Bankorp for dummies: Absa explains SARB’s assistance of Bankorp

Absa released the following Q&A to explain the Bankcorp saga.

• What was Bankorp?

Bankorp was one of the largest banks in South Africa in the 1980s, with 10% market share. The bank ran into financial trouble due to an economic downturn that led to an increase in non-performing loans, threatening the failure of the bank. At this time, Absa did not exist as an entity.

Absa was formed in 1991 through the merger of UBS Holdings, the Allied and Volkskas Groups, and certain interests of the Sage Group. Absa became the largest banking and financial services group on the continent.

• Why did the SA Reserve Bank step in to help Bankorp in 1985?

A central bank is the lender of last resort. The responsibility of a central bank is to make sure a country’s financial system remains stable. A failure of one bank can cause panic in the financial system and lead to depositors withdrawing their money en masse. It is for this reason that a central bank usually steps in to “bail out” a bank to prevent it from failing. By doing this, a central bank is ensuring that depositor funds are protected thus preventing a run on banks which has potential to lead to economic collapse. The “bail-out” money is used to write-off the bad loans that distressed customers cannot pay. In essence, it benefits those who have defaulted on their loans and also protects the money of depositor customers who would lose their savings if the bank failed.

Had Bankorp failed due to financial distress it was experiencing, it is possible that customers of other banks would also have panicked and started withdrawing their money for fear of losing it like Bankorp’s customers would have. It was therefore the responsibility of the reserve bank to assist in such instances.

• How much total assistance was given to Bankorp between 1985 & 1991; and later in 1992 after Absa took over?

The SA Reserve Bank provided a total loan of R1.5bn at 1% interest.

This was indeed a very low interest rate. This is because central banks are a lender of last resort. By the time they are approached for help, the bank facing collapse can no longer borrow at normal lending rates from other banks or capital markets. The central bank therefore sets a nominal interest rate when it intervenes. This is not unusual practice.

For example during the 2008 global financial crisis the US Federal Reserve (the US equivalent of the SA Reserve Bank) offered US banks hundreds of billions of dollars in loans at 0% interest.

• What were the key terms of the contract between the SA Reserve Bank and Bankorp and later Absa?

The SA Reserve Bank provided Bankorp a loan of R1.1bn at 1% interest

o   The loan was used to buy government bonds at 16% interest.

o   Bankorp had to deposit R400m into the SA Reserve Bank as security.

o   This R400m was equivalent to assistance Bankorp had already received since 1985.

To simplify the arrangement, the parties agreed that the 1% interest due to the SA Reserve Bank would be deducted from the 16% interest on the government bonds due to Bankorp (and from 1992, Absa).

o   The total interest due to Absa and Bankorp was therefore 15% instead of 16%.

o   This 15% interest generated R225m per year.

o   The money generated from interest was to be used to write off the debts of customers who could not pay back the bank’s money. Bankorp and Absa were obliged to hire external auditors at their own cost who would verify that the money was used for its intended purpose and then submit detailed reports to the SA Reserve Bank. This process was completed in October 1995 when the arrangement was no longer needed, and the SA Reserve Bank was satisfied that the money had been used as intended.

 Post Absa acquiring Bankorp (1992 -1995)

• Did Absa enter into an agreement with the SA Reserve Bank? If so, what did the agreement say?

Yes, Absa entered into an agreement with the SA Reserve Bank in 1994.

In 1992, Absa acquired the entire shareholding of the Bankorp group. This is seven years after Bankorp started receiving assistance from the SA Reserve Bank.

As a result of Absa taking over Bankorp in 1992, the original 1985 agreement was renegotiated between 1992 and 1994. A new agreement was concluded in 1994 and was backdated to 1 April 1992, the day of the acquisition of Bankorp by Absa.

• The terms of the agreement as described above remained, except Absa replaced Bankorp as the beneficiary.

This agreement ended on 23 October 1995 when the accumulated total of financial assistance since 1985 amounted to R1.125bn and was paid in full.

• Why does Absa believe it does not owe money then?

Absa was only formed in 1991, and only bought Bankorp in 1992, while the Bankorp agreement with SARB began in 1985. When Absa acquired Bankorp in 1992 the assistance program was already in place.

The customer debt write-offs that would result from the SA Reserve Bank’s intervention were taken into account in determining the price Absa should pay to buy Bankorp. This price was set at R1.23bn and Absa paid it in full to the shareholders of Bankorp. This is why Absa cannot be expected to pay again.

• Should Absa not pay back the R1.125bn?

No. That money did not go to Absa shareholders. It was used to write off the bad debts of Bankorp customers. Absa paid for Bankorp after taking account of the bad customer debt write-offs. Judge Davis and a panel of experts he chaired conducted a thorough investigation between 2000 and 2002 and produced what is now known as the “Davis Report”. Judge Denis Davis said Absa paid fair value for Bankorp and is not liable to pay anything further.

• Who should pay then?

Judge Davis delivered a comprehensive report that was over 150 pages long. In it he determined that the beneficiaries of the SARB assistance were the shareholders of Bankorp. The report stated that Sanlam policy holders owned 88% of the bank while the remaining 12% was owned by minority shareholders. The R1.23bn Absa paid was split between these parties.