(Updates with executive comment from sixth paragraph.)
By Ambereen Choudhury, Howard Mustoe and John Glover
June 17 (Bloomberg) -- The Co-Operative Bank Plc, the U.K. lender that abandoned a bid to buy branches from Lloyds Banking Group Plc, will swap some debt for equity and trade on the London Stock Exchange to plug a capital hole.
Co-Op Bank plans to raise 1 billion pounds ($1.6 billion) in capital by asking existing bondholders to exchange subordinated debt for new equity and senior debt, with 500 million pounds more raised through the sale of insurance assets, the Manchester, England-based company said in a statement today.
“Investors in the bank’s subordinated capital securities are also being asked to support the bank at this crucial time by participating in a wider exchange offer,” said Euan Sutherland, chief executive officer of the bank’s parent entity, Co-Operative Group. “This solution, under which they will own a significant minority stake in the bank, will then allow them to share in the upside of the transformation of the bank.”
The bank, which traces its roots to Britain’s 19th-century industrial north and has 4.7 million customers, last month was cut six steps to junk by Moody’s Investors Service, which cited a capital shortfall. Co-Operative Bank’s core Tier 1 capital ratio under the latest round of Basel rules was 6.7 percent in January, less than the 7 percent target set by U.K. regulators, Moody’s said.
The bank’s pro-forma fully loaded common equity Tier 1 capital ratio is expected to be above 9 percent by the end of 2013, with the exchange offer taking place in October, Co-Op said.
Before the offer, the Co-Op Group’s stake in the bank was wiped out, Richard Pennycook, the lender’s finance director, said at a press conference in London today. “Everything is new,” he said.
The lender had 1.57 billion pounds of core Tier 1 capital, after regulatory deductions, for 2012, according to its website.
Capital has been eroded by bad consumer and commercial real estate loans stemming from the bank’s purchase of Britannia Building Society in 2009. Impairments more than quadrupled to 468.7 million pounds in 2012, the company reported in March. The bank posted a pretax loss of 673.7 million pounds last year, compared with a profit of 54.2 million pounds a year earlier.
While the lender will “improve the efficiency” of its operations, it’s too early to say whether that would mean job losses, Sutherland said at the press conference.
The bank needs bondholders to agree to commit 1.05 billion pounds of bonds to the deal out of 1.3 billion pounds of debt outstanding, said David Soanes, global head of financial institutions at UBS AG, at the press conference, who is advising the bank.
The bank has 7,000 bond investors with 25,000 pounds of holdings or less, Soanes said. The bank will probably trade at least 25 percent of its shares, he said, although the details haven’t been finalized.
“The balance of risk between shareholders and bondholders is being changed dramatically,” said Simon Adamson, an analyst at CreditSights Inc. “The question is how to persuade bondholders to take part. They’re going to need quite a high acceptance rate. The question is, what is the incentive?”
The Co-Operative Group, whose assets range from supermarkets to funeral homes, has been replacing senior management amid an abandoned bid for 632 branches owned by Lloyds following concerns that its bank unit may not have sufficient capital to meet regulatory requests. The group last month named former HSBC Holdings Plc banker Niall Booker as the lender’s CEO after Barry Tootell quit.
Booker said today the firm had considered many ways of raising the money while also retaining control of the bank, including having voting and non-voting shares.
The customer-ownership or “mutuality aspect is protected by the majority ownership,” Booker said. The listing doesn’t indicate an intention to sell the lender, Sutherland said.
The company’s 60 million pounds of 9.25 percent undated preference shares were quoted at 65 pence on the pound on the London Stock Exchange. The bank said it won’t pay interest on the preference shares due on July 31 unless regulators give it permission.
The lender said that “until further notice” it doesn’t intend to pay coupons that it can elect to skip on other, more senior, securities unless supervisors give it permission. Its 200 million pounds of 5.555 percent undated junior subordinated bonds were quoted at 45.5 pence on the pound, according to Bloomberg Composite prices. Its 275 million pounds of 9.25 percent subordinated notes maturing in April 2021 were at 75 pence on the pound, Bloomberg prices show.
“The Prudential Regulation Authority’s current assessment is the Co-operative Bank needs to generate an additional 1.5 billion pounds in common equity Tier 1 capital in order to absorb potential losses over coming years,” the PRA and Bank of England said in a joint statement today. “We will hold the Co-Operative to the delivery of its plans.”