The Bank of Ceylon (BOC) this week said it would raise as much as Rs.12 billion through a private placement of subordinated debentures to prevent its capital base from falling towards the regulatory minimum under the new capital rules stipulated by Basel III.
The capital at Sri Lanka’s largest lender with assets crossing Rs.2.2 trillion has been running thin lately against the regulatory minimums mandated to be maintained by the Basel III rules which came into full effect from January 1, 2019.
Unlike other private lenders, which have diverse shareholdings, BOC is at the mercy of the State or the National Treasury for any new capital.
But prospects for capital coming from the National Treasury remain thin and instead the latter awaits the profit transfers from the bank every year to bridge its fiscal gap.
Under these circumstances, BOC has decided to issue 120 million subordinated debentures at Rs.100 each to raise Rs.12 billion with 5-year and 8-year tenors.
The bank has already obtained approvals from the Securities and Exchange Commission and the Central Bank for this.
The new capital will add up to the bank’s Tier II capital and not the Tier I capital which forms shareholder funds.
As at March 31, 2019, the bank’s Tier II capital ratio declined to 14.21 percent from 14.58 percent in December 2018. The regulatory minimum for Tier II from the beginning of the year became 14 percent.
Hence, the bank is required to bolster its Tier II capital ratio if it seeks any meaningful growth in its risk weighted assets or in other words, loans.
However, during the first half of the year, banks received a respite on their capital ratios from the mostly anemic or de-growth experienced in loans due to massive debt repayments that came from State sector loans and lack of confidence on the economy.
While the absence of demand in growth for loans might provide some space and time for banks to raise capital, it comes at a cost to the bottom line.
Poor sector returns, widely measured by return on equity, augur negatively with equity holders preventing them to put more money into banking sector stocks.
There were several instances where rights issues made by private lenders went under-subscribed by a large margin.
With new equity, BOC’s strategy appears to be to maintain growth with the support of the Tier II capital and any return back into the equity or Tier I capital.
While this strategy could be successful in the short-term, in the medium term the bank may not be able to get away with only raising Tier II capital.
The bank’s Tier I capital was at 10.19 percent as of March 31, 2019, down from 10.31 percent in December 2018. The regulatory minimum is 10 percent.
For the quarter ended March 31, 2019, BOC reported Rs.4.2 billion in earnings, down 12.4 percent year-on-year (YoY) due to higher loan loss provisions and contraction in the loan book.