Statement by Mr Vincent H C Cheng
Vice-Chairman and Chief Executive

Good afternoon ladies and gentlemen. Thank you for joining us for the announcement of Hang Seng Bank's 2004 interim results.

In tandem with the economic recovery, Hang Seng improved its performance for the first half of 2004. The low interest rate environment and squeezed interest margins remained a challenge, but we were able to counter their effects by producing substantial gains in other operating income, particularly from our wealth management business.

Results highlights

When compared with the first half of 2003, attributable profit increased by HK$1,223 million, or 24.4%, to $6,245 million. This was derived mainly from a strong growth of 25.7% in other operating income, as well as a large release in provisions for bad and doubtful debts. Compared with the second half of 2003, attributable profit rose by $1,728 million, or 38.3%.

Earnings per share increased to $3.27, which was 24.3% higher than the first half of 2003 and 38.6% higher than the second half.

Excluding the impact of the release in general provisions and the related deferred taxation, attributable profit increased by $647 million, or 12.9%. This increase reflects the solid performance of our underlying business in a difficult operating environment.

Operating profit before provisions was $6,096 million, an increase of 0.4%, compared with the first half of 2003. Compared with the second half of 2003, operating profit before provisions was 12.8% higher.

Other operating income increased substantially by $688 million to $3,362 million compared with $2,674 million for the first six months of 2003, a rise of 25.7%. This represented a record 41.6% of our total operating income, up from 33.9% for the same period last year.

Our growth in other operating income outweighed the decrease of $509 million, or 9.8%, in net interest income. The decline in net interest income was mainly due to the exceptionally low HKD interest rates, which reduced deposit spreads, and the fierce competition in the mortgage markets which negatively impacted margins.

Spreads on time deposits accounted for a fall in net interest income of $279 million, as the bank was unable to reduce the already very low deposit rates. Compression in the corporate loan margin and average mortgage yield accounted for a further fall of $325 million. Spreads narrowed as higher yielding debt securities matured, and were replaced with securities at lower yields, contributing to a fall of $284 million.

Average interest-earning assets, however, increased by 7.6%, contributing $402 million in net interest income.

Net interest margin narrowed by 39 basis points to 2.02%, comprising a fall in net spread of 38 basis points and a decline of 1 basis point in contribution from net free funds.

The average yield on the residential mortgage portfolio, excluding GHOS mortgages and staff loans, fell to 192 basis points below BLR, before accounting for the effect of cash incentive payments. This compared with 170 basis points and 184 basis points below BLR in the first and second halves of 2003 respectively.

Operating expenses increased by $156 million, or 8.6%, to $1,977 million. The increase was due to the additional staffing, IT costs and marketing expenditure required after the low marketing activities during the SARS period last year.

The total number of staff increased by 195 during the first half of 2004 to 7,475, mainly to support the expansion of our personal financial services business and Mainland branches.

Operating profit after provisions went up by 22.1%, benefiting from a release of $763 million in provisions for bad and doubtful debts.

There was a net release in specific provisions of $65 million, compared with net charges of HK$462 million and HK$336 million for the first and second halves of 2003. Credit conditions were benign, as the economic recovery continued with falling unemployment, reduced levels of bankruptcies, and rising property prices. There was also a release of $698 million in general provisions, which was the result of a regular review to assess the required general provisioning level. The review is based primarily on historical loss of individual components of the loan portfolio, which had improved significantly as evidenced by the reduction in charge-offs and increase in recoveries.

The ratio of gross non-performing advances to gross advances to customers further improved from 2.3% to 1.6% at the end of June 2004.

Overdue advances dropped by 37.7% to $2,060 million, which reflected the substantial improvement in mortgage delinquency and repayments from overdraft and corporate accounts.

This year, we began a programme of quarterly dividends for our shareholders. A second interim dividend of $1.10 per share has been declared by the Directors that, together with the first interim dividend of $1.10 per share, brings the total distribution for the first half of 2004 to $2.20 per share. This represents a slight increase over the $2.10 per share for the first half of 2003.

Shareholders' funds, excluding proposed dividends, rose by $3,042 million, or 8.4%, to $39,242 million. The increase was attributable to the rise in retained profits and property revaluation reserves. Return on average shareholders' funds was a record 30.9%, which was 6.4 percentage points higher than the cost:income ratio. Once again, the ROE was higher than our cost:income ratio.

The cost:income ratio of 24.5% continued to be among the lowest in the banking world. This was 1.4 percentage points higher than the same period last year but 3.3 percentage points lower than the second half of 2003.

Our major lines of business showed good progress during the first half of 2004.

Our major profit contributor, Personal Financial Services (PFS) reported a growth of 16.8% in profit before tax and provided 48.5% of the Bank's pre-tax profit of $7,323 million.

Commercial Banking reported a growth of 101.5% in profit before tax and contributed 17.9% to the Bank's total. Corporate and Institutional Banking recorded a growth of 18.1% in profit before tax and a 5.9% contribution to the total.

Treasury's growth in pre-tax profits was 20.8% and contributed 18.1% to the Bank's total pre-tax profit.

We also made encouraging progress in our

Mainland development
Market growth
Wealth management and
Commercial banking

Mainland development

We made a major breakthrough in our Mainland development with the acquisition of a 15.98% interest in Industrial Bank Co., Ltd. for a total consideration of RMB1,726 million. The acquisition opens the door for cooperation with a major Mainland joint-stock commercial bank and complements Hang Seng's Mainland network and business expansion.

