Saturday, February 05, 2005

Still not pretty

FINANCE & ECONOMICS

German banking

Jan 27th 2005 FRANKFURT
From The Economist print edition

A large Bavarian bank prepares itself for marriage

AT GERMANY'S second-biggest bank, HVB Group, nasty surprises have become something of a habit. On January 21st it declared that it was writing off €2.5 billion ($3.3 billion) of property loans, and that this would—no, no, honestly, we mean it this time—clean up its portfolio.

Analysts and investors were unimpressed. The write-off is merely the latest episode in a saga of losses and revaluations since HVB was formed by a merger of two big Bavarian banks in 1998. The merger quickly led to the discovery of a DM3.5 billion (these days, €11.8 billion) hole, mainly in eastern German property loans.

Dieter Rampl, HVB's eternally optimistic boss, insists that this is the end of the bad news, and that his bank can concentrate on its profitable areas. Alas, even those—retail and corporate banking—are not doing well. The group's one jewel, bought in 2000, is Bank Austria, a successful retail and investment bank with a network of subsidiaries in central Europe. A quarter of Bank Austria's shares were floated on the Vienna stock exchange in 2003. The share price has since doubled.

Even after the latest write-off, however, HVB has too many loans and not enough capital. In the past two years it has sold some of its best assets, such as Norisbank, a small but successful retail bank, and that stake in Bank Austria, just to raise cash. It has potential, boasting 5% of the retail banking market in Germany and nearly 15% in Bavaria, but lacks the strength to expand. It is a clear takeover candidate, albeit for a brave buyer. At least, says a source close to the bank, after the latest clean-up “the poison pill is slightly less poisonous.”

Any purchaser would have to deal with sagging profits, a domestic workforce of 26,000 that (this being Germany) would be hard to trim and a portfolio of German property loans of nearly €100 billion. The German economy, although looking a tad healthier, is still weak. The property market has been moribund since a boom after reunification in the early 1990s (see chart). HVB spent last year waiting for things to get better. They might not.

Nevertheless, at least two banks might be interested: Italy's UniCredit, which also has operations in central Europe and for several years has sought a German acquisition; and Deutsche Bank, Germany's biggest bank, which, some say, needs to reassert itself at home. To buy HVB, though, Deutsche would have to forget its declared aim of a 25% return on equity. Rating agencies would certainly punish any acquirer.

HVB is not just waiting to be swallowed. In November Mr Rampl reshuffled his board, appointing Johann Berger to take over corporate banking and property, and Christine Licci, former head of Citigroup's German retail-banking operation, to revamp the retail business. HVB, like many German private banks, had neglected retail banking, where returns have long been thin. However, under Ms Licci Citi proved that it can be profitable, with a return on equity of 54% in 2003.

Mr Berger has been at HVB before. He returns from Hypo Real Estate, which was spun off in 2003. The product of a merger of five mortgage-bank subsidiaries, it has done well despite the dire state of the German market, largely because much of its portfolio is foreign. The spin-off, however, left HVB with all the German commercial and retail loans against which it had raised its own funding.

Mr Berger's best-known achievement at Hypo Real Estate was the sale of €3.6 billion of patchy property loans to Lone Star, an American private-equity group. HVB could do with such expertise. It has sold some of its duff loans, mainly in the form of asset-backed securities to institutional investors. But Dresdner Bank, owned by Allianz, a big insurer, has shown that huge amounts can be shifted in this way. It has managed to reduce €35 billion of German and international assets parked in an “institutional restructuring unit” to around €11 billion; €8 billion of German loans have been sold or cancelled.

Lone Star, which bought around €6.8 billion of German loans recently, some from Dresdner, is now seeking a German bank. It already owns banks in Japan and South Korea. It is thought to be in talks to buy Mitteleuropäische Handelsbank, a small subsidiary of NordLB, a public-sector lender. HVB might be too much for Lone Star to swallow—but not, perhaps, for someone else.

Copyright © 2005 The Economist Newspaper and The Economist Group. All rights reserved.

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