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«Organisation de Coopération et de Développement Économiques in co-operation with the Bulgarian Centre for Economic Development A REVIEW OF ...»

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Organisation for Economic Co-operation and Development

Organisation de Coopération et de Développement Économiques

in co-operation with the Bulgarian Centre for Economic Development



Mr. Peter JOTEV

Executive Director

Bank Consolidation Company


The consolidation, rehabilitation and privatisation process

of Bulgarian banks

OECD Headquarters 23-24 November 1998



Peter Jotev - Executive Director Bank Consolidation Company


Bulgaria met 1992 in the conditions of irregular processes in the economic and banking activity which coincided with the transition of the country to the market economy. The negative trends in the financial and credit system kept worsening. The losses in the banking sector kept accumulating and more and more banks wwere included in the group of the unprofitable banks. All these factors created the necessity to consolidate the financial and credit institutions, as a part of an overall strategy for stabilization of the banking system in the country. The initial plans foresaw the banking consolidation process to be carried out by the banks themselves, on the basis of their voluntary mutual agreement and in compliance with the applicable market mechanisms. Unfortunately, these expectations were not justified, partially, because of the lack of an adequate legislation. All these factors predetermined the establishment of the Bank Consolidation Company (BCC) as an institution, aiming at speeding up the consolidation process, managing the State interest in the commercial banks and creating and effective performing banking system in the country.

I. Initiating a consolidation and rehabilitation process of the banking system in Bulgaria BCC was established in 1992 and its initial shareholders were the Bulgarian National Bank (BNB) - the Central Bank of the country, Bulbank and several branch ministries. Later on Bulbank transfered its shares to the State, and the branch ministries - to the Ministry of Finance. In this way, as of October 1998, the main shareholders of BCC are: BNB (47.45%) and the Ministry of Finance (45.32%). A small amount of the capital is comprised by the Sofia Municipality, municipal and private companies.

At the beginning, BCC was organized in a two-tier management system, consisting of Supervisory Board and Managing Board. At the end of 1992 a more effective management system was implemented in the company, in which the BNB and the Ministry of Finance appointed most ofthe members of the Board of Directors. At the present moment, the Board of Directors is composed of five members. The Minister of Finance is a chairman and one of the deputy governors of BNB is a deputy chairperson of the Board. The Board of Directors also include two representatives of the government (the deputy Prime Minister, responsible for the conducting of the structural reform and the privatization in the country, the first deputy Minister of Finance) and the executive director of BCC.

In the initial period of its establishment, BCC determined as its priority to reduce the total number of the state-owned banks (which at the beginning of 1992 were over 70) and through their consolidation to create a few larger banks, some of which shall also be restructured. After completing this consolidation and rehabilitation process, BCC shall initiate the privatization of all state-owned banks.

The consolidation process started in September 1992 with the merger of 22 commercial banks and the establishment of Bulgarian United Bank (UBB). The process continued during the next several years and at the end of 1996 in Bulgaria remained only six state-owned banks - UBB, Bulgarian Post Bank (Post Bank), Bulbank, Expressbank, Hebrosbank and Biochimbank (Biochim). The positive effect of the consolidation process resulted in a reduction of the financial intermediaries on the market, consolidation of the cash-flows, implementation of a branch network in the country, creation of conditions allowing to develop the competition in the banking sector.

Despite that, the consolidation process did not pass off smoothly. During the second half of 1994, Bulgaria was torn by a deep political crisis, reflected in the worsening of the economic situation in the country and mostly of the banking sector because of its key role in the economy. This necessitated to undertake immediate measures for the rehabilitation of some banks, stabilization measures for other banks, in parallel with their consolidation.

In order to stabilize the banking system, BCC undertook measures to recapitalize most of the state-owned banks, increasing their capital through cash resources or capital infusion. In March 1996 the so-called "Bulbank scheme" came into effect with the goal of assisting the rehabilitation process of the problem banking institutions. In compliance with this scheme, Bulbank sold to the State Fund for Reconstruction and Development ZUNK obligations, denominated in U.S.Dollars and amounting to 400 Million U.S.Dollars, with a 50 % discount of their face value, which equaled 200 Million U.S.Dollars.

Subsequently, these ZUNK obligations were infused in the capital of banks like Expressbank, Post Bank, Biochim, Hebrosbank. The amount obtained from Bulbank was deposited with the BNB for the term of five years and with the aim to be utilized by the Central bank for the coming payments on the external debt. The use of the " Bulbank scheme " was a successful method to solve some of the current problems in the banking sector, especially when the implementation of this scheme was regulated with a ministerial ruling.

The entire consolidation and rehabilitation process of the banking system in Bulgaria was marked with difficulties that came both from economic and political factors.

First, these were problems, originated with the implementation of a set of principles and criteria, related to the consolidation of banks. The lack of a unified position in applying the voluntary consolidation and the wilful actions of the managers of some commercial banks, led to the delay of the consolidation process.

Subsequently, this delay became fatal, because the worsening of the conditions in the real sector went deeper and the inefficient management of some banks led to their bankruptcy. The incapacity to guarantee an efficient management of the credit portfolio of banks also provoked serious collapse in the entire Bulgarian economy. The granting of non-collaterized or insufficiently collaterized loans additionally impeded the efforts to recapitalize the banks. The market recapitalization mechanisms didnt's bring the desired results because of the lack of collectability of the loans already granted. On the other hand, BCC couldn't infinitely rely on funds from the state budget to increase the shareholders' equity of banks. This became a reason for the banks to limit at maximum the volume of the credits they grant and to invest their available resources mainly in long-term government bonds. This policy of "non-crediting", led by the banking institutions, was another cause for the recession in the producing sector, it cut the basis of any possible economic growth and impeded the functioning of the BCC in its efforts to restructure the Bulgarian banks.

