Waiting for the third bout of US government intervention in Citigroup Inc. has been like watching your grandmother drive: progress is slow and there’s always the chance of a crash along the way. The bank’s dose of Bailout 2.5 has finally arrived. But will it be enough to allay fears that the bank is on the brink?
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Well, yes and no. Parts of the deal could, in fact, be pretty helpful in ameliorating Citi’s perilous state. For starters, the planned exchange of preferred stock for common stock will roughly quadruple the number of common shares outstanding. That gives the most widely scrutinized part of the bank’s capital structure a bigger buffer against losses. And Citi’s ratio of tangible common equity to tangible assets should jump to 4.6%, just shy of JPMorgan Chase and Co.’s level.
The big boost to the firm’s stock market capitalization should also mean Citi ought to be in a better position to raise more capital, should it need to.
What’s more, it will markedly improve Citi’s cash flow as it will no longer be paying dividends on up to $52 billion-odd(Rs2.63 trillion) of preferred stock. That will keep as much as $2.8 billion a year in the bank’s coffers.
Of course, that means US taxpayers and other owners of preferred stock look worse off: They’ll lose their dividends and be shunted into the riskiest part of the capital structure.
But preferred and common stockholders alike were presented with what amounts to an accept-or-die choice. Preferred holders refusing to convert would lose their dividends anyway.
Meanwhile, if common shareholders vote against massive dilution, the preferred holders who did accept the deal would be paid a 9% dividend that gets bumped up by a punitive 2 percentage points each quarter and get a pile of warrants that would dilute shareholders anyway.
It’s far from ideal, but at least it leaves the government, former preferred holders and existing shareholders, broadly speaking, in the same boat.
The new capital structure should also be robust enough to pass the stress test the US treasury plans to run. Citi has conducted a test it says appears more conservative than the treasury’s.
The trouble is, there’s no guarantee this marks a floor for Citi. The deal doesn’t address lingering concerns about Citi’s balance sheet and manageability.
Sure, Citi is separating out unwanted businesses and assets and the government has guaranteed some $300 billion of its most toxic sludge. But that wasn’t enough to calm investors’ nerves before—and the bank’s track record doesn’t inspire confidence.
It may be that this latest dance with DC has done the trick. But scepticism is likely to persist.