(provisional translation)
BASIC VIEWPOINTS TO THE CAPITAL INJECTIONS AND RESULTS OF THE
EXAMINATIONS OF APPLICANT BANKS |
Financial Reconstruction Commission
March 12, 1999
- Since its establishment on December 15, 1998, the Financial Reconstruction Commission
(FRC) has spent a total of 32 days studying the issue of the capital injections for banks.
- On January 20, the FRC finalized and made public a report entitled “The Basic
Operating Policy of the Financial Reconstruction Commission”. This was followed on
January 25 by the release of “Guidelines on Write-Offs and Provisioning against Bad
Debts by Applicants for Capital Injections”, in which the FRC laid down quantitative
standards for provisioning against bad debts by internationally active banks applying for
the capital injections.
- In accordance with the Financial Function Early Strengthening Law (Article 4, Section
6), the FRC held hearings with the Bank of Japan and the Deposit Insurance Corporation,
and then from January 26, launched a preliminary examination of the fifteen banks expected
to apply for the capital injections. 1
- In the course of the preliminary examination, the FRC was provided with the results of
on-site inspections conducted by the Inspection Department of the Financial Supervisory
Agency and the Bank of Japan. The FRC also examined drafts of “the plan for restoring
sound management” submitted by the applicant banks and held direct hearings with their
representatives. As a result of these preliminary studies, the FRC informed of the banks
on February 12 that it agreed to their going ahead with formal procedure for the capital
injections.
On March 4, the FRC received formal applications from the fifteen banks it had
made preliminary examinations of. It then proceeded with its further deliberations
including by conducting another hearings with representatives of the applicant banks on
March 8. The FRC’s basic viewpoints in its examinations are outlined in the following
section.
- To provide sufficient capital injections for the recipient banks to substantially finish
disposing of their bad debts, to regain the confidence of the domestic and foreign
financial markets, and to restore trust in the Japanese financial system.
- To promote smooth flows of credit, thereby contributing to the revitalization of the
economy such as improvements in business activity and employment.
- To improve the competitiveness and profitability of the banks, thereby enabling the
earliest possible recovery of invested funds through the sale of the preferred stock on
the market.
- In the course of implementing the capital injections, to do away with the “convoy-style”
of bank regulation in favor of clearly articulated rules and more transparent
administration.
2. |
Soundness of financial position (even before the injection) |
- Examinations of the financial soundness of the fifteen applicant banks confirmed that
they were not insolvent and their equity-capital bases were sound at the end of September
1998.
- The banks were also judged to be capable of raising their equity capital by a
substantial margin through self-financing and by using net operating profits even before
the injection of public funds in March 1999. Thus, their continued existence was not
thought to be “extremely precarious” as defined under the Financial Function Early
Strengthening Law the first sentence of Sub-section 2, Section 1, Article 7.
3. |
Amount of the capital injections |
- If Japanese banks are to restore the domestic and foreign confidence, it is deemed
essential that they dispose appropriately of their non-performing loans and unrealized
losses from securities holdings.
- For this purpose, internationally active banks at the least should be expected to
substantially finish disposing of their non-performing loans by the end of March 1999
through sufficient write-offs and provisioning therefor as required by the “Guidelines
on Write-Offs and Provisioning against Bad Debts by Applicants for Capital Injections”.2
- The banks are encouraged to dispose of unrealized losses from securities holdings as
soon as possible with the introduction of mark-to-market accounting in March 2002 in
sight. Where the unrealized losses will not be actually disposed of under current
accounting standards, the FRC has given to it a favorable consideration in its examination
of applied capital injections.
- According to such an approach, by consolidating their capital bases using government
guarantees as well as using net operating profits and raising capital independently from
the private sector, the banks should thus be able to ensure sufficient capital accounts
even after taking into account the size of disposed non-performing loan and unrealized
losses from securities holdings.3
- In order to address the problem of credit crunch, the applicant banks are sure to
increase lending to domestic firms, especially to small and medium-sized enterprises, in
fiscal 1999 (in real terms taking into consideration special factors).
4. |
Plans for restoring sound management |
- For domestic and foreign confidence in Japan’s financial system to be restored, the
profitability of banks must be improved through business restructuring, rationalization,
and realignment of the financial industry. It was with this objective in mind that the FRC
examined the applicant banks’ plans for restoring sound management.
- Business restructuring and rationalization plans are assessed from the viewpoint of the
financial market as a whole. Improvements in profitability and implementation of
fundamental structural reforms based on clear and specific strategies rather than
restructuring across the board is therefore rated highly. Withdrawal from non-profitable
operations, including business in overseas markets, is viewed in a particularly positive
light.4
- The applicant banks need to create a wasteless and strong management base and thus
improve profitability through rationalization including, for example, cutting personnel
expenses and other fixed costs. Cutbacks in personnel and non-personnel expenses (barring
expenditure on mechanization) and the abolition of posts for senior counselors and
advisers are therefore viewed positively.5
- A process of realignment is practically underway in the financial sector, with banks and
other institutions merging, forming subsidiaries, and entering tie-ups in terms of capital
consolidation or business operations. These moves are viewed positively and are expected
to improve the profitability and financial position of the applicant banks.6
- Other improvements made under the plans for restoring sound management which also
contribute to the positive assessment of a bank include raising funds independently,
developing concrete plans for liquidating non-performing loans, maintaining reliable
credit rating system of its own, and cutting dividends and bonuses for directors to
minimize the drain on profits.
5. |
Characteristics of instruments |
- Instruments such as convertible preferred stock, which can be credited to capital
accounts, are to be used rather than subordinated debentures or loans as the main means
for the capital injection, considering that the injected funds are actually earmarked to
the disposal of bad debts.
