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AgBank Liftoff

Agricultural Bank of China's record IPO slows out of the gate but promises long-term gain.

Agricultural Bank of China excited investors and sent spikes of interest across markets in July when it launched a record initial public offering, the world’s largest. Then the shares of the huge lender, the last of China’s top four state-run banks to list, quickly returned to earth, with trading reflecting the markets’ fear of risk.

In the wake of AgBank’s $22.1 billion IPO on the Hong Kong bourse, its share price climbed more than 10 percent, from HK$3.20 to HK$3.60 ($0.41 to $0.46), then quickly dropped. Even so, AgBank stands to outperform broad markets over the long term as investors buy shares for a stake in growing Chinese domestic demand, giving the bank funds it will need to cope with looming challenges facing China’s lenders, say analysts.

“From the listing, their war chest is much bigger and there’s more to lend out,” says Vishnu Varathan, a greater China economist with Forecast Singapore. “Not only will that help fund the expansion ambitions of China’s bigger companies, but it will also help small to midsize enterprises.” Another bullish sign emerged in mid-August when AgBank exercised an overallotment option in full, selling additional shares on the Shanghai Stock Exchange.

The 59-year-old AgBank, known for low-margin business models, returned to financial health after taking a hit from China’s festering nonperforming-loan crisis. AgBank’s net profit grew about 23 percent, to 65 billion yuan ($9.5 billion), in 2009. China experts say bank officials are hoping the listing will stabilize the lender while addressing the country’s wider needs.

“The IPO was priced at a relatively low valuation,” says Andy Xie, an independent China economics analyst formerly with Morgan Stanley. “Investors are still relatively enthusiastic about China, compared to others. People think the Chinese economy will still grow.”

But there will be bumps along the way as the China Banking Regulatory Commission tries to manage the potential downside last year’s unprecedented lending. “It is also preparing for the unknown — how a bubble in the property sector could impact banks,” says Varathan. “A lot of the fiscal stimulus also entailed the government because the government was pushing infrastructure projects. There’s a huge risk this could cascade down and affect banks.”

So China might not mind that AgBank was widely seen as a bargain when it listed on July 16 at 1.54 times price-to-book and that it remains at a 15 percent discount against other large banks. AgBank’s stock had firmed 10 percent by early August; bargain hunters snatched up shares as broad markets improved. The investment banks handling the deal included China International Capital Corp., Deutsche Bank, Goldman Sachs Group, JP Morgan Chase & Co., Macquarie Group and Morgan Stanley.

Growth in domestic consumer demand, which is replacing exports as China’s top economic draw for foreign investors, will keep AgBank — with 320 million retail customers, 2.7 million corporate clients, 24,000 branches and 441,000 employees — as well as its listed Chinese peers in good health, analysts say.

“A lot of people see China as a domestic demand story in the second half [of 2010]. A great way to get access to the domestic demand is to get access to the domestic financials, the banks, because the banks are large and they’re certainly involved in the domestic demand,” says Todd Martin, Asia equities strategist with Société Générale.

AgBank has earned less than its state-owned competitors because it has traditionally lent to rural projects in deals generating relatively low margins. “It means the amount of cheap customer retail deposits versus what it gets on its loans is just not as profitable as the other banks’,” notes Martin.

Investors can, however, expect AgBank and the other top three state-run lenders — Bank of China, China Construction Bank and the world’s biggest bank by market capitalization, Industrial and Commercial Bank of China — to do well as the government-fueled construction boom continues.

Still, it remains to be seen how the poor-quality loans of 2009 are handled and whether banks can, in fact, retrieve all the money they lost.

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