ABC posted a "Board Circular" concerning its proposed US$1.110 billion proposed priority rights issue of 1,110,000,000 common shares.
This document contains some highly interesting information:
- Central Bank of Libya will underwrite the offer at quite an attractive fee.
- ADIA may not participate in the Offer, thus reducing its stake in the bank from 27.6% to 17.7%.
- A strong signal that ABC is in the market to acquire a regional "universal" bank to diversify away from its volatile sub par wholesale businesses.
- A candid assessment of ABC by SICO.
More detail on those points below, but first an introductory "tafsir" of sorts.
The Central Bank of Libya has agreed to underwrite the entire rights issue. Under a priority rights issue, shareholders have an absolute right to subscribe for and be allotted a sufficient number of shares to maintain their percentage shareholding in the Offeror. They may of course subscribe for less than that amount (in which case they are absolutely entitled to that amount) or more (in which case the amount allocated to them above their minimum right will depend on the action of other existing shareholders). In a situation like this an Underwriter agrees to purchase any unsubscribed for shares.
Since there is a high likelihood that enough shareholders will not subscribe for shares, the Central Bank of Libya ("CBL") will very likely acquire enough shares under its underwriting commitment to trigger a mandatory offer requirement under the Central Bank of Bahrain Regulations Module TMA Takeovers, Mergers, and Acquisitions Section 3.1. ABC's Board is soliciting shareholder approval to waive this right as the CBL is not prepared to acquire the bank.
ABC's shares are currently selling at US$0.67 a substantial discount to par, US$1.00. Under Bahraini law, the Offer must be at par. There is no straightforward way to offer shares at a discount from par. This poses a real problem. Why would a shareholder pay more for a share through an Offering than he would pay in the secondary market?
Since the government-related institutional shareholders are presumably not actively trading their shares, then ABC's share price is being driven by the private sector investors. That suggests to me that retail investors are unlikely to be enthusiastic about acquiring more shares at US$1.00 when they could potentially buy them at the BSE for US$0.67. Assuming of course they have any interest in acquiring more shares. If that were the case, then one would expect ABC's shares to be trading near par - especially in an illiquid market like Bahrain where just a few trades can move the price significantly.
The government related entities have a different agenda and as well more detailed inside information to inform their decisions.
The government related entities have a different agenda and as well more detailed inside information to inform their decisions.
Let's turn to the Board Circular:
The first bit of information that jumps off the page is the comment about expectations of participation in the offer by the existing institutional shareholders who own 93.6% of the bank. The Circular states: "ABC expects Kuwait Investment Authority (“KIA”) and all the Libyan entities to subscribe to the rights entitlement in full." There is one remaining institutional shareholder, Abu Dhabi Investment Authority, with 27.6%. It would seem that it would be quite easy for ABC's Board to ask ADIA if it intends to participate. And equally easy for ADIA to respond. First, it's not like this is a surprise question. Second, ADIA can move quickly on investment decisions. After all, it decided to plunk down the modest sum of US$7.5 billion in an investment in Citigroup with three days "due diligence" though perhaps the outcome of that transaction has lengthened and strengthened due diligence procedures. My guess is that this silence means that there is a very strong likelihood it has decided not to open its wallet. Hence, the need for an underwriting. Because if it has not, what is the point of the Board engaging an underwriter to cover 6.4% of the shares? Especially given the proposed underwriting fee is greater than 6.4?
That leads into the second bit - the underwriting fee. As per the draft agreement Clause 4 (page 19 in the Circular): "In consideration of the Underwriter agreeing to underwrite the Issue pursuant to the terms of this agreement the Company shall pay to the Underwriter a flat underwriting fee of US$ 110,000,000." That is, CBL earns the full fee regardless of how many shares it actually acquires. Some simple math.
- This amount represents 10% of the total Offer.
- But surely the Libyans know if they are participating, so if we remove their shares from the "risk of purchase column", then the CBL is getting US$110 million to take risk that it might have to purchase 63.7% of the Offer. In this case the effective underwriting fee is a whisker short of 15.7%.
- If it is reasonably certain that the KIA will participate, then CBL is really taking risk on 34% of the Offer and earning an effective fee of 29.4%.
- If the same holds true for ADIA, then CBL is taking risk on 6.4% of the Offer and earning an effective fee of 156.3%.
