Nepal Rastra Bank Opens Path for Banks to Issue Preference Shares with 12 Conditions

Nepal Rastra Bank (NRB) has amended its integrated directives, paving the way for banks to issue preference shares. This move aims to help banks raise additional capital under 12 specific conditions.

Key Points of the New Directive:

1. No Fixed Redemption Period: The preference shares must be non-redeemable and perpetual.

2. Institutional Investors Only: Only institutional investors are allowed to hold these preference shares.

3. Issuance by Licensed Institutions: The shares must be issued by licensed financial institutions and must be fully paid.

4. No Collateral: These shares cannot be issued with any collateral.

5. Dividend Distribution: The decision to distribute dividends will rest solely with the issuing institution and must be clearly stated in the prospectus.

6. Dividend Source: Dividends can only be paid from the current fiscal year's profit, not from retained earnings or other reserves.

7. Loss Absorption: If the bank's common equity falls below 5.125% of total risk-weighted assets, the preference shares must be converted to common equity to absorb losses. This requires prior approval from NRB.

8. Risk Disclosure: The issuing institution must disclose the risks and potential outcomes associated with these shares to investors.

9. Investor Agreement: Investors must acknowledge in writing that they understand the risks and terms associated with these preference shares.

10. Liquidation Preference: In case of liquidation, preference shareholders will be paid after regulatory capital instruments but before common shareholders.

11. Additional Conditions: NRB may impose additional conditions as needed.

12. Applicability: These provisions apply only to institutions governed by the Capital Adequacy Framework.

Tier 1 Capital Instruments:

In the context of this directive, the preference shares issued by banks can be considered Tier 1 capital instruments under the Capital Adequacy Framework. Tier 1 capital, includes instruments that can absorb losses in the event of a bank winding up, thus providing an additional layer of financial stability. By issuing non-redeemable, non-cumulative preference shares, banks can strengthen their Tier 1 capital which helps meet regulatory capital requirements and enhances their ability to withstand financial stress.

Conclusion:

This amendment by NRB provides banks with a crucial tool to raise additional capital, potentially alleviating the primary capital constraints faced by several financial institutions. By allowing the issuance of perpetual, non-cumulative preference shares without any collateral, NRB is supporting the financial stability and resilience of the banking sector. This strategic move aims to bolster banks' capital adequacy and ensure they meet regulatory requirements, ultimately enhancing the overall health of Nepal's banking industry.