DBS (Development Bank of Singapore)

[donmihaihai]

Hi donmihaihai,
A bank capital structure is broadly classified into Tier 1 and Tier 2. 
Under Tier 1 capital, the components are Common Equity Tier 1 (CET1) and Additional Tier 1 (AT1).
CET1 consists mainly of common shares equity plus retained earnings and minority interests.
AT1 consists of perpetual bonds with no maturity.
Under Tier 2 capital, it consists of unsecured bullet bonds of max maturity of 5 years.
If a bank collapses, Tier 1 capital investors would be wiped out first, followed by Tier 2 investors, lastly the depositors.
A bank would have to incur cost for its capital. Eg, coupons for bonds issued. DBS does not earn interest income from its $11b excess capital. On the contrary, it needs to pay money for them. DBS bonds and perpetual bonds coupon ranges from 3% to 5+% depending on the denominated currency. However, a ball park 4% funding cost for AT1 and Tier 2 bonds is reasonable.
Henceforth, if DBS was to return all excess $11b capital, it would save $500m of funding cost annually which would boost bottomline. This $500m savings is not an one-off but is recurring in nature. For context, that would be a 5% earnings growth on a $10b profit. 

As of 31 December 2024, shareholders funds and total equity around 62B, CET1 capital @ 54B, Tier 1 capital @ 56B and total capital(Tier 1 & 2) @ 59B. I am not sure where to look at based on your comments. I am not an expert on bank, just leave it until I have a better understanding.
As for there is no income for those excess capital, since assets = equity +liabilities, any capital retained or borrowed will has the same amount of cash sitting on the asset side or when the cash is being used to generate income, turned into productive assets other than cash. Look at the assets side of DBS B/S, I got to assume even a reasonable run bank would not has cash sitting around not generating income. So pretty sure a "world class" bank like DBS would do better.
So, if the excess is from capital side, any reduction means reduction of income and if the excess is from the liabilities side, then reduction of liabilities will result in reduce income as well.

Hi donmihaihai,

Please take a look at asset side of B/S.

First item "Cash and balances with central banks - $50b". Out of this, some cash earns no income at all. Some of it earns just a little interest from central bank. This is liquid cash. 

Second item "Government securities and Tbills - $70b". This will earn income from SG bonds and Tbill rates.

First and second items are components of High Quality Liquid Assets (HQLA). Other components are highly rated corporate bonds and covered bonds. HQLA is used to calculate Liquidity Coverage Ratio (LCR). DBS LCR for all-currency and SGD are 144% and 297% respectively, well above the regulatory minimum requirement of 100% for both all-currency and SGD.

Assume DBS has $11b excess capital and wish to return them over a period of 5 years. That would be $2.2b per year. It could simply use the non-yielding money from "Cash" rather than yielding money from "Government securities and Tbills" or other yielding items from assets side of B/S. For perspective, $2.2b is just a fraction of DBS HQLA and would hardly make a bent on LCR.

DBS could use $2.2b non-yielding money from "Cash" to redeem expensive AT1 bonds from liabilities side. Thus assets and liabilities sides offset each other in B/S. Assume AT1 bonds coupon is 4%, this would save DBS $88m every year and bump up bottomline and ROE.

Alternatively, DBS could return $2.2b as dividend. "Cash" and "Equity aka Shareholders' Funds" offset each other in B/S. This would bump up ROE even more than the example stated above. However, the downside is Book Value would drop as well, PTB would rise. DBS could also do a mix of both, return capital from Equity and redeem expensive AT1 bonds concurrently. 

Maybe I have mistaken you but I don't really understand why you insist if DBS return capital to shareholders or redeem AT1 bonds, DBS would make a loss and impact profits.

As what you have said, "a world class bank like DBS would do better". I concur.

It would impact profits, but I never say DBS would be loss making. Read back. 

When I wrote cash siting around not generating profit, I meant excess cash, not just cash. Bank operates with a certain level of cash, but these is not excess cash. These are for operating requirements. If there weren't, then try use your digibank transfer money out, you would trigger a run straight away. Also, Piyush Gupta salary has to be paid in cash, not some securities. There is also regulator requirement to maintain certain level of cash, if i am not wrong. 

I don't know how much cash DBS needs for these 2 reasons but I assumed any reasonably run bank would know what to do, let alone a "world class" bank. Or you mean DBS is so profitable that they can afford sitting on excess cash for years waiting to return it to shareholder. Maybe, but all DBS shareholders would hope you are wrong.  

I agree with you that if there is excess capital, it will be in those short term securities.