As the Government struggles with putting into place a workable resolution to Anguilla’s Indigenous Banking Crisis, it has become necessary to revisit a “paper”, concerning the banking crisis, written by Mr. Clement Ruan. The title of the paper is Anguilla Indigenous Banking Crisis – Suggestions for consideration as A WAY OUT.
Mr. Ruan’s “paper”, which was written on October 20, 2015, and given to key government officials, points out various options and consequences and/or benefits associated with each option. In The Anguillian, dated Friday, November 6, 2015, only the options were printed. Following that print, there have been many positive comments from both persons in finance and general academia.
Persons who have listened to the various talk shows on the banking crisis, and also the Government’s debates, even in the House of Assembly, may have come to realize that some of the suggestions/ recommendations made therein are found in Mr. Ruan’s paper. One example is the removal of the non-performing loans out of the indigenous bank and having them managed by a Special Purpose Company (SPC).
In order to do justice to the overall “paper”, written by Mr. Ruan, the decision has been taken to print the “paper” in its entirety. Hopefully, readers will get a better insight into the workings and intricacies involved in solving Anguilla’s Indigenous
Banking Crisis from Mr. Ruan’s perspective.
Foreword
The general purpose of this ‘paper’ is to make recommendations which the writer feels will be useful in at least stabilizing the financial slide of our indigenous Banks.
The writer’s hope is that the recommendations will, in some way, assist Government in its deliberations on the way forward, as they give in depth consideration and analysis of the various options under consideration. The writer has intimate knowledge of some of the inner workings of Caribbean Commercial Bank (Anguilla) Limited, at least up to the Time of Take Over by the ECCB on August 12, 2013. Therefore, references will be tied to the CCB. Nevertheless, it is the hope and trust that the reader will find them also relevant to NBA in the context of the commonalities in the workings and operations of both institutions in a common market space.
It must be pointed out however, that this paper or the writer’s ability to provide a more comprehensive assessment of the Banks’ situation and therefore more relevant and poignant recommendation, is hampered by the absence of current information: actual non-performing loans as a percentage of total loans; loans to deposit ratios; return on assets ratios; deposit migration factors over specific period and generally, financials on the Banks for the past two (2) years. The absence of this critical data adds to some degree of subjectivity in the paper. However, the general logical assessment is based upon obvious fundamentals such as the depressed economy; borrowers’ inability to service their loans; challenges in the primary economy- tourism and general fiscal challenges. In fact, these fundamentals have collided in an unprecedented manner effectively bringing the supply of properties and the demand for these properties at an equilibrium point. In essence, we have what is known as “market freeze” in this sector of the economy: The buyer is prepared to give “x”, the seller is asking for “y” and not prepared to take “x”. Neither is the buyer willing to pay “y”.
The consequence of this is that the Banks are left with collateral, the underpinning support of loan, which has fallen in value, thus creating an increasing mismatch between loan amount and collateral value. The widening gap between the value of the collateral and the loan amount (the decrease in collateral value to the loan amount) can result in the loan being called “impaired”: that is to say the Banks are not able to realize the full return of the outstanding loan amount from the sale of the underlining support – collateral.
Where the collateral or asset cannot be sold, as in the case of a market freeze referred to above, some financiers refer to the asset as “toxic”. In such a circumstance, the writer prefers to refer to the asset or collateral as “Brackish”. This has a more hopeful and salvageable connotation. It means that with the right prescription including a re-energized economy and people back to work, ultimately result in more disposable income becoming available for spending on land purchases for example. Increased property demand will lead to property values stabilizing and ultimately rising. Consequently, the rise in property values will correct the mismatch in loan to property (collateral) value caused by the recession. In general, a functional market will return with a re-energized growing economy.
Impact of Non- Performing Loan.
The writer is aware of concrete information that put the referenced Bank’s Non-Performing Loan as a percentage of the total loan portfolio at 25% as of 12th August 2013. It has been reported that in one of the ECCU Territories the ratio of the non –performing loans was over 30%. In fact the IMF set the average NPL ratio for the ECCU at 18.5 – the highest in the entire British Caribbean for period 2013/2014. The IMF further noted that the main reason for this was the world recession which impacted the tourist based economies of the region. This had a knock on effect on the servicing of loans by borrowers who work in the Tourism Sector and in Government, as Government Revenues are also dependent upon the robustness of the Tourism Sector.
