Does Co-op Group deserve to keep control of Co-op Bank?

 
Co-op bank

Holders of Co-op Bank's preference shares and subordinated bonds are revolting over Co-op Group's plan to convert part of their investment into ordinary shares and force big losses on them.

It is all getting a bit messy, for the Co-op Group, and for the regulator, the Prudential Regulation Authority (PRA).

Today a group of retail investors in these preference shares and bonds, co-ordinated by Mark Taber, has written to Andrew Bailey, head of the PRA.

They raise a couple of potentially embarrassing questions for Mr Bailey and the Co-op.

First is whether there was a false market in Co-op preference shares and bonds for the best part of a couple of years.

You may recall that I wrote back in May that the PRA's predecessor, the Financial Services Authority, had at the end of 2011 told Co-op Bank that its ambition to buy more than 600 branches from Lloyds in the so-called Verde deal was dependent on it improving its capital ratios, management and governance, inter alia.

Now Mr Bailey confirmed to MPs only a few days ago that this is indeed what the FSA had done.

Here is the thing.

If Co-op had been told of these deficiencies by the regulator and instructed to rectify them, shouldn't the Co-op have passed on this information to holders of its bonds and preference shares?

A ruling by the regulator that a bank does not have enough capital, for example, plainly has implications for the value of bonds and preference shares.

It is, to use the jargon, price-sensitive information.

So shouldn't the Co-op Bank have told its investors that it was a weaker bank than they may have believed?

Now as it happens, Verde was being offered to Co-op with a surplus of capital.

If the deal had gone through, the capital hole would have been filled.

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There are important points at stake about how shareholders can be forced to take responsibilities seriously ”

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But there was no certainty the deal would go through. And, indeed, it collapsed.

So one question for Co-op Bank and the regulator is why relevant price-sensitive information was not passed on to holders of preference shares and subordinated debt.

Question number two is about the distribution of losses in the reconstruction of Co-op Bank.

All image to the contrary, Co-op Bank is not a mutual. It is a PLC owned by a mutual - Co-op Group.

In other words, all the shares or equity in Co-op Bank are owned by the Co-op Group and its members.

To tell you what you presumably already know (as is my wont), the convention when a business gets into difficulties is to wipe out the existing common equity before foisting losses on preference shareholders and bondholders.

But under Co-op Group's rescue plan for Co-op Bank, Co-op Group and its members will continue to own a majority of the shares in Co-op Bank.

Co-op Group will take some losses, but perhaps rather smaller losses than convention would suggest it ought to be taking - and it is instead forcing larger losses on bondholders and preference shareholders.

It is quite difficult to be categorical about whether the distribution of losses is fair, because Co-op Group has not published the details - which are subject to negotiation.

And if you are a supporter of mutuals, you may say hooray that Co-op Group wants to remain in control.

But there are important points of public policy at stake here, about how shareholders can be forced to take their responsibilities seriously as owners of banks.

As of the end of 2012, the equity in the Co-op Bank was valued at £1.6bn. And given that the regulator says it needs to find £1.5bn of new equity for the bank, in theory if all the new equity came from bondholders and holders of preference shares, Co-op Group would still be the majority shareholder.

But this is based on the assumption that the bondholders and preference shareholders actually want to own equity or shares in Co-op Bank.

They don't. They are being told they have to convert their bonds and preference shares into shares and new bonds, to save Co-op Bank.

So it is legitimate for them to ask why Co-op Group's existing equity in Co-op Bank should be valued at a bean, if it is not prepared to find the full £1.5bn that the regulator says is needed by Co-op Bank.

Or to put it another way, since the regulator believes that Co-op Bank was not managed prudently, and Co-op Group's stewardship was inadequate, shouldn't Co-op Group's investment in Co-op Bank be more or less wiped out, before losses are forced on anyone else?

And if that principle is not applied, doesn't it give hope to shareholders in other banks that they too would not feel the full financial consequence of their foolishness, if they fail to keep a beady eye on the activities of the management of banks - and isn't the sustenance of that hope precisely the opposite of the stewardship reforms that regulators and government seek?

There is no serious argument against the idea that one of the great flaws of the boom years that preceded the great crash of 2007-8 is that shareholders in banks behaved like absentee landlords.

If the manner of the reconstruction of Co-op Bank protects its owner from the full effects of its management failure, what hope is there that investors in other banks will take their ownership responsibilities seriously?

Update 1000, 9 July

Co-op Group has explained to me why it believes it deserves to continue to control Co-op Bank.

At the time of the formal rescue of the bank, scheduled for November, Co-op Group will indeed see its stake in the bank devalued to nothing, or wiped out.

It will then inject £1bn into the bank, half-raised by selling two insurance businesses and half-raised by borrowing (via a bond which Co-op Group will issue).

The remaining £500m would come from the forced conversion of the subordinated debt and preference shares into ordinary shares listed on the stock market and new bonds.

And Co-op Group makes one further point. If the preference shareholders and bondholders don't like it, there is an alternative.

It is called resolution, in which the bank would be seized and rescued by the Bank of England, and the pref holders and bondholders would see the value of their investments reduced to a big fat zero.

In other words Co-op Group says the choice for bondholders and pref holders is between big losses and total losses.

 
Robert Peston, economics editor Article written by Robert Peston Robert Peston Economics editor

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  • rate this
    0

    Comment number 154.

    Co-op insisted it did not need bailout having £7bn to shore up its finances. Ex bosses left with large pay offs, bumper divi payments made to members, substantial sums & low int loans used to back political parties. Are we to assume bankers, politicians and regulators are in cahoots to foist Co-op losses onto bond holders incl ordinary savers and oaps? Who ensures the Co-op fulfils its duties?

