THE ongoing due diligence exercise on the three parties involved in the proposed banking merger has raised the issue of potential provisioning differences, say sources.

A source familiar with the deal points out that because Malaysia Building Society Bhd (MBSB) did not come within the purview of Bank Negara Malaysia up until the Financial Services Act was enforced last year, the non-bank lender applied a different provisioning standard for many years from the two banking groups involved in the merger — CIMB Group Holdings Bhd and RHB Capital Bhd.

“There are different provisioning standards even within the banking industry, what more when MBSB is not a full-fledged bank and is not governed by the same regulator [until last year]. So, if CIMB and RHB were to use the same model to estimate the provisions of MBSB, there is a concern that it could impact the NAV (net asset value) of MBSB. And if the impact is larger than expected, the parties involved in the merger will likely have to relook the structure and terms,” says the source.

When contacted on this, a banking analyst explains that the capital and asset values of banking groups are determined based on certain internal provisioning requirements.

“Accounts can only tell you so much ...  you have to go in and look deeper into a company’s books and match them with your own accounting standards. So, if the impairment standards of CIMB are different from MBSB’s, then it is possible that an asset that requires a certain provisioning by MBSB may require a different provisioning under CIMB’s modelling. If that is the case, the book value of MBSB could be different,” says the analyst.

However, other sources familiar with the merger plans say it is unlikely that MBSB will agree to any change in its valuation. “Bear in mind, the due diligence isn’t even completed yet. But MBSB’s provisioning is within what’s allowed under Bank Negara and the industry. Just because it does not apply the same approach as other banks does not mean that it is not conforming,” says one source.

The proposed merger has been structured such that RHB will acquire CIMB’s assets and liabilities via a share swap at an exchange ratio of 1.38 (one RHB share for every 1.38 CIMB share). This is based on a benchmark price of RM7.27 per CIMB share and RM10.03 per RHB share, translating into a price-to-book value (P/BV) ratio of 1.7 times and 1.44 times for CIMB and RHB respectively.

Their Islamic operations, which will come under CIMB Islamic, will then acquire MBSB to form a mega Islamic bank, at a price of RM7.77 billion or RM2.82 per share. This translates into a P/BV of 1.32 times. MBSB shareholders will have a choice of either accepting cash or new shares in the unlisted CIMB Islamic group.

MBSB has an exempt finance company status that was granted to it by the Ministry of Finance in March 1972. This allows MBSB to undertake a financing business in the absence of a banking licence.

MBSB has transformed itself over the years. Having been in the red from 1998 to 2003, it turned around and returned to the black in 2004. It kicked off a transformation plan in early 2009 and went on to turn in five straight years of record earnings.

From a net profit of RM57 million in FY2009, it ended FY2012 at RM446.6 million. Last year, its net profit rose 33.8% year on year to RM597.6 million.

But there was a time when the company ventured off the path of its core business and saw its bad loans balloon. Back in 1994, MBSB diversified from its main business of taking deposits and providing loans to house buyers, and went into property development and the provision of bridging and revolving loans for the sector.

When the Asian financial crisis hit in 1997, MBSB found itself in dire straits and was saddled with delinquent loans. In 2000, the group’s net non-performing loans were a whopping RM2 billion. While its net impaired loans had halved to RM1.1 billion in 2012, they rose slightly to RM1.45 billion as at Dec 31, 2013.

According to its latest annual report, MBSB wrote off impaired loans to the tune of RM1.34 billion compared with RM217 million a year earlier.

Meanwhile, last Wednesday, Bursa Malaysia’s Appeals Committee (AC) rejected the Employees Provident Fund’s appeal to vote in the mega merger.

The pension fund had been allowed to plead its case by making a presentation at the AC’s Dec 10 meeting. However, the AC stood by the decision made on Oct 21 by Bursa’s Listing Committee that the EPF cannot have a vote, on account of it being a common major shareholder in all three entities involved in the merger.

Apart from its 41.5% stake in RHB, the EPF also has a 14.6% stake in CIMB and 64.6% equity interest in MBSB.

An EPF spokesperson told The Edge Financial Daily last Wednesday that the pension fund will now explore “other avenues”, but did not elaborate.

“We are appreciative of the opportunity to have oral representation at the meeting. Even though we don’t necessarily agree with the decision, we are respectful of it. We will look at what other avenues are available to us as we need to ensure that the interests of our members are protected,” he added.

As the buyer of the assets and liabilities of another banking group, RHB only needs a 50%+1 share approval for the deal compared with the selling party, which needs a 75% vote.

Apart from the EPF, which has a 41.5% stake in RHB, other major shareholders of the banking group are Aabar Investments PJS with a 21.2% stake and OSK Holdings Bhd with 9.9%.

Since the structure of the deal was revealed on Oct 10, CIMB’s share price has tumbled 21.2% to RM5.50 last Thursday from its close of RM6.98 before the announcement. RHB’s shares have fallen 12.75% in the same period to RM7.59 last Thursday, while MBSB rose 5.5% to RM2.50.

This article first appeared in The Edge Malaysia Weekly, on December 15 - 21, 2014.

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