The ECCB took control of the Indigenous Banks “to protect depositor and creditor and to avoid contagion in the wider ECCU. The action was for a period of six (6) months in the first instance, the Banks are still under the ECCB’s management at the start of a third year. Meanwhile, it is the writer’s understanding that the non- performing loans at CCB are likely to be close to fifty percent (50%) of the loan portfolio. If this is true, then it is a fair projection that the position of the non- performance loans will worsen if borrowers are not gainfully employed or if the economy remains depressed.
As this critical income stream (interest income from loans) of the Banks’ contracts, operational costs will continue to be negatively impacted. This will necessitate drastic actions including cutting the number of employed staff. This will have further social and economic implication and consequences. One consequence of cutting staff would be a further increase in the non- performing loans portfolio: staffs laid off are likely to be loan borrowers who would not be able to continue servicing their loans due to their unemployed status.
The progressive decline in the Bank’s income coupled with eroded security values will eventually place the Banks in an insolvent position. Consequently the Banks will fail to honour payments to depositors and to meet other statutory financial obligations. In essence, should this scenario occur, which is becoming more likely, the ECCB would have failed in its stated objectives of August 12th 2013. That stated objective was “to protect depositor and creditors…” In effect, ECCB’s actions would have resulted in exactly what they hoped to prevent. The Banks would not be in a position to pay depositors due to their insolvent financial position.
The Way Out
Given that the Banks are in receivership, there are no less than three (3) options (excluding winding up the Banks), for consideration that may result in the salvaging of the Banks. It is important to note most emphatically that Anguilla’s Indigenous Banks are the catalyst of most indigenous development and economic growth in Anguilla. These institutions epitomize the independent spirit of Anguillans; they are in essence the definition of what is Anguillan: a people who are different in spirit and purpose. The Anguillans see their Banks as their means to an end; be it that such “end” be loan for medical attention, build a home, purchase a vehicle or provide funding for education. The General concern is that their sense of empowerment, assured through the indigenous Banks, are under serious threat. In fact, despite all of the negatives including the Temporary closure of CCB for example, Anguillans continue to use their Banks by placing deposits into them. This is a profound message to “ the powers that be”; we need our Banks; we must not be marginalized when it comes to our flexibility in service and benefits from our Banks.
Option 1.
Private Sector Management
The indigenous Banks were always managed by the Private Sector via a Board of Directors appointed by shareholders and Management appointed/employed by the Board. Higher Supervision was done by the ECCB. With regard to CCB, the Bank adhered to all requirements of ECCB, including the requested new capital of EC$70,000,000 to be placed in the Bank by August 16th 2013. Unfortunately, the CCB was taken over August 12th 2013 effectively dismissing the Board and effectively stopping the capital injection from being made. The fact is that since August 12th 2013, CCB’s general financial position has worsened as per eroded capital, increase in non-performing loans and possible increased losses.
Even under these conditions of added financial stress, both Banks continue to operate and serve the Public without any known (at least to this writer) capital injection from any source. This would suggest that the Banks financial health was strong and further capital might have been unnecessary.
It is without question therefore that the Board and Management had handled the Management of CCB, in particular, satisfactorily under the given circumstances prior to ECCB’s take over. The fact can be punctuated further by a review of any current financial data juxtaposed next to the financial position of CCB’s prior to the takeover by ECCB.
The Private Sector option must take into consideration one obvious fact with respect to NBA and CCB: The culture of each institution is different. This difference is necessary as it reflects the divergent interest and personalities in the community and as a consequence, it spurs meaningful competition between the two institutions wherein the general public benefitted. Any changes in those dynamics are likely to benefit the non-indigenous Bank.