- You will recall I said above that there was no straightforward way to offer new shares at below par. What's interesting here is that the KIA has apparently not objected to this mechanism and is content to purchase its allotment at par. Presumably because it does not wish to increase its shareholding.
Let's look a bit more closely at the effective discount on the shares.
- If every existing shareholder steps up for its shares and there is no risk of their not doing so, then the Libyan Group as a total acquires 403,395,812 shares for US$403,395,812 and receives US$110,000,000. The effective discount is 27.3%. This is the maximum discount.
- If the KIA participation is certain but the remaining shareholders' participation is not, then CBL acquires 780,465,916 shares for US$780,465,916 and the effective discount is 14.1%. (In case you're wondering I allocated the "missing" share in the Table on Page 12 to the Libyans). This is the minimum discount.
- Note in the cases mentioned above, I am assuming that if there is no risk of participation by a shareholder then the underwriting fee earning on those shares is in effect a disguised discount for CBL.
The third item is that from the discussion of the use of proceeds and the recommendation of the independent consultant. It's clear that in addition to organic growth ABC is looking to achieve its business transformation through the purchase of a stake in a universal bank. It's a bit early to speculate on potential targets. Or is it? Anyone out there who wants to nominate a target, please post a comment.
Those who know their ABC history know that this was the strategy at one point. Under Abdulla Saudi, ABC bought significant shares in Banco Atlantico (Spain), International Bank of Asia (Hong Kong) ABC Brazil and Daus (Germany). These were acquired I believe largely because at that time it was not possible for ABC to acquire MENA banks. As well, Abdulla's strategy was to build a truly global Arab bank "champion". According to my analysis, some of these (Atlantico , IBA) were disposed of later (early part of this century) or stakes reduced (Brazil) to raise cash to help ABC over a rough patch so that it would not have to raise capital.
The final item is the review of ABC by SICO which discusses subpar performance relative to peers 6%. to 10% ROE versus to its peer's 15% to 30%. Well worth a look.
The fundamental strategic issue that any of the commercial banking oriented wholesale banks (former offshore banks) in Bahrain face is that they do not have the solid foundation of a domestic business. That affects both sides of the balance sheet.
They do not have a natural "home" market to develop assets. They must go abroad to develop these. (Note: Since the Bahrain market is relatively small, even a domestic bank cannot develop a very large domestic business platform). Usually, the foreign lender who rides into town has a set of unpalatable choices to develop any sizeable business. It can be the "stufee" on loans underwritten by the local banks. Then it gets a participation in a loan but very little or none of the ancilliary business that the home banks get. Such loans will be priced at razor thin margins over a domestic base rate. Foreign lenders like Bahraini banks (as opposed to say foreign banks from Europe with a strong domestic base) don't have access to the same funding at the same price so the miniscule margins are compressed even more.
If that is not palatable, the foreign bank can go downmarket to chase yield. But here as a foreigner usually operating out of an office in New York City, it is hard put to understand such credits or to monitor them. Thus, it winds up making a lot of bad underwriting decisions.
Another option is to load up on bonds instead of loans. Both Gulf International Bank and ABC did that, relying on ratings and professionalism of the investment banking firms who sold them investment grade (at least nominally) sub prime securities. Both lost $1 billion in 2008 with GIB's losses apparently even more (hence the sale of some US$5 billion of assets to shareholders).
The one potentially attractive business line is specializing in banking services for foreign customers in one's "home" market. But here there is another disability, an offshore or wholesale bank in Bahrain cannot provide the same service as a retail or onshore bank in Bahrain. And of course competing against a National Bank of Kuwait or Samba for business in Kuwait or Saudi is even more difficult.
The picture is not much better on the liability side. Instead of a core of very stable and generally lower cost retail deposits, the foreign wholesale bank is dependent on bought money (interbank deposits) and placements by its shareholders (a form of disguised or quasi equity which of course earns very low returns relative to its equity like risk). This means that funding costs are higher and more volatile.
Finally as offshore banks, generally there is no assurance of support from the Central Bank of the country. This is true with wholesale banks in Bahrain whose size dwarfs the local banking sector. Simply put, Bahrain does not have the resources to stand behind these banks. Now, when there are governmental shareholders, the bank does not suffer as much in terms of ratings and funding costs as say those banks which do not have such shareholders. But it still operates at a disadvantage.
This was the reason that Abdulla Saudi, a much under appreciated banker in some quarters, embarked on his acquisitions of Atlantico, IBA, etc. as discussed above.
Posts
