Subordinated Debt, Equity and Other Capital Instruments
| No: 44047144 | Date(g): 27/12/2022 | Date(h): 4/6/1444 | Status: In-Force |
Effective from Jan 01 2023 - Dec 31 2022
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| 7.46 | The treatment described in paragraphs 7.50 to 7.52. applies to subordinated debt, equity and other regulatory capital instruments issued by either corporates or banks, provided that such instruments are not deducted from regulatory capital or risk-weighted at 250% according to the Regulatory Capital Under Basel III Framework (Article 4.4 – Section A of SAMA Circular No. 341000015689, Date: 19 December 2012), or risk weighted at 1250% according to paragraph 7.54. It also excludes equity investments in funds treated under chapter 24. | ||
| 7.47 | Equity exposures are defined on the basis of the economic substance of the instrument. They include both direct and indirect ownership interests,12 whether voting or non-voting, in the assets and income of a commercial enterprise or of a financial institution that is not consolidated or deducted. An instrument is considered to be an equity exposure if it meets all of the following requirements: | ||
| 1. | It is irredeemable in the sense that the return of invested funds can be achieved only by the sale of the investment or sale of the rights to the investment or by the liquidation of the issuer; | ||
| 2. | It does not embody an obligation on the part of the issuer; and | ||
| 3. | It conveys a residual claim on the assets or income of the issuer. | ||
| 7.48 | In addition to instruments classified as equity as a result of paragraph 7.47, the following instruments must be categorized as an equity exposure: | ||
| 1. | An instrument with the same structure as those permitted as Tier 1 capital for banking organizations. | ||
| 2. | An instrument that embodies an obligation on the part of the issuer and meets any of the following conditions: | ||
| (a) | The issuer may defer indefinitely the settlement of the obligation; | ||
| (b) | The obligation requires (or permits at the issuer’s discretion) settlement by issuance of a fixed number of the issuer’s equity shares; | ||
| (c) | The obligation requires (or permits at the issuer’s discretion) settlement by issuance of a variable number of the issuer’s equity shares and (ceteris paribus) any change in the value of the obligation is attributable to, comparable to, and in the same direction as, the change in the value of a fixed number of the issuer’s equity shares13; or, | ||
| (d) | The holder has the option to require that the obligation be settled in equity shares, unless either (i) in the case of a traded instrument, SAMA is content that the bank has demonstrated that the instrument trades more like the debt of the issuer than like its equity, or (ii) in the case of non-traded instruments, SAMA is content that the bank has demonstrated that the instrument should be treated as a debt position. In cases (i) and (ii), the bank may decompose the risks for regulatory purposes, with the approval of SAMA. | ||
| 7.49 | Debt obligations and other securities, partnerships, derivatives or other vehicles structured with the intent of conveying the economic substance of equity ownership are considered an equity holding14. This includes liabilities from which the return is linked to that of equities15. Conversely, equity investments that are structured with the intent of conveying the economic substance of debt holdings or securitization exposures would not be considered an equity holding.16 | ||
| 7.50 | Banks will assign a risk weight of 400% to speculative unlisted equity exposures described in paragraph 7.51 and a risk weight of 250% to all other equity holdings. | ||
| 7.51 | Speculative unlisted equity exposures are defined as equity investments in unlisted companies that are invested for short-term resale purposes or are considered venture capital or similar investments, which are subject to price volatility and are acquired in anticipation of significant future capital gains17. | ||
| 7.52 | Banks will assign a risk weight of 150% to subordinated debt and capital instruments other than equities. | ||
| 7.53 | Notwithstanding the risk weights specified in paragraphs 7.50 to 7.52, the risk weight for investments in significant minority- or majority-owned and – controlled commercial entities depends upon the application of two materiality thresholds: | ||
| 1. | For individual investments, 15% of the bank’s capital; and | ||
| 2. | For the aggregate of such investments, 60% of the bank’s capital. | ||
| 7.54 | Investments in significant minority- or majority-owned and –controlled commercial entities below the materiality thresholds in paragraph 7.52 must be risk- weighted as specified in paragraphs 7.47 to 7.52. Investments in excess of the materiality thresholds must be risk-weighted at 1250%. | ||
12 Indirect equity interests include holdings of derivative instruments tied to equity interests, and holdings in corporations, partnerships, limited liability companies or other types of enterprises that issue ownership interests and are engaged principally in the business of investing in equity instruments.
13 For certain obligations that require or permit settlement by issuance of a variable number of the issuer’s equity shares, the change in the monetary value of the obligation is equal to the change in the fair value of a fixed number of equity shares multiplied by a specified factor. Those obligations meet the conditions of item (c) if both the factor and the referenced number of shares are fixed. For example, an issuer may be required to settle an obligation by issuing shares with a value equal to three times the appreciation in the fair value of 1,000 equity shares. That obligation is considered to be the same as an obligation that requires settlement by issuance of shares equal to the appreciation in the fair value of 3,000 equity shares.
14 Equities that are recorded as a loan but arise from a debt/equity swap made as part of the orderly realization or restructuring of the debt are included in the definition of equity holdings. However, these instruments may not attract a lower capital charge than would apply if the holdings remained in the debt portfolio.
15 SAMA may decide not to require that such liabilities be included where they are directly hedged by an equity holding, such that the net position does not involve material risk.
16 SAMA may consider to re-characterize debt holdings as equites for regulatory purposes and to otherwise ensure the proper treatment of holdings under the supervisory review process.
17 For example, investments in unlisted equities of corporate clients with which the bank has or intends to establish a long-term business relationship and debt-equity swaps for corporate restructuring purposes would be excluded.