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How nationalised and private banks can raise capital

Most bank, whether state owned or private, have sufficient reserves and access to the capital needed for which, a number of methods, including rights issue, can be employed

Last week, finance minister P Chidamabaram, after a review meeting with the public sector banks said that the Indian government may have to seriously think of ways and means to increase capital needs of state owned banks. Broadly, he felt this could be achieved by issuing shares to the employees, invite greater participation by pension and insurance funds and/ or by issuing rights shares to minority shareholders. We would know in due course what the state owned banks might do, possibly, after the elections are over.

 

In the last couple of months, we covered the issue of many corporations, who had advertised full details of the third quarter results, for the period ending 31 December 2013.  We go into this information, once again, but this time, we shall restrict ourselves to review the situation of banks, both private and state owned, for a study. The figures speak for themselves:

                                                                                                                                                        (Rs in lakh)

Nos.

Name of the Bank

Paid up Capital

Reserves

1

Allahabad Bank

50,003

9,99,650

2

Andhra Bank

58,961

7,88,160

3

Bank of India

59,624

21,02,402

4

Bank of Maharashtra

83,910

4,02,721

5

Canara Bank

44,300

22,40,155

6

Central Bank of India

1,35,044

10,78,369

7

City Union Bank

4,744

1,59,322

8

Corporation Bank

16,754

9,41,278

9

Dena Bank

46,864

4,55,935

10

IDBI

1,603

18,110

11

IndusInd Bank

52,287

6,89,470

12

Karnataka Bank

18,835

2,66,873

13

Karur Vyasa Bank

10,718

2,97,801

14

Oriental Bank of Commerce

29,176

11,80,715

15

State Bank of Mysore

4,680

3,71,797

16

Vijaya Bank

49,554

3,66,049

17

Yes Bank

35,862

5,44,905

 

From the above basic financial data it will be observed most of these banks have sufficient reserves on hand. So, whether they are state owned or private, they have access to the capital needed, and for which, a number of methods can be employed, of which the finance minister already hinted the possibility of rights shares being issued. Well, that's one means of getting the additional capital required.

 

What about the other, such as the bonus issue, which many of these banks many not have resorted to in the last few years?  Hypothetically, let us assume the paid up capital of a state owned bank is Rs100 lakh, of which is 80% government and 20% in minority shareholding by public investors. Let us also suppose the face value is Rs10 and the current market price at Rs70.

 

The first option could be, for the Board, to give a 1:1 bonus, with the government waiving their right to accept the same. The current market price (CMP) becomes Rs35.  At this point of time, the government may divest by sale part of its holding in the market, or issues this lot to employees or even offer a suitable percentage to pension funds, UTI and other institutions. Later on, when the market stabilizes, the Board can go in for a rights issue.           

  

The second option could be for the Board to issue Rights on a 1:1 basis to minority shareholders only, at the current market price, with the government not taking this offer, but letting it be diverted to employees, pension funds, LIC, housing boards, UTI etc. Here again, once this is settled, the Board may consider capitalization by a bonus issue.

 

The exact modus operandi can be worked out by a Chartered Accountant, tailor made for each institution.  However, the Government's aim should be to reduce its holdings to not more than 26% of the capital employed.

 

Finally, all the state owned banks must be run by professionals, by truly qualified bankers, and not to be treated as the resting post for retiring government officials, politicians and their nominees.

 

(AK Ramdas has worked with the Engineering Export Promotion Council of the ministry of commerce. He was also associated with various committees of the Council. His international career took him to places like Beirut, Kuwait and Dubai at a time when these were small trading outposts; and later to the US.)

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Market impact of Russia's Crimean adventure

If governments are impotent to punish Russia, markets are not. This was best illustrated by the 11% fall in its stock market on the day of invasion. It subsequently rebounded only by 5%.

The editors, who put newspaper or website headlines in huge letters, assume that political events will have a market impact equal to the size of the type. These events are supposed to move markets. The reality is that they don’t. A third of investors don’t care about political risk at all.

 

For example, the last Russian military adventure was the invasion of Georgia by Russia in August 2008. The US market barely budged. The US government shutdown last October, was supposed to be catastrophic and it was, for about a day. The gas attack by Syria last August might have resulted in an armed incursion into Syria, but is was defused. The market fell a few points but not much. Civil unrest has haunted emerging markets including Thailand, Venezuela and Brazil for months. But all the chaos on the streets of Bangkok, Caracas and Rio de Janeiro has had less of an effect than a few off handed remarks by a member of the US Federal Reserve.