The Private Sector Management option therefore calls for maintaining operations through a structure of shareholders appointing Board of Directors who will in turn hire Management. The Supervising authority should outline in writing, all requirements that are necessary, sufficient and practical to meet capital requirements and good governance standards. There must be prudent and justifiable time lined to achieve all requirements necessary to maintain solvency and capital levels. In other words, shareholders must always comply with regulatory requirements, especially with regards to protection of depositors’ monies: Capital adequacy is a must.
Operating under enabling and prudent banking rules and procedures, ‘the private sector – managed’ bank will be better positioned to thrive in an ever changing financial environment. This structure provides the directorship and company the necessary flexibility and business savvy to embrace best international banking practices through:
a. Synergizing with international players on areas of common interest – information exchange for regulatory due diligence purpose.
b. Technical and technological integration of systems.
c. Direct capital injection by way of ownership, for example.
These are just some of the actions the private sector management option can employ to meet and surpass regulatory mandates.
Option 2.
Public-Private Partnership of the Indigenous Banks
A Public/Private Partnership of the Indigenous Banks means that the indigenous Banks will be owned and operated through a joint relationship involving the Government and the Private Sector. Certain requirements and benefits will abound from this relationship. For example:
1. The partnership would require Government’s financial injection. This can be done either through Common Stock only, Preferred Stock holding only or a combination of equity (Common Stock and Preferred Stock). Common Stock holding will allow the Government or Public Partner to be always engaged in the decision – making processes.
2. This public and private sector partnership can result in the cross pollination of ideas to achieve the purpose/ objective which is the salvaging of the banks. To achieve this goal, the responsibilities of each entity and sector (private and public) must be defined and agreed to by the parties. Additionally, the general rules of corporate engagement must be understood and practiced by both parties. Essentially, appropriate governance practices will require a contractual agreement between the entities. This will be an enabling agreement which will seek to harness and to achieve the purpose and objective of the relationship.
The inner workings of this joint Public/Private Partner will be time consuming, at least in the initial stages. It is expected that both entities will endeavor to ensure that the proper and effective prism is developed to view and monitor the relevant steps and actions fudged to achieve the appropriate and common purpose.
This joint Public/Private Partnership will have some consequences which may be seen as positive or expedient. For example:
1. There will be a sharing of liabilities inherent in such a joint venture.
2. Equally, there will be a sharing of rewards (profits/dividends).
3. It will increase confidence on the part of the depositors especially. This is important for building the bank’s liquidity pool which is necessary for lending and investment in the local economy.
4. It will be a middle ground between fully private and fully public and therefore a reasonable compromise involving all stakeholders and persons of competing and diverse interest.
5. Last, but not least, the Private/ Public Partnership will be mutually beneficial as both entities work together toward restoration of indigenous Banking in a climate of economic revival for the general interest of Anguillans including the diaspora.
Option 3.
Full Governmental Control
The Third and Final Option by which Receivership may be ended is via Full Government Take Over and Control of the Indigenous Banks. At first, this may seem an appropriate and necessary solution: The Government took control and operations of the Banks in the interest of the general populace and the general good. Notwithstanding, the implied merits of this approach, the writer hasten to warn that the negative implication of this option far outweighs the perceived immediate and long term benefits. A few of these consequences are noted below:
1. Government ownership is likely to result in political cronyism – the bank will likely be used to further political parties’ interest. The fact that this is a possibility and even if it’s only one percent (1%) likely, then this Government ownership option should not be considered.
2. Government cannot and should not be the owners of a financial institution for which it has some degree of oversight from a regulatory perspective, even if regulation is done via an autonomous agency of Government as this does not avoid the appearance of conflict of interest. Good corporate governance requires objectivity in action and perception.
3. Full Government takeover sends a very negative message to the private sector and across the political, social and economic divide. This can be seen as very intrusive with socialistic implications.
It is important to note that the Indigenous Banks have shareholders. Therefore, even if the loans are “impaired”, these shareholders should be given the opportunity to raise the capital to satisfy regulatory requirement and to make good any shortcomings in the corporate governance processes. Given that the banks have been in receivership for over two (2) years, a reasonable conclusion is that there was no urgency to regularize any financial or governance matters. Accordingly, there was ample time to allow the shareholders to exercise their fundamental right and responsibility to address any shortfall in the banks’ capital.
