in Chinese banks, but that hasn’t happened.

And there has been rivalry. In 2007, Bank of China announced an “exclusive partnership” with Royal Bank of Scotland Group PLC’s private-banking arm, only to start its own proprietary wealth-management business later.

Unlike many of their Western peers, Chinese banks have had relatively little exposure to subprime-mortgage-related assets or agency debt, issued by entities such as Fannie Mae and Freddie Mac. That puts them in a better position to weather the global financial crisis, despite the slowing Chinese economy.

Zhao Xijun, the deputy director of the School of Finance at Renmin University of China, doesn’t believe the foreign sales represent a wholesale retreat. “Undoubtedly, foreign banks will continue to expand their footprints in China,” he said. “But they will be more focused on developing their own business rather than buying into a Chinese lender.”

Until five years ago, Chinese lenders were considered technically insolvent. After a cleanup that cost the government an estimated $500 billion, foreign strategic investors took the plunge. Three of China’s four largest commercial banks — ICBC, Bank of China and China Construction Bank — have since gone public overseas.

At the time, the thinking was that foreigners would help improve Chinese management standards, transfer technology and know-how, and co-build new fee-earning businesses such as credit cards and wealth management. One of the most urgent aims was to fix a weak link in the local banking system: risk governance.

Still, banking analysts said, Chinese regulators are debating what benefits can be gained from Western financial institutions rocked by the financial crisis. “Definitely, there is a rethinking among [Chinese] banks, insurance companies and asset-management companies as to what is the best model for the long term,” said Kang Yan, a partner at Roland Berger Strategy Consultants in Beijing.

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