Chinese Banks’ Results in Pictures: Issue #7
At the Cross Road: China Banks
in 2008-2010
􀂄 A great 1Q08, a probably good 2Q08 - what is next?
Chinese banks reported very strong 1Q08 results, and will probably report a solid
2Q08, despite the clouded macro backdrop and sharp share price correction. The
key question is “what is the sustainable earnings growth in the next 2-3 years”?
Base case: slowed, but not stirred
Our base case scenario assumed declined volume growth, stable margin,
increased NPL formation, but no “shock” to system asset quality in the next 2-3
years. Our sector earnings model showed that H-share banks can deliver 15-20%
PBT CAGR in the next 3 years under such scenario.
Credit risks unlikely to clear up
We reckon asset quality (eg in the property sector) remains the key risk to the
sector in the mid term. Large state banks are relatively less exposed given their
diversified loan/asset mix, and lower loan growth. Small banks with aggressive
growth in the property sector in coastal areas could be more vulnerable - SDB
(000001.CH), CIB (601166.CH) and CMB (3968.HK) are on our “watch list”.
Investment thesis: prefer the defensive plays
We reckon the bank sector is attractive at low teens 08E P/E and offers relatively
good earnings visibility. We prefer stocks with relatively low credit risks, strong
fundamental positioning, and attractive valuation: BOC (3988.HK, APF1) and
ICBC (1398.HK). Signs of reduced credit risks and relaxed monetary policy will be
the key drivers to the re-rating of the sector.
Earnings sensitivity to key risk factors
Key risk
factors Scenario Most impacted
(% cut to PBT)
Least Impacted
(% cut to PBT)
Property sector downturn (eg.
Asset 10% developer loans turn NPL) CNCB and CCB: 25-30%* BOC: ~10%*
quality Export sector downturn (eg.
10% export loans turn NPL) CNCB and BoComm: 15-20%* ICBC, BOC and CCB: ~10%*
Time deposit rate +27bp,
lending rate +18bp BOC and ICBC: 0.5-1% CMB and CCB: slightly positive
Time deposit rate +27bp,
lending rate +9bp CNCB, ICBC and BOC: 2.5-3% CMB and CCB: 1-2%
Time deposit rate +27bp,
lending rate +0bp CNCB: 6% CMB and CCB: 4-5%
20% of broker deposits shift to
time deposits CMB and CNCB: 1.5-3% BOC, BoComm & ICBC: 0.5-1%
100bp RRR hike CNCB and CMB: 0.2-0.5% ICBC, CCB, and BOC: nearly 0
Net
interest
margin
Lower FX investment yield CCB and ICBC: NIM impact BoComm and CMB: nearly 0
Source: Merrill Lynch analysis, Company reports *Assumed all banks to maintain 100% NPL coverage. CMB’s high NPL coverage can protect it from
sharp PBT impact this year. Nonetheless, its loan book is relatively risky, and any notable asset quality deterioration will hurt investor confidence.

Contents
1. The question on “big picture” 3
2. Scenario and sensitivity analysis 5
Low on the “worry list”: loan growth, fees, and cost 6
High on the “worry list”: NPL and NIM 7
NPL: are the good times really over? 8
NIM: how high is too high? 14
3. H-share banks performance review 19
Bank of China (BOC) 20
Bank of Communications (BoComm) 23
China Construction Bank (CCB) 26
China Merchants Bank (CMB) 29
China CITIC Bank (CNCB) 32
Industrial and Commercial Bank of China (ICBC) 35
4. A-share joint-stock banks performance review 38
Industrial Bank (CIB) 39
China Minsheng Bank Corp. (CMBC) 42
Huaxia Bank (HXB) 45
Shenzhen Development Bank (SDB) 48
Shanghai Pudong Development Bank (SPDB) 51
5. City commercial banks performance review 54
Bank of Beijing (BOB) 55
Ningbo Bank (NBCB) 58
Nanjing Bank (NJCB) 61