UPDATE 1-Spain's Bankia to face new hurdles on road to recovery
(Adds confirmation of share valuation, details of capital hike, background)
By Julien Toyer and Carlos Ruano
MADRID, March 22 (Reuters) - Spain took the last steps to clean up nationalized lender Bankia on Friday, valuing its shares at a bare minimum of 0.01 euro, while pressing ahead with a partial merger of the bank that could slow its recovery.
The new valuation, confirmed by Spain's rescue fund FROB, was imposed by the European Union as Bankia prepares to get a capital injection of 10.7 billion euros (US$13.91 billion) out of European rescue funds. It would wipe out tens of thousands of investors who bought shares in the bank.
Last year, Bankia became Spain's biggest-ever bank failure. The state took over and applied to Europe for a 41 billion euro rescue for Bankia and other banks that held hundreds of billions of euros in bad debt from when the country's property market crashed in 2008.
In 2011, some 350,000 Spaniards bought shares in Bankia, which was created by a merger of seven savings banks.
When Bankia went public, its shares were worth 3.75 euros. On Friday they closed at 0.25 euro. The price has not fallen to 0.01 euro because some shareholders expect the bank to return to health.
After the bailout request and meeting strict conditions such as imposing steep losses on small savers who had invested in the bank, the announcement of the valuation on Friday was meant to mark a fresh start for the lender.
While the bank is showing tentative signs of recovery, official and banking sources said the government had hired an international consultant to create a plan to partially merge Bankia with CatalunyaBanc and NCG Banco, two other rescued lenders, which it wants to operate under a single holding company.
The plan emerged unexpectedly earlier this month after the Bank of Spain failed to auction off CatalunyaBanc. The cancelled sale was a sign of possible cracks emerging in the country's ongoing financial reform.
Bankia's executives have not yet been briefed on the plan.
"It is an unexpected distraction. Things were starting to fall in line well," said a banking source with knowledge of Bankia's thinking.
Bankia in February said it would return to profit this year after deposits rose at the end of 2012 and it began cutting costs.
The other two banks, however, are expected to report losses in 2013 and 2014. Also, the government could end up having to renegotiate with the EU some terms of the rescue of the banks, if their operations are joined.
The government insists it would not fully merge the three banks and that the lenders would join forces on marketing, negotiating terms on major purchases and other items.
It also says that creating a single holding operated by Bankia's top executives would not weigh on the lender's capacity to apply its European Union-agreed roadmap.
"Absolutely not. This will add value, not cut value," a source close to the government said, adding that the European authorities have been briefed on the plan.
"It makes sense for Bankia to lead the project because it has an impeccable management team and it also has the biggest client base."
The process is still at an early stage and could change over time. Spain's financial sector restructuring has gone through several stages over the last five years and the model of grouping several commercial brands under a single holding failed when it was tried previously.
It led banks involved in such operations to later fully merge, helping shrinking Spain's banking sector from more than 45 lenders to just over 10 today.
A source at Spain's bank rescue fund said the consultant would look into a medium-term strategy for the three banks involving combining some of their operations.
The source declined to give any other details.
Bankia and its BFA parent group have received a total of 18 billion euros in rescue money.
After the new valuation on Bankia's shares, the bank will receive 10.7 billion euros of the rescue money as new capital. This will take place in May, Bankia said in a statement.
The remaining European rescue money will remain in Bankia's holding company, BFA.
After the capital injection, Bankia will do a conversion of 100 existing shares into 1 new share, which will be worth 1 euro each.
In May, Bankia will also issue more shares worth 4.8 billion euros, to buy out holders of subordinated debt and hybrid debt. Those investors will also take losses on their investments.
Minority shareholders, who previously held 52 percent of Bankia, will end up with a joint ownership of 0.13 percent of the bank.
Holders of hybrid debt known as preference shares and of subordinated debt will end up owning about 30 percent of Bankia, and the state 70 percent. (Editing by Fiona Ortiz, Elaine Hardcastle and Richard Chang)