Banca Popolare di Milano’s rights issue and the problem of listed cooperative banks in Italy

Last August 25^th the Board of Directors of Banca Popolare di Milano (BPM), an Italian listed cooperative bank, has resolved to perform the rights issue approved by BPM’s shareholders at last General Meeting held on June. Maximum amount of the deal: 1.2 billion Euros, versus a current market capitalization of 682 million (closing at September 29^th). On September 27^th, the Board of Directors decided to reduce the issuance to 800 million Euros. In any case the BPM’s share capital will be more than doubled in the next couple of months.

BPM’s recapitalization will increase Tier 1 ratio up to 8.7% (but according to Mr. Andrew Sentance, former external member of the Monetary Policy Committee at the Bank of England, a contextual reduction of adversely classified assets would take the ratio up to 13.9%, much higher than all immediate competitors*) and will allow the bank to negotiate better loan conditions (that in the first six months of 2011 largely influenced 39% drop in net profit).

Many considerations might be made about the real needs of such a huge deal for BPM’s shareholders, but what is relevant here is how such a huge deal has been approved by shareholders and, consequently, the implication of the cooperative nature of the bank.

Italian cooperative listed banks follow a specific regulation, with particular regards to corporate governance: shareowners are differentiated in “members” (those who buy newly-issued shares and request membership status under methods and terms laid down by the Board) and “non-member” shareholders. Only member-shareholders are enabled to vote at General Meetings, provided they are members since 90 days prior the Meeting, in person or through a proxy released to another member. Any member can act as proxy agent, but for a limited number of proxies that is fixed by the bank’s Articles of Association (at BPM the limit is currently fixed at 3 proxies). Finally, any member has just one vote, regardless the number of shares held.

What is the result of a similar governance structure? The maximum 1.2 bln Euros capital increase, more than tripling current capitalization, has been voted by 3,840 shareholders (10% of which were less than 18 years old) representing only 2.02% of shares outstanding.

At the same Meeting of last June 2011, another item in agenda regarded the increase of the number of proxies any member can represent at Meetings, from current 3 up to 5. The approval of the new limit would have meant a potential higher representativeness of the share capital called to approve even relevant issues (such a capital increase is). Surprisingly the majority (55%) of the 3,840 voting members (including 395 underage) rejected the proposal: shareholders controlling 2% of the share capital will keep on controlling voting power. Actually the possibility to increase proxies from 3 to 5 is not a real issue (it would have just been an even feeble signal of improved governance), what is weird is that the major part of the speeches at the Meeting concentrated on this issue and not on 1.2 bln Euros capital increase. And the reason of opposing voters was: “an increase in proxies (from 3 to 5) would mean moving relevance from people to capital”. But, isn’t this the actual essence of a listed company?

Who pays for such a terrible governance? Of course BPM’s (such as any other cooperative bank’s) shareholder-members. Unfortunately, “people” do not decide the share market price, it is mostly driven by big institutional investors. As a matter of fact, investors (even the most long-term growth oriented ones) with no decision power at a listed company will likely tend to see that stock as more speculative than others. Looking at share market prices of six banks listed on Italian FTSE MIB index, as of August 31^st, the three cooperative ones (BPM, Banco Popolare and UBI Banca) performed worst than the other three (Banca MPS, Intesa San Paolo and Unicredit) during last year: -61% on average the three cooperatives (BPM -58%, Banco Popolare -64% and UBI -62%) versus -49% the others (Banca MPS -49%, Intesa -47% and Unicredit -51%). Shareholder-members do not want institutional investors governing the bank, but institutions make the price of their investment. Moreover, 800 mln Euros rights issue will be unlikely subscribed just by “people”, institutions will absolutely be needed, with two possible results: the deal will achieve a great success and retail ownership will be strongly diluted or, in case of high level of unsubscribed shares, the already low price will keep on plunging at the only expenses of shareholder-members (most of which are BPM’s employees).

The dramatic situation seems to not being perceived by BPM’s shareholder-members’ associations, mostly representative of bank’s employees, that still struggle to keep the governance as it is, in order to keep their political power (and to loose money). The Bank of Italy, fortunately, does not agree with the associations (most influent of which is named, maybe ironically, “Friends of BPM”) and forced the bank’s Board of Directors to drastically review their governance system: the management of the bank has to be much more independent from the shareholder-members.

On September 27^th the Board of Directors, under Bank of Italy’s pressures, finally agreed on the proposal of new governance that will be voted by shareholders (likely the same 2% that approved the capital increase) at next extraordinary general meeting, that would be held on October 22^nd (the notice of meeting has not been published yet): a dualistic system, with a Management Board of 5 members and a Supervisory Board of 17, where 2 members of the Supervisory Board (in charge of nominating the managers) would be elected from a slate of nominees presented by institutional investors, provided that the minority slate is voted at least by 100 shareholder-members or 2% of the share capital (that means: or 100 votes or almost 100% of voting members).

What changes? Probably nothing, but the possibility for institutional investors to deal with the “Friends of BPM” to have a couple of managers into the Board.

Short term results: private equity funds started to fight to have their representatives into the Board by offering a guarantee on unsubscribed rights during the capital increase (Investindustrial offered to guarantee 10% of the share capital, Sator offered 200 million Euros, same offered by Clessidra); thanks to the changes in the governance system, with less management power to shareholder-members, and thanks to the private equity funds’ fight, BPM’s share gained more than 19% in four days, proving that the price is made by institutional investors not by “Friends of BPM”.

Long term results: probably none, but the hope that Bank of Italy, finally understanding that special rules for listed cooperative banks represent a dramatic deformation of market rules, would push for their definitive elimination.