''Fund infusion in PSBs via zero coupon bonds may strengthen regulatory capital, but not equity''


The government''s recent proposal to infuse capital in four state-owned banks through non-interest-bearing (zero coupon) bonds will improve the lenders'' capital levels, but not their tangible equity to a large extent, according to a report.
On Wednesday, the government notified that it has infused Rs 14,500 crore into four banks — Bank of India, Indian Overseas Bank, Central Bank of India and UCO Bank.

A zero-coupon bond is a bond that pays no interest and trades at a discount to its face value.

"The government''s proposed equity infusion in four public sector banks (PSBs) through non-interest-bearing bonds would bolster their regulatory capital levels, but their lower intrinsic values would not strengthen their tangible equity by as much," the agency said in the report.

As these special bonds are non-interest bearing and issued at par to a bank, it would be an investment, which would not earn any return but rather depreciate with each passing year.

The agency said these long-tenure securities would be factored at par value rather than the discounted value in the banks'' balance sheet.

According to the agency, the four lenders have weak tangible buffers or a weaker ability to build and maintain capital buffers. The intrinsic networth of these instruments could be lower by more than 50 per cent at the outset than similar maturity government papers in the market, it said.

The illiquid, non-trading nature of these securities could add to the discount, the report said.

It said the proposed quantum of capital infusion varies between 11 per cent and 44 per cent of the tier-I capital of the respective PSBs as of third quarter of the financial year 2020-21.

Equity level is an important factor in the banks'' ability to service Basel-III additional tier-I and tier-II bonds, it said.

"While the quantum of these instruments is limited in the total equity profile of most of these PSBs, the notching down for their tier-II bonds and additional tier-I bonds from the long-term issuer ratings and the standalone rating, respectively, could widen," it said.

The first capital infusion through non-interest-bearing bonds was in Punjab and Sindh Bank (P&SB) in the third quarter of the financial year 2020-21.

The government has already allocated Rs 20,000 crore for equity infusion into PSBs in their Union Budget 2021-22.

The agency said it will continue to closely track these infusions and their impact on the banks'' franchise, adjusted networth and book value, it said.

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