The Long March Begins

Liu's hot IPO at Bank of China paves the way for further reform

Bank of China Chairman Liu Mingkang is courteous to a fault. But when the 55-year-old Shanghai native takes a stand, an opponent might as well try to move the Great Wall. In a July 20 meeting in Hong Kong, underwriters leery of jittery global markets proposed a conservative price for the initial public offering of the bank's Hong Kong operations. Seeing that the offering was oversubscribed even before a share price was set, Liu decided the market could handle U.S. $1.09 per share, about 6% above the underwriters' recommendation. The underwriting team tried to split the difference, but Liu wouldn't budge. In the end, he got his way. "History will judge this to be a successful offering," he said firmly--then got up and left the meeting.

That firmness has marked every turn in Liu's drive to list his bank's shares. When the underwriters had earlier suggested a delay in the offering until after the summer vacation to allow more preparation time, Liu stuck to the planned July 25 listing on the Hong Kong Stock Exchange. And last year, he unsettled many in China's financial Establishment--and caught both employees and superiors off guard--by releasing the most complete report about bad loans ever to come out of the mainland. In the end, the IPO was six-times oversubscribed, despite its debut during the worst global bear market in nearly 30 years. Liu expects to raise as much as $2.8 billion from the sale of 25% of the shares in the unit, BoC Hong Kong (Holdings), which is overseen by Hong Kong regulators and operates separately from its Beijing parent.

The listing is a milestone on China's long march to financial reform. Fed up with an endless litany of corporate problems--from lagging profitability to corruption--Chinese leaders have used foreign stock listings as a way to prod giant state-owned companies such as China Telecom and Petrochina into cleaning up their acts before they list. Until now, though, banks have remained firmly in state hands, meaning they often remained conveyor belts for cash to prop up moribund companies. By offering BoC to shareholders, Chinese officials hope to change that. "We did the listing to reinforce good corporate governance," says Liu. "It's very good for the whole financial sector in China."

Investors, though, are more interested in whether BoC itself can turn a profit. Liu--who serves as chairman of both the Hong Kong arm and the Beijing parent--circled the globe, meeting with investors to convince them that it can. And by some measures, Liu has a pretty good story to tell. Last year, the bank reported earnings of $355 million and assets of $98 billion, making it second only to HSBC in Hong Kong.

In the past two years, BoC Hong Kong has undergone a wrenching restructuring. Consultants from PricewaterhouseCoopers have helped create a risk-management system with lines directly to Liu. Info-tech consultant Accenture has developed a blueprint that will see the bank spend almost $500 million upgrading its software over the next three to five years. Merit-based salaries have replaced the old principle of equal pay. And managers will get stock options, a rarity for Chinese companies.

BoC Hong Kong should also be well positioned for growth when China's banking market opens fully in 2006. On the mainland, where it is regulated as a foreign bank, BoC Hong Kong already has 14 branches--more than any other non-Chinese financial institution. The bank offers a credit card used by growing numbers of Chinese traveling abroad. And its loan officers are writing mortgages to serve foreigners buying mainland properties. This is only a $20 billion market right now, with 250,000 mortgages written, but it is expanding fast as Hong Kong and Taiwanese buyers flood into China.

Not that there aren't plenty of questions. Nonperforming loans at BoC Hong Kong make up 9.5% of its total loan book--twice the Hong Kong average. Corruption has bedeviled the bank throughout its operations, in Hong Kong as well as in mainland China. The parent bank paid a $20 million fine to U.S. and Chinese regulators early this year following illegal activities in its New York branch. And late last year, insiders at a mainland branch fled following the discovery of a staggering $483 million theft. Furthermore, the restructuring isn't finished. Last October, Liu merged 12 independently run sister banks and a credit-card business into a unified operation in Hong Kong. Whether that will pay off with a predicted $80 million in annual cost savings remains to be seen.

Hong Kong's anemic economy won't help, either. For almost four years now, prices in the enclave have fallen every month. Unemployment is at a record 7.7% and may well go higher as Hong Kong's economy suffers a painful readjustment because of the currency's link to the U.S. dollar. The property market, which accounts for one-quarter of BoC Hong Kong's business, is in the dumps. Bum loans are on the rise throughout the enclave, while loan growth is slow, reflecting the weak economy. "Hong Kong is waking up with a hangover, and the reflection in the mirror isn't too pretty," says Patrick Vizzone, a director at Commercial Economics Asia Ltd. in Hong Kong.

Those issues have given some potential investors pause. "We were concerned about the loan book in a deteriorating economic environment," says Robert Conlon, chief investment officer at Investec Asset Management Asia, whose firm decided not to buy the BoC shares.

Reforming the bank is a tough job, but if anyone is up to the task, it's Liu. The son of a law professor, he was packed off to work as a farmer in Jiangsu Province for 11 years during the Cultural Revolution. At night, he taught himself English by listening to the radio and reading a textbook whose pages had been ripped apart and used by a storekeeper as wrapping paper. In 1976, he got a job as a steel worker. The Bank of China hired him in 1979.

No longer a marked man due to his intellectual background, Liu rose quickly. In 1984, he was posted to England, where he earned an MBA at night from the City University of London. Back in China after 1987, Liu held various positions in finance and politics, then took over as chairman of the Bank of China in February, 2000.

While the hardships of the Cultural Revolution ground most people down, Liu's experiences made him an ardent proponent of reform. And he's continuing with reforms at the bank, too. In Hong Kong, he's beefing up scrutiny of borrowers with links to the mainland, who hold a disproportionate share of bad loans. "The Bank of China Hong Kong will be very clean in the very near future," Liu promises. This survivor of the Cultural Revolution has had a remarkable career. Now he has to prove he can create a remarkable bank as well.

By Mark L. Clifford in Hong Kong

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