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  • CA-2 CA-2 The capital requirement

    • CA-2.1 CA-2.1 Introduction

      • CA-2.1.1

        Regulatory Capital is the sum of the following three components (as defined in Rules CA-2.2.1 to CA-2.2.4), subject to the restrictions set out in Section CA-2.3:

        Tiers 1 and 2: May be used to support credit risk and market risk; and
        Tier 3: May be used solely to support market risk.
        October 07

      • CA-2.1.2

        For a branch of a foreign bank operating as a retail bank licensee, a designated amount of capital is required, as agreed between the CBB and the licensee, taking into consideration the gearing requirement stated in Section CA-10.1.

        October 07

    • CA-2.2 CA-2.2 Definition of capital

      • Tier 1: Core capital

        • CA-2.2.1

          Tier 1 capital shall consist of the sum of items (a) to (c) below, less the sum of items (d) to (e) below:

          (a) Permanent shareholders' equity (including issued and fully paid ordinary shares / common stock and perpetual non-cumulative preference shares, but excluding cumulative preference shares);
          (b) Disclosed reserves, which are audited and approved by the shareholders, in the form of legal, general and other reserves created by appropriations of retained earnings, share premiums, capital redemption reserves and other surplus but excluding revaluation reserves; and
          (c) Minority interests, arising on consolidation, in the equity of subsidiaries which are less than wholly owned.
          LESS:
          (d) Goodwill; and
          (e) Current year's cumulative net losses which have been reviewed or audited as per the International Standards on Auditing (ISA) by the external auditors.
          October 07

      • Tier 2: Supplementary capital

        • CA-2.2.2

          Tier 2 capital shall consist of the following items:

          (a) Interim retained profits which have been reviewed as per the ISA by the external auditors;
          (b) Asset revaluation reserves, which arise in two ways. Firstly, these reserves can arise from the revaluation of fixed assets from time to time in line with the change in market values, and are reflected on the face of the balance sheet as a revaluation reserve. Secondly, hidden values or 'latent' revaluation reserves may be present as a result of long-term holdings of equity securities valued in the balance sheet at the historical cost of acquisition. Both types of revaluation reserve may be included in tier 2 capital, with the concurrence of the external auditors, provided that the assets are prudently valued, fully reflecting the possibility of price fluctuation and forced sale. In the case of 'latent' revaluation reserves, a discount of 55% will be applied to the difference between the historical cost book value and the market value to reflect the potential volatility of this form of unrealised capital.
          (c) General provisions held against future, presently unidentified losses which are freely available to meet losses which subsequently materialise and, therefore, qualify for inclusion within supplementary elements of capital, subject to a maximum of 1.25% of total risk-weighted assets (both credit and market risk-weighted assets). Provisions ascribed to impairment of particular assets or known liabilities should be excluded.
          (d) Hybrid instruments, which include a range of instruments which combine characteristics of equity capital and of debt, and which meet the following requirements:
          •   They are unsecured, subordinated and fully paid-up;
          •   They are not redeemable at the initiative of the holder or without the prior consent of the Central Bank;
          •   They are available to participate in losses without the bank being obliged to cease trading (unlike conventional subordinated debt); and
          •   Although the capital instrument may carry an obligation to pay interest that cannot permanently be reduced or waived (unlike dividends on ordinary shareholders' equity), it should allow service obligations to be deferred (as with cumulative preference shares) where the profitability of the bank would not support payment.
          Cumulative preference shares, having the above characteristics, would be eligible for inclusion in tier 2 capital. Debt capital instruments which do not meet the above criteria may be eligible for inclusion in item (e) below.
          (e) Subordinated term debt, which comprises all conventional unsecured borrowing subordinated (in respect of both interest and principal) to all other liabilities of the bank except the share capital and limited life redeemable preference shares. To be eligible for inclusion in tier 2 capital, subordinated debt capital instruments should have a minimum original fixed term to maturity of over five years. During the last five years to maturity, a cumulative discount (or amortisation) factor of 20% per year will be applied to reflect the diminishing value of these instruments as a continuing source of strength. Unlike instruments included in item (d) above, these instruments are not normally available to participate in the losses of a bank which continues trading. For this reason, these instruments will be limited to a maximum of 50% of tier 1 capital.
          (f) 45% of unrealised gains on equity securities held as available-for-sale (on an aggregate net-basis).
          October 07