Second, in the course of the consolidation and rehabilitation of the banking sector, BCC faced many legal problems, coming from the lack of adequate legal basis which should have regulated the functioning of the whole system. A serious problem was caused by the fact that the creditors were not well protected against the borrowers, because of the heavy legal procedures when repossessing a collateral, when declaring a debtor in bankruptcy, when replacing a debt against property. The cause for the small amount of investments in the country was the lack of appropriate legislation regarding the foreign investments and tax requirements. The difference between the national accountancy and the international accounting standards created a duality when reporting the financial results and valuing the overall status of banking institutions.

The problems in the banking sector went deeper also because of the worsening macro-economic indicators. The high exchange rate in 1996, the high interest rate on all leva operations and the high inflation increased the amount of the non-performing loans, the expenses of banks on their operations on the liability side of the balance sheet, and reduced the income coming from the main operations on the asset side of the balance sheet. All these factors resulted in an increase of the negative operating result of banks. Because of the large fluctuations in the exchange rate during the year, the citizens and the companies treated the foreign currency more like an investment, instead of savings, and this caused many withdrawings of deposits in leva and foreign currency, a factor which stimulated the depreciation of the Bulgarian lev. These actions of the citizens and the companies reflected the erosion and the loss of confidence in the banking system and were followed by many bankruptcies of state-owned and private banking institutions. Moreover, the impossibility to make a prognosis even for a very short period of time repelled the foreign investors. Bulgaria became for them one of the countries with the highest investment risk.

All these factors imposed the necessity to take urgent measures for the stabilization of the banking sector and the economy as a whole. The realization of this goal should have been combined with an internal political stability, able to guarantee the consistent implementation of all aims and purposes. In February 1997, the Bulgarian socialist party that have governed the country for the period 1995-1996, lost the power and the Bulgarian people, on a democratic way, chose a new reform-minded government, which undertook the obligation to create a clear conception for the future development of Bulgaria as politically and economically stable state, and to implement all necessary reforms. In order to achieve this goal, the country should establish an economic mechanism, able to guarantee a severe financial discipline when implementing the structural economic reforms and stabilizing the banking sector. For such a wellregulated mechanism was selected the Currency Board, established on July 1, 1997. Its implementation showed the readiness of Bulgaria to cooperate with the international financial institutions on its way to achieve a permanent economic stabilization From this moment on, the role of BCC in the economic life of the country became much more important, because of the key role that the company should play in the restructuring process of the banking system, which logical end would be the privatization of the state-owned banks.

II. Initial privatization efforts In connection with he goals of BCC to privatize the Bulgarian state-owned banks, since in 1993 the company prepared a program, according to which the privatization process in the country shall be carried out through two main methods: sale and reduction of the equity of BCC by non-use of its right to acquire new shares in case of a capital increase. The program outlined two privatization stages - initial sales of minority stake of BCC and after that, sales of majority package of shares. In 1994 BCC sold its minority stake in Agrobusinessbank, Turistsportbank, Businessbank, First East International Bank and several other banks through bids and through the stock exchange. BCC didn't utilize its right to participate in the capital increase of Post Bank and sold its entire right to participate in the capital increase of Hebrosbank, preserving however the number of its shares in the bank within the blocking quota.

In result of its privatization activity in 1994 and the beginning of 1995, BCC sold its entire interest in six banks and reduced the number of its shares in two other banks. During that period no majority stake of BCC in the state-owned banks was sold.

In 1995 BCC didn't privatize any banks. The crisis in the economic sector, which went deeper in 1996, made impossible the conducting of privatization deals.

For this reason, until 1997 no majority stake of BCC in the commercial banks was sold. At the beginning of 1997, the BCC held majority control of six state-owned banks: Bulbank, UBB, Expressbank, Post Bank, Hebrosbank and Biochim. During the same year BCC gradually modified its priorities and concentrated its efforts in the privatization of these state-owned banks and the performance of a permanent control on their financial status, as a part of their preparation for privatization.

Almost immediately after the completion of the UBB consolidation, the European Bank for Reconstruction and Development (EBRD) expressed its wish to participate in the capital increase of the bank in the course of its privatization. After several years of negotiations, at the end of July 1997, BCC finalized its first privatization deal and successfully sold its entire interest in UBB to a consortium, comprised of EBRD, U.S.Oppenheimer&Company, and Bulbank. After the sale, the EBRD acquired 35% of the shares, U.S. Oppenheimer&Company - 29.63% and Bulbank - 35%. The new majority shareholders increased considerably the capital of the bank (about 30 Million U.S.Dollars) immediately after the acquisition and undertook the commitment to make other investments under the form of a capital, other capital form or a long-term credit, in compliance with the financial status of the institution and the necessity for its future development.

While, as of December 31, 1996, 82.2% of the assets of all banks in Bulgaria were concentrated in the state-owned banks, at the end of 1997 this percentage was reduced to 67.1% due to the sale of UBB. The privatization of UBB was of material importance for the start of the sale of the majority stake of BCC in other commercial banks.

III. Adoption of a privatization strategy by BCC

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