- The terms for underwriting such instruments require that dividend yields be determined
in accordance with the “Basic Policy for Dividend Yield of Preferred Stock” issued on
December 17, 1998, and are based on the following basic principles:
- |
In principle, total yield on the Financial Function Early Strengthening Account should
be such as not to fall below the account’s financing costs.
|
- |
The dividend yield on the preferred stock of each individual bank should be the same
as, or higher than the official discount rate, this being the minimum financing rate of
the Financial Function Early Strengthening Account.
|
- |
The dividend yield on the ordinary stock of each individual bank should not in
principle exceed the dividend yield on the preferred stock.
|
- |
The dividend yield on the preferred stock should reflect each individual bank’s
allowable financing costs.
|
- Specifically, dividend yields are determined as set forth below:
1) |
In the first stage, the FRC assumed market rates
applied to each bank which reflects that bank’s profitability, its funding capability,
and its capacity to assume risk. In this assumption, however, in line with the aims of the
Financial Function Early Strengthening Law, it is premised that the capital injections
restore domestic and foreign confidence and eliminate the uneasiness in the financial
system exemplified by the Japan premium.
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2) |
In the second stage, dividend yields are calculated
in accordance with ordinary market practices, reflecting individual instrument’s terms
proposed in each bank’s application.7
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3) |
Finally, where a bank takes sufficient steps toward
business restructuring, rationalization, and adaptation to financial realignment, its
dividend yield reflects the positive assessment of such moves as described in the above
Section 4, due to their anticipated beneficial effect on the bank’s financial and
business position.8
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III. |
Results of the examination and the follow-up
procedure |
- After thorough examinations of the applications and plans for restoring sound management
of the fifteen applicant banks, with the basic viewpoints outlined so far, the FRC
concluded that their applications should be approved. The capital injections will
therefore be carried out at the end of March once the necessary procedures have been
completed, and this should serve to restore domestic and foreign confidence in the
Japanese financial system.
- The banks that receive the capital injection will be expected to practice sound
management and improve their profitability in line with the objectives of capital
injections and in accordance with their plans for restoring sound management. In the event
of a recipient bank’s failure without good cause (such as a significant worsening of the
economy) to implement important fundamental parts of its plan for restore sound
management, managerial responsibility should be clarified.
- Under the Financial Function Early Strengthening Law(Article 5, Section 4), the
recipient banks will be required to report to the FRC on, inter alia, steps being taken
toward business restructuring, rationalization, and adaptation to financial realignment as
committed in their plans for restoring sound management, and to make the reports public.
This should encourage the banks to commit themselves firmly to make improvements.
- If a bank finds a positive reason for doing so (e.g. stepping up its effort for business
restructuring or adaptation to financial realignment efforts), it may be allowed to revise
its plan for restoring sound management.
- If the above reports indicate that a recipient bank lacks an intention to properly
implement its plan for restoring sound management, then the FRC will take appropriate
measures stipulated in the Banking Law, as necessary, under the Financial Function Early
Strengthening Law (Article 20, Section 2).
- The capital injections on this occasion will substantially complete disposing the bad
debts at the leading banks. Furthermore, by helping a new round of financial realignment
associated with the capital injections which proceeds simultaneously with the realignment
caused by the Japan’s financial “Big Bang”, the FRC will contribute to the
improvement of the financial system’s efficiency.
The Industrial Bank of Japan, Ltd. |
The Dai-Ichi Kangyo Bank, Ltd. |
The Sakura Bank, Ltd. |
The Fuji Bank, Ltd. |
The Sumitomo Bank, Ltd. |
The Daiwa Bank, Ltd. |
The Sanwa Bank, Ltd. |
The Tokai Bank, Ltd. |
The Asahi Bank, Ltd. |
The Bank of Yokohama, Ltd. |
The Mitsui Trust & Banking Co., Ltd. |
|
The Mitsubishi Trust & Banking Corp. |
The Sumitomo Trust & Banking Co., Ltd. |
|
The Toyo Trust & Banking Co., Ltd. |
The Chuo Trust & Banking Co., Ltd. |
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Debt forgiveness should be carried out only after due consideration is given to such
factors as business rationality (e.g. if this would improve the chances of recovering
remaining claims), clarification of the locus of managerial responsibility at the
borrowing firm, and the social influence of the borrower. The banks are encouraged to make
sufficient prior provision to cover the projected amount of forgiven claims.
Subtracting the remaining unrealized losses from securities holdings from the amount of
equity capital after the injections of capital are received would give the applicant banks
real capital adequacy ratios of around 10%.
The plans for restoring sound management of the applicant banks provide for
complete withdrawal from overseas operations by regional banks, the closure of
non-profitable overseas branches, and reform of branch business structures (See Material
12).
The plans for restoring sound management of the applicant banks require cuts in
personnel and non-personnel expenses, cutbacks in the number of directors, and the
abolition of adviser positions (See Material 13).
Specific instances of such developments include mergers between trust banks, the
establishment of subsidiaries or joint investments involving city and trust banks, and
inter-regional and inter-sectoral business tie-ups (See Material 14).
The dividend yields on preferred stock tend to be lower than that on subordinated
debentures and loans, since it is closer to pure capital. The dividend yield on a
preferred stock that represents a better investment for investors (e.g. because the
minimum conversion price is sufficiently lower than the market price, the initial
conversion price is set at the time of issuance rather than when conversion begins, or the
conversion period starts early) likewise is lower than that on other preferred stock.
(1) and (2) above are based on common market practice, while (3) incorporates as
exogenous factors the results of assessments made in accordance with certain criteria of
improvements made under applicant banks’ plans for restoring sound management.
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