Pumpkin Carriage Hauls Japan Bank From Star Status to Pariah

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(Bloomberg) -- It wasn’t so long ago that Suruga Bank Ltd. was seen as a model for how Japanese lenders can survive in an era of rock-bottom interest rates and weak loan demand.

The regional bank was hailed for generating the best loan margins in the country, thanks to its focus on individual borrowers who were shunned by its risk-averse competitors. Now, Suruga has come unstuck for giving credit to investors in failed real estate investment projects, prompting Japan’s financial regulator to investigate the company’s lending practices.

Shares of the Shizuoka-based bank have dropped 44 percent this year following allegations that it had been approving loans for investors in shared rental properties based on falsified documentation. The bank’s woes deepened Wednesday when the stock tumbled 19 percent, the steepest decline in 43 years, after the Asahi newspaper reported fresh cases of such lending.

While there have been no accusations of wrongdoing on Suruga’s part, the bank may have let its standards slip in the quest to retain its dominance of mortgage lending amid growing competition from yield-starved rivals, according to J. Brian Waterhouse, a senior bank analyst at Windamee Research.

“Suruga Bank’s precipitous fall from grace from foreign investor darling of Japanese bank stocks to near-universal pariah is a stark reminder” to all lenders to know your customer, Waterhouse wrote in a note published by research platform Smartkarma. When banks start to cut corners, “the potential for fraud grows enormously,” he said.

Below are five charts that show why Suruga was lauded as a regional bank that outperformed its peers -- and how its setbacks this year are beginning to undermine that status. A spokesman for Suruga declined to comment.

The selloff started when local media reported that Smart Days, a company that managed shared homes built for single women, halted rental payments to investors in the properties who had borrowed from Suruga. Occupation of the so-called Kabocha no Basha (Pumpkin Carriage) homes was too low to sustain the rental income promised by Smart Days, which filed for bankruptcy on April 9.

Even after its dramatic share-price decline, Suruga still has a market-beating valuation. The stock trades at 0.83 times the book value of its assets, higher than the 0.57 times average for publicly traded banks in Japan, data compiled by Bloomberg show.

Part of Suruga’s appeal has been its ability to weather the pressure on profitability from Japan’s miserly interest rates by focusing on riskier housing and consumer loans. Its net interest margin is more than three times higher than the Japan average.

Read more on how Suruga Bank beat Wells Fargo in loan margins

Suruga’s net income has grown for six straight years, reaching a record 42.6 billion yen ($394 million) in the 12 months to March 2017. Analysts expect the bank will report similar profit for the fiscal year that ended last month, according to estimates compiled by Bloomberg.

Yet rising soured loans may soon eat into earnings. Credit costs could double to 200 billion yen based on the Pumpkin Carriage debacle alone, JPMorgan Chase & Co. analysts have estimated. That could also tarnish a bad-loan ratio that has fallen in recent years to less than 1 percent.

Suruga shares have recovered more than 7 percent since Wednesday’s tumble, climbing 1.2 percent on Tuesday morning in Tokyo. Yet downward pressure is likely to persist, even if the bank weathers this “embarrassing storm,” Waterhouse said. Foreign investors, who own about a third of the stock, are beginning to complain about the company’s dividend payout ratio, which is much lower than those of its peers, he said.

“This latest share price drop may not be the end of selling by any means,” said Waterhouse, who used to cover Japanese banks at CLSA Ltd. “It will be a long and slow climb back to grace.”

©2018 Bloomberg L.P.

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