Germany is offering to pay a premium to acquire a bank which is on state life-support. That seems to violate the basic principles of corporate finance. But in the topsy-turvy world of the financial crisis, Germany might have been better off making an even higher bid.
Hypo Real Estate, which has a large, poor quality portfolio of real-estate loans, lost E2.6bn in the fourth quarter. That suggests the core Tier 1 capital ratio fell below the regulatory minimum of 4%. HRE has warned losses could last until 2011. The only way forward is a state-sponsored recapitalisation.
But current German securities law has played into the hands of JC Flowers, the US private equity investor, and others with a near-25% stake in HRE. Flowers can keep the state from gaining full control of the company – which the state sees as a pre-condition for the provision of rescue capital. He is said be holding out for a bid at E3 a share.
New laws put the government in a better position. It can make a takeover bid, as long as the price is above a minimum set by the shares’ recent trading range: in this case, E1.26 a share. Soffin, the government agency through which the offer is being made, is offering E1.39. The state has another option, a hurriedly passed expropriation law. But Flowers would be almost certain to mount a legal challenge.
The government seems to be trying an indirect approach. If it gets enough shares in this offer, it could drive through a non-pre-emptive capital increase at a special meeting. This would dilute Flowers and others so much that they could be squeezed out, leaving the government with full control.
While that process rolls on, HRE’s costly funding requirements add to the taxpayer’s ultimate burden. Compared to the E82bn of state guarantees applied to HRE’s debt, the difference between the E290m on offer for the equity and the E580m that Flowers is rumoured to want seems irrelevant.
But the German public will find any premium hard to swallow. And it is the rule of politics, not corporate finance, which now drive this crisis.