Yesterday saw an announcement from the Bank of Portugal on a saga which has run and run and run.
Banco de Portugal and the Resolution Fund concluded today the sale of Novo Banco to Lone Star, with an injection by the new shareholder of €750 million, which will be followed by a further injection of €250 million to be delivered by the end of 2017.
Indeed there is an element of triumphalism and back-slapping.
The conclusion of this operation brings to a close a complex negotiation process with the new shareholder, European institutions and other domestic institutions, in close cooperation with the Government.
The completion of the sale announced on 31 March brings about a very significant increase in the share capital of Novo Banco and terminates the bank’s bridge bank status that has applied since its setting up.
The opening issue is why this New Bank which is what Novo Banco, means that was supposed to be clean, needs an increase in capital? Let us look deeper.
As of this date, Novo Banco will be held by Lone Star and the Resolution Fund, which will hold 75% and 25% of the share capital respectively. It will be endowed with the necessary means for the implementation of a plan ensuring that the bank will continue to play its key role in the financing of the Portuguese economy.
The story gets a twist as we see that Lone Star will be walking away with 75% of Novo Banco and in return the Portuguese taxpayer does not get one single Euro. The implication is that the Resolution Fund is keen to get it off its books at almost any price.
Step Back In Time
If we follow the advice of Kylie Minogue we can go back to August 2014 when the Bank of Portugal was dealing with this.
The Board of Directors of Banco de Portugal has decided on 3 August 2014 to apply a resolution measure to Banco Espírito Santo, S.A.. The general activity and assets of Banco Espírito Santo, S.A. are transferred, immediately and definitively, to Novo Banco, which is duly capitalised and clean of problem assets. Deposits are fully preserved, as well as all unsubordinated bonds.
BES had collapsed and I note again that Novo Banco was supposed to be clean of problem assets. However it did not take long for what Taylor Swift would call “trouble, trouble, trouble” to emerge as a rather unpleasant Christmas present arrived a few months later for bondholders. From my article on the 4th of April.
The nominal amount of the bonds retransferred to Banco Espírito Santo, S.A. totals 1,941 million euros and corresponds to a balance-sheet amount of 1,985 million euros………This measure has a positive impact, in net terms, on the equity of Novo Banco of approximately 1,985 million euros.
So just under 2 billion Euros was required to steady the ship of our “clean” bank and you can see why no one was in a rush to buy it!
Money Money Money
If we go back to the origination of this there was a bold statement from the Bank of Portugal.
This means that this operation does not involve any costs for public funds.
However there was this.
The State will bear no costs related to this operation. The equity capital of Novo Banco, to the amount of €4.9 billion, is fully underwritten by the Resolution Fund.
Ah good so the banking sector was paying up.
The Resolution Fund’s sources of funding are the contributions paid by its member institutions and the proceeds from the levy over the banking sector, which, according to applicable regulations, are collected without jeopardising the solvency ratios.
Meanwhile if we rejoin the real world that is the same Portuguese banking sector that was in severe disarray so the money had to be found from elsewhere.
the Fund took out a loan from the Portuguese State. The loan granted by the State to the Resolution Fund will be temporary and replaceable by loans granted by credit institutions.
At this point it sounds rather like the Amigo loans advertised in the UK where you can borrow the money but somebody else has to guarantee it, in this case the Portuguese taxpayer. Also if this were an episode of Star Trek the USS Enterprise would be on yellow alert at the use of the word “temporary”. If we step forwards to just over a year ago the Resolution Fund told us this.
the conditions of the
loan of €3 900 million extended to the Fund in August 2014
Currently, the maturity date of said loan is 31 December 2017. The review that has now been
agreed upon will allow the extension of that maturity date in a way that ensures the capacity of
the Resolution Fund to meet in full its obligations through its regular revenue, and regardless of
the positive or negative contingencies to which the Resolution Fund is exposed.
Ah so it is To Infinity! And Beyond?! Oh and the temerity of the idea that the banks might have to back the er banking sector resolution fund.
without the need to raise any special contributions.
Here is Reuters from September 2015.
“Once more, I repeat, there is no direct impact (on taxpayers), since the Portuguese state did not nationalise the bank nor take a direct stake in Novo Banco’s capital,” minister and government spokesman Luis Marques Guedes said.
Okay that is clear so let us look at the view from Europe’s statistics agency Eurostat a mere one month later.
The second most significant impact to the deficit in 2014 was in Portugal (3.0pp of GDP) and it was also mainly due to a bank recapitalisation……. The recapitalization of Novo Banco. In the third quarter of 2014, the Portuguese Resolution Fund injected 4.9 bn euro (2.8% of GDP) into Novo Banco. As the sale of Novo Banco did not occur within one year after the capitalisation, the capital injection has impacted the deficit of Portugal in 2014 for its full amount.
Let us consider this in terms of the two main variables which are time and money. The time element is that the new clean bank was supposed be sold quickly whereas it took more than three years. The money element is that the Resolution Fund underwrote the bank capital to the tune of 4.9 billion Euros. There was then a swerve to get just under 2 billion Euros off some bondholders as the word clean somehow meant dirty, Now we see that where 100%= 4.9 billion back then now 75% = 1 billion as we note the value destruction leaving the Resolution Fund with its 25% apparently worth 0.333 billion Euros but backed by a loan of 3.9 billion Euros.
So quite a large gamble has been taken by the Portuguese authorities with taxpayers money whereas if things go well Lone Star has been able to get assets very cheaply. It has 75% of the capital after only paying around 20% of the total Of course should it go wrong then we can refer back to my timeline for a banking collapse. We had this back in autumn 2014.
6. The relevant government(s) tell us that the bank needs taxpayer support but through clever use of special purpose vehicles there will be no cost and indeed a profit is virtually certain.
And at some date in the future ( like when Eurostat rules on this for example) we are likely to see this.
It is also announced that nobody could possibly have forseen this and that nobody is to blame apart from some irresponsible rumour mongers who are the equivalent of terrorists. A new law is mooted to help stop such financial terrorism from ever happening again.
Me on Core Finance TV