2. Literature Review
2.1 Development of China Banking Sector
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2. Literature Review
On the premise of analyzing developing in China market by the foreign financial institutions and Taiwanese banks, we will discuss about the China banking sector in advance and relevant researches emphasized on its earning performance and management strategy in this chapter. Furthermore, the papers of studying on the determinants of oversea expansion and entry tactic in China financial market will be reviewed for the coordination with understanding the direction of business development for foreign financial institutions, including Taiwanese banks. In the end of this chapter, the relevant articles about analyzing the synergy of M&A in financial institutions will be reviewed, and to see if either the financial synergy or management synergy exists.
2.1 Development of China Banking Sector
To view the development of China banking sector, China government unify and dominates definitely all strategy and operation, and the People’s bank of China acts as central role before 1979. The banking sector was classified as fiscal unit without the realistic function and independent operation during the Great Cultural Revolution.
Under the open up with economic reform, the financial system strides forward modern frame from the highly centralized gradually, and tends to the individual regulation separately in the sector of banking, security and insurance after 1979.
Garcia-Herreto et al. (2009) points out that the better capitalized banks tend to be more profitable. The same is true for banks with a relatively larger share of deposits.
In addition, a less concentrated banking system increasing bank profitability, which basically reflects that the four state-owned commercial banks has been the main drag for system’s profitability. Also, more market-oriented banks, such as joint-stock commercial banks, tend to be more profitable, which again points to the influence of government intervention in explaining bank performance in China. Wu (2002) finds the serious problem of vacancy of owners existing in state-owned banks. Without the sound board of directors system and the standard to appoint and remove the chief of bank procedure, the state-owned banks are viewed as only like unit of administrative organization in name only. It also finds that the managers are barely on the administrative responsibility and the efficiency of operating for banks declines in general without encouraging environment.
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According to the CBRC annual report, the Chinese banking sector comprises policy banks and China Development Bank, large commercial banks, joint-stock commercial banks, city commercial banks, rural commercial banks, rural cooperative banks, rural credit cooperatives postal savings bank, and so on by the end of 2011.
There were total of 3,800 banking institutions and 3.2 million employees, listed in Table 1, working in this sector. Total assets of entire banking institutions as of the end of 2011 were RMB 113.29 trillion, an increase of 18.87% or RMB 17.98 trillion compared to previous year. Financial institutions distinguished by asset types and sorted by asset size, in Table 2, were large commercial banks (47.34%), joint-stock commercial banks (16.22%), city commercial banks (8.81%), and policy banks and China Development Bank (8.22%). As of end-2011, the outstanding balance of deposits maintained by entire banking sector increased by RMB12.1 trillion to RMB73.3 trillion as to the beginning of the year, among which the household savings deposits grew the most by 16.01%. The outstanding balance of loans maintained by entire banking sector went up by 19.7% to RMB50.9 trillion, among which the balance of short-term loans were RMB17.1 trillion, medium-to-long term loans were RMB30.5 trillion, and consumer loans were RMB7.5 trillion. Three types of loans were increased by 13.1%, 29.5% and 35.5% respectively compared to last year.
A report, 2011 China Banking Sector Survey, published by KPMG (2011) indicated that in order to provide better services to SMEs on financing, the local bank authority encouraged the large and joint-stock commercial banks to set up a special department to supple customers with independent credit limits, managements and operation teams, along with differentiated credit review policies and procedures to help SME on expansion and capital increased. Chu (2009) pointed out in the report that the services Chinese banks provided were substantially identical because Chinese banks were largely homogeneous. However, despite the keen competition, banks in China were still very profitable and were not affected by the different cost of capital as the lending interest rates were regulated by the government policy with fixed basis points.
Forbes and China Construction Bank issued the “Private Banking White Paper 2011” and stated the liquidation dominated the China’s capital and real estate market so it could recover rapidly from the Financial Crisis. Meanwhile, the wealth of UHNW (Ultra High Net Worth) individuals increased largely. The UHNW individual accounted for a total of 53% in Guangdong, Zhejiang, Jiangsu, Beijing and Shanghai in Chinese market. The study also found that those individuals who had smaller asset size were more interested in investing in real estate. However, this proportion
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dropped significantly as their asset size expanded. Additionally, overseas investment also became a trend. The report noted that 22.6% of the UHNW individuals held offshore assets, and Hong Kong was the first choice for these Chinese UHNW individuals’ allocated offshore assets.
Furthermore, most of researches about the performance of China banking sector are focused on the state-owned banks in the early phase. Lardy (1999) showed the capital adequacy ratio, loan loss coverage ratio, return of equity and non-performing loan of major four types of China banks were deteriorated during 1985 to 1997 and lower than the average international level. Li et al. (2001) adopted the financial data of 15 representative China banks to analyze the management performing. The result showed that the return of asset and return of equity of joint-stock commercial banks is higher than state-owned banks, but possessed lower leverage ratio to bear less operating risk. Garcia-Herrero et al. (2009) also found that joint-stock commercial banks have more elasticity of business operating and expanding to increase profit due to higher privatization than others. It also had result that the reason of lower earning in China banking sector is caused by the un-ideal management performance of the state-owned banks.
