What Should Investors Make Of Oversea-Chinese Banking Corp. Limited’s Rights Issue?

Ser Jing - Checking in on OCBC's First Quarter Results (pic)

The day has finally arrived. Today (27 Aug 2014) is what’s known as the Books Closure Date for Oversea-Chinese Banking Corp. Limited’s (SGX: O39) 1-for-8 rights issue. The purpose of the Books Closure Date is for the bank to be able to determine shareholders’ entitlements for the rights issue.

Under the rights issue, shareholders of OCBC would be entitled to one rights share for every eight shares held. All told, the bank would issue up to 440 million new ordinary shares at a price of S$7.65 each.

As expected from analysts who follow OCBC, the bank has to raise more capital to strengthen its balance sheet after recently acquiring the Hong Kong lender, Wing Hang Bank, in a S$6.2 billion deal.

Why the need to strengthen its balance sheet?

The Monetary Authority of Singapore, our country’s banking regulators, require banks incorporated here to have a minimum Common Equity Tier 1 Capital Adequacy Ratio of 6.5% by 1 January 2015. In addition, the MAS announced back in June this year that banks here must comply with other Basel III requirements pertaining to the Liquidity Coverage Ratio, also by January 2015. In essence, these ratios are a measure of strength in a bank’s balance sheet.

So, it’s likely that OCBC has chosen to undergo a Rights Issue to raise equity in order to shore up its balance sheet and stay well-clear of the regulatory minimums. As part of the strengthening process, the bank is also planning to sell of its non-core assets; OCBC’s stakes in United Engineers Limited (SGX: U04) and the Orchard Gateway property are likely to be considered as part of the non-core assets list.

A good deal?

OCBC has given shareholders a deal that is hard to resist. The rights shares will be issued at S$7.65 each as mentioned earlier; that’s some 25% lower than the bank’s current share price of around S$10.20 and also 22.9% lower than the theoretical ex-rights price of S$9.92 per share.

However, investors should also understand that the short term effect of the rights issue would most likely be dilutive for shareholders as the bank is issuing new shares at about 1.08 times its book value and in effect, utilising the capital to purchase another bank (Wing Hang) at about 1.7 times book value.

Foolish Summary

So to sum everything up, OCBC is raising more equity because of concerns over regulations and; the rights issue likely has a dilutive effect for shareholders as the bank is using its own cheaper shares to acquire a more expensive bank.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Stanley Lim doesn’t own shares in any companies mentioned.