Vietnam: No tiger yet

Among the sandy beaches and picturesque pagodas of Vietnam, a massive transition is under way. Since the 1986 launch of Doi Moi, the country's programme of political and economic reforms, Vietnam has taken big steps to liberalise its economy to trade and investment.

It joined the Association of Southeast Asian Nations (Asean) as a full member in 1995, following that up by becoming part of the Asean Free Trade Area (Afta) in 2005 and the World Trade Organization in 2007, while simultaneously signing a host of bilateral trade agreements.

Money has since flooded in, with exports jumping from $5bn in 1995 to a whopping $150bn in 2014, according to data from CEIC. Exports expanded by 12% year-on-year in the second quarter of 2015, and the purchasing managers index (PMI) for July showed solid growth momentum.

Taking heart from the recent evolution, the government and the central bank have been trying to give the country’s capital markets a big — and much-needed — makeover. And one of their big areas of focus has been its equities market. In early 2014, the government started to push state-owned enterprises (SOEs) to list on the Ho Chi Minh or Hanoi stock exchanges.

“Privatisation talks started in 2011 but after that Vietnam saw some terrible times for its economy so the process was stopped until 2013,” said Tuan Le Anh, head of research at Vietnam-focused fund manager Dragon Capital. “And then last year the government realised it was key for their reforms so decided to speed things up, and this is very positive.”

Some 280 companies were put on the list to equitise, but while the government’s intentions were solid, it ended up biting off more than it could chew.

Progress on IPOs has been slower than slow, with just a handful of companies trickling out to the market since the government decided to pep things up. This year the state finalised the names of the entities it wants to privatise, and the size of the stakes it wants to sell. This is the first time the list has been made public, and the aim is to help woo foreign investors.

It set up a special working group to monitor the work too, but that hasn't helped the government hit its targets. Vietnam raised a small $51.3m in 2014 by selling shares in Vietnam Airlines Corp, in a deal that failed to attract a single foreign investor. Sources blame the lack of any English language prospectus or roadshow, and the fact that just a tiny 3.5% of the company was sold.

Thomas Hugger, chief executive officer of Asia Frontier Capital, says that a lack of clarity on IPO processes in general in Vietnam is a big reason for the no-show from international accounts, and that the stakes are often too small to be a meaningful investment for foreigners.

“All this talk about share sales has also created an overhang in some stocks because there is fear of liquidity being sucked out of the market,” he reckons. “There is some pressure, which is one of the reasons why the performance of the market has disappointed recently.”

The Ho Chi Minh index had a good start to the year before slipping in April and May, but regained some composure in July. Despite the slowdown, it has still outperformed some of its southeast Asian peers. While the benchmark stock index has recorded year to date gains of 13.45% (at the time of writing in early August), Indonesia has negative returns of around 7%, Malaysia negative 3% and the Thai index negative 2.57%.

“The fundamentals of [Vietnam] have always been there and remain attractive, but how much investors can nurture and exploit such potential is a challenge,” says Seck Yee Chung, a partner at Baker & McKenzie in Vietnam. “But businesses are more confident now and with a stable macro environment, things look back on track.”

This stability had been in short supply in the past. Surging inflation, repeated devaluation in the Vietnamese dong, a slump in the government’s trade balance and rising interest rates had constantly undermined investor confidence.

But the last few years have told a different story, as the country started to emerge from the doldrums. A seal of approval came from ratings agency Moody’s in July last year, when it upgraded Vietnam’s rating by one notch to B1 from B2. It cited three drivers for the change: an emerging track record of macroeconomic stability, strengthening balance of payments, and easing in the contingent risks from the banking sector. Fitch followed suit, lifting its rating to BB- from B+ in November.

Vietnam has been eager to capitalise on that improved sentiment. And although the country has so far failed to stick to its ambitious targets of SOE sales, there may yet be a ray of light in the horizon thanks to changes to rules on foreign ownership of stocks in listed entities.

Until now, foreigners could only own 49% of public companies. But in June, the prime minister signed a decree abolishing that restriction, with the new 100% ownership rules coming into effect on September 1.