In light of the aforementioned fact, a full Government takeover and management of the institutions is likely to create:
a. The convolution of government agencies (licensing and regulatory) involvement in the affairs of the banks. This creates a great potential for information leaks and breach of confidentiality. This can further manifest itself into undetermined negative perception by the public, including investors.
b. Distrust and brings into question the real reason for the takeover.
c. Erosion of confidence in the spirit of collective endeavor for a single purpose through private enterprise.
Government should always be seen as an enabler of enterprise, be it banking or other enterprises. Government should not, take control of an enterprise without first allowing the owner of the business, in this case the bank, their right to capitalize the business, per required regulatory mandate.
Although it might be argued that banking is different to all other business operation, the connotation of a Government takeover of the Indigenous Banks is that Government can takeover any private property. The realization of the possibility of private property confiscation by Government can cause lingering social and business apathy on the part of present and future ‘would be entrepreneurs’ as they would now have to consider the possibility of a government takeover of their business. It is also important to note that business persons and investors expect a return on their investments, not a takeover by governments.
Last, but not least, full Government takeover and control will likely result in suspicion as to the real purpose of the takeover. For example, once the Government owns the banks, such ownership opens other options such as further amalgamation with any bank in the region or elsewhere and not necessarily with Anguillian or of Anguillian interest. Unfortunately, this later point, as explained above may not necessarily be the desire or purpose of the Government. However, given the nature of our political relationship with the UK and our constitutional status, local Government might be, at the very least, coerced into the direction of amalgamation. This might be the UK Government’s way of mitigating perceived potential contingent liability.
Having Decided on an Option, What Next?
The Indigenous Banks are saddled with a high ratio or percentage of non – performing loans to the overall loan portfolio. The banking regulation provided for the banks to purchase these non – performing assets and hold them for a period of up to five (5) years. This option can be exercised to avoid having the banks selling the collateral in a distressed market and realizing significant losses. This will ultimately result in more capital call on shareholders.
A more reasonable and rational option would be the establishment of a Special Purpose Company (SPC) for the express purpose of transferring and managing all non- performing loans. Having removed the non – performing loans from the banks, these now sanitized institutions will be positioned to operate in accordance with stated Central Bank non- performing loan guidelines. To provide some guarantee or at least some certainty towards the desired outcome, at least two critical actions are recommended:
1. The interest rate on loans should be reduced to an amount not to exceed 6%. The banks have interest on performing loans of over 9.5% at a time when the cost of money has to reduce to 2% and lower. The reduction in interest on loans is likely to have the following effects:
A. Make available more discretionary money for spending, especially for businesses that will no doubt use it to upgrade and or expand. This of course will mean job creation.
B. A reduction in existing loan interest is likely to result in some non- performing loan becoming performing loans as borrowers will now find their loan installment amount serviceable, or within their abilities to pay, given their financial reality.
2. The other critical recommended action that must be executed is the revitalization of the private sector. This is extremely crucial if the restructured banks are to succeed in any sustainable way.
The economy must be revived to improve the banks’ non -performing loan position. Otherwise, an increase in non- performing loans is likely to undermine the viability of the banks and by extension, the Anguilla financial system.
Number two (2) above will require radical and painful but necessary action. The writer recommends exploring a bond issue supported by existing tax measures, including the Interim Stabilization Levy. This can be renamed and made more equitable. There may also be the need for PAYE or Pay as You Earn- Income Tax. These are measures that are available and under government’s control and can be leveraged to support a major capital injection through a bond issue. This can provide fiscal flexibility by consolidating debt while achieving necessary fiscal and budgeting objectives with appropriate and sustainable macro benefits and results.
In general, the economy is in need of immediate shock therapy to generate the necessary social and financial rewards which will translate into the appropriate macro corrections. Crucial to this is the enabling infrastructure. For example, direct airlift to Anguilla will support a sustainable inflow of tourist and reduce the cyclical nature of the island tourist product. The writer recommends urgent action in this direction as there are increasing threats to the tourist product. Notable is the opening of the Cuban market and economy.
