By Christakis Christofides
The controversial “haircut” of depositors’ funds held in Cyprus’s two largest banks, although unfair, at least compensated the fund-holders with Bank of Cyprus shares of equal face value to the sequestered amount. These shares have the chance of rising in value over the next years if the bank does well. By contrast, the earlier shareholders have effectively been “wiped out” by the forced removal of 99% of their investments. This share reduction was authorised by the Bank Resolution Law passed by the House of Representatives under extreme pressure by the Troika in March 2013 without consultation of all concerned parties and in contravention of shareholders’ constitutional rights.
The wipe-out of BOC’s shareholders is doubly unfair when one considers the willingness with which they came forward to answer the bank’s call for recapitalisation funds in the share and bond issues of 2011 and 2012 almost achieving the regulatory Tier I capital specified by Basel II. The question arises whether these funds which then twice rescued the bank, are worth less than the new funds forcefully obtained under the Resolution Law. And yet, even though each share issued has the same value, in that it contributes equally to the bank’s capital at one Euro, the “old shareholders” have been treated in a demeaning way which eradicates 99% of their voluntary contributions to save their bank. Surely, every time a company issues new share capital, it does so because current capital needs boosting and thus invariably constitutes a form of ‘recapitalisation’. There is no reason why a later capital injection should be worth one hundred times more than numerous earlier such cash injections.
The basis for the 99% share cancellation is a preliminary EU Directive which by definition has no compulsory binding power as compared to an EU Regulation which does have a legally enforcible effect. The final form of this Directive has not been decided yet, but the current version was only agreed upon during June 2013, ie. three months after the earlier version was forcibly enacted in Cyprus.
Another yet more recent version of the ever-evolving EU Directive was issued last month, and which bans the use of ‘bail-in’ methods (including depositors’ cash absorption and share wipe-outs) until 2018, a full five years into the future. The imposition of such an early and untried version of the Directive by forced legislation in Cyprus is at very least arbitrary and a travesty of justice.
It is worth noting that a EU Directive only requires that the country in question achieves a certain goal, without dictating the way of achieving it. Since the target of recapitalisation has already been reached, it is up to the Cyprus authorities how to implement the details. As it is purely now a matter of legislation, parliament would face little or no obstruction in drafting an Amendment to the Resolution Law, to allow re-instatement of the ‘Old Bank of Cyprus Shares’ to their rightful owners. In fact, an amendment has already been enacted following the ill-advised previous Resolution Law which initially created four different categories of Shares – a move clearly in contravention to the Basel Accords.
The enactment of such an amendment to re-instate the shares would have numerous advantages:
1. Considerable improvements in BOC’s balance sheet by re-instating collaterals in shares held by the bank as loan guarantees. As many as EUR 1 bln such shares (out of the 1.7 bln) are held as collateral. Currently, unsecured NPLs will suddenly become guaranteed, with improvements to capital via write-backs.
2. Shareholders will once again find liquidity by their ability to sell shares when the Stock Exchange re-opens, thus paying off loans and delayed debts.
3. Church property will be returned, with benefits to charitable works.
4. Cypriot involvement in BOC will be increased, with a positive spinoff for customer relations and reduction in the leakage of deposits.
5. A sense of fairness and equity will be restored at no cost to anybody.
6. Convertible bondholders would be satisfied by receiving shares in exchange.
7. Liquidity will be returned to the market by restoring EUR 1.7 bln worth of assets to the stock market.
8. There would be a dramatic positive investor PR effect for the Bank of Cyprus, now seen with scepticism, or even hostility.
9. Better functioning of the Cyprus Stock Exchange due to the return to the market of the 1.7 bln shares.
10. It will make it possible to issue new shares in future without the understandable fear of investors losing their investments again. If it happened once, it can happen again.
It would be natural to expect objections from various quarters, such as the following:
(a) Old shareholders chose their directors badly and deserve to be punished.
For over a century, the BOC functioned smoothly and profitably, and it was the EU-sanctioned default of Greece that threw the bank into an ill-advised resolution regime and the accompanying destruction of confidence, which proved its undoing. In any case how can shareholders, or even non-executive directors, follow the daily trading of hundreds of thousands of stocks, bonds, shares, swaps, and so on, a highly specialised process effected by large teams of suitably qualified economists and risk analysts. The bank had a clear policy as stated year after year in its annual reports of “extremely low risk appetite” and this was the board’s standing instruction to the executive management. How, then, can they blame and “punish” the hapless shareholders ?
(b) New shareholders would suffer a dilution.
Yes, a small dilution of around 25% would be experienced, but this would be more than compensated for by the re-establishment of loan guarantees with the related improvement in the balance sheet, leading to an upgrading of the share’s market value. After all, the worst ‘dilution’ is the one suffered by the ‘Old Shareholders’.
(c) Old capital has been lost, therefore the value of the bank was reduced to nil before the Resolution.
In fact, the value of any company rises and falls throughout its lifespan by virtue of its successes and failures, and this is exactly why new share issues are undertaken periodically to restore Tier I Capital levels to those specified by the Basel Accords. The controversial ‘wiping-out’ of the share capital was unnecessary and counter-productive especially as the ‘Zero Capital of the BOC’ is only a matter of how it is calculated. A few years from now, when property values are flying high again (they always recover), all the collaterals will be restored, the balance sheet will be wonderful, and the traditional supporters of the BOC will be watching from the sidelines as others enjoy the fruits of their investments. My argument is that Old and New Shareholders can happily co-exist.
Any political party with the courage to draft an amendment to the poorly thought-out and forcibly implemented ‘Resolution Law’ in a way that re-instates the BOC shares, will certainly gain my vote, and that of at least 80,000 other aggrieved investors. The ruling party in Cyprus should certainly take this point up, especially with Euro-elections imminent.
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