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Ownership structure, cost efficiency underly banks’ capital raising for year-end requirement

The need to avoid diluting ownership structure, as well as cost cutting measures, among others, are the basis for banks’ preference for rights issues in raising capital, as they prepare for the transition to Basel requirements and new computation of regulatory capital in their year-end financials, BusinessDay investigations have shown.

Determined to ensure that banks have capacity to protect depositors and absorb losses, the Central Bank of Nigeria, (CBN) had last month changed the way lenders calculate capital buffers, by removing some assets they can count as capital in preparation for the implementation of Basell II and III, while limiting Tier 2 capital to 33 percent of Tier 1 capital.

BusinessDay further gathered that the CBN’s action was as a result of the increasing rush by Nigerian banks for Tier-2 capital (Eurobond), with preference now for Tier-1 capital (equity or permanent capital).

Another concern for the apex bank is the fact that its solvency stress test conducted on the banking industry as at December 31, 2013 to assess the stability of the sector, showed that the tier II banks would require about N89.15 billion to raise their Capital Adequacy Ratio (CAR).

This is against the background of these banks’ CAR which deteriorated to 5.56 percent in December 2013 from 18.33 percent previously (below the required minimum of 10.0 per cent), according to the latest Financial Stability Report for December 2013 by the CBN.

“Consequently, we anticipate that capital raising via equity (IPOs or Rights Issue) amongst the Tier-1 banks with be resuscitated. However, as a result of the dilution of holdings and the ability to track subscription, banks may opt for rights issue, rather than public offer,” says Ayodeji Ebo of Afrinvest.

Thus, when the banks release their FY14 results, they will be reporting Basel II/III-compliant ratios for the first time.

Analysts said at the weekend that the changes will remove between 100 to 400 basis points off the capital adequacy ratios of most banks, a development that is preparing banks for massive capital raising.

A rights issue is when a company issues its existing shareholders a right to buy additional shares in the company. It is a relatively cheaper way of raising capital for a quoted company under this scenario; since the costs of preparing a brochure, underwriting commission or press advertising, media engagement and other related service costs involved in a new issue of shares are largely avoided.

Consequently, some analysts say the development is also capable of diluting the banks’ earnings per share (EPS) and return on equity (ROE) in the near term, making the banks less attractive to equity investors.

For instance, average ROE of Nigerian banks stands at 14.7% in FY:2013 lower than South Africa, Egypt, Ghana and Kenya with 17.9%, 28.1%, 37.8% and 24.9% respectively.

Speaking further, Ebo said, “Additionally, as a result of the increase in the number of shares, we expect a reduction in the banks’ ability to sustain or grow dividend pay-out.”

Basel II is an international business standard that requires financial institutions to maintain enough cash reserves to cover risks incurred by operations. The Basel accords are a series of recommendations on banking laws and regulations issued by the Basel Committee on Banking Supervision (BSBS).

Minimum capital requirements for lenders with operations outside the count ry were kept at 15 percent and at 10 percent for those with interests only in Nigeria, while the CBN also requires systemically-important banks (SIBs) to maintain a total capital adequacy ratio (CAR) of 16 per cent.

Consequently, Wema Bank, which focuses on the country’s Delta and Southwest regions, will be most impacted among smaller lenders, and UBA Plc of the larger ones, as their capital adequacy ratio will slip to 17.5 percent this year, from 26.7 percent in 2013, and UBA’s to 17 percent from 22.6 percent respectively, according to Exotix Africa Equity Research analysts Ronak Gadhia and Kato Mukuru.

Sterling Bank had last year raised $80 million (N12.9bil lion) through a Rights Issue to existing shareholders. The bank is believed to be currently working on a $120 million (about N19.2billion) Private Placement, which may be concluded next month.

Ecobank Nigeria Plc, on its own, is considering raising additional capital in order to boost its tier-1capital. The subsidiary of Ecobank Transnational Incorporated (ETI) recently raised $250 million in tier-2 capital, thereby lifting its capital adequacy ratio (CAR) to 16.5 per cent.

However, under Basel II and III, the bank’s CAR dropped to 14.5 per cent, further highlighting the need for more capital to support growth.

Ecobank Nigeria’s total capital adequacy ratio at the end of the first half of 2014 stood at 13.3 per cent, which most analysts viewed as light, given the bank’s scale and recent categorisation as a systemically important bank by the CBN.

In April, shareholders of Diamond Bank Plc endorsed the plan by the bank to raise $500 million additional capital in its quest to raise its tier 2 capital by $750 million.

The fund would be raised through a rights issue. Speaking at the bank’s recent annual general meeting (AGM), Alex Otti, its group managing director/chief executive officer, allayed the fears of shareholders when he said, “I assure you (shareholders) that it is going to make the bank better, rather than dilute your shares.”

Access Bank Plc is planning to raise N60-70billion via a rights issue between now and the first quarter of next year, to raise its core Capital Adequacy level to 20 per cent.

According to Razia  Khan, analyst with Standard Chatered Bank, London “the cap on Tier 2 capital will mean – potentially – more equity capital raising, encouraging more long-term, ‘stickier’ inflows.”

John Omachonu