RCBC,
CODE-NGO's financier and the largest PEACe Bond beneficiary, now
claims that the BIR's belated imposition of a 20% Final Withholding
Tax on the PEACe Bond's final bondholders will lead to the bank's
“financial ruin.”1
Why? Because BIR's October 7, 2011 ruling will “unduly expose” it
to “unjustified third-party claims.”
Now, who are these third party claimants? Its fellow banks, of course. Nine of them, to be exact: Banco De Oro Unibank, Bank of Commerce, BPI Family Bank, China Banking Corporation, Metropolitan Bank and Trust Company, Philippine Bank of Communications, Philippine National Bank, Philippine Veterans Bank, and Planters Development Bank. These nine banks were left holding the bag because the BIR chose to collect back taxes on the PEACe bonds from the final bondholders, instead of CODE-NGO/RCBC, the main beneficiaries of the “erroneous” 2001 Banez Rulings, even though the government found CODE-NGO/RCBC liable for the PHP 4.86 billion in unpaid taxes.
Now, who are these third party claimants? Its fellow banks, of course. Nine of them, to be exact: Banco De Oro Unibank, Bank of Commerce, BPI Family Bank, China Banking Corporation, Metropolitan Bank and Trust Company, Philippine Bank of Communications, Philippine National Bank, Philippine Veterans Bank, and Planters Development Bank. These nine banks were left holding the bag because the BIR chose to collect back taxes on the PEACe bonds from the final bondholders, instead of CODE-NGO/RCBC, the main beneficiaries of the “erroneous” 2001 Banez Rulings, even though the government found CODE-NGO/RCBC liable for the PHP 4.86 billion in unpaid taxes.
A
previous post, “A Tax on the PEACe Bonds - Who is Left Holding the
Bag?
(http://systemisbroken.blogspot.com/2011/10/tax-on-peace-bonds-who-is-left-holding.html)
predicted this would happen:
“Unless the
government recreates the chain of sales and resale from CODE-NGO/RCBC
to the final bondholders, the final bondholders would have to
recreate this process via a chain of litigation, meaning the final
bondholder would have to sue the previous bondholder to collect the
20% FWT that the final bondholders are not liable for, and that the
previous bondholder would have to collect from its previous
bondholders, and so on and so forth, until the chain of sale is
retraced back to CODE-NGO/RCBC, the original bondholders. Needless
to say, this would create a gigantic legal mess.”
RCBC also admitted that it was one of
the final bondholders. It holds PHP 1.4 billion or 4% of the PEACe
bonds. So now, RCBC is the tenth bank left holding the bag on the
PEACe Bonds.
Now how will this lead to the RCBC's
financial ruin? Let us count the ways...
As Final Bondholder
The first and most direct way is
through its holding of the PEACe Bonds.
RCBC holds PHP 1.4 billion or 4% of the
PEACe Bonds. As such, it is liable for 4% of the PHP 4.86 billion
tax due on the PEACe Bonds. This amounts to a mere PHP 194.40
million or 0.60% of the bank's Capital Funds of PHP 32.412 billion as
of December 31, 2010.
The loss will sting RCBC like an
antbite. But it certainly will not kill it.
All Roads Lead to RCBC
But RCBC is not just liable to pay only
PHP 194.40 million of the PHP 4.86 billion in back taxes. It is
liable to pay the entire PHP 4.86 billion in back taxes.
Under BIR Ruling No. 370-2011, “RCBC is held liable to pay 20%
final tax on the entire PHP 24.3 billion discount, which is the
present value of the original discount to date, or approximately PHP
4.86 billion.”
So if the BIR does not work to extract
this sum from RCBC, you can be sure that nine of RCBC's fellow banks
will work to extract this sum, via litigation, from RCBC. Hence,
RCBC's claim in its Supreme Court petition that the BIR's October 7,
2011 ruling raises “the possibility that petitioner-intervenor RCBC
may be called upon to pay third parties” and this “immeasurably damages petitioner-intervenor RCBC's financial
standing and reputation.”
Barring a BIR collection, collection of
this sum via litigation of third party banks will be a slow process, given how slowly the wheels of justice turn in the Philippines.
But if it does happen soon enough, how will RCBC be
affected?
Taking PHP 4.86 billion from RCBC is
tantamount to a 15% hit to RCBC's capital funds of PHP 32.412
billion as of December 31, 2010. But not all of RCBC's capital funds
are common equity. RCBC has PHP 207 million in Preferred Stock. It
also has PHP 4.883 billion in Hybrid Perpetual Securities (a quasi-debt quasi-equity investment instrument that the company can count as part of its regulatory capital base). We also have to back out the PHP 426 million in “goodwill”
on RCBC's books. If you net all of these out, RCBC's tangible common capital funds amounts
to only PHP 26.896 billion. So a PHP 4.86 billion hit in PEACe Bond
back taxes amounts to a more damaging 18.07% hit to RCBC's capital
funds. This hit will certainly wound RCBC but not necessarily kill it.
Overstated Capital
The trouble is that things are not what
they seem. RCBC's auditor, Punongbayan & Araullo, has been
issuing a qualified auditor opinion for years on RCBC's financial statements. The qualified opinion indicates that everything in RCBC's financial statements
is kosher except for the fact that RCBC has unbooked losses relating
to the sale of its Non-Performing Assets (NPAs) to various Special
Purpose Vehicles (SPVs). According to the auditor, RCBC
“deferred
the recognition of the losses resulting from the sale of the NPAs
transferred and the additional allowance for impairment on such NPAs
had these not been derecognized, such losses and additional allowance
for impairment are instead being amortized over a period of 10 years
in accordance with MB Resolution No. 135.”