 

Now we have seen a brief pull back because of the Russian occupation of the Ukrainian territory in Crimea. The market sprang back to new highs. It would be simple to brush this event off as the market apparently has, but is there something different about the latest crisis that might make the market’s reaction premature? Are investors just careless in dismissing political risk as simply irrelevant?

 

The first difference is size. Russia is the ninth largest country in the world by population. Ukraine is just slightly smaller than Spain. From an economic perspective, Russia is the 8th largest economy in the world. It ranks just behind Brazil and ahead of India. The Ukrainian economy is hardly larges. It ranks about 51st, but there is also location.

 

Ukraine’s capital Kiev, is 200km closer to Berlin than Rome. While not exactly in the heart of Europe, it is certainly part of one of the most important economic regions in the world. As part of Europe it also shares a great deal of its history. For close to four hundred years, Ukraine was either part of or influenced by Poland and Lithuania.

 

The proximity is reinforced by history. The Baltic republics and Finland were once part of Russia. All of Eastern Europe and a large part of Germany were controlled and at times occupied by Russian forces. Many citizens of the present EU were once citizens of either the Soviet Union or one of its satellite countries of the Warsaw Pact. The combination of proximity and a bit of shared history makes what happens in the Ukraine far more important to the EU than anything that goes on in Thailand or Syria.

 

The close connection would seem to indicate that both the Europeans and the Americans might be more inclined to do something to punish Russia, but what? This is the heart of the matter. A military option is definitely off the table, which leaves economic retaliation of some type. But Russia is Europe’s third largest trading partner. It provides 30% of Europe’s energy needs. Any economic sanctions would also hurt Europe, so they won’t be too harsh.

 

But if governments are impotent to punish Russia, markets are not. The Russian economy like other emerging markets, has been weakening. Russia’s actions brought uncertainty to any Russian investment. This was best illustrated by the 11% fall in its stock market on the day of invasion. It did subsequently rebound but only by 5%.

 

Even more damage has been done to Russia’s currency. The ruble has been dropping all year. The process accelerated in December with the announcement of tapering by the Federal Reserve. It is now down 20% in the past 12 months. The invasion didn’t help. It briefly dropped almost 3%. To protect the currency, the Russian central bank hiked interest rates from 5% to 7%.

 

The Russian economy is barely growing at a bit over 1%. Manufacturing has been contracting for the past six months and inflation is stuck at over 6%. The country is also in debt. Consumer lending has increased in Russia by about 40% over 2012, while credit card loans rose by close to 80%. Its companies’ foreign debt was $628.4 billion at the end of the first half of last year. This amount is equal to 30% of Russia’s economic output. It is close to their foreign debt at its peak in 2009. A certain percentage of that debt is undoubtedly in hard currency. Rising interest rates and falling currency is a recipe for default

 

Foreign investment in Russia will fall as risk is reassessed. Russia’s main export, natural gas, will get increased competition. According to the America Energy Information Agency, Europe’s recoverable reserves are on a par with America’s. The very real threat of Russian domination may be sufficient to overcome environmental concerns about fracking.

 

Finally it is not just the Russian economy that is in trouble. The Ukrainian economy is a well-known basket case. The fall of Turkey’s currency last month, caused a major market pull back. Things are hardly better and the political corruptions scandals around Prime Minister Ed Erdogan worsen. Russia is also Turkey’s one of the main trading partners, so a slowdown will hurt both countries to say nothing of contagion to other emerging markets.

 

In 1810, London financier Nathan Rothschild is supposed to have instructed investors to "buy on the cannons, sell on the trumpets". In other words buy when stocks plummet due to threats of violence and sell when the threat is extinguished. The concept has less of an impact today, but it really depends on whose cannons. Autocrats and despots are rarely concerned with economic impacts, but they are more likely to be far more devastating than almost all military actions.  One political risk investors cannot ignore.

 

(William Gamble is president of Emerging Market Strategies. An international lawyer and economist, he developed his theories beginning with his first-hand experience and business dealings in the Russia starting in 1993. Mr Gamble holds two graduate law degrees. He was educated at Institute D'Etudes Politique, Trinity College, University of Miami School of Law, and University of Virginia Darden Graduate School of Business Administration. He was a member of the bar in three states, over four different federal courts and has spoken four languages.)

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