Our Shenzhen branch began offering renminbi services to foreign passport holders and residents of Hong Kong, Macau and Taiwan, as well as foreign-invested enterprises. In late June, we received approval for the Fuzhou branch to offer these services later in the year. Our Shanghai, Guangzhou and Shenzhen branches also received approval to offer RMB banking services to domestic companies on the Mainland.

We received approval to open a sub-branch in Shanghai and a sub-branch in Shenzhen. With the addition of these sub-branches, our network on the Mainland will comprise five branches, three sub-branches and two representative offices in seven cities.

We are encouraged by the success of our growing business on the Mainland, with a 62.4% increase in the loan portfolios of our Mainland branches to $6,162 million.

Our Mainland related business in Hong Kong also made good progress.

In June we received approval from the China State Administration of Foreign Exchange for an investment quota of US$50 million to invest in the Mainland securities market after we were granted a QFII Securities investment business permit. This enables Hang Seng to invest directly in the Mainland securities market and develop A-share related products for our Hong Kong and overseas customers.

Hang Seng also launched RMB services at its Hong Kong branches, including deposits, exchange and remittances — as well as a new service, Living in HK, targeting immigrants from the Mainland.

We are preparing to issue RMB credit cards for Hong Kong residents later this year after signing a Memorandum of Understanding with China Unionpay in April.

Market growth

Our core businesses showed resilience in a challenging operating environment, as we aggressively pursued growth opportunities in other operating income.

Total assets grew $0.9 billion, or 0.2%, to $503.9 billion with a return on average total assets of 2.5%, compared with 2.1% for the first half of 2003.

Advances to customers, after deduction of interest in suspense and provisions, grew 7.5% from $229.5 billion at the end of 2003 to a record $246.8 billion.

Lending to the industrial, commercial and financial sectors grew by $7,247 million, or 7.8%. Following the revival of the local economy, double-digit growth was recorded in property investment, wholesale and retail trade, manufacturing, transportation and others.

Lending to individuals also increased by $805 million, or 0.7%. If we exclude the drop of $2,121 million in mortgages under the suspended GHOS, the growth was 3.2%. Amidst intense competition, residential mortgages increased by $1,192 million, or 1.5%.

Credit card advances and other lending to individuals, mainly overdraft, personal and tax loans, rose $1,734 million, or 15.5%.

Income from credit card services rose 8.4% to $207 million, and the number of credit cards in issue increased by 12.5% to about 1.1 million. Card spending increased by 58.1%, benefiting from a rise in consumer spending in line with the improving economy and the introduction of new e-payment services.

Gross advances for use outside Hong Kong went up by $3,549 million, or 53.0%.

As customers switched to financial investments that offered more attractive returns in the low interest rate environment, customer deposit accounts fell by $13.5 billion during the first half of the year. Current, savings and other deposit accounts, including certificates of deposit in issue, decreased by $11.5 billion, or 2.6%, to $428.4 billion, compared with $439.9 billion at 31 December 2003.

Certificates of deposit rose by $1.9 billion, or 24.4%, from $7.9 billion to $9.9 billion, including those issued to the retail market.

Our market share of total loans for use in Hong Kong increased by 0.37 percentage points to 12.92%, while our market share of total deposits fell slightly.

We continued to maintain a strong liquidity position and remained well capitalised. The average liquidity ratio improved to 48.1% compared with 45% for the first half of 2003; the total capital ratio stood at 12.8%; and the tier 1 capital ratio was 11.4%.

Wealth management

Wealth management income grew by 29.6% to $1,815 million with income from investment services rising by 36.7%.

Benefiting from the active stock market and positive investor sentiment in the early part of the year, securities accounts grew by 31.7%, and income from stockbroking and related securities services rose by 137.9%.

The increase of 20.1% in income and 24.3% in sales of retail investment products was the result of our successful launch of new funds with capital protection and growth opportunities, as well as products designed to offer better returns in the low interest rate environment.

Thirteen investment funds were launched during the first half of 2004, taking the total number of funds in the Hang Seng Investment Series to 103.

Total funds under management by Hang Seng's asset management and private banking business units grew by $12.6 billion, or 21.7%, to $70.4 billion at 30 June 2004.

Insurance income went up by 17.8%, mainly contributed by the life insurance business with an impressive growth of 115.7% in annualised premiums and 27.7% in underwriting income. Our share of the life insurance market in terms of new annualised premiums concluded in the first quarter reached 12.1%

In our private banking business, we successfully expanded our customer base and increased funds under management.

An increasingly popular delivery channel has been e-Banking. The number of e-Banking transactions continued to rise, as we increased the range of online services to our customers.

e-Banking now accounts for 24.3% of all transactions at Hang Seng compared with 23.1% in December 2003, and the number of Hang Seng e-Banking customers currently exceeds 380,000. During the same period, the number of counter transactions dropped to 12.8% from 13.3%.

Commercial Banking

Our Commercial Banking business reported strong results with a growth in profit of 101.5%.

These results were underpinned by the increase in customer advances and the expansion of trade services, which reflected the strong growth of our middle market corporate and SME businesses.

Customer advances increased by 25.7%. Trade finance loans recorded an encouraging growth of 39.6%, and our share of the trade finance market has increased.

Our first branch in Macau has been successful at meeting the operational needs of trade finance customers.

Looking ahead

Hang Seng is well positioned to capitalise on the improving economy in Hong Kong. However, the challenges of intense competition and the depressed interest rate margin remain.

But we are confident that we can meet these challenges. We will add to our wealth management capabilities, expand our SME, consumer financing and Mainland business, and offer more trade finance solutions to commercial banking customers.

With our strengths in customer service, our financial soundness, operational efficiency and our respected brand, we will continue to create value for our shareholders. Thank you.