A complement to adequate airlift infrastructure is the development of yacht tourist infrastructure by way of marina facilities. Tourism diversification is necessary for sustainability. Our tourism is the multiplier that drives all micro activity, including the business of the financial institutions of the country. The development of this infrastructure is a must if the island is to rebound and experience real rebirth across All sectors.
Objective of the Special Purpose Company
The Special Purpose Company (SPC), Special Purpose Vehicle (SPR) or Bank Resolution Trust (BRT) are for the objective of this paper one in the same. The objective of the SPC should be to work with the borrowers and restructure the loans with respect to Loan Terms and Loan Conditions to the extent that the mandate of the SPC allows. Borrowers whose loans and properties are managed through the SPC will essentially be given a chance at redeeming their properties via some restructured and manageable agreement; at least this is the hope and desired outcome. This may be possible once the economy is re-structured, revitalized and growing at a sufficient and sustainable level.
It must be noted that the SPC is not a charitable structure. It is a ‘for profit’ business. This means that the company’s mandate will include the power to liquidate or sell assets which are the collateral supporting the non- performing loans; however, this is a reality which one hopes will not materialize.
Non- Performing Loans Buyout
The option to sell the non- performing loan is not a far – fetched one. This will no doubt call for the banks to take a ‘haircut’ on the sum total of the loans being sold. For example, the buyer might wish to pay as low as “fifty cent on the dollar” or fifty percent of the loan amount. Although this will provide some immediate cash, the loss will have to be accounted for in the banks’ financial reporting, showing a major loss in income and the banks’ value, unless of course , this amount has already been provided for.
A loan buyout will give the buyer right to the underlining collateral which is likely to be higher in value than the loan amount or that will appreciate significantly in value as the economy improves. In this scenario, the buyer is under no obligation to negotiate accommodating terms with the borrowers. The buyer is driven by profit in the shortest possible time and is likely to auction off properties much sooner than say the Special Purpose Company whose mandate might reflect a social conscience along with profit motives.
Therefore the loan buyout approach is likely to result in rapid property ownership transfers by way of sales to able buyers. The new owners are likely to be non – Anguillans, but rather persons of different culture and social norms. This can potentially result in radical socio- economic changes with negative social backlash in the general community. For these and other negative consequences, the loan buyout approach should be avoided, unless of course the appropriate social mitigating safe guards are in place.
Summary and Conclusion
The writer’s aim was to highlight what he thought were the primary issues affecting our Indigenous Banks and in some way clarify the circumstances that led to these issues in the first place. More, specifically, the world recession which had and has a known negative effect on Anguilla’s dependent – based economy. This recession led to major economic contraction especially in the tourism and construction sectors, the primary drivers of Anguilla’s economy and by extension, the largest employers of the productive labour force.
Loss of jobs meant loss of income and consequently loss of ability to meet financial commitments, including the servicing of loans at the banks. This resulted in high levels of non- performing loans (loans that were not being serviced in accordance with agreed terms and conditions between banks and borrowers). This situation resulted in the banks provisioning for these non- performing loans- that is setting aside money that represent a percentage of the non- performing loans. It also required shareholders to provide more capital support to ensure the viability of the banks and especially to safe guard depositors’ investments. Caribbean Commercial Bank had identified EC$70,000,000 new capital to place in the bank but was not allowed to do so due to a takeover on August 12th 2013 by the Central Bank (ECCB). Their expressed reasons were “….. Anguillian economy has contracted from a growth rate of 15.5%….. to 5.5%….” “Non- performing loans have exceeded prudential…..guidelines….of 5% of… loan portfolio.”
The ECCB expressed concern that a failed or contracting Anguillian economy will continue to negatively affect the Indigenous Banks and that this will result in contagion in the financial system throughout the currency region. Over two years later since intervention, the writer is not aware that there has been any erosion or contagion to the financial system of the ECCU.
