C. Shivkumar

Bangalore, Dec. 14

PUBLIC sector banks are disinclined to float perpetual bonds for long-term capitalisation and have instead favoured preference or non-voting shares.

The proposal to raise capital in the form of perpetual bonds was mooted by the Reserve Bank of India for raising tier one capital.

Sources said that banks would require alternatives to raise Tier I capital since Government holding in some of the banks have already reached 51 per cent.

These banks are, therefore, not in a position to raise their equity capital, since it would entail dilution of government holding below the threshold.

Accordingly, alternative forms of capital raising would be required in the form of hybrid capital.

Bankers said that perpetual bonds were the least attractive of options. Perpetual bonds are open-ended fixed income instruments. Perpetual bonds were used during the 1980s for recapitalisation of public sector banks and were discontinued since 1994. Some of the banks that returned capital to the Government have already shed these perpetual bonds.

Such instruments fitted as Tier I capital in view of the fact that they had no maturity date.

Bankers said that few investors would be interested in this kind of a fixed income instrument. This was because the instruments were illiquid. The only way to make them attractive was to offer high coupon rates, though this, would in turn, escalate the cost of the capital.

Instead, bankers said that they would prefer to float preference shares with low coupon rates with long tenure maturity dates 20 years and above as an alternative to perpetual bonds, with some exit options for investors.

One banker said, "This is preferable, since they could be offered at coupons close to the Tier II bonds being raised now." Besides, the option of conversion could also be considered at a future point of time. Currently, conversions cannot be specified in the preference shares especially for banks, since it would again result in the dilution of Government capital.

However, in the long run this could be made possibleat premium pricing if the Government were prepared to bring in its share to ensure its stakeholding, the bankers said.

Alternatively, bankers said, they had also proposed non-voting shares with slightly higher dividend rates. This was a preferable option, since it would help the Government maintain its stakeholding in banks and also ensure liquidity for the investors.

The inability to raise Tier I capital also automatically limited the quantum of Tier II capital that could be raised by the banks. This was especially in the case of banks that have already reached the limit of 51 per cent. Current regulations limit the size of Tier II capital to 50 per cent of Tier I. Some flexibility has been extended, since the investment fluctuation reserve becomes part of Tier I capital effective from next year onwards.

However, bankers said that if the current pace of credit growth were to be sustained, additional capitalisation would be required in "whatever or whichever way necessary."

(This article was published in the Business Line print edition dated December 15, 2005)
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