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What are the pros and cons of HSBC?s ?Managing for Growth? strategy?


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In-Depth Integrative Case 4.1

 


 

HSBC in China

 

Introduction

 


 

After years of negotiations, China finally acceded to the

 

World Trade Organization (WTO) in December 2001 (see

 

Exhibit 1). This development was a significant milestone

 

in China?s integration with the global economy. One of

 

the most important and far-reaching consequences was the

 

transformation of China?s financial sector. China?s banking, insurance, and securities industries were long due for

 

a major overhaul, and the WTO requirements guaranteed

 

that the liberalization of China?s economy would extend

 

to the important financial sector. China?s banking sector

 

had become a casualty of the state. Banks and other financial institutions haphazardly extended loans to stateowned enterprises (SOEs) based not on sound credit

 

analysis but favoritism and government-directed policy.

 

As a consequence, crippling debt from bad and underperforming loans mounted, with no effective market disciplines to rein it in.

 

China recognized that opening up the banking sector

 

could bolster its financial system. Foreign management

 

would help overhaul the banking sector and put the focus

 

Exhibit 1

 


 

on returns, instead of promoting a social agenda. This

 

fiscal agenda would ultimately lead to a stronger and

 

more stable economy. Yet after years of direction from the

 

state, Chinese bank managers did not have the necessary

 

skills to transform the banks on their own. Guo Shuqing,

 

shortly after being promoted to chairman of China Construction Bank, admitted that, ?more than 90 percent of

 

the bank?s risk managers are unqualified.?1

 

Immediately upon accession to the WTO, China?s

 

banking sector began to open to foreign banks. Initially,

 

foreign banks were allowed to conduct foreign currency

 

business without any market access restrictions and conduct local currency business with foreign-invested enterprises and foreign individuals. In addition, the liberalization of foreign investment rules made Chinese banks

 

attractive targets for foreign financial institutions. Sweeping domestic changes have followed. Strong emphasis has

 

been placed on interest rate liberalization, clearer and

 

more consistent regulation, and a frenzy of IPOs of state

 

owned banks has followed. It was in this context that

 

HSBC rapidly expanded its presence in China.

 


 

China?s WTO Commitments

 

General Cross-Sector Commitments

 


 

?

 


 

Reforms to lower trade barriers in every sector of the economy, opening its markets to foreign companies and their

 

exports from the first day of accession.

 


 

?

 

?

 


 

Provide national treatment and improved market access to goods and services from other WTO members.

 


 

?

 


 

Undertake important changes to its legal framework, designed to add transparency and predictability to business dealings and improve the process of foreign market entry.

 


 

?

 

?

 


 

Agreement to assume the obligations of more than 20 existing multilateral WTO agreements, covering all areas of trade.

 


 

?

 


 

Licensing procedures that were streamlined, transparent, and more predictable.

 

Commitments Specific to the Financial Services Industry

 


 

?

 

?

 


 

Allow foreign banks to conduct foreign currency business without any market access or national treatment limitations.

 


 

?

 


 

Special rules regarding subsidies and the operation of state-owned enterprises, in light of the state?s large role in

 

China?s economy.

 


 

Under the acquired rights commitment, agreed that the conditions of ownership, operation, and scope of activities for

 

a foreign company under any existing agreement would not be made more restrictive than they were on the date of

 

China?s accession to the WTO.

 


 

Allow foreign banks to conduct local currency business with foreign-invested enterprises and foreign individuals

 

(subject to geographic restrictions).

 

Banking services (with a five-year transitional plan) by foreign banks:

 

Within two years after accession, foreign banks would be able to conduct domestic currency business with Chinese

 

enterprises (subject to geographic restrictions).

 

Within five years after accession, foreign banks would be able to conduct domestic currency business with Chinese

 

individuals, and all geographic restrictions will be lifted.

 

Foreign banks also would be permitted to provide financial leasing services at the same time that Chinese banks

 

are permitted to do so.

 


 

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In-Depth Integrative Case 4.1 HSBC in China

 


 

HSBC, known for its international scope and careful,

 

judicious strategy, made a series of key investments

 

between 2001 and 2005 that arguably gave it the most

 

extensive position in China of any foreign financial group.