The restrictions have been a big barrier to developing Vietnam’s capital markets, as room for more foreign investment was always limited. There are 31 companies whose foreign ownership has already hit the 49% limit, and another 10 firms are nearing the cap.

These firms, accounting for roughly 30% of the market capitalisation of the Vietnam exchange, are considered the crème de la crème — making them highly sought after by the international community, but hard to get hold of.

Sources now hope the easing of limits will help stimulate the IPO process by incentivising more companies to list. Of course, investors will still not be able to get their hands on all listed stocks, as ownership limits will apply to the financial sector (30%) and to firms in sensitive industries including defence and telecommunications.

“It’s a big move and it's complicated, but it’s clearly positive for the stock market of Vietnam,” said Michel Tosto, head of equities and fixed income at local brokerage Viet Capital Securities. “It opens the door to foreign companies operating in Vietnam to list locally without having to give up control, as they had to do in the past.

“For example, Unilever could decide to list one of its units here, sell a 20% stake and keep control on the company. So even if implementation is slow and complicated, it's a major move.”

It may look positive on paper, but Tosto reckons the Vietnamese government’s primary objective with pushing IPOs is not selling shares or making money. He thinks the purpose is to try to improve, if only a little, corporate governance and transparency in SOEs.

State-backed entities themselves often resist listings, as it would force them to hire established auditors to dissect their financials.

“It’s typical Vietnam,” said Hugger. “They want to do it right, but only ever do things half right. It’s still very bureaucratic, and together with the political environment it is hard to deal with.”

There are some pockets of hope emerging, particularly in banking. The State Bank of Vietnam (SBV) has been on a consolidation drive after announcing this year that it planned to shrink the number of banks in the country to 15-17 by 2017, from around 40. Many of the banks are small and under-capitalised and the central bank thinks reducing the number of weak banks would reduce the system’s elevated contagion risk.

It also passed a new law in February that restricted banks’ cross-ownership to 5% or less in a maximum of two other financial institutions.

The moves have already started to shake things up, with the mergers of Saigon Thuong Tin Commercial JSB (or Sacombank) with Southern Commercial JSB and Vietnam Maritime Commercial JSB with Mekong Development JSB both receiving initial approvals from the central bank. They are expected to be completed this year, and a total of six to eight mergers are tentatively slated for 2015, say sources.

At the same time, the SBV has taken over troubled lenders Global Petro Bank, Vietnam Construction Bank and Dai Duong (Ocean) Commercial Bank this year because they failed to restructure their bad debts.

Eugene Tarzimanov, vice-president and senior credit officer in the financial institutions group at Moody’s, thinks the SBV wants to make its domestic banks bigger and better through consolidation and restricting cross-ownership.

“It was done to have more soundness within banks,” he said. “If one bank is in trouble, it can have a domino effect on the banks it owns stakes in, and the SBV wants to avoid that. Moreover, market participants believe that some cross-ownership transactions in the past did not create new capital and were ‘circular’ in nature, and the SBV apparently wants to close that loophole.”

Another concern has also been the mystery surrounding ownership of banks, as one entity can own a bank through another company or a shell company, but are getting away with it as there is little information available on the structure. “So the SBV wants to introduce market discipline,” added Tarzimanov.

Too many players in the market created an overbanked system, which hit credit growth in recent years. On top of that, there were many legacy stressed assets created between 2005 and 2011, which added to a desperate need to clean up the industry.

But that is now seeing a shift. Every year, the central bank sets growth targets for banks that they need to achieve but typically can’t exceed. For 2015, the system-wide target has increased to 15%-17% from 10%-13% in the previous year, and could reach 20% next year.

“Some midsize banks are already growing at 20%-30%,” reckons Tarzimanov. “This tells us there is confidence returning to the market and banks are more comfortable about resuming growth.”

To help improve its banking system, the SBV in 2013 set up the Vietnam Asset Management Company (VAMC) which buys non-performing loans (NPLs) from local financial institutions before selling them to investors.