In other words, RCBC booked these
losses as deferred charges and put them in the “Other Assets”
bucket of its balance sheet.
How big are the unbooked losses? Note
11.2 “Special Purpose Vehicle (SPV) Transactions” of RCBC's
audited financial statements has some answers: PHP 6.072 billion as
of December 31, 2010.
“Had the Parent
Company...derecognized the allowance for impairment related to the
NPAs transferred that qualified for derecognition at the time of
sale...Deferred Charges (part of Other Resources account in Note 15)
would have decreased by P6,072 and P 7,047 in 2010 and 2009,
respectively; ...and Surplus would have decreased by P6,072 and
P7,047 in 2010 and 2009, respectively.”
What this is saying is that RCBC's
actual common capital funds is PHP 20.824 billion - PHP 6.072 billion
or 22.58% lower than the PHP 26.896 billion figure arrived at in our
last calculation. So a PHP 4.86 billion hit to its capital in the form
of unpaid PEACe Bond taxes would amount to a 23.34% - or almost a 25% of its capital. Thus, RCBC's tangible common capital base would be reduced to only PHP 15.964 billion. This is definitely a major but not necessarily fatal wound.
Heightened Risk of Insolvency
On a standalone basis, RCBC having a
common capital fund of PHP 15.964 billion is meaningless. But
relative to the rest of its balance sheet, this figure speaks
volumes. Because roughly PHP 16 billion in capital (as opposed to the original PHP 32 billion) will have a
harder time supporting an asset base 20 times bigger - roughly PHP
320 billion as of year end 2010.
Moreover, the quality of this asset
base is suspect. A substantial amount is held in the form of risky
assets whose values are often indeterminate. Moreover, these assets have the potential to deteriorate
substantially. Losses on these assets will further eat into the bank's capital base. These
assets take the form of classified loans, acquired real estate, and other miscellaneous assets such as real estate assets held for sale.
To absorb losses, the bank must have a substantial capital cushion consisting of the bank's tangible common capital plus its loss reserves. A ratio of Distressed Assets to Capital Cushion of greater than 1:1 puts the bank at a heightened risk of insolvency. Why? Because if these distressed assets were written down to zero, the bank's shareholders would be wiped out and the bank would be insolvent. Prior to adjustments, RCBC's ratio was already high at 1.17 to 1. In other words, the bank was already relatively weak and was well within the danger zone of insolvency. Netting out the deferred charges and the PEACe Bond taxes only serves to lower the bank's capital cushion and heighten its risk of insolvency. The ratio climbs by 21.37% to 1.42 to 1. So the imposition of the PEACe Bonds Tax will only serve to further weaken an already weak bank.
To absorb losses, the bank must have a substantial capital cushion consisting of the bank's tangible common capital plus its loss reserves. A ratio of Distressed Assets to Capital Cushion of greater than 1:1 puts the bank at a heightened risk of insolvency. Why? Because if these distressed assets were written down to zero, the bank's shareholders would be wiped out and the bank would be insolvent. Prior to adjustments, RCBC's ratio was already high at 1.17 to 1. In other words, the bank was already relatively weak and was well within the danger zone of insolvency. Netting out the deferred charges and the PEACe Bond taxes only serves to lower the bank's capital cushion and heighten its risk of insolvency. The ratio climbs by 21.37% to 1.42 to 1. So the imposition of the PEACe Bonds Tax will only serve to further weaken an already weak bank.
Rizal Commercial Banking Corporation
Distressed Assets and Capital Cushion
As of December 31, 2010
|
|||
Distressed Assets
|
Unadjusted Amount
(In PHP Million
|
Adjustments for Deferred Charges & PEACe
Bond Taxes
(In PHP Million)
|
Adjusted Amount
(In PHP Million)
|
Classified Loans |
27,108
|
27,108
|
|
Acquired Real Estate |
7,303
|
7,303
|
|
Other Assets |
8,865
|
6,0722
|
2,793
|
Total Distressed Assets |
43,276
|
6,072
|
37,204
|
Capital Cushion
|
|||
Common Capital |
26,896
|
10,9323
|
15,964
|
Allowance for Losses |
10,157
|
10,157
|
|
Total Capital Cushion |
37,053
|
10,932
|
26,121
|
Distressed Assets/Capital Cushion Ratio |
1.17
|
1.42
|
Reputation and Goodwill
Quantitatively, the bank will be badly hurt by the tax. But it will not be dead. But there is a qualitative aspect to
this as well: confidence, or rather, the lack of it. RCBC claims that the imposition of the tax may immeasurably
damage RCBC's "reputation and goodwill in the financial community." Investors may lose confidence in RCBC as an intermediary. Investors
may question RCBC's “judgement on the stability of transactions it
participates in, or underwrites and the reliability of the parties
involved in the transaction.”
In Banking and Finance, confidence is
everything. And once that confidence is lost, no one will continue
to business with RCBC. RCBC is right. The run on the bank may have
already started.
1“RCBC
files petition vs. PEACe bond tax,” by Ina Reformina, November 4,
2011, ABS-CBN News
2PHP
6,072 million in Deferred Charges
3PHP
6,072 million in Deferred Charges plus PHP 4,860 million in PEACe
Bond Taxes
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