  • rate this
    0

    Comment number 153.

    In all of this, be aware that the Co-op bank's situation is not wholly untypical of the rest of the banking sector. Note the item a few days ago in which Robert Peston speculated on the possibility that Nationwide might have to demutualise in order to raise sufficient capital to meet the new liquidity and reserve requirements.

  • Comment number 152.

    This comment was removed because the moderators found it broke the house rules. Explain.

  • rate this
    0

    Comment number 151.

    If the Co-Op Bank is wiping out all existing equity, the £1bn scheduled to be injected in 2013 will not support the necessary capital ratios without s 35% deleveraging of the Co-Op Bank balance sheet. So does this work?

  • rate this
    0

    Comment number 150.

    136.Little_Old_Me
    Not sure its the FCA/PRA capital requirements, they have been set up under Basel I and Basel II

  • rate this
    0

    Comment number 149.

    Well Maggie set things up in order to privatise the building societies, & even the TSB, why should the possessions of co-operators not be stolen as well. The Victorians recognised the virtues inherent in publicly owned facilities such as water supplies and drainage but that is now all forgotten. The problems encountered by the Co-operative Bank can all be laid at the door of the Britannia BS.

  • rate this
    +1

    Comment number 148.

    Surely equity can only be 'wiped out' if the Co-Op Bank makes a massive loss (assuming it is not being dividended to Co-Op Group)? So is the statment made by Co-Op Group to Robert a massive profits warning? If the answer is yes, surely this is price sensitive information that Co-Op Bank must make an RNS about?

  • rate this
    0

    Comment number 147.

    Not surprised we’re debating the Co-op’s demise when the greater story is how London has lost its prestige spot as the centre of the banking industry. However I look forward to seeing how soon before the NYSE Libor lasts without being manipulated there. Unlike so many industries that have gone to the wall over the years, it’s a pleasure to see this one cut down to size at long last.

  • rate this
    0

    Comment number 146.

    As a Co-op customer for 18yrs I noticed this yrs bonus doubled (all of £14), last yrs was abysmal (£8) all of which is a pathetic way to treat customers. My mortgage is with Britannia & before being taken over by Co-op my bonuses would range from £120 to £200 per year. Personally I've had enough of being insulted by these clowns and will be moving my account.

  • rate this
    +1

    Comment number 145.

    As I'm both a co-op member & co-op party member, I have much interest in this matter. And I also shop at the "workers' co-op" John Lewis.

    There's no reason why co-op businesses need to be part of one group. There are great many co-ops that are totally separate from the co-op group. Some are producer co-ops, some are customer co-ops like the co-op bank.

    Co-op is just a way of doing business.

  • rate this
    0

    Comment number 144.

    #139
    The Co Op group are not putting in any new money at all. They are trying to give the impression that they are, but I don't think many people understand how the issue of this new 'group bond' will work. They are going to ask some of the current bank bondholders to exchange their bank bonds for group bonds(on less favourable terms), its a paper exercise, smoke and mirrors!

  • rate this
    0

    Comment number 143.

    The Co-Op should come clean, the main Directors of the Co-Op and the Directors in charge of the bank must take responsibility for their past mistakes and poor decisions, not the bond holders, who as far as I am aware are in no way responsible for the current economic woes of the group.

  • rate this
    +1

    Comment number 142.

    @140 I've been with the Co-op bank since 1981 and I too am considering a move. The Co-op played the ethical card and has been found wanting. Customer service is appalling and I have complained 3 times in the past 2 years about the service. They really need to get back to basics and prudent banking - I'm very disappointed.

  • rate this
    0

    Comment number 141.

    @134.Little_Old_Me
    33 Minutes ago

    Co-op Bank PLC is being treated more harshly because ALL of the banks are insolvent possibly borderline bankrupt

    Co-op has come clean and taken the bullet

    The rest are hiding their losses off balance sheet or transferred them to the tax payer en-masse (probably both)

  • rate this
    +1

    Comment number 140.

    I am a loyal, committed supporter of the CO-OP Bank....an account holder since 1974....so why have i recently switched to another bank for my main account.? The CO-OP has been pathetically,atrociously, badly managed. The staff i deal with are fine. Past management have much to answer for. Pay back your exit bonuses (sic)..mmmm fat chance..

  • rate this
    +2

    Comment number 139.

    Proceeds from the sale of the insurances businesses are not new money by the way. The previous "robust" accounts had already stated that this money would be injected. The only new money being promised is the £500m from the issue of a Group level bond.

  • rate this
    +2

    Comment number 138.

    Values of shares may go up ... or down.



    That's the way it is and people know it when they buy shares.

  • rate this
    +2

    Comment number 137.

    One small aside in this. According to their own financial reports, the Co-op group as a whole appears to be in robust financial health. In spite of the £650m provisions made in 2012 for bad debts and PPI compensation in its banking arm, the Co-op group made a £50m profit that year. The Co-op recently paid a dividend to members which, while a little down on last year, was still substantial.

  • rate this
    +1

    Comment number 136.

    135.JasonEssex - ".....Why do you believe that? The PLCs raised new capital from their shareholders but didn't wipe out the bond holders...."


    It is not about how the respective companies raise the extra capital they need.....

    ....it is about the amount they have had demanded of them by regulators.....

    ....look at it as % of total liabilities on each banks' books....

  • rate this
    -1

    Comment number 135.

    134.Little_Old_Me
    Why do you believe that? The PLCs raised new capital from their shareholders but didn't wipe out the bond holders. Co-op is proposing both. The only other option is resolution, i.e. the government bailing them out.

 

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