      • Deduction from tiers 1 and 2 capital

        • CA-2.2.3

          The following item shall be deducted from tiers 1 and 2 capital on a pro-rata basis:

          Investments in and lending of a capital nature to unconsolidated subsidiaries engaged in banking and financial activities. The assets representing the investments in subsidiary companies whose capital is deducted from that of the parent would not be included in total assets for the purpose of computing the capital ratio.
          October 07

      • Tier 3: Trading book ancillary capital

        • CA-2.2.4

          Tier 3 capital will consist of short-term subordinated debt which, if circumstances demand, needs to be capable of becoming part of the bank's permanent capital and thus be available to absorb losses in the event of insolvency. It must, therefore, at a minimum meet the following conditions:

          (a) Be unsecured, subordinated and fully paid up;
          (b) Have an original maturity of at least two years;
          (c) Not be repayable before the agreed repayment date; and
          (d) Be subject to a lock-in clause which stipulates that neither interest nor principal may be paid (even at maturity) if such payment means that the bank falls below or remains below its minimum capital requirement.
          October 07

    • CA-2.3 CA-2.3 Limits on the use of different forms of capital

      • Tier 1: Core capital

        • CA-2.3.1

          Tier 1 capital should represent at least half of the total eligible capital, i.e., the sum total of tier 2 plus tier 3 eligible capital should not exceed total tier 1 eligible capital.

          October 07

      • Tier 2 : Supplementary capital

        • CA-2.3.2

          Tier 2 elements may be substituted for tier 3 up to the tier 3 limit of 250% of tier 1 capital (as below) in so far as eligible tier 2 capital does not exceed total tier 1 capital, and long-term subordinated debt does not exceed 50% of tier 1 capital.

          October 07

      • Tier 3: Ancillary capital

        • CA-2.3.3

          Tier 3 capital is limited to 250% of a bank's tier 1 capital that is required to support market risks. This means that a minimum of about 28.57% of market risks needs to be supported by tier 1 capital that is not required to support risks in the remainder of the book.

          October 07

    • CA-2.4 CA-2.4 Calculation of the capital ratio

      • CA-2.4.1

        A bank should start the calculation of the capital ratio with the measure of market risk (i.e. specific risk plus general market risk) in accordance with the regulations in this Module, including interest rate risk, equity risk, foreign exchange and commodities risks.

        October 07

      • CA-2.4.2

        The bank should next calculate its credit risk-weighted assets in accordance with the regulations in this Module.

        October 07

      • CA-2.4.3

        The next step is to create an explicit numerical link between the capital requirements for credit and market risks. This is accomplished by multiplying the measure of market risk (calculated as stated in Paragraphs CA-2.4.1 and CA-2.4.2above) by 12.5 and adding the resulting figure to the sum of the credit risk-weighted assets. The capital ratio will then be calculated in relation to the sum of the two, using as the numerator only the eligible capital.

        October 07

      • CA-2.4.4

        In calculating the eligible capital, it will be necessary first to calculate the bank's minimum capital requirement for credit risk, and only afterwards its market risk requirement, to establish how much tier 1 and tier 2 capital is available to support market risk. Eligible capital will be the sum of the whole of the bank's tier 1 capital, plus tier 2 capital under the limits set out in Section CA-2.3 above. Tier 3 capital will be regarded as eligible only if it can be used to support market risks under the conditions set out in Section CA-2.2 and CA-2.3 above. The quoted capital ratio will thus represent capital that is available to meet both credit risk and market risk. Where a bank has tier 3 capital, which meets the conditions set out in Section CA-2.2 above and which is not at present supporting market risks, it may report that excess as unused but eligible tier 3 capital alongside its capital ratio. A worked example of the calculation of the capital ratio is set out in Appendix CA-1.

