The chief executive of ING Group took a government capital injection last month even though he didn’t think he needed one. But the terms that Michel Tilmant managed to negotiate for the Dutch banking and insurance giant were attractive compared with U.K. and U.S. bailouts, and have since become a model for several other European banks and insurers.
Like many financial executives these days, Tilmant has been forced to adjust to a rapidly evolving landscape. Still, he can’t hide his frustration that his company was caught up in the current market chaos. “I am disappointed that equity and credit markets today take an indiscriminate view when it comes to the quality of financial institutions and what constitutes adequate capital to cover potential losses,” Tilmant tells Institutional Investor. “The notion that there should be one standardized number to determine capital adequacy is crude and not reflective of reality.”
The global financial meltdown has ushered in new rules, though, and Tilmant is adapting. With his company’s share price plunging last month in the wake of the collapse of its rival Fortis, which was rescued by the Benelux governments and then broken up, Tilmant agreed during a weekend’s negotiations to accept a €10 billion ($13 billion) government aid package that boosts his group’s tier-1 ratio, which measures shareholders’ equity and reserves as a percentage of risk-weighted assets, to 10 percent from 8.5 percent.
Tilmant had been considering various options for boosting ING’s capital since early last month, when the U.K. and U.S. governments announced plans effectively obliging many of their largest banks to increase their tier-1 ratios to 9 percent or more by selling common or preferred shares to the state. These new target ratios are well above the global minimum of 4 percent set under the Basel II Accord and exceed the 6 to 7 percent level that had generally been accepted by analysts and investors as prudent for major banks.
When the Anglo-American bailouts began, ING felt little pressure to act. With assets of €1.37 trillion, a conservative loan-to-deposit ratio of 105 percent and only about €2.2 billion in U.S. subprime loans on its books, the Dutch financial powerhouse seemed to be one of Europe’s safest.
But as panic gripped global markets, ING’s stock fell by a record 27.5 percent on October 17. After the market closed that Friday, ING attempted to calm frazzled investors by announcing a relatively modest €500 million loss on subprime-related write-downs for the third quarter and revealing that it was considering state aid. The bancassurer had posted net income of €3.5 billion in the first half of the year on revenues of €37.4 billion. But investors worried that ING, which had less capital than its newly buttressed international rivals, would see its competitive position eroded and its ability to withstand further losses impaired. “We realized that for a recapitalization to work and limit the damage of the suddenly higher tier-1 standards being demanded by the market in the wake of the U.K. and U.S. plans, it would have to be quick, big and in one shot,” Tilmant explains.
Under the bank’s agreement with the Dutch government, the state injected €10 billion into ING by buying so-called core tier-1 securities, a hybrid security that ranks equally with common stock but pays a fixed-rate dividend like preferred stock. The securities pay an annual interest rate of the higher of 8.5 percent or a percentage of any common stock dividend paid, beginning at 110 percent for 2008. ING can buy back the shares at any time, albeit at a steep 150 percent premium to the issue price. The securities are nonvoting, but the government will get two seats on ING’s board as part of the deal.
The package’s structure allows the bank to boost capital without necessarily diluting the stakes of existing shareholders, unlike the U.S. recapitalization plan, which requires banks to issue fresh equity to buy out the government’s preferred shares. The U.K. government’s bailout plan also requires dilutive share issues.
“The instrument ING came up with is better than an outright share sale, which is why it has been copied by others as they seek to tap state aid,” notes Ton Gietman, an Amsterdam-based banking analyst at Petercam, a Benelux-focused investment bank.
Austria’s Erste Group, Belgian bank KBC and Dutch insurer Aegon all agreed to similar state aid packages shortly after ING’s deal. Erste sold to the Austrian government €2.7 billion of participation certificates that will carry an interest rate of 8 percent and will not dilute existing shareholders; Erste can buy the securities back, at par, after five years. Aegon sold the Dutch government €3 billion worth of nonvoting securities paying interest at a minimum of 8.5 percent. KBC issued €3.5 billion of core-capital securities to the Belgian government.
At ING, Tilmant is determined to get rid of his new shareholder as soon as he can. “To keep the costs down on the government aid package, we intend to pay it off as quickly as possible,” says Tilmant. When that happens depends on how long the financial crisis lasts, and that’s something I’m not willing to speculate on.” Nor are many investors, which is why they are demanding that banks bolster their capital adequacy ratios.
