Eased Definition Has Little Effect On Equity Ratios

The relaxed definition of core equity just approved under the Bush administration's plan to stimulate lending will have little or no immediate impact on the capital ratios of the 25 largest banking companies, an American Banker survey shows.

But the change will give more flexibility for raising capital to Citicorp, Chase Manhattan Corp., and Chemical Banking Corp., three large companies that have relatively low ratios.

The survey's findings reinforce the belief that the Bush plan alone will not have a dramatic effect on lending. Many bankers contend that a lack of demand is behind the dropoff more than tough capital rules.

One plank of the plan, issued Tuesday, makes it easier for banks to meet the requirement that core capital equal at least 4% of risk-adjusted assets.

Under the current rules, common equity must make up the bulk of Tier 1, or core, capital. Perpetual preferred stock can be used to meet only one-quarter of the requirement.

Preferred Ceiling Goes Higher

The Bush plan, embraced by regulators, allows banking companies to count all preferred stock as Tier 1 capital, starting Oct. 31.

The thinking: Preferred equity is often cheaper to raise than common stock; if banks can raise more equity, their capacity to lend will expand.

But at midyear, only two of the 25 largest companies were over the ceiling for perpetual preferred stock, according to June 30 data compiled by SNL Securities. (See table on back page.)

And those institutions -- Chemical and Mellon Bank Corp. of Pittsburgh -- barely exceeded the limit. Counting the extra preferred stock would have raised Chemical's Tier 1 ratio to 5.11%, from 5.05%. Mellon's would have risen to 5.26% from 5.12%.

Among the other 23 companies, only five had preferred stock equal to at least 20% of Tier 1 capital.

Most bankers said the eased definition would have little effect on their capital-raising plans or lending strategies -- at least until the economic recovery strengthens. Currently, bankers said, there are not enough attractive assets to invest in.

"It doesn't make a difference to us," said Stephen Hansel, chief financial officer at Barnett Banks in Jacksonville, Fla. Barnett's preferred stock equals just 7% of Tier 1 capital.

Among the top 25 banking companies, preferred stock makes up an average of only 10% of core capital - well below the level where the new definition makes a difference.

But the level varies widely among the top banks. Sun Trust Banks, for example, has none. At PNC Financial Corp., preferred stock represents only 1.4% of Tier 1 capital.

Some Endangered Species

At the same time, some companies with relatively low capital levels are near the ceiling.

Citicorp has 24% of its capital in preferred stock, Chase has nearly 22%, and Chemical has 26%. All three could benefit from the change in the long term.

Citicorp and Chase's Tier 1 ratios are among the lowest in the industry. Citicorp's ratio is 4.08; Chase's is 4.91. Executives from both companies were unavailable to comment on the affect of the change.

Heads and Tails Aspects

Banks may desire to issue preferred stock rather than common because that does not dilute the stake of common shareholders. That can prevent a drop in share prices.

But the other side of the coin is that some banks don't want to carry too much preferred stock.

"While we've occasionally considered using straight preferred in our capital mix, the odds of wanting to use more that 25% are astronomical," said Mr. Hansel of Barnett.

His company prefers to issue common stock, as it did once this year. A bigger aid in boosting Tier 1 ratios, he said, would be to include loan-loss reserves.

First Chicago Corp. also will not change its strategy for raising capital, according to a spokeswoman.

One damper on any offerings is slack consumer and commercial loan demand. With few good credits around, banks are unlikely to issue preferred stock merely because it can be counted as Tier 1 capital, observers said.

Tough Times for Assets

"Banks are having a hard time coming up with assets these days," said Kenneth Puglisi, an analyst with Keefe, Bruyette & Woods in New York.

"The real issue fundamentally is whether banks can generate the returns that can justify issuing preferred stock," said John Douglas, a partner with Alston & Bird in Atlanta and a former FDIC general counsel.

Barbara A. Rehm contributed to this article.

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