Statement by Mr Raymond C F Or
Vice-Chairman and Chief Executive

Good afternoon ladies and gentlemen. Thank you for attending Hang Seng's 2005 annual results announcement. Please note the cautionary words on forward-looking statements on the screen.

Rising interest rates and the competitive operating environment both had a significant impact on our 2005 results.

Interest rate increases improved net free funds contribution and deposit spreads, but severely compressed spreads on Treasury investments and money market portfolios and slowed investment fund sales.

As competition in the banking sector intensified, we further refined our strategy of providing premium service and customised financial solutions. This particularly benefited Personal Financial Services, which recorded a double-digit increase in pre-tax profit.

However, the competitive conditions continued to squeeze corporate lending margins, which led to a drop in income from Corporate and Institutional Banking.

There was a continued improvement in confidence within the business community during the year. We increased our focus on middle-market enterprises by appointing dedicated customer relationship managers. We also deepened relationships with small and medium-sized enterprises (SMEs) by strengthening sales management teams. This helped us increase income from Commercial Banking.

Along with improving property and labour markets, the stronger economy drove borrower demand, which helped us expand lending. Although Commercial Banking's pre-tax profit was affected by a small number of large loan impairment charges, the overall quality of our loan portfolio improved.

We made good progress with the development of our mainland China business, including opening three new outlets.

Before turning to the results, I should point out that a number of changes to Hong Kong's financial reporting and accounting standards came into effect on 1 January 2005. While we have restated our 2004 accounts, there will still be figures that are not directly comparable.

Results Highlights

Hang Seng's total operating income grew by 17.3 per cent to HK$23,246 million, underpinned by strong growth in net interest income and a significant expansion in our insurance business.

Pre-tax profit was up 0.6 per cent at HK$13,358 million.

Profit attributable to shareholders was HK$11,342 million, comparable to the HK$11,364 million achieved in 2004. Earnings per share were HK$5.93.

Operating profit excluding loan impairment charges was down 1.1 per cent at HK$11,686 million.

Rising interest rates and continuing borrower demand helped us grow net interest income by 10.6 per cent to HK$11,068 million.

Improved deposit spreads, increased contribution from net free funds and the beneficial effects of a HK$24.9 billion rise in average interest-earning assets outweighed the impact of downward pressure on Treasury investments and money market portfolio spreads.

Net interest margin improved by 11 basis points to 2.19 per cent.

Net fee income declined by 16.1 per cent to HK$2,874 million. The upward trend in interest rates saw investors shift their focus from capital-guaranteed funds to higher-yielding market-linked instruments, leading to a 34 per cent fall in related fee income. Increases in the number of credit cards and cardholder spending helped card services income rise by HK$107 million, or 17.9 per cent.

Despite the substantial drop in commission from sales of capital-guaranteed funds, we grew wealth management income by HK$16 million to HK$3,488 million. This was driven by a HK$235 million, or 17.9 per cent, rise in insurance income.

Total funds under management, including discretionary and advisory, grew by 18.1 per cent to HK$106.2 billion.

Operating expenses increased 7.4 per cent to HK$4,546 million as we invested in human resources, technology and marketing to drive future business growth.

However, at 28 per cent, our cost efficiency ratio is still one of the lowest in the global banking industry.

Our average liquidity ratio remained strong at 45.1 per cent and we continued to be well capitalised.

We raised HK$4.5 billion in subordinated debt during 2005. This helped to balance our capital structure and will be used to fund future business growth. At 31 December 2005, our total capital ratio was 12.8 per cent, compared with 12 per cent a year earlier. Our tier 1 capital ratio was 10.4 per cent.

Shareholders' funds, excluding proposed dividends, rose by 4.4 per cent to HK$38.9 billion, attributable mainly to the increase in retained profits and premises revaluation reserves. Our return on shareholders' funds was 27.5 per cent, one of the highest in the industry.

Total assets at year-end were up 6.2 per cent at HK$580.8 billion.

At 31 December 2005, gross impaired advances as a percentage of gross advances improved to 0.5 per cent, compared with 0.7 per cent at 30 June last year and at the end of 2004.

Loan impairment charges and other credit risk provisions were HK$618 million, compared with a total net release of HK$777 million in 2004. Individually assessed impairment charges amounted to HK$309 million, with net releases from mortgages and personal loans partly offsetting an increase in charges on several Commercial Banking accounts. Collectively assessed loans also recorded a charge of HK$309 million, of which HK$187 million was due to the update of historical loss rates.

Customer Group Performance

Personal Financial Services' pre-tax profit rose 13.4 per cent to HK$7,686 million, contributing 57.5 per cent of our total pre-tax profit. Operating profit excluding loan impairment charges was up 10.7 per cent.

Net interest income was up 18 per cent, driven by a 3.7 per cent rise in customer deposits and widening deposit spreads.

The introduction of several innovative life insurance products helped us grow net earned insurance premiums by HK$3,445 million, or 77.9 per cent. We also achieved a 66.4 per cent increase in annualised premiums for new life insurance policies concluded in 2005.

Our Private Banking business made significant progress, registering a 52.8 per cent increase in investment services and advisory fees.

Commercial Banking reported an 11.3 per cent rise in operating profit excluding loan impairment charges, reflecting growth of 6.8 per cent in trade services volume and 15.5 per cent in customer advances. Net interest income grew by 19.1 per cent.

