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DBS Shares Slump After ‘Expensive’ Danamon Deal

Shares of DBS Group Holdings fell almost 4 percent Tuesday after it said that it will buy Indonesia's Bank Danamon for $7.2 billion, prompting markets to question whether it is paying too much to become the country’s fifth biggest lender.

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DBS was trading at S$13.81 ($11.04) at 9:05 a.m. Tuesday in Singapore, or 2.61 percent lower than its previous close. Bank Danamon shares surged 50 percent to a high of 6,900 rupiah at the start of trading in Indonesia, before pulling back slightly to 6,450 rupiah.

The cash-and-stock acquisition will help increase DBS's exposure to the Indonesian market and contribute to 14 percent of its total profits by 2015, the bank’s Chairman Peter Seah told CNBC Monday.

But Roger Tan, CEO of SIAS Research, said the price appears to be a little steep and that the deal dilutesthe value of both DBS and Danamon shares. The combined company will have a lower return-on-equity of 9.6 percent, compared to DBS's 10.6 percent in 2011, Tan said in an email to CNBC. Danamon has a return-on-equity of about 13.1 percent.

"Previous acquisitions have been made at a median of about 1.9-times shareholders' equity. As such, this acquisition at 2.6-times shareholders' equity seems to have priced in a fair bit of intangibles, such as branding, future growth and synergies," said Tan.

"In terms of other metrics such as price to net income and price to total assets, the price tag for Bank Danamon works out to 0.5-times total assets and 20-times net earnings. We would think the median for an acquisition in a similar industry to be about 0.3 times total assets and 16.1 times net income."

The deal will also expose DBS to more risk considering Danamon's non-performing loans ratio is 2.3 percent, compared to DBS' own 1.3 percent, Tan said.

"Risk weighted assets for DBS is 63 percent of total assets, while that of Bank Danamon is 89 percent," Tan said. "As more risky assets are given a higher risk weighting, the quality of DBS's balance seems higher based on this metric alone."

Still, the relative size of the two entities could be a mitigating factor, Tan added. Danamon's risk-weighted assets will make up for only 7 percent of combined total risk weighted assets - to the extent where the combined pro forma risk weighted asset remains at approximately 0.63 times total assets, he said.

Seah defended the combined bank’s credit quality, arguing that the bank's experience would help it manage the risks.

"We don't think Indonesia is an issue, it's a market that we know well," he said. "Many of my board members know Indonesia, Piyush knows Indonesia, and I know Indonesia. So I don't think this Indonesia foray is going to dramatically make any changes to our risk profile."

Deal ‘Tranformational’ for DBS

What DBS is paying for appears to be a foothold in a high-growth market, Tan said. Indonesia has low bank penetration and high rates of loan growth. Bank Danamon said loans could increase 18 to 20 percent in 2012, after expanding 23 percent in 2011.

Seah told CNBC that the deal would be 'transformational'. Speaking in Jakarta, DBS's CEO Piyush Gupta said the deal would increase the bank's exposure to high-growth markets from 11 percent to 33 percent.

DBS has 40 branches in the country and its Indonesia unit reported net profit of S$52 million in 2011. Buying Danamon, ranked number 2 in auto lending and microfinance in Indonesia, will add 3,000 branches as well as net earnings of S$460 million in 2011.

"So this really moves us up and provides us coverage in the three major markets of Greater China, South Asia and Southeast Asia," Seah said. "So, I would say, that you would have a new DBS."

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