RENEWED HOPE FOR TAIWAN BANK CONSOLIDATION

C O N F I D E N T I A L SECTION 01 OF 02 TAIPEI 003287

SIPDIS

DEPT PASS TO AIT/W AND USTR
DEPT FOR EAP/TC, EAP/EP AND EB/IFD/OIA
TREASURY FOR OASIA ZELIKOW,WISNER AND OCC AMCMAHON
TREASURY ALSO PASS TO FEDERAL RESERVE BOARD OF GOVERNORS,
SAN FRANCISO FRB AND NEW YORK FRB

E.O. 12958: DECL: 07/08/2020
TAGS: ECON EFIN PINR PREL TW
SUBJECT: RENEWED HOPE FOR TAIWAN BANK CONSOLIDATION

REF: A. TAIPEI 2984

B. 04 TAIPEI 04050

Classified By: AIT DIRECTOR DOUGLAS PAAL, REASON 1.5 B/D


1. (C) Summary: On July 22 Taishin Financial Holding Company
(Taishin) won a 22.5% of equity in the state-owned Changhwa
Commercial Bank (CCB) with a bid price 46% higher than the
floor price set by CCB and twice the value foreign investors
had assigned to CCB shares in May of this year (ref A). The
high acquisition cost prompted investors to dump 88 million
Taishin shares and drove down Taishin share price by 4% on
the first trading day after the July 22 bidding. Top Taishin
executives have since argued the logic of their acquisition
to the public and separately to AIT, but outside analysts
still describe the bid as "very rich." Although Taishin
shares remain slightly down, the deal has spurred interest in
other bank acquisitions. End summary.

High Bid Surprised Even Bid Organizers
--------------


2. (C) On July 22, 2005, Taishin surprised its rivals, local
market observers, and government officials by winning a bid
for 22.5% equity in new stocks issued by CCB, one of the
large state-owned banks in Taiwan. Taishin offered NT$26.12
per share, 46% higher than the floor price of NT$17.98 set by
CCB. The price of NT$26.12 was NT$2-3 above an offer by
Temasek Holdings (a Singapore Government-controlled
investment company) that Taiwan's Ministry of Finance (MOF)
considered most likely to win. The bid price of NT$26.12 per
share far exceeded the NT$10-14 offered by foreign portfolio
investors in an aborted plan to issue global depository
receipts in May 2005. On August 1, the Taishin-CCB deal was
finalized in a formal signing ceremony.

Taishin Has Its Reasons
--------------


3. (C) Taishin Holdings Taiwan Securities Company President
Lin Keh-Hsiao explained the reasoning behind the surprise
acquisition to AIT on August 3. According to Lin, after the
failed sale of CCB in June, MOF was under pressure to find a
way to fulfill the goals announced by President Chen of
selling one of Taiwan's state-owned banks to a foreign
investor and reducing the number of state-owned banks by half
by the end of 2005.


4. (C) Lin told AIT that MOF held discussions with Temasek
prior to the July bidding in order to ensure the sale went
smoothly, and MOF even modified the bidding rules to allow
Temasek, an investment company rather than a financial
holding company (FHC),to participate. Temasek, which has
been aggressively expanding its operations in East Asia over
the past year, persuaded MOF to sweeten the deal by adding
guarantees to the dividend payments and control over the CCB
board of directors.


5. (C) Lin said that like most other financial experts he
had dismissed the second attempt to sell CCB as little better
than the first. The due diligence conducted during the
failed June sale had revealed non-performing loans (NPL) that
made the book value of CCB shares only NT$6-8 per share,
while lowest acceptable bid price was NT17.98 per share.
However, Lin said that Taishin Holdings Chairman Thomas Wu
(Tung-liang) took a boldly different way of interpreting what
was being offered.


6. (C) Lin explained that the deal gave Taishan &special8
preferred stocks. Normally, preferred stocks give three
privileges: 1) priority in dividends (the CCB preferred
stocks carry a guaranteed dividend of 1.8% of the par value);
2) convertibility to common stocks (the CCB preferred shares
will automatically convert to common stocks after three
years); 3) protection of retained earnings, dividends to
preferred stockholders foregone in one year should be paid in
subsequent years.


7. (C) Moreover, at Temasek,s urging, the MOF had agreed to
grant the bid winner the following three additional
advantages: 1) the right to vote and be voted as board
directors (MOF also promised to vote its 17.5 % equity shares
with the winner, effectively giving the winner control of the
CCB board of directors); 2) the preferred stock will have the
par value of the winning bid (NT26.12 per share) instead of a
par value based on the book or market value of the shares; 3)
The bid winner has priority over common stock holders to
receive liquidated assets.


8. (C) Lin told AIT that Taishin Chairman Wu believed that
with these guarantees, in a worst case scenario where the
merger failed and CCB continued to lose money, the total
acquisition price of NT35.6 billion could be viewed as a
capital injection into CCB that paid 1.8% interest. The
guarantees meant that the capital injection would be treated
as a debt in case of CCB liquidation, and almost certainly
would be paid back. Taishin Chairman believed this third
"special" preference was the most important, and made the
high bid a low-risk move.


9. (C) In addition, according to Lin, Chairman Wu reasoned
that the worst case was very unlikely to happen. The winning
bidder would have control over the board of directors and
could certainly arrange for a merger on acceptable terms.
President Lin told AIT that Taishin is confident that it can
increase efficiency and profitability at CCB, which in turn
will push up the stock price from the current level of NT$14
per share to over NT$26 before the end of three years (when
the preferential stock converts to common stock). MOF has
agreed to sell its shares to Taishin, and should Taiwan's
legislature object, the MOF has agreed it would not allow the
shares to go to any other single investor, or be sold in a
block, thus providing reasonable assurance that Taishin will
keep control of the CCB board of directors.


10. (U) When Taishin International Bank, a subsidiary of
Taishin FHC, and CCB merge together, the new bank will be the
second largest with a combined asset of NT$2.1 trillion. The
new bank will account for a market share nearly 9% in terms
of assets and operate the largest banking network, with 270
branches on the island.

Book Value of CCB Not Worth Bid Price
--------------


11. (C) BNP Paribas Taiwan Corporate Finance Head Peter Kurz
told AIT that the value of CCB did not justify the Taishin
bid price. He estimated that the bid was about 2.5 times
CCB's "clear book value" (i.e., net worth). Kurz said
Taishin was paying a greater premium than was paid in other
recent bank acquisitions (which he thought were also valuated
too high). He noted, however, that the bid price might be
justified on a strategic basis when the fit between Taishin's
strengths in consumer products and CCB's branch locations was
taken into account. Taishin Securities Lin revealed to AIT
that Taishin Chairman Wu had expected Fubon Holdings to also
notice the sweeteners added to the deal and so Taishin bid
high in order to shut out Fubon. However, it turned out that
Fubon did not submit a bid.


12. (C) Comment: Prior to the actual July 22 bidding,
Temasek was the favored bidder because Taiwan authorities
wanted to sell CCB to a foreign investor. MOF accepted
Temasek,s requests for special privileges to make sure the
deal was a success. Taishin was apparently the only bidder
that recognized the implications of these privileges.
However, the success of the deal, and the high bid price, has
had a dam-breaking effect on Taiwan bank consolidation.
Several FHCs did not want to be the first to buy a
state-owned bank, but also do not want to be left out as
Taiwan authorities push further consolidation. AIT has
learned that several other bank merger talks have taken on
new impetus, and may be finalized in coming weeks.
State-owned banks will be major targets because they are
large enough to quickly expand the operational scale as well
as the market share of a bid winner. End Comment.
PAAL