I’ll write a bit more later on the substance of the announcements today from AIB and the Department of Finance. However, I thought I’d first discuss an aspect of today’s developments that hasn’t been discussed in most of the press reports. Together with the Minister for Finance (with whom they have good reason not to disagree) AIB have “formed a view” that they need to have an extra €1.5 billion in Tier 1 capital.
Those who followed AIB and BOI’s fruitless attempts to raise equity in recent months were probably surprised to hear that rather than just announce that AIB was taking an extra €1.5 billion from the government, the bank stated that it was planning to raise these funds itself. Most media stories have focused on how AIB can achieve this by selling its minority stake in M&T, an American bank, and perhaps also selling its stake in a Polish bank.
Now here’s where it gets tricky. RTE and other media outlets have reported this as a simple story of “bank short of funds raises funds by selling assets.” The problem is folks, that plausible as this may sound, that’s not the story at all.
This is a bank that needs additional equity capital, which in banking means the value of its assets minus its liabilities. But selling an asset already accounted for on the balance sheet for cash does not change a bank’s capital one iota, it just changes the composition of its assets (now it might affect risk-weighted assets but that’s a different matter.)
To be more specific, AIB’s balance sheet (latest version available here — see page 28 of the press release) shows the value of its “Interests in Associated Undertakings” at €1.968 billion. This includes the value of its 24% stake in M&T banks in the US, which it is now thinking about selling. Apparently, AIB’s books value this stake in M&T at about €1.5 billlion.
Now bear with me, here’s where it gets interesting. One might imagine that the story here is that AIB are planning to sell their M&T stake for more than its valued at on their books. Unfortunately, the opposite is the case. M&T, like most other US banks, has seen its stock price battered (it’s down 50% relative to last September) so AIB’s stake in it is now worth about €1.4 billion. And selling the lot in one go because you’re short of funds suggests that AIB may make a bigger loss than this.
So far then, AIB’s current strategy for coming up with extra capital to cushion against losses is to sell its stake in M&T for a loss. But wait a minute, here comes the goodwill write-up to save the day.
What’s that, you say? Well, it turns out that the reason selling M&T is going to boost AIB’s equity capital is because the balance sheet also contains another line on the asset side for “Intangible Assets and Goodwill”. Apparently, AIB took a writedown on Goodwill when it orginally purchased a stake in M&T and they can reverse this when they sell the stake.
So, as the FT reports,
The bank is set to book a loss on disposal, but after adjusting for goodwill the sale will bolster the bank’s capital position.
The genesis of this goes back to early last year. Here’s a story from February of last year from the Business Post:
AIB’s in-house accountants recently estimated that selling M&T would result in a goodwill write-back to its balance sheet of almost €900 million, up from a previous estimate of approximately €450million. Chief financial officer John O’Donnell told analysts last week that the bank’s auditors had confirmed the revised approach.
Yes, folks, this is AIB’s new strategy for protecting itself against future losses. Sell their US operation at a loss, so they can write up Goodwill because their auditors reckon it’s kosher. After all, their Irish operation is notoriously well run and highly respected by the Irish public.