 

These investments included two separate transactions that

 

resulted in a 19.9 percent stake in Ping An insurance, and,

 

in June 2004, a $1.8 billion successful tender for a 19.9

 

percent stake in Bank of Communications, the fifth largest

 

bank in China. HSBC had a long history in Asia, and was

 

uniquely positioned to take advantage of China?s vast

 

population and mushrooming middle class, high savings

 

rates (in the range of 40 percent), and huge capital investments (US$50 billion FDI in 2005). HSBC recognized

 

that the current banking system was not capitalizing on

 

this vast opportunity, and sought to get in on the ground

 

floor in this new environment. Perhaps, with further liberalization, however, China would allow future investors

 

to establish even greater claims to Chinese banks. Citigroup?s successful effort to gain a controlling stake in

 

Guandgong Development Bank appeared to undermine

 

earlier investors who had been limited by China?s rule that

 

allowed foreigners to own no more than 19.9 percent of

 

domestic financial institutions. Did the huge potential

 

rewards of being an early mover in China mitigate the

 

promise of uncertainty and risks of doing business in an

 

emerging market? After being burned in Argentina, could

 

HSBC relax its conservative philosophy in its China strategy? If the economy took a turn for the worse, HSBC

 

could face heavy losses. On the other hand, could HSBC

 

afford not to be an early mover in a region where it had

 

a longstanding presence?

 

Background on HSBC

 


 

History

 

Thomas Sutherland founded the Hongkong and Shanghai

 

Banking Corporation (Hongkong Bank) in 1865 to finance

 

the growing trade between Europe, India, and China.2

 

Sutherland, a Scot, was working for the Peninsular and

 

Oriental Steam Navigation Company when he recognized

 

a considerable demand for local banking facilities in Hong

 

Kong and on the China coast. Hongkong Bank opened in

 

Hong Kong in March 1865 and in Shanghai a month later.

 

The bank rapidly expanded by opening agencies and

 

branches across the globe, reaching as far as Europe and

 

North America, but maintained a distinct focus on China

 

and the Asia-Pacific region. Hongkong Bank helped pioneer modern banking during this time in a number of

 

countries, such as Japan, where it opened a branch in 1866

 

and advised the government on banking and currency, and

 

Thailand, where it opened the country?s first bank in 1888

 

and printed the country?s first banknotes. By the 1880s,

 

the bank issued banknotes and held government funds in

 

Hong Kong, and also helped manage British government

 

accounts in China, Japan, Penang, and Singapore. In 1876,

 


 

545

 


 

the bank handled China?s first public loan, and thereafter

 

issued most of China?s public loans. Hongkong Bank had

 

become the foremost financial institution in Asia by the

 

close of the 19th century.3

 

After the First World War, the Hongkong Bank anticipated an expansion in its Asian markets, and took a leading role in stabilizing the Chinese national currency. The

 

tumultuous Second World War, for its part, saw most of

 

the bank?s European staff become prisoners of war to the

 

advancing Japanese.

 


 

The Postwar Years

 

In the postwar years, Hongkong Bank turned to dramatic

 

expansion through acquisitions and alliances in order to

 

diversify. The acquisitions began with the British Bank of

 

the Middle East (Persia and the Gulf states) and the

 

Mercantile Bank (India and Malaya) in 1959, and were

 

followed by acquiring a majority interest in Hong Kong?s

 

Hang Seng Bank in 1965. The 51 percent controlling interest in Hang Seng Bank was acquired during a local banking crisis for $12.4 million. As of 2002, HSBC?s interest

 

in the bank was 62 percent and was over $13 billion. Hang

 

Seng, which retained its name and management, has been

 

a consistently strong performer. The bank made further

 

acquisitions in the United Kingdom and Europe (from

 

1973), North America (from 1980), and Latin America

 

(from 1997), as well as other Asian markets.

