We look at the hidden cost of ICBC's mini-rights issue, which raised less than they paid out in last year's dividend. Non-government shareholders could have avoided billions in tax if the bank had just kept the profit instead - unless it plans to cut this year's dividend as well. More likely, the rights issue was just a practise run for something larger next time.

ICBC rights issue - just practising?
14 January 2011

State-controlled Industrial and Commercial Bank of China Ltd (ICBC, 1398), spent most of last year planning and executing a rights issue - but what was the point of it all? After some gestation, the issue was announced on 28-Jul-2010, a circular proposing it went out on 29-Jul-2010 and a shareholders meeting approved it on 21-Sep-2010. Then there was a 6-week tea break until the CSRC's "Public Offering Review Committee" approved it on 5-Nov-2010 - unlike HK, you need regulatory approval to do a rights issue - the CSRC, on behalf of the State, manages the rate of equity issuance by Chinese companies.

Finally, on 10-Nov-2010, the rights issue got underway, when the terms were announced: an issue of 0.45 shares for every 10 shares held, priced at CNY2.99 for the A-shares listed in Shanghai, and HK$3.49 (equivalent to CNY2.99) for the H-shares listed in HK. The issue price amounted to a discount of 47.4% to the closing H-share price and 36.8% discount to the A-share price. The purpose of the issue was "to strengthen the capital base of the Bank".

Now the first thing that might strike you as odd is the issue ratio, but this is just an oddity of mainland Chinese rights issues:  they seem to be often expressed with a denominator of 10 shares, rather than per share or in terms of whole numbers of shares (in this case, 0.045 for 1, or 9 for 200).

But the biggest oddity was that they were going to all this effort for such a tiny rights issue - just a 4.5% increase in the number of shares. There was nothing wrong with the discount - that was available to everyone, and virtually eliminated the risk of failure, but as a result, the issue raised only CNY0.134 (HK$0.157) for each existing share held, or about 2.4% of the market capitalisation. That is less than the 2009 dividend paid out on 25-Jun-2010, of CNY0.17 per share. They distributed CNY56,783m as dividend (before tax), and only raised CNY44,948m from the rights issue.

So instead of going through the rights issue process, they could instead of just announced that, to improve the capital ratios, they would reduce the dividend by the same amount, from CNY0.17 to CNY0.036 per share - or just not pay a dividend at all. According to the circular (p196) of 29-Nov-2010, the expenses of the rights issue were HK$280m (CNY240m). Dividends from PRC companies (for foreign holders other than humans) are subject to a withholding tax of 10%, while PRC residents pay 20% income tax on dividends. Even applying a 10% overall rate, paying out the money as a dividend and then taking it back in a rights issue cost shareholders another CNY4,495m. That takes the total cost of this move to CNY4,735m (HK$5,524m).

That's great if you are the largest shareholder, the PRC Government, because you are also the tax-collector, but it is bad news for everyone else - particularly those who are subject to taxes on dividends received. Shareholders would have been better served if the company had cut its dividend and retained its earnings to improve its capital ratios. Far simpler, far cheaper.

So why bother with a rights issue when you could have reduced or cancelled the 2009 or 2010 dividend? Perhaps they will do both: the rights issue and not pay a dividend for 2010, further boosting the capital ratio. Otherwise, the rights issue looks like a huge waste of time and money. They giveth with one hand and taketh away with the other, plus tax.

There is one benefit, though - ICBC now knows how to execute a rights issue. This could be seen as a practice run for more substantial rights issues in the years to come, which they will probably need after the policy-driven lending binge of 2009, as the bad debts start piling up again.

© Webb-site.com, 2011

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