Stronger banking system

It all started when then Central Bank Governor Greg Licaros spearheaded the passage of a law creating universal banks. Since then, succeeding CB governors have pushed for a bigger, stronger and leaner banking system.

Former Bangko Sentral ng Pilipinas (BSP) Governor Paeng Buenaventura has encouraged banks to consolidate in order to have only five or six full service banks with the rest playing the supporting role of niche players.

Buenaventura then placed a moratorium on bank expansions and granting of licenses to encourage mergers and acquisitions in the banking system. This policy of bank consolidation is being continued by Governor Amando Tetangco Jr.

This makes sense as we consider the Philippine banking industry so fragmented with 40 commercial and expanded commercial banks (including foreign banks), 85 thrift banks, and 752 rural and development banks servicing a very small market.

Total assets of the top five banks in the country are less than the assets of the largest bank in Thailand, the Bank of Thailand while the combined assets of all 21 local commercial and expanded commercial banks in the Philippines in 2004 was $69.8 billion. This is even smaller than the assets of Singapore’s OCBC Bank, the smallest of the three major banks of Singapore, at $73.5 billion.

Also, our top three banks account for less than 20 percent of the market, compared with more than 55 percent in Malaysia.

As a general rule, if two strong banks merge, their combined capital base allows for greater capacity to undertake risks. But in real life, there are issues of capital valuation which relates to the values of each bank as demonstrated by market prices in the stock market.

Constant increases in capital are desired objectives of banks to better serve their clients. Bigger banks are able to offer larger credit facilities which larger clients require. Any bank which looks at regional markets for future expansion will be faced with capital adequacy issues.

Larger banks which result from good mergers are able to withstand strong financial crises which may be brought in from the shores of other countries. The capital strength of larger banks enabled them to weather the ill effects of the 1997 Asian financial crisis, something which they could have not done pre-merger as medium-sized institutions.

Having said that, there was an offer from Banco de Oro Universal Bank (BDO), the bank of the SM Group, to Equitable PCIBank (EPCIB) for a merger, with BDO as the surviving entity. The SM Group owns the largest single block of shares in EPCIB at more than 34 percent. The second biggest block is of course that of the Social Security System (SSS) at 29 percent.

This offer has been strongly and loudly opposed by both Government Service Insurance System (GSIS) general manager Winston Garcia who represents the 12 percent share of the government institution in EPCIB and the Romualdez group, with accounts for the seven percent sequestered portion. The reason given was that the offer for a swap in shares, of 1.6 BDO shares for every one EPCIB share, was too small.

But BDO contends that it is only an offer and can be used as a starting point for discussion. But none has been initiated.

There are several factors that are behind the offer and without making value judgments on whether the offer is fair or inadequate, here are some of them.

For instance, are the GSIS, SSS and the Romualdez family in a position to put in more money to maintain their proportionate holdings to make the bank competitive in the coming years? If existing shareholders are not disposed to continuously bringing in fresh capital to their bank, the logical move to make is to find a good fit with another bank to merge with. GSIS and SSS are government-owned and in the long run, they may have to withdraw from purely private business. On one hand, the Romualdez‚ shares are sequestered and putting money on top of an uncertain block of shares may not be wise for them.

Also, is it feasible for the bank to raise funds at this time given its current condition and still get good value out of it?

Another question is whether or not EPCIB is capital-compliant with the new International Accounting Standards or IAS which values bank assets and liabilities at present values. It means that losses are recognized when incurred and not allowed to be deferred or amortized over time as may be allowed under previous accounting or regulatory standards.

These are but some of the questions that the new EPCIB chair, SSS president Corazon dela Paz, would have to surgically analyze.

So, is a merger bad for EPCIB? Analysts don‚t think so. Both UBS International Resource and Phil. Equity Partners in their early Jan. 2006 analysis gave a favorable review of the proposed merger.

Will it be bad for GSIS and SSS? Conventional wisdom says that if they intend to sell to a buyer that wants control, it is better to keep it independent. However, is there a buyer with deep pockets able to buy both stakes? Can a potential buyer co-exist with the SM Group? Will the SM Group allow it? Can SSS/GSIS agree to pool their resources together?

It seems unlikely that somebody will venture in given the foothold of SM Group in the bank

Analysts say the GSIS/SSS stake may be worth more in a merged entity. Reasons are: re-rating as a result of a bigger bank will give it a higher price to earnings ratio (P/E) and price to book value (P/B) multiple and that the SSS and GSIS stake, combined or stand-alone, will now be more attractive to a „strategic financial investor‰ as against a „manager investor.‰ Foreign funds like a good company with a strong shareholder group they trust and a management team they know.

Foreign investors prefer big banks which command higher P/B multiples.

So, how will a merger look like? If merged with EPCIB, BDO will become the second biggest bank in the country with total assets of P566 billion but still behind Metrobank, the biggest private bank in the country, at P586.5.

If both SSS and GSIS have buyers that can exceed the BDO offer, they better come out now and show the color of their money. So far, none has surfaced even with the declaration of Winston Garcia early last month that there are two international institutions which are willing to buy GSIS‚ shares. Otherwise, BDO‚s offer is something that should be seriously considered because it makes a lot of sense.

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