 

Under Chairman Michael Sandberg, Hongkong Bank

 

entered the North American market with a $314 million,

 

51 percent acquisition of Marine Midland, a regional bank

 

in upstate New York. In 1987, the bank purchased the

 

remaining 49 percent, doubling Hongkong Bank?s investment and providing the bank a significant U.S. presence.

 

As a condition of the acquisition, however, Marine

 

Midland retained its senior management.

 


 

Move to London and Acquisitions

 

In 1991, Hongkong Bank reorganized as HSBC Holdings

 

and moved its headquarters in 1993 to London from Hong

 

Kong. Sandberg?s successor, William Purves, led HSBC?s

 

purchase of the U.K.?s Midland Bank in 1992. This acquisition fortified HSBC?s European presence and doubled

 

its assets. The move also enhanced HSBC?s global presence and advanced the bank?s reputation as a global financial services company.

 

Other major acquisitions of the 1990s included Republic

 

Bank and Safra Holdings in the United States, which doubled HSBC?s private banking business investments moves

 

in Brazil and Argentina in 1997, and acquisition of Mexico?s

 

Bital in 2002. In 2000, HSBC acquired CCF in France. By

 

2006, HSBC had assets exceeding $1,860 billion, customers

 

numbering close to 100 million, and operations in six continents. In recent years, HSBC has made a major commitment to emerging markets, especially China and Mexico,

 

but also Brazil, India, and smaller developing economies.

 


 

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Part 4 Organizational Behavior and Human Resource Management

 


 

Expansion, Acquisition,

 

and Succession

 


 

The World?s Local Bank

 

HSBC holding company set up a group policy in 1991 that

 

established 11 quasi-independent banks, each a separate

 

subsidiary with its own balance sheet.4 The head office

 

provided essential functions, such as strategic planning,

 

human resource management, and legal, administrative,

 

and financial planning and control. This setup promoted

 

prompter decision making at a local level and greater

 

accountability.5 HSBC portrays itself as ?the world?s local

 

bank,? recognizing the importance of globalization, flexibility, and local responsiveness.

 

As of 1998, HSBC established distinct customer groups

 

or lines of business that would overlay existing geographic

 

designations. This encouraged maximizing the benefits of

 

its universal scope, such as sharing best practices of product

 

development, management, and marketing. The geographic

 

perspective was melded closely with a customer group perspective, demanding both global and local thinking.

 

Traditionally, HSBC?s culture has embraced caution,

 

thrift, discipline, and risk avoidance. The bank looked at

 

long-term survival and considered markets in 50-year

 

views. Thrift manifested through the company, and even

 

the chairman flew economy class on flights less than three

 

hours.6 In 2005, incoming Chairman Stephen Green recognized the company?s rule ?to follow the letter and spirit

 

of regulations? and signaled his intention to protect the

 

bank?s reputation as it extends into consumer finance.7

 


 

Bond?s Rein and Move to ?HSBC?

 

Sir John Bond became CEO of HSBC in 1993, and chairman in 1998, bringing with him a hands-on entrepreneurial

 

style and exceptionally ambitious goals.8 He pursued acquisitions beyond HSBC?s traditional core, in pursuit of such

 

attractive financial segments as wealth management, investment banking, online retail financing, and consumer finance.

 

Bond considered shareholder value and economic profit in

 

deciding when acquisition premiums were in order, which

 

was in contrast to his predecessor?s ?three times book value?

 

rule.9 By 2001, Bond had authorized investments of over

 

$21 billion on acquisitions and new ventures.10

 

In 1998, Bond adopted the HSBC brand, and preserved

 

?The Hongkong & Shanghai Banking Corp.? name only for

 

its bank based in Hong Kong. HSBC branded its subsidiary

 

banks across the world with the parent bank?s acronym and

 

greatly expanded marketing efforts in 2000. In March 2002,

 

HSBC?s marketing message became ?the world?s local

 

bank,? which would help the brand become one of the

 

world?s top 50 most recognizable brands by 2003.11

 


 

Household Acquisition

 

In 2003, a $15.5 billion acquisition of Household International,12 the U.S. consumer lending business, became

 


 

the basis of HSBC?s Consumer Finance customer group.

