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Tuesday, February 28, 2012

Qilu Bank a drag on CBA

According to Banking Day:

Qilu Bank, a regional bank in eastern China in which Commonwealth Bank owns a 20 per cent stake, is proving a disappointment to its owners.

A financial scandal uncovered in late 2010 led to the firing of senior staff, criminal charges and a reluctance to produce financial results.

The last publicly released financial statements for Qilu Bank related to the 2009 calendar year, though local media in Shandong province published a few snippets of the financial statements for 2010.

Qilu Bank's results were a surprising omission from the second annual survey of banking sector profits in China prepared by KPMG and released in September 2011.

A handful of outside scrutineers have more access, including the Dagong Global Credit Rating Company. The credit ratings agency has an AA- credit rating on Qilu and "negative" outlook on the subordinated bonds of Qilu Bank.

Qilu sold 700 million renminbi (A$104 million) in 10-year subordinated bonds in late 2009 to supplement its capital. The bonds pay a yield of 5.8 per cent for the first five years, which will increase by another three per cent if they are not redeemed at the end of the fifth year.

"The bank’s performance [in the second half of 2011] appeared to show no deteriorating signs, but we’re keeping an eye on its yet-to-be-released annual report [for 2011] before we can get to the bottom of its actual losses incurred in the aftermath of the scandal," a Dagong Global analyst, who requested anonymity, told Banking Day in a telephone interview last week.

Commonwealth Bank acquired an 11 per cent stake in Qilu Bank (known at the time as Jinan City Commercial bank) in late 2004 and increased its stake to 20 per cent four years later.

The bank, formed from the amalgamation of numerous credit cooperatives in the mid-1990s, has around 80 branches and 66 billion renminbi (A$10 billion) in assets.

In a commentary published in August 2011, Dagong wrote that "the bank’s future debt-repaying capabilities may have been weakened" as a result of its deteriorated financial performance for the first half of 2011 following its earlier involvement in the massive lending fraud revealed at the end of 2010. (The next article provides an overview of the fraud.)

Dagong Global’s data showed that Qilu Bank’s ratio of non-performing loans jumped over the June 2011 half-year by 3.14 percentage points to reach 4.26 per cent at the end of June 2011.

A ratio of a little more than one per cent is the norm for banks in China, based on the KPMG survey, and ratios of impaired assets of more than two per cent are unusual.

Dagong Global noted in its August 2011 assessment of Qilu that its level of impaired loans "was close to the regulatory red line and would thus put pressure on the bank’s future business development."

The ongoing investigation into the lending fraud has reduced the capital adequacy of Qilu Bank and also tainted the bank’s reputation. It has also had a negative impact on its capital adequacy, according to Dagong Global.

Since uncovering the fraud, Qilu Bank’s capital adequacy ratio has fallen by 1.7 percentage points to 12.5 per cent, based on mid-2011 accounts provided to the ratings agency. The core capital ratio fell by 1.5 percentage points to 10.8 per cent.

There is just one scrap of evidence about the continuing losses at Qilu contained in the December 2011 financial statements of Commonwealth Bank in a section where CBA makes a reference to the rise in profits of its "IFS Asia" division.

CBA's wholly owned bank in Indonesia, along with another associate in China, the Bank of Hangzhou, both increased their profits over the second half of calendar 2011. However, "this was partially offset by a lower contribution to earnings from Qilu Bank", said CBA.