However, due to a net loan impairment charge, in contrast with a net release in the previous year, pre-tax profit fell by 49.2 per cent to HK$1,078 million. Commercial Banking's contribution to total pre-tax profit was 8.1 per cent.

Market liquidity put downward pressure on corporate lending margins in 2005, leading us to focus more on higher-yielding loans. Corporate and Institutional Banking's pre-tax profit fell 37.8 per cent to HK$507 million, representing 3.8 per cent of total pre-tax profits. Operating profit before loan impairment charges was down 19.1 per cent.

Treasury experienced a very tough operating environment last year. Rising interest rates increased funding costs and flattening yield curves resulted in a lack of opportunities for yield enhancement. Pre-tax profit fell HK$1,323 million, or 55.2 per cent, to HK$1,072 million.

Mainland Operations

We further expanded our Mainland operations in 2005. In January, we opened a sub-branch in Shenzhen and relocated our Fuzhou branch to accommodate its business growth. Later in the year we opened a new representative office in Dongguan and a third sub-branch in Shanghai. We also upgraded our Beijing representative office to a branch. We now have 12 Mainland outlets.

We also recruited new staff to help us expand our business. By 31 December 2005, our total number of full-time equivalent employees had increased by 32.7 per cent to 377.

We achieved steady increases in personal and commercial customer numbers, with customer deposits growing by 79.6 per cent. Encouraging expansions in commercial lending and home mortgages helped our Mainland loan portfolio rise by 41.9 per cent to a record HK$10.5 billion.

Our 15.98 per cent stake in Industrial Bank contributed HK$358 million to bottom-line profits. In April, we established a joint credit card centre and we are exploring other potential areas of co-operation.

Loans and Deposits

Under competitive market conditions, we focused our efforts on higher-margin lending and the development of yield-enhanced deposit instruments.

Advances to customers rose by 3.6 per cent to HK$260.7 billion. The improving economy helped us grow lending to the wholesale, retail and manufacturing sectors by 35.3 per cent. Lending to the property development and investment sectors rose 8.4 per cent.

Personal loans grew by 51.8 per cent as we continued to promote consumer finance.

Card advances rose by 18.4 per cent, reflecting a 19.7 per cent increase in card spending and a 10.2 per cent rise in the card base. We now have about 1.27 million credit cards in circulation.

Progressive marketing and several successful new mortgage products helped us increase our residential mortgage lending by 1.7 per cent compared with market growth of 0.9 per cent. During the last quarter of 2005, we were the leading bank for new residential mortgage business in Hong Kong.

Gross advances for use outside Hong Kong enjoyed strong growth of 31.1 per cent to reach HK$15,876 million, driven largely by increased Mainland lending.

Customer deposits together with certificates of deposit and other debt securities in issue increased by 3.4 per cent.

At the end of 2005, our advances-to-deposits ratio was 54.4 per cent, compared with 54.3 per cent a year earlier.

We made good progress with our Hong Kong-based RMB business. Several promotional offers helped us grow our RMB deposits. By 31 December 2005, our market share was 11.6 per cent, a year-on-year increase of 3.1 percentage points.

Our Roadmap for Growth

Economic growth is forecast to be more modest in 2006. Building on our existing strengths, we have developed a roadmap for growth that will ensure we move forward as the competition stiffens.

Our vision is to increase shareholder value by becoming the leading regional bank in Greater China, focusing particularly on southern China and the Yangtze River Delta region.

We have identified business priorities that offer good growth opportunities and set challenging targets.

In Personal Financial Services, we will further build our wealth management business by improving cross-selling and developing innovative products to attract new customers, particularly in the affluent and mass affluent segments. We aim to double Private Banking's profits within five years. We will expand our personal lending and credit card businesses. We will increase our market share among younger customers by introducing services designed specifically to meet their needs.

We will strive to raise Commercial Banking's contribution to total pre-tax profit to 20 per cent within the next five years. Our large customer base provides a valuable platform for growing our lending and corporate wealth management business. We aim to become the preferred bank for SMEs in Hong Kong by increasing our investment in developing specialised product and service offerings for such companies.

We will develop a more balanced and diversified Treasury income base. Operating within prudent risk management parameters, we will work to grow income from customer-driven business and proprietary trading.

We have set a pre-tax profit contribution target of 10 per cent within the next five years for our Mainland business. We will increase our service capabilities by opening more outlets, particularly sub-branches, in key strategic cities. Along with recruiting new staff, this will help us capture more business.

During the next three years, we plan to invest over HK$1 billion to expand our Mainland network to more than 30 outlets.

We will deepen our co-operation with Industrial Bank in various lines of business. We will also consider investments in insurance, asset-management and securities businesses should suitable opportunities arise.

At an operational level, we will be more progressive in implementing our business strategies while maintaining good cost efficiency.

In reaction to keener competition and rising pressure on costs and margins, we will take a more critical approach in assessing resource allocation, business operations and service offerings. However, we will continue to balance the interests and expectations of shareholders, customers and staff with our responsibilities to the community as a good corporate citizen.

We will hire more staff and invest in brand rejuvenation and branch renovations to better serve existing customers and attract new ones, particularly among younger generations. We will also make increased use of relevant new technology.

Uncertainties such as US interest rate movements, oil prices and cost pressures all have the potential to slow the pace of economic growth.

However, I am fully confident that with our management team staying focused on our objectives, we can build on our strengths to create increasing value for shareholders.

Thank you.