Mainland banks challenge global giants for IPO deals

PUBLISHED : Thursday, 23 December, 2010, 12:00am
UPDATED : Thursday, 23 December, 2010, 12:00am

Initial public offerings remain a lucrative business for Wall Street and European banks but they are facing higher execution costs and increasing competition from mainland banks and securities houses.

Despite being the top bank in Asia, excluding Japan, in investment banking fees, Swiss bank UBS was successfully challenged in Hong Kong, the global hub for IPOs.

UBS was knocked off the top spot in the Hong Kong IPO market by Morgan Stanley this year and its income from Hong Kong IPOs plunged 15 per cent to US$71 million from last year's US$84 million, according to data compiled by Thomson Reuters.

The Swiss bank has also lost its top man Henry Cai, the chairman of Asia investment banking and head of investment banking for China, to Deutsche Bank, whose income from Hong Kong IPOs more than doubled to US$80 million.

But the average execution costs - the expenses for putting a deal together - have risen, and investment banks have to work on more deals to maintain their market share. Despite being the leading investment bank in Hong Kong IPOs, Morgan Stanley saw its market share drop to 8.5 per cent from last year's 9.2 per cent. JP Morgan might have doubled its deals to 10 but it did not gain as much market share as it had hoped.

According to Ringo Choi, regional managing partner for South China at consulting firm Ernst & Young, underwriting fees had not changed since last year, but the larger investment banks were now battling with smaller rivals for lower margin deals.

'I'd say the big banks prefer not to work on deals that are less than US$150 million in size,' said Choi. 'Because there's not much margin there for them in smaller deals given the high cost of manpower.'

Offerings from state-owned Agricultural Bank of China and American International Group's Asian unit AIA constituted 56 per cent of the capital raised in Hong Kong this year through initial public offerings.

But leaving these two sizeable deals aside, 31 out of 68 mainland companies listed in Hong Kong raised less than US$150 million in their respective offerings.

Medium-sized and small mainland companies would continue to be the driver of Hong Kong IPOs. Choi believes mainland banks and securities houses have the edge over global investment banks in underwriting these smaller deals.

'The mainland banks have relationships with their clients through their lending business,' said Choi. 'But the securities houses have a lot of experience in underwriting A-share deals and they could help mainland-listed companies to tap Hong Kong's capital market.'

Bank of China International, the investment banking arm of the state-owned bank, has been a regular underwriter of initial stock sales this year, and China Construction Bank has doubled its market share since last year and almost tripled its total IPO fees to US$40 million.

While in the past, investment banks have tended to chase the top deals, ignoring second-tier offerings, they are now switching their focus to smaller deals. Goldman Sachs has said it would focus on underwriting IPOs on Shenzhen's ChiNext start-up board, which raised 95 million yuan (HK$110.76 million) this year, compared with just 20 million yuan in 2009, according to Ernst & Young.

ChiNext and the Small and Medium Enterprise (SME) Board raised a combined 297 million yuan from 322 new listings, some of which demanded valuations that were more than twice the average for foreign markets.

Bloomberg reported that Goldman Sachs had expanded its mainland investment banking unit's workforce by about 40 per cent this year as it switched to targeting smaller domestic offerings.

However, Choi said international investment banks would still have the edge in advising on mainland companies that seek a listing abroad.

Meanwhile, Hong Kong merger and acquisition deals amounted to US$82.9 billion for 2010, up 32 per cent compared with last year, according to Thomson Reuters. Hong Kong acquisitions of mainland firms hit a record US$13.1 billion.