Finance

Andy Mukherjee is a Bloomberg Gadfly columnist covering industrial companies and financial services. He previously was a columnist for Reuters Breakingviews. He has also worked for the Straits Times, ET NOW and Bloomberg News.

How to command a premium for mediocrity?

If that question is posed to Postal Savings Bank of China Co., which counts almost half the people in the world's most-populous nation as its customers, the answer may well be "superior tax planning."

The Hong Kong-listed Chinese lender enjoys an 8 percent to 26 percent valuation premium over the four largest banks from the People's Republic. Indeed, among the top 12 mainland banks by market value, only Shanghai Pudong Development Bank Co. and China Merchants Bank Co. boast higher price-to-book multiples.

A Puzzling Premium
Postal Savings Bank is 8 percent to 26 percent more expensive than the four largest Chinese lenders
Source: Bloomberg

Focusing on any measure of operational excellence would be futile.

On Friday, Postal Savings announced a 12 percent drop in its net interest income on a 13 percent jump in its interest-earning assets. 

It's a tell-tale sign of unprofitable growth, but investors and analysts couldn't care less.

China International Capital Corp., which rates Postal Savings as a buy, raised its 2017 earnings forecast for the bank by 6 percent on Monday, citing the lender's "tax-light" operation model. In China, government and railway construction bonds, as well as as micro loans to farmers, come with generous tax advantages.

Those helped Postal Savings keep its effective tax rate at 7.3 percent last year, versus a statutory rate of 25 percent.

Where Postal Savings Scores
The lender has the lowest tax rate by far among China's largest companies
Source: Bloomberg

Most other Chinese banks pay 20 percent or more. In fact, single-digit tax rates are rare among large mainland companies. Even Jack Ma's Alibaba Group Holding Ltd. counted 10.4 percent of its pretax income for the 2016 financial year as current and deferred taxes, according to data compiled by Bloomberg.

The many weaknesses of Postal Savings may at some point start to outweigh its tax advantage. For one, a six-month lockup on cornerstone investors (who took up 75 percent of the $7.4 billion September IPO) is about to expire, even though UBS Group AG and JPMorgan Chase & Co., who came on board in December 2015, remain constrained from offloading shares until the third anniversary of their purchase.

Investors might also get spooked by the $78 billion increase in new loans last year. The rapid expansion of Postal Savings' balance sheet leaves it vulnerable to a "considerable increase of new, untested risk" at a time when credit stress in the Chinese banking system is still rising, banking analyst Daniel Tabbush wrote in a note published by the Smartkarma website.

So far, though, investors have chosen to ignore everything from high costs and uninspiring profitability to the lender's penchant for shadow banking and operational weaknesses -- witness the identity fraud that went on for more than six years at a branch in Hubei province.

The combination of size and tax advantage has proved a killer attraction. But at some point, the premium over large banks will simply be too much. As Tabbush noted, "There's a price for everything." That includes mediocrity.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Andy Mukherjee in Singapore at amukherjee@bloomberg.net

To contact the editor responsible for this story:
Katrina Nicholas at knicholas2@bloomberg.net