        October 07

    • CA-2.5 CA-2.5 Minimum capital ratio requirement

      • Banking group

        • CA-2.5.1

          On a consolidated basis, the Central Bank has set a minimum Risk Asset Ratio ('RAR') of 12.0% for all locally incorporated banks. Furthermore, on a solo basis, the parent bank of a group is required to maintain a minimum RAR of 8.0% (i.e. unconsolidated).

          October 07

        • CA-2.5.2

          This means where a bank is required to complete both form PIR (Appendix BR 5) and form PIRC (Appendix BR 6), 8.0% is the minimum RAR necessary for the solo bank (PIR), and 12.0% for the consolidated bank (PIRC).

          October 07

      • Individual bank

        • CA-2.5.3

          For banks that are required to complete only the PIR form, the Central Bank has set a minimum Risk Asset Ratio ('RAR') of 12.0%.

          October 07

      • Maintaining minimum RAR

        • CA-2.5.4

          To clarify the effect of these minimum ratios (as identified in Paragraphs CA-2.5.1 to CA-2.5.3) on differing banking groups and individual banks, four examples (see Appendix CA-1) are given. In the examples, the parent and the subsidiary are Bahrain incorporated banks, but the cases could apply to overseas incorporated subsidiaries (with adjustment to the minimum RAR where appropriate in individual cases).

          (a) Case One: Compliant solo bank - No subsidiaries (PIR only).
          (b) Case Two: Compliant parent bank, compliant group (PIR and PIRC).
          (c) Case Three: Compliant parent bank, compliant subsidiary bank, but non - compliant group.
          (d) Case Four: Non - compliant parent bank, compliant subsidiary bank and compliant group.

          For detailed workings of the above cases, refer to Appendix CA-1.

          October 07

        • CA-2.5.5

          All locally incorporated banks must give the Central Bank, immediate written notification of any actual breach by such banks of either or both of the above RARs. Where such notification is given, the bank must also:

          (a) Provide the Central Bank no later than one calendar week after the notification, with a written action plan setting out how the bank proposes to restore the relevant RAR(s) to the required minimum level(s) set out above and, further, describing how the bank will ensure that a breach of such RAR(s) will not occur again in the future; and
          (b) Report on a weekly basis thereafter on the bank's relevant RAR(s) until such RAR(s) have reached the required target level(s) set out below.
          October 07

        • CA-2.5.6

          In addition, the Central Bank considers it a matter of basic prudential practice that, in order to ensure that these RARs are constantly met, banks set up internal 'targets' of 12.5% (on a consolidated basis) and 8.5% (on a solo basis) to warn them of a potential fall by the bank below the Central Bank's required minimum RARs as set out above.

          October 07

        • CA-2.5.7

          Where a bank's capital ratio falls below its target ratio, the General Manager should notify the Director of Banking Supervision at the Central Bank immediately. No formal action plan will be necessary, however the General Manager should explain what measures are being implemented to ensure that the bank will remain above its minimum RAR(s).

          October 07

        • CA-2.5.8

          The bank will be required to submit form PIR (and PIRC where applicable) to the Central Bank on a monthly basis, until the RAR(s) exceeds its target ratio(s).

          October 07

        • CA-2.5.9

          The Central Bank will notify banks in writing of any action required of them with regard to the corrective and preventive action (as appropriate) proposed by the bank pursuant to the above, as well as of any other requirement of the Central Bank in any particular case.

          October 07

        • CA-2.5.10

          Banks should note that the Central Bank considers the breach of RARs to be a very serious matter. Consequently, the Central Bank may (at its discretion) subject a bank which breaches its RAR(s) to a formal licensing reappraisal. Such reappraisal may be effected either through the Central Bank's own inspection function or through the use of Reporting Accountants, as appropriate. Following such appraisal, the Central Bank will notify the bank concerned in writing of its conclusions with regard to the continued licensing of the bank.

          October 07

        • CA-2.5.11

          The Central Bank recommends that the bank's compliance officer supports and cooperates with the Central Bank in the monitoring and reporting of the capital ratios and other regulatory reporting matters. Compliance officers should ensure that their banks have adequate internal systems and controls to comply with these regulations.

          October 07