RSB's capital update is aggressive — but appropriate
Russian Standard Bank is hoping to take a short cut to Basel III — using a consent solicitation to add write-down language to its old tier two debt. For investors worried about getting caught on the wrong side of the vote, RSB's proposal looks aggressive. But the function of bank capital is to protect the bank, not to simply reward investors without risk.
RSB is asking bondholders to approve a restructuring of its old style tier two debt which would make it Basel III compliant. Adding a point of non-viability (PONV) trigger and extending the tenor of the bond by two years will allow the bonds to count as Basel III capital under Central Bank of Russia requirements.
So far so innovative. The bank is updating its capital structure at a much lower cost than doing a new issue without increasing its debt levels. It is also offering investors an early consent fee of $5 for every $100 and a 225bp yield increase to get the deal done. The catch is that the maturity of the deal will extended to 2020 from 2018.
Last year, investors were paid around 150bp more for Basel III-compliant Russian private bank tier two than they were for old style tier two, but bankers say that given the current political turmoil in Russia, investors could expect an even larger premium, while they should also get paid for the two year maturity extension.
But the aggressive part is the structure of the offer. Unlike an exchange offer which bondholders may accept at their discretion, the consent solicitation is an all or nothing trade. Should 75% of bondholders accept the changes, 100% of the bond will be converted, meaning that 25% of the bondholders could be forced to accept terms they did not vote for.
More importantly, a consent solicitation forces investors to think about game theory, as well as the value of what they are being offered — no one wants to reject the $5 fee and still end up holding a bond they didn’t vote for. There is stick as well as carrot in the deal. Exchange offers are carrot alone, but they cost the issuer more.
Some say that forcing bondholders to accept a more risky structure with a different maturity and economic profile is contentious and may ruffle the feathers of a few regulators.
But ultimately what investors are holding, and chose to buy, is bank capital, which is supposed to a hit should the bank go under. There is a substantial difference between old style tier two debt and new style, but investors in both contracted to bear some of the risk of the bank, even if they pretended to themselves it was senior with a spread. Modifying the terms so that bank capital actually works as capital should not be so shocking.
And it isn't coercive. If investors feel inclined, they should mobilise and build a block of more than 25% to stop the change.
RSB is a well-capitalised bank. The bank’s capital adequacy ratio was at 16% at end-2013 and its tier one ratio was at 9.1%, according to its website. This is comfortably above the 10% minimum total capital ratio required by the Central Bank of Russia. There is little to worry about in the short term. It makes sense to update its capital structure now, and it is saving itself money. The consent solicitation may have irritated investors, but it is still the right move for the bank.