The Bank Of East Asia, Limited - 2011

MARC has affirmed its financial institution rating of AAA on The Bank of East Asia, Limited (BEA). The rating is based on MARC's assessment of the bank's capacity to meet its financial obligations on the Malaysian national rating scale. The outlook on the rating is stable. BEA’s rating is underpinned by its long-established banking franchise in Hong Kong and mainland China, its strong asset quality metrics, overall good risk management and stable earnings profile. At the same time, MARC acknowledges that pressure on the bank’s asset quality and financial profile could arise from real estate-related exposures in its loan book amid slower economic growth in its core markets of Hong Kong and China. BEA’s capitalisation, although above the regulatory minimum, may need to be augmented to provide a comfortable capital buffer to navigate the potential risks in its operating environment.

Founded in 1918 as a family-owned bank, BEA is one of Hong Kong's oldest local banks. BEA has continued to broaden its business operations in China through continued branch network investments to build its franchise, which dates back to 1920. BEA received approval to set up a locally incorporated bank in China, The Bank of East Asia (China) Limited (BEA China), in 2007, which currently operates the second largest distribution network in China among the locally incorporated foreign banks.

BEA has been rapidly expanding its banking operations and growing its network across mainland China to benefit from the market’s substantial long-term growth potential. MARC believes that macroeconomic risks have increased for BEA’s China banking operations given China’s slowing economic growth and the increased risk of a sharp downturn in its property market. In the rating agency’s view, BEA’s vigilant risk management and the sound prudential regulation and supervision of the financial sector by Hong Kong and mainland China authorities should temper downside risks arising from a tougher macroeconomic and financial environment. In the first half of 2011 (1H2011), BEA's Hong Kong operations generated 48% of the group's profit before tax (PBT), while mainland China operations contributed 36%.

The bank’s 1H2011 performance continued to exhibit positive momentum with interest income rising to HKD9.3 billion from HKD6.2 billion for the preceding year’s corresponding period, supported by sustained growth in its loan portfolio. BEA also saw strong growth in its fee and commission income which increased by 21%. The bank’s profitability also benefited from write-backs of previous loan loss provisions amounting to HKD40 million during the period. The bank’s net interest margin was broadly stable at 1.73% (FY2010: 1.78%) despite the low interest rate environment in Hong Kong and pressure on funding costs resulting from a smaller proportion of current and savings accounts (CASA) deposits in the bank’s deposit structure.

BEA’s asset quality metrics remains strong based on the reported numbers; its impaired loan levels remain modest at 0.45% of total gross loans, showing a further improvement from the 0.54% as at end-FY2010. Impairment coverage was fairly healthy at 74% at end-June 2011 (FY2010: 69%). While falling house prices in China could result in deterioration in the quality of its mortgage book, BEA's loan origination standards and proactive credit risk management moderate concerns over a possible spike in impaired loans arising from the weaker outlook for the property sector in Hong Kong and China.

MARC notes liability management initiatives undertaken by the banking group in 2011 which notably include the two RMB-denominated bond issuances with an aggregate principal amount of RMB5 billion by BEA China in China’s interbank bond market. The RMB-denominated bond offering has helped to lower BEA China’s funding costs and improve its asset-liability structure. Meanwhile, prudent expansion of BEA China’s loan portfolio during 1H2011 and a focus on attracting deposits have enabled the locally incorporated unit of BEA to achieve a loan-to-deposit ratio of 72% as of end-June 2011 and to comply with the maximum 75% loan-to-deposit ratio set by the China Banking Regulatory Commission. BEA’s consolidated loan-to-deposit ratio registered lower at 66% (FY2010: 70%) as deposit growth outstripped loan growth as at end-June 2011. BEA’s consolidated current and savings account (CASA) deposits were 28% of total deposits at end-1H2011 as compared to 33% at end-2010. The bank’s term deposits and certificates of deposits had increased by 18% and 113% respectively during 1H2011, which in turn supported a 11% growth in consolidated deposits during 1H2011.

BEA’s capitalisation remains above the regulatory minimum, albeit lower than the Hong Kong banking sector average (1H2011: Total CAR – 15.9%). The bank issued subordinated notes and new shares in FY2010; however, because of the fairly rapid growth in risk-weighted assets, BEA’s capitalisation declined overall. BEA’s Tier-1 and total capital adequacy ratios stood at 9.4% and 12.6% respectively at end-1H2011 (FY2010: 9.8% and 13.2% respectively). While MARC opines that BEA is soundly capitalised relative to its current risks, a stronger capital buffer would provide greater assurance of the bank’s shock-absorption capacity in potentially difficult times ahead.
 
The stable outlook on the rating reflects MARC’s belief that BEA should have the ability to weather economic headwinds based on its track record of resilience to past downturns in the credit cycle and in the light of its currently strong financial metrics. However, a considerable weakening in the bank’s asset quality or its capitalisation could exert pressure on the bank’s rating and/or outlook.

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