According to the CBRC’s 2011 annual report, after tax profit of China’s banking industry was RMB 1,251.87 billion (See Table 3), representing an increase of 39.24%
as 2010. Large commercial banks accounted for the highest, 53.09%, in the entire market, and following by the joint-stock commercial banks, 16.02%, city commercial banks, 8.63%, and policy banks and the State Development Bank, 4.29% accordingly.
The overall ROA and ROE of the entire banking sector were 1.0% and 17.5%, respectively. Moreover, commercial banks (including large commercial banks, joint-stock commercial banks, city commercial banks, rural commercial banks and foreign banks) had 1.1% of ROA and 19.2% of ROE, better performance than the entire financial institutions. As for the asset quality, the year end outstanding balance of NPLs stood at RMB 1.24 trillion, a decline of RMB 169.6 billion from the beginning of year 2011. The NPL ratio of the entire banking sector was 2.44%, 0.89 bps lower than the beginning of year 2011. From the view Commercial banks, the average NPL ratio was 1.1% with 217.7% coverage ratio, an increase of 64.5 bps compared to the beginning of year 2011. Besides foreign banks, joint-stock commercial banks preformed and improved the most among all in asset quality. The NPL ratio was 0.7% and coverage ratio was 277.6%. Furthermore, the capital strength and adequate level of Chinese banks were significantly improved. The overall weighted average CAR of China’s commercial banks was -2.98%, however, the
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number had turned to positive in 2004. By the end of 2011, the CAR went up to 12.2% and Tier I also reached 10.1%.
Short (1994) pointed out that the ownership structure of company played an important role on operating performance. As for the agency theory, when a firm had more dispersed shareholdings, it would result in lack of effective control on managers’
behavior, which may not efficiently enhance corporate performance. Dewenter and Malatesta (2001) made a comparison on profitability, labor intensity and debt levels between state-owned and private enterprises, and found out state-owned enterprises did not perform as well as private enterprises in many evaluation indicators. La Porta et al. (2002) also examined the performance on banks whose equity are held by the government do not perform as good as the private banks on financial and operating results. A study based on 92 countries’ actual data discovered that when the government of a country holds higher stakes on the banking sector, its’ financial development is far less compatible than those who do not.
Bonin et al. (1998) started an empirical research in the emerging countries in Eastern Europe and learned that although the state-owned banks' profitability is lower compared to the private banks, but the efficiency is not inferior to private banks. The article also pointed out that the privatization of state-owned banks must coordinate with other methods, in stead of only in pure privatization as a start. However, research also found on state-owned Chinese bank general performs negatively in banking operation and development in the similar theory. Tu (2000) noted a wholly-state-owned bank would be more politicization in operating, fiscal in financial, and administration in organization, and thereby affecting the profitability performance.
Wang (2002) suggested in order to effectively reach a permanent cure for state-owned banks reform, it must proceed from the changing the property system which included property ownership resulting in dualistic business objectives, legal system not working properly, restraint on alienation and encumbrance causing failure of economic incentive and restraint mechanisms, and property misallocation creating asymmetric situations in the responsibility and relationship. Lu (2006) studied the ownership structure among the non-commercial banks, state-owned banks, joint-stock commercial banks and city commercial banks, and came up conclusions that the higher proportion of share held by the central government, the lower the profitability it does, whereas the same method does not apply to local government-owned banks.
The same research also found joint-stock and city commercial banks will perform better when the ownership structure are more diversified from local governments,
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state-owned enterprises and private enterprises, along with fewer share held by government.
In view of high degree of internationalization and economic growth, the China government further requires banking industry to strengthen transparency in the management and accept inspection by the investors and publics in the near future.
Meanwhile, the Chinese banks should begin to participate in international competition actively in order to consider their own competitiveness in international market. With continuously expansion on operational scales and profitable source as the goal, banks should extend the territory by establishing more institutions or M&A to implement internationalization strategy. As a result, 84 Chinese banks were nominated to The Banker's Top 1000 World Banks in 2011 as compared to 31 in 2007, which near double in 4 years. In addition, the four Chinese state-owned banks placed top 10 largest global banks in market capitalization.
Young et al. (2006) stated while the degree of internationalization of China's banking sector are low, other than strengthen the overseas expansion outside of China, they should start to look for developing in new market and personnel training, strengthen government oversight ability and implementation on business management direction in order to enhance its level. Chang et al. (2006) believed the Chinese multinational companies remain highly growth by following their customers to locate and globally, which could be the successful key to be cross-nationalized. Huang et al.
(2009) indicated that the main key influence Chinese banking industry to expand internationalize effectively will be through overseas direct investment and exports.
This paper also found that the Chinese banking industry tends to follow growth trends as the local enterprises do to be internationalized when investing oversea directly. The large-scale commercial banks in China had established 89 business institutions, 5 branches and 7 representative offices in is Asia, Europe, the Americas, Africa and Oceania, in addition to acquire or take ownership stake of 10 business institutions as the end of 2010. General speaking, there are two major considerations guide Chinese banks to set up overseas presence; one is that the areas have the prosperity through direct investment and global trading with the intention of provide customers with full services. Another is the area should be the global or regional financial center so as to have the latest financial information, management know-how and financial talents to develop and enhance operational efficiency.