Banks are getting creative in reshuffling their shareholders' positions to bolster tangible common equity ratios, a metric that is typically used to compare financial institutions.
Investors and analysts are pressing banks of all sizes to produce higher TCE ratios, which divide a banking company's common equity by its tangible assets. With growth hard to come by, many banks are asking existing shareholder to add or boost their ownership of common stock. In doing so, the banks can boost their TCE ratios and, ultimately, flatter skeptical capital markets.
"Because of the losses experienced earlier in this cycle, the economic tilt toward higher TCE ratios in addition to appropriate loan-loss reserves is viewed as being prudent," says Joseph Thomas, a managing director at Hovde Private Equity Advisors LLC.
"One of the biggest challenges for community banks is that common equity is really hard to raise and I'd say it's getting even more difficult," Thomas adds.
Such increased difficulty is forcing bankers to look at ways that would raise TCE ratios without relying on capital markets or shrinking assets.
BNC Bancorp (BNCN) in High Point, N.C., wants shareholders to allow it to issue 20 million in non-voting common stock so it can convert the holdings of investor Aquiline Capital Partners to common stock from preferred stock. If approved at next month's annual meeting, shifting Aquiline's ownership would raise BNC's tangible common equity ratio by 71 basis points, to 4.3%, BNC said in a regulatory filing.
TCE ratios among BNC's peer group range from 7% to 9%, says W. Swope Montgomery, BNC's president and chief executive. Though BNC has completed several bank acquisitions and has maintained solid regulatory capital ratios, management knew that its position was masked by its low TCE ratio.
"We recognize that we're pretty thin from that ratio compared to anybody" in the peer group, Montgomery says. "So that is something we're constantly evaluating. We're always looking at ways to be more efficient and profitable and to add value."
Bankers are also looking at ways to boost capital by turning to existing holders of common stock to buy more shares. One method involves offering a convertible security with a regular payout called a coupon, says Allen Laufenberg, a managing director in the investment banking group at Stifel Nicolaus Weisel.
The coupon would ideally attract investors because, as a legal obligation, it is considered a fixed payout for a certain number of years. It would also bring comfort to smaller banks that are attempting to convince current investors within their community to invest more.
"Some investors like receiving income from a company that they know and trust and are comfortable with the company's ability to keep making payments on the coupon," Laufenberg says. "The convertible into common [stock] might be an interesting way to attract some high net worth individual investors."
Though it would not count as common equity toward the TCE ratio until conversion, such a security would put the bank in a better capital position without going to public markets. Most banks are just discussing the process but Laufenberg says it's becoming an increasingly attractive alternative for banks, especially those that remain in the Treasury Department's Troubled Asset Relief Program.
Most Tarp participants would face significant dilution or undersubscribed capital raises because of market trepidation, particularly with community banks, industry observers say.
"If you go into the market at 75% of tangible book value today, that wouldn't make sense at all," Montgomery says. "There are other community banks that might want to consider something like [conversion], but whether they have the resources or talent to see why it would benefit them and be a positive thing is hard to say."
The tangible common equity ratio has always been important to investors, but Tarp has amplified the focus for both investors and regulators.
Thomas says regulators are asking banks with large private equity investors to have TCE ratio of at least 10%. This makes it even more difficult for banks like BNC; it has a private equity partner holding and $31 million in Tarp funding.
In its April 16 proxy, BNC said it has asked Aquiline to convert its 1.8 million shares of preferred stock into non-voting common equity at the same dividend rate. Aquiline has indicated it would consider the conversion, the proxy said.
Aquiline declined to comment. G. Kennedy Thompson, the former Wachovia CEO, represents Aquiline on BNC's board.
Montgomery said the conversion would help its ratios but would be insufficient to exit Tarp. At the same time, it makes BNC more attractive to investors while giving management time to decide its next move. BNC could eventually test the markets or the Treasury's new auction strategy for selling its Tarp shares to third parties.
"It's prudent to wait and see how [Tarp auctions] might affect us," Montgomery says. "Not knowing how long the [aftermath of the] recession will go on, it's prudent to wait."