IFC equity investment will bring many benefits to shareholders: ComBank MD

Commercial Bank Managing Director S. Renganathan, who played the lead role in the negotiations that led to the IFC agreeing to make an equity investment in the bank via a private placement, speaks candidly on the rationale for such an investment and why it is the best option at the present time. Following are excerpts:

Q: What was the rationale behind the bank’s decision to raise equity capital via the IFC?

 The Commercial Bank’s Business Plan which targets annual growth of 10% to 12%, necessitates an infusion of new capital every four years. Our last infusion of Tier I capital was in 2017. In 2018-19 NPLs started moving up and our earnings were affected by higher provisioning for impairment charges, which puts pressure on capital adequacy ratios. Therefore there was a need to raise Tier I capital to sustain double-digit growth. One option was to give existing shareholders an opportunity to invest. 

However, in early 2019 some competitors floated rights issues with deep discounts. Had we taken the same approach, we would have dragged down the Commercial Bank share price. Our price to book value which had been 1.7 times five years ago was already down to the .8 level by this time. This was a trend common to the banking sector. A rights issue at a discount would further reduce our price to book value. We needed an alternative that would help strengthen the share price, which meant we needed to infuse capital with a premium on the share price.

The bank had been engaged in protracted negotiations with the IFC on this. While this was going on, some of our foreign investors had begun moving out of the market for unrelated reasons. As a result, our foreign shareholder component, which represented 32% in December 2018, reduced to 29% by December 2019 and by March 2020 was down to 19%. Therefore, we felt it was important to boost the capital market by bringing in foreign investment. We negotiated with two development finance institutions for an additional placement of shares on the condition that the funding would be at a premium.

By the time the COVID-19 pandemic began, both DFIs had confirmed willingness to infuse capital in Commercial Bank at a premium, although they had not done so in any other markets. As a result of the economic slowdown attributed to the pandemic market prices fell sharply and hence we renegotiated the premium and concluded the negotiations with the IFC for a private placement at a 20% premium on the Volume Weighted Average price per ordinary voting share for the 30 days preceding the date on which the Board resolution was adopted. Accordingly, the agreed price per share was Rs. 80, at a time when the average price of the share was Rs. 66.78.

Q: How was this premium arrived at?

 We announced the resolution on 29 June, and the Volume Weighted Average Price for the preceding 30 days was Rs. 66.78, with the share price fluctuating between a low of Rs. 51.96 and a high of Rs. 77.14. When we look at the share price movement after the announcement, we see that one month later, it is still trading below the price at which the IFC has agreed to take the shares. This means that the market has not caught up because investors are still not willing to pay Rs. 80 for a share whose book value is Rs. 131. This is due to many factors and is not a reflection on the intrinsic value of the share.

Q: Will the other shareholders get an opportunity to invest in the bank?

 The bank’s growth plans require even more capital than the $ 50 million we hope to raise from the IFC. We were at one point looking at an infusion of $ 100 million. If shareholders have the appetite to invest on similar terms at a premium to be agreed upon, the Bank can offer them an opportunity to participate in a further infusion when additional capital is required.

Q: Will this placement have any impact on the shareholding of the existing shareholders?

 The dilution that would result from the private placement with the IFC is marginal. For example, a shareholding of 1% in the bank would be diluted to .9%. That said, I would submit that what should matter to shareholders is their earnings rather than the percentage of shares they hold. If you look at Commercial Bank’s past record, we have been consistently paying a dividend of Rs. 6.50 per share. Therefore shareholders’ earnings are not expected to be affected due to the placement. The IFC’s investment does not reduce any other shareholder’s shareholding in the bank.

Q: How does having the IFC as a major shareholder benefit the bank?

 There are many benefits to the bank as well as to the country by having the IFC investment, especially at a time like the present, when economies and markets are reeling from the impacts of the COVID-19 pandemic. This is in fact the first equity investment the IFC has agreed to anywhere in the world since the start of the pandemic. Therefore, this private placement by the IFC can be seen as a vote of confidence not just in the Commercial Bank of Ceylon but in the country. The IFC investment will also be the first post-pandemic foreign direct investment secured by Sri Lanka.

For the bank, the many synergies that the IFC brings as a shareholder would be invaluable. We have been working with the IFC for many years and its advisory services have contributed immensely to the development and growth of the bank. The IFC played an important role in our forays in to overseas markets and we are confident that with its deeper engagement with the bank our overseas operations can be strengthened. The IFC also further strengthens our shareholder composition and brings our foreign shareholding up to 28%, enhancing credibility and confidence, especially among foreign investors. Since our announcement of the proposed private placement a foreign investor has already increased its stake in the bank.

Q: What would IFC’s expectations be from this investment in ComBank?

 The IFC has many objectives when it invests in companies, such as improving governance, promoting social environmental management systems, green initiatives, gender diversity programs, and support to SMEs to name a few. We have already worked extensively with the IFC in some of these areas and the strengthening of the relationship with this investment would enable the IFC to do more in collaboration with the bank.

Q: What is your expectation from the shareholders?

 I think shareholders are aware of the benefits of further reinforcing the capacity, independence and stability of the bank and the value of investing in future growth. This far outweighs any concerns of dilution of shareholdings and reduction in dividends. In fact the additional dividend cost is off-set by the risk-free premium of the investment.

Q: What will the impact of the pandemic-linked economic slowdown be to shareholder returns?

 The capital infusion will actually help the bank manage the pandemic impact on earnings. The Central Bank has recognised that there will be a pandemic-linked impact on capital adequacy ratios and reduced the minimum capital ratios on the condition that banks will not increase salaries and dividends if they fall within the reduced capital adequacy ratios. In these circumstances, it is the opportune time to raise capital at a premium for future growth.