 

Household utilized a unique system to forecast the likelihood that customers would repay debt, which used a

 

13-year database of consumer behavior. Household was

 

controversial and yet presented great opportunity. HSBC

 

desired to leverage this new skill in developing countries,

 

yet was unable to find all demographic and credit data

 

that Household normally relies on in the United States.

 

HSBC particularly looked to extend the Household model

 

into China and Mexico. However, the subprime mortgage

 

crisis hit the United States hard in 2007?2008 and had a

 

major impact on Household operations.

 

Six years after acquiring Household International,

 

HSBC effectively conceded that the deal was a mistake.

 

In March 2009 HSBC made public that it would close all

 

800 remaining branches of HSBC Finance Corp., the former Household Financial, resulting in 6,100 job cuts

 

nationwide. HSBC had already closed about 600 HFC and

 

Beneficial branches over the past two years.13 ?High levels of delinquency, given rising levels of unemployment,

 

mean that the business model for subprime home equity

 

refinancing is not sustainable,? said Niall Booker, HSBC

 

Finance chief executive during one of the media conferences.14 HSBC Finance said it would retain its credit card

 

business, and HSBC Holdings would keep its New York?

 

based HSBC Bank USA. HSBC officials also said that

 

the bank would continue to help mortgage customers with

 

loan repayments and foreclosure-prevention efforts.

 

The HSBC Finance (Household) executives pointed out

 

that it was hard to predict in 2003 that global financial crisis and the recession would occur. When the crisis hit hard

 

in 2008, the subprime mortgage market led to more than

 

$1.15 trillion of credit losses and writedowns at financial

 

institutions and government bailouts of companies ranging

 

from Citigroup Inc. to Royal Bank of Scotland Group Plc

 

of Edinburgh as noted by Bloomberg analysts. HSBC was

 

one of the first banks to acknowledge the possibility of

 

upcoming subprime mortgage problems, and set aside about

 

$53 billion to cover bad loans during the past three years.15

 


 

Economic Crisis and Financial Performance

 

The consequences of global economic crisis were severe

 

for the world?s banking system, prompting thousands of

 

banks to seek financial assistance from their local government. Many banks were burdened with highly overvalued

 

?bad loans? and suffered huge losses. Unlike many global

 

players, HSBC reported a profit for 2008 but it still took

 

a hit: Its pretax profit of $9.3 billion was 62 percent below

 

the $24.2 billion reported for 2007. The bank also cut its

 

dividend for the full year by 29 percent to 64 cents per

 

share. The slide in profits was largely the result of a goodwill impairment charge of $10.6 billion in the United

 

States.16 In spite of the bitter loss in North America, HSBC

 

performed much better in the other parts of the world. For

 

example, in Europe, pretax profit rose to $10.9 billion

 


 

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In-Depth Integrative Case 4.1 HSBC in China

 


 

from $8.6 billion. Profit from Hong Kong fell to $5.46 billion from $7.34 billion, while earnings from the rest of

 

Asia rose to $6.47 billion from $6.01 billion.17 HSBC is

 

still considered one of the world?s strongest banks by some

 

measures. The bank?s market value of $68.2 billion in

 

early 2009 ranked it behind only Industrial & Commercial

 

Bank of China Ltd., China Construction Bank Corp., Bank

 

of China Ltd., and JPMorgan Chase & Co.18

 

To the credit of HSBC management, the bank avoided

 

taking U.K. government ?bailout? funding unlike other

 

big banks. Instead, HSBC made plans to raise ?12.5 billion ($17.9 billion) in capital to prepare for further deterioration of the global economy.19 Also, responding to

 

growing public anger over the scale of bonuses paid to

 

many senior bankers, HSBC said no performance share

 

awards would be made for 2008 and that no executive

 

director would receive a cash bonus.20

 

Managing for Growth

 


 

HSBC?s strategic plan, ?Managing for Growth,? was

 

launched in the fall of 2003. This strategy builds on HSBC?s

 

global, international scope and seeks to grow by focusing

 

on the key customer groups of personal financial services;

