HSBC Earnings: A Clear Beat Despite Messy One-Offs

We maintain our narrow moat rating on HSBC HSBA and keep our fair value estimate of GBX 800 for its London listing while our fair value estimate for its Hong Kong listing rises 2% to HKD 78.5 from HKD 77 and for its U.S. ADRs to USD 50 from USD 49. Our fair values represent a multiple to March 2023 book value of 1.09 times and imply 31%-33% upside. Assuming midcycle ROE of 12%, a fair price/book ratio of 1.09 times implies a fair price/earnings ratio of 9.1 times and a fair dividend yield of 5.5% assuming a 50% core payout ratio.

Our narrow moat rating for the group reflects our view that HSBC enjoys a wide economic moat in Hong Kong, where it is the dominant local bank, that it has a narrow-moat position in the U.K., and no economic moat in most other geographies such as the U.S. Its moat sources are in cost advantage from sticky deposits in its key markets and customer switching costs both in its key markets and in some parts of its global banking operations.

First-quarter earnings numbers were much higher than expected, but they were messy due to the combined effects of the transition of insurance accounting from IFRS 4 to IFRS 17 (which reduces reported net interest income but has a smaller impact on the bottom line), a provisional gain on HSBC’s acquisition of Silicon Valley Bank’s UK operation, and a part-reversal of previously booked impairment on the French retail banking operation. The part-reversal of the impairment on the French business arose because HSBC’s deal to sell it for a token sum to private equity firm Cerberus now requires renegotiation due to regulators in Paris not agreeing to approve it unless Cerberus injects more capital than Cerberus had planned. HSBC said it still hopes to conclude the deal, but it will depend on whether it can reach new terms with Cerberus that are still in the best interests of HSBC shareholders.