It appears though that the banks are experiencing money flight or money migration to other financial institutions. This would be a consequence of erosion of confidence in the Indigenous Banks as a cloud of uncertainty hangs over them.
There is urgent need for a clear and unambiguous position to be taken and relevant action employed in accordance with a functional road map to affect a meaningful resolution of our Indigenous Bank’s crisis. To this end the writer has advanced several options. The preferred option is the one that worked for Caribbean Commercial Bank (Anguilla) Limited for over Thirty Eight (38) years: Private sector management. This would require improved oversight from regulators with regards to loans underwriting, corporate governance and ongoing analysis of trends in key economic drivers linked to loans. This will allow for early detection of signs such as slowing down of economic activities in the key sectors of the economy. A slow down or drop in these sectors lead to implementation of mitigating measures that will at least soften the impact of consequences of recession on loan portfolio. These measures can include but not limited to:
1. The banks requesting borrowers to increase loan payment escrow account
2. Banks tightening loan underwriting, for example, increase collateral to loan amount; this will mitigate potential mismatch between loan amount and collateral value.
The other options recommended are the:
a. Private/public partnership and
b. Full government takeover and management.
The reader should revisit the writer’s analysis and conclusions on these options. All options have crucial merit but the particular option must be chosen and the relevant strategy employed to achieve a desired meaningful and workable outcome or necessary objective. Fundamentally, it is the writer’s hope that the objective is to safe guard, protect and enhance Anguilla’s and Anguillan’s interest at home and the diaspora.
Finally, the writer recommended the removal of the non- performing loans and placing them in a Special Purpose Company (SPC). Hence they will be managed in accordance with certain rules arising from or subject to specified mandates. The hope is that the borrowers will be better positioned to manage the repayment of the restructured loans and restated terms, or they might be sold off as a matter of last resort and the bank recoup monies loaned. The other option to the SPC is to sell the non- performing loans to a willing buyer and realize an immediate cash return, but this will have a corresponding loss of some amount as the buyer will purchase at a price less than the amount of the loan portfolio. Also, the buyer will likely move to auction the collateral in short order to recoup investment and make profit. This will have socio- economic consequences that affect all on the island. However, the removal of these non- performing loans from the bank’s portfolio will result in the bank becoming compliant with ECCB Loans to Deposit Guidelines. These ‘sanitized’ banks will no doubt apply stricter underwriting practices and become more conscious of economic signs that can affect loan performance. They will no doubt implement non- performing loan mitigating measures such as:
1. Mortgage Indemnity Insurance – to assist in repayment of loans that may become non –performing.
2. Depositors Insurance above what will be required by regulators – this of course will only add to the confidence of depositors especially.
The rather unsettled and apparent unstable financial banking sector creates an atmosphere of uncertainty across the face of ALL banks. In other words there is contagion by perception. This can be particularly worrisome to investors and would – be investors. This state of affairs can also affect Anguilla negatively from a ‘risk’ basis. Investors may find Anguilla less attractive for investment if they have to pay more for money (higher interest rate) to invest in Anguilla. Financial analysis usually looks at country risk, which may take into consideration factors such as the economy, political stability and financial stability. Factors that are very worrisome in Anguilla.
Fundamental to the successful implementation of recommendations made, is the revitalization of the macro-economy. The key engines of Tourism and Construction must restart and continue driving the economy to a sustainable path of development. The enabling infrastructure of airport and marina development is a must.
It is hoped, however, that lessons have been learnt as a result of the banking crisis. The primary lesson must be that the economy is to be managed responsibly and practically. Economic policy application must also be necessary and expedient. The objective should be to mitigate especially against recessionary consequences that are likely to negatively impact the financial institutions and general wellbeing of the citizenry and country of Anguilla.
Mr. Clement Ruan is a Financial Services Specialist (FSS) and an active member of the National Association of Insurance and Financial Advisors (NAIFA) – the Washington Chapter. He has several other academic and professional designations to his name. Generally, he is a leading businessman in Anguilla and the rest of the Caribbean. He currently serves as Managing Director of D-3 Enterprises Limited and CEO of Quantum Investment Services Limited.