 

consumer finance; commercial banking; corporate, investment banking, and markets; and private banking.21 ?Managing for Growth? is intended to be ?evolutionary, not revolutionary,? and aims to vault HSBC to the world?s leading

 

financial services company. HSBC seeks to grow earnings

 

over the long term, using its peers as a benchmark. It also

 

plans to invest in delivery platforms, technology, its people,

 

and brand name to prop up the future value of HSBC?s stock

 

market rating and total shareholder return. HSBC retains its

 

core values of communication, long-term focus, ethical relationships, teamwork, prudence, creativity, high standards,

 

ambition, customer-focused marketing, and corporate social

 

responsibility, all with an international outlook.22

 


 

Strategic Pillars

 

As part of the growth strategy, HSBC identified eight strategic pillars:

 

Brand: continue to establish HSBC and its hexagon symbol as one of the top global brands for customer experience and corporate social responsibility.

 

Personal Financial Services: drive growth in key markets

 

and through appropriate channels; emerging markets are

 

essential markets with a burgeoning demand.

 

Consumer Finance: offer both a wider product range and

 

penetrate new markets, such as the emerging country

 

markets.

 

Commercial Banking: leverage HSBC?s international

 

reach through effective relationship management and

 

improved product offerings.

 

Corporate, Investment Banking, and Markets: accelerate

 

growth by enhancing capital markets and advisory

 

capabilities.

 


 

547

 


 

Private Banking: a focus on serving the highest value

 

personal clients.

 

People: draw in, develop and motivate HSBC?s people.

 

TSR: fulfill HSBC?s TSR target by achieving strong competitive performances in earnings per share growth and

 

efficiency.23

 

Focus on Emerging Markets

 


 

In 2000, HSBC had half of its assets in developing countries.24 Most earnings, however, stemmed from mature markets, such as Hong Kong and Britain. All but 5 percent of

 

group profits came from five economies, while India and

 

Latin America each added only 1 percent to group profit.25

 

In 2005 incoming Chairman Stephen Green underlined

 

HSBC?s focus on the potential of emerging markets: ?There

 

is a general rule of thumb that says the emerging markets

 

grow faster than mature markets as economies and the

 

financial services sector grows faster than the real economy

 

in emerging markets because you are starting from very

 

low penetration of financial services in general.?26

 

Specifically in consumer finance, Green recognized the

 

importance of importing HSBC?s model into markets

 

starved for credit cards and loans, saying, ?Any analysis

 

of the demographics of emerging markets tells you that

 

consumer finance is going to be an important part, and a

 

rapidly growing part, of the financial-services spectrum

 

for a long time to come.?27

 


 

The Draw of Emerging Markets

 

Recognition of the impact of emerging markets is an

 

essential thread running throughout the elements of the

 

?Managing for Growth? strategy. Since 2000, many of

 

HSBC?s emerging markets? profits have increased dramatically (see Exhibit 2). Across the board, HSBC?s pretax

 

profits in emerging markets have increased from $905 million in 2000 to $3,439 million in 2005. In January 2010,

 

HSBC Global Asset Management reported that despite

 

high volatility throughout 2009, Asian and emerging market equities gained around 100 percent. The Brazilian

 

equity market was the best performer with a return of over

 

140 percent in 2009. In contrast, major markets such as

 

the U.S., Europe, and Japan were all up between 39 and

 

82 percent for the same period. Meanwhile, HSBC Global

 

Asset Management expects the pace of economic growth

 

in global emerging markets to be faster than that of developed markets over the medium to long term.28

 

Liberalization of

 

China?s Banking Sector

 


 

China?s Banking Sector Pre-WTO

 

Before the WTO accession negotiations, China?s banking

 

industry operated as a cog in China?s centrally planned

 

economy. The state commercial banks performed a social

 

function, during China?s post-Mao drive to industrialize,

 


 

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Part 4 Organizational Behavior and Human Resource Management

 


 

Exhibit 2

 


 

HSBC Emerging Markets

 

Pretax Profits 2005 vs. 2004, 2000

 


 

