Barclays pays dearly for independence

Middle East investors provide the UK bank with more cash, but the high cost of the $11.4 billion capital injection raises questions about whether government funding would have been preferable.
On Friday, Barclays raised ú7.05 billion ($11.4 billion) of new capital from existing and new Middle East investors and others. The funding is split into ú3 billion worth of reserve capital instruments (RCIs) with warrants paying a coupon of 14%, and ú4.05 billion worth of mandatorily convertible notes.

Net of commissions payable to investors and arrangers Credit Suisse and JPMorgan Cazenove û estimated at about ú300 million û Barclays will pocket around ú6.75 billion.

Barclays made good on its promise to raise capital without drawing on funds from the UK government which its competitors Royal Bank of Scotland, Lloyds and HBOS have done. The government bailouts come with a five-year term and a coupon of 12% but among the conditions are restrictions on dividend payouts and bonus payments. The government is also expected to insist on increased lending to priority sectors.

Instead, BarclaysÆ management has chosen to pay a higher coupon for a longer term and to sell around one-third of the ownership interest in the bank to a consortium of sovereign wealth funds based in Qatar and Abu Dhabi. On a conference call with analysts, some analysts questioned whether one of the motivations behind the deal was a desire for BarclaysÆ managers to pay themselves a bonus û a suggestion that the management refuted.

The RCIs will be bought by Qatar Holding (ú1.5 billion) and His Highness Sheikh Mansour Bin Zayed Al Nahyan (ú1.5 billion) and carry an annual coupon of 14% until June 2019. The RCIs are redeemable in whole (but not in part) at the option of Barclays from June 2019 and carry an interest rate of three-month Libor plus 13.4% after that date.

Under the terms of the deal, Barclays will issue the warrants exerciseable at the holderÆs option any time within five years from the date of issue. The warrants entitle the holders to 1.5 billion Barclays shares at a strike price of ú1.98 per share for a total of ú3 billion. The warrants also carry a price reset clause that enables the holders to reduce the exercise price if Barclays issues further shares by way of a rights issue between July 1, 2009 and June 30, 2011, and the share price at the time of the rights issue is less than ú1.98.

Barclays says the 14% coupon represents ôa cost to Barclays of approximately 10% on an after-tax basis and that the RCIs qualify as innovative tier-one capitalö. But, even if this is true, the analysis is a bit simplistic as it does not attach a value to the warrants the investors will get along with the RCIs, which sweeten the deal further.

On the RCI issue, Qatar Holding and HH Sheikh Mansour Bin Zayed Al Nahyan will each receive commission of 2%, while Credit Suisse and JPMorgan Cazenove will equally share a fee of ú1.8 million.

Barclays has also issued ú2.8 billion worth of mandatorily convertible notes (MCNs) to Qatar Holding (ú500 million), Challenger Universal (ú300 million) and HH Sheikh Mansour Bin Zayed Al Nahyan (ú2 billion). The MCNs carry an annual coupon of 9.75% payable quarterly until conversion on or before June 30, 2009, at a price of ú1.53 per share.

Qatar Holding, Challenger and HH Sheikh Mansour Bin Zayed Al Nahyan will receive commission of 4% on the MCNs.

Qatar Holding will also receive a fee of ú66 million for ôhaving arranged certain of the subscriptions in the capital raisingö, Barclays wrote in its London Stock Exchange filing.

A further issue of ú1.5 billion worth of MCNs was offered to institutional investors through a non-underwritten, bookbuild placement led by Barclays Capital, Credit Suisse and JPMorgan Cazenove. The notes were placed with investors during business hours on Friday, and on Friday evening Barclays announced that the fundraising had fallen short of the target by 17% and only ú1.25 billion of MCNs had been raised.

Credit Suisse and JPMorgan Cazenove will each receive a fee of 0.75% on the ú1.25 million tranche of MCNs.

Assuming all MCNs are converted and all warrants are exercised, Qatar Holding and Challenger will jointly own 15.5% of BarclaysÆ diluted share capital, up from the 8% they currently own, and HH Sheikh Mansour Bin Zayed Al Nahyan will own 16.3%, Barclays said on Friday morning. As the bookbuild portion of the MCN issue fell short of the target amount, these percentages could be marginally higher.

Barclays is raising funds to comply with a commitment made on October 13 to meet new higher capital targets set by the UK Financial Services Authority for all British banks.

Barclays says the capital raising will achieve its ôtier-one and equity capital issuance commitments to the FSA with certainty and ahead of the previously announced timetable; strengthen links with existing large shareholders and introduce a substantial new investor [HH Sheikh Mansour Bin Zayed Al Nahyan] to Barclays; and provide the opportunity for existing institutional shareholders to participateö through the MCNs.

Barclays announced it would not pay a final dividend for 2008 but that it is hopeful that it will resume paying dividends in the second half of 2009.

Qatar Holding is a wholly owned subsidiary of Qatar Investment Authority (QIA), the sovereign wealth fund of the state of Qatar. Challenger Universal is a special purpose vehicle created to hold shares in Barclays and is indirectly and beneficially owned by the chairman of Qatar Holding and his family. In June QIA, Challenger and Japan's Sumitomo Mitsui Banking Corp provided ú4.5 billion of capital to Barclays.

HH Sheikh Mansour Bin Zayed Al Nahyan is minister of presidential affairs of the UAE, a member of the royal family of Abu Dhabi and also owns the Manchester City football club. He was advised by Goldman Sachs.

The capital raising is subject to approval by BarclaysÆ shareholders, scheduled for a meeting on November 24. BarclaysÆ shares initially gained in trading on Friday but finally closed down 13% at ú1.78 as investors digested the price at which Barclays has raised capital. Some analysts suggest that after netting commissions, the effective coupon on the RCIs is as high as 16%, a hefty cost for the British bank to bear until 2019.

Shareholders could well decide not to support the capital raising, which will make this an even more expensive exercise for Barclays. ôThe commissions [totaling ú300 million] are payable even if the proposed resolutions are not passed,ö Barclays disclosed in its LSE filing.

With respect to the investors, the good news is that after a hiatus of a few months, the Middle East sovereign wealth funds are back at the negotiating table, offering financial capital to bailout banks. But the investors have learnt lessons from the first round of investments in financial institutions late last year and early this year. On the most recent Barclays investment the investors have negotiated high, long-tenure interest rates, a price reset clause (earlier only the Temasek-led investment in Merrill had such a provision), hefty commissions payable irrespective of outcome, and significantly, the ownership stake being acquired, directly and via warrants, places them squarely in control, should they decide things are not being managed to their satisfaction.

"The board believes that this [capital raising] maintains Barclays as a strong, independent and well capitalised bank," Barclays chairman Marcus Agius said in a statement on Friday. BarclaysÆ shareholders may well be asking at what cost.
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