But this too has been causing a headache, as the VAMC has only managed to sell about 5% of the approximately VND158tn ($7.1bn) of NPLs it has purchased. And if history is to be believed, every time Vietnamese banks see rapid credit growth, it has come hand-in-hand with imbalances in the economy.

“Establishment of the VAMC has helped banks to report lower NPLs, spread out their provisioning requirements, and limit the immediate impact on their capitalisation,” said Amit Pandey, a credit analyst at Standard & Poor’s. “However, actual resolution of NPLs by the VAMC has been slow.”

The government’s umpteen measures to help revive its capital markets and entice foreign investors are certainly welcome, even if they are yet to have a full-blown effect. But momentum is certainly building. 

Vietnam made a rare appearance in the international bond market in November last year, after a four year gap. It sold $1bn 10 year notes through a simultaneous tender and exchange offer, which was a massive hit with investors and allowed the sovereign to dramatically cut costs.

Syndicated loans bankers are also keeping busy, thanks to a flurry of borrowers coming out for offshore loans to take advantage of liquidity and an improving macroeconomic outlook.

Joint Stock Commercial Bank for Investment and Development of Vietnam (BIDV), which has tapped lenders twice this year already, and Vietnam Investment Group (VIG) led the action, successfully shaving costs as banks warmed up to the country’s credits.

And although a lot of attention has been given to the country’s ECM market, no deals have priced this year so far, according to Dealogic.

“When I meet investors who come to Vietnam thinking they’ll make money on IPOs, I tell them not to bet on it,” said Tosto of Viet Capital Securities. “The reality is that they’ll go home unable to find any good opportunities. So while Vietnam has taken the first step in the right direction, it’s a slow step. We always tell investors to focus on the good and cheap companies already listed.”

Among the sectors most liked by foreign investors include consumer products, financials and real estate, say market participants. The challenge with investing in the banking sector is the foreign ownership limit of 30%. Whether this is likely to rise anytime soon is still up for debate, but a surprising new sector is popping up on investors’ radar.

“One of the big growth industries has been HR,” said Baker & McKenzie’s Chung. “Demand for workforce is expected to grow but people need training and everyone is on the hunt for the right talent. So it’s an attractive market to invest in.”

Vietnam also tweaked rules for mergers and acquisitions in July, meaning foreign investors now no longer need to undergo lengthy procedures to obtain an investment certificate when buying stakes in firms. This eases the way for foreigners to acquire chunky positions in companies, and when combined with the relaxation of ownership limits, gives businesses the opportunity to acquire 100% stakes in certain names.

But Chung warns that the work is never over even if an acquisition goes smoothly.

“Post-acquisition integration is important for companies,” he said. “It’s the difference between dating and getting married, because while it’s good to pop the champagne, the reality is that there’s a lot of work to do after closing the deal in order to truly achieve integration.”

Vietnam is well on its way for an economic lift-off. According to a PricewaterhouseCoopers report from February 2015, Vietnam has the potential to become one of the world’s fastest-growing economies over the period to 2050. It’s already gaining clout as the next big manufacturing hub, with HSBC predicting in an August note that Vietnam is poised to continue to take more global manufacturing market share.

Signing a Free Trade Agreement with South Korea has helped, as will the fact that it is working on an agreement with the US through the Trans Pacific Partnership (TPP) – which if sealed could work wonders.

“The signing of the TPP will change the landscape for the country dramatically,” said Oliver Massmann, a partner at law firm Duane Morris. “If Vietnam is able to stick to the points in the agreement and actually walk the talk, that will bring about real change.”

But there is one big roadblock for growth — and that comes from the country’s ailing and often troubled state-controlled firms.

“Vietnam's economy has one cancer,” added Massmann, who is also a member of the supervisory board of PetroVietnam Insurance Corp, the country’s largest industrial insurer. “It’s not incurable, but its cancer is its current system of state-owned enterprises. They have huge NPLs and while they play an important role in the economy, they are holding back the productive development of the economy.

“And changing that is nearly mission impossible, except one solution and that would be allowing full privatisation with majority control option for foreign investors. If that will be done, Vietnam will be the Asian tiger for decades to come.”