Country

 

Argentina

 

Brazil

 

China

 

India

 

Indonesia

 

Malaysia

 

Mexico

 

Saudi Arabia

 

South Korea

 

Taiwan

 

Turkey

 

UAE

 

Total

 

Total profit

 

before tax

 

(all countries)

 


 

2000

 

(US$

 

mil)

 

112

 

208

 

226

 

87

 

70

 

116

 

9

 

30

 

65

 

45

 

59

 

130

 

905

 


 

2004

 

(US$

 

mil)

 

154

 

281

 

32

 

178

 

76

 

214

 

774

 

122

 

89

 

107

 

142

 

192

 

2,361

 

18,943

 


 

2005

 

(US$

 

mil)

 


 

Pretax Profits 2005 vs. 2006

 

% Change

 

2004?

 

2005

 


 

244

 

406

 

334

 

212

 

113

 

236

 

923

 

236

 

94

 

68

 

265

 

308

 

3,439

 

20,966

 


 

instead of operating for economic return. Consequently,

 

the banks adhered to directed lending practices from the

 

government and in turn created some of China?s most

 

successful enterprises, but also supported thousands of

 

other inefficient and unprofitable state-owned enterprises.

 

This practice left state commercial banks with massive

 

amounts of debt that were largely unrecoverable and

 

hordes of nonperforming loans.

 

In addition to widespread losses, instability ensued in

 

the banking system overall. To make matters worse, corruption and mismanagement ran rampant throughout the

 

sector, sapping away consumer and investor confidence.

 


 

WTO Accession

 

Following 15 years of negotiation and two decades of

 

economic reform in China, December 11, 2001, marked

 

China?s accession to the World Trade Organization. The

 

main objective of the WTO agreement was to open China?s

 

market up to foreign competition. The deadline for complete implementation was December 11, 2006.

 

China made a number of implementations immediately.

 

To begin with, foreign banks were allowed to conduct foreign currency business without any market access restrictions. Also, foreign banks were allowed to conduct local

 

currency business with foreign-invested enterprises and

 

foreign individuals (with geographic restrictions). Within

 

two years of accession, China agreed to allow foreign

 

banks to conduct domestic currency business with Chinese

 

enterprises (geographic restrictions). Within five years, foreign banks could conduct domestic currency business with

 

Chinese individuals (no geographic restrictions); and foreign banks were able to provide financial leasing services

 

at the same time as Chinese banks. Under the WTO investment provisions, China agreed to allow foreign ownership

 

of Chinese banks (up to 25 percent), with no single foreign

 

investor permitted to own more than 20 percent.

 


 

58

 

44

 

944

 

19

 

49

 

10

 

19

 

93

 

6

 

236

 

87

 

60

 

146

 

110.7

 


 

Country

 

Argentina

 

Brazil

 

China

 

India

 

Indonesia

 

Malaysia

 

Mexico

 

Saudi Arabia

 

South Korea

 

Taiwan

 

Turkey

 

Middle East

 

Other

 

Total

 

Total profit

 

before tax

 

(all countries)

 


 

2006

 

(US$ mil)

 

157

 

526

 

708

 

393

 

71

 

274

 

1,009

 

181

 

48

 

(23)

 

217

 

730

 

166

 

4,533

 

22,086

 


 

% Change

 

(2006 over

 

2005)

 

236

 

30

 

112

 

85

 

237

 

16

 

9

 

41

 

213

 

NA

 

218

 

25

 

215

 

19

 

5

 


 

?Bank reform has become the most crucial task for the

 

government in pushing forward economic reforms,? said

 

Yi Xianrong, an economist at the Chinese Academy of

 

Social Sciences in Beijing.29 Indeed, bank reform is critical to stabilizing and advancing the Chinese economy.

 


 

Domestic Reform

 

China has undertaken a number of domestic reforms in

 

order to overhaul the banking industry. China has engaged

 

in interest rate liberalization by removing certain interest

 

rate and price controls. Instead of being pegged to the

 

U.S. dollar, as it once was, China?s currency exchange

 

rate is now pegge...

 

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