Le Mont De Piété atteint par la crise

European Drama Engulfs The World's Oldest Bank

By DAVID ENRICH And DEBORAH BALL

SIENA, Italy—European leaders remained split Tuesday on a package to stem the region's debt crisis, raising fears that a final deal may be out of reach at Wednesday's summit. But the pain already is being felt in this medieval hill town.

As the continent's policy makers continue to grapple with the unfolding crisis that began with debt problems in Greece, investors' focus has turned to Italy, the euro-zone's third largest economy, and a nation saddled with one of its heaviest debt burdens. Worries that the government won't be able to keep up payments on its debt have driven up the yields on Italy's sovereign bonds, which is pressuring the Italian banks that own them.

The world's oldest bank, Siena-based Banca Monte dei Paschi di Siena SpA, is now caught in the storm. European leaders are expected to force Monte dei Paschi to raise €2 billion, or about $2.8 billion, or more in new capital, analysts say. The bank's troubles are reverberating through the region: The powerful foundation that owns half the bank is drastically cutting back charitable donations, retreating from its role as a modern-day Medici.

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Luca Santese/CESURALAB for The Wall Street Journal

The headquarters of the Monte dei Paschi Foundation

"We can't be the city's ATM any longer," said Gabriello Mancini, the Monte dei Paschi Foundation's chairman, in an interview in his 13th-century headquarters building overlooking Siena's famous Piazza del Campo. "It could cause some problems because some groups got used to having our support." The foundation has cut back donations across Tuscany by 80% in the past three years. Those taking a hit range from a horse race run through the narrow streets of Siena to a biotech facility researching cures for neurological diseases.

The drama marks a new phase in the continent's banking crisis.

Irish banks ran into trouble due to reckless real-estate lending. Greek banks have been pummeled by their country's economic implosion. French banks are paying the price for their boom-time expansions into countries like Greece.

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Italian banks, by contrast, are in trouble for what once seemed like a conservative investment: owning Italian government debt.

The country's top five lenders were sitting on €164 billion of Italian sovereign debt at the end of last year—nearly double the capital they were holding to absorb sudden losses, according to recent European "stress tests." Monte dei Paschi was the most exposed: It had €32.5 billion of Italian government debt, more than four times the size of its €7.1 billion capital cushion.

The three major bond-rating agencies this month downgraded the banks, including Monte dei Paschi. The banks have endured sharp stock selloffs and struggled to access funding markets.

Banking crises are painful everywhere. In countries like Italy and Spain, where banks historically have served as bedrocks of local communities, the financial turbulence is exacting an especially severe toll.

In Spain, local savings banks known as cajas traditionally have been controlled by local politicians or in some cases, the Catholic Church. They were free to use their institutions to bankroll pet projects. When Spain's real-estate market cratered, many cajas were ravaged by heavy losses. Less money is flowing to local social projects.

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Luca Santese/CESURALAB for The Wall Street Journal

A branch of Banca Monte dei Paschi di Siena SpA in Siena, Italy

The situation in Italy is more complex. For six decades starting in the Mussolini era, Italian banks operated in a role akin to government-owned utilities. They regularly recycled some profits into local charity.

In the early 1990s, as Europe became increasingly economically integrated, Italy started to privatize its banks. Seeking to preserve their charitable roles, newly created foundations were endowed with majority stakes in the lenders. The banks churned out a steady stream of dividends that enabled the foundations' charitable giving.

Over the next 15 years, most of the foundations diversified their investments so that their fortunes weren't completely entwined with those of their banks. Other banks merged, reducing the ownership stake of their respective foundations. On average, bank stocks now represent only about a third of the foundations' assets.

The Monte dei Paschi Foundation is an exception. Nearly 90% of its assets are concentrated in the bank. It's the only large banking foundation that still controls its legacy bank.

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Monte dei Paschi Foundation

Gabriello Mancini, Monte dei Paschi Foundation's chairman, says of Siena, 'We can't be the city's ATM any longer.'

The foundation has clung to control because it's desperate to keep Monte dei Paschi headquartered in Siena, where it's been since its 1472 founding. The foundation feared a larger bank could launch a hostile takeover if the bank didn't have a controlling shareholder.

With about 3,000 workers in the area, the bank is Siena's biggest employer. It is responsible for about 60% of loans to local residents and businesses. Its nickname is "Babbo Monte," or Daddy Bank.

"In Siena, Monte dei Paschi isn't a bank. It is the bank," said Angelo Riccaboni, rector of the University of Siena, which has been a big beneficiary of the foundation's largesse.

When Monte dei Paschi prospered, so did the foundation. Through 2008, the bank was highly profitable. And the foundation handed out as much as €250 million a year in bequests for Siena and the surrounding region—an amount that exceeds the city of Siena's annual budget.

Throughout Italy, foundations became important vehicles for national and local politicians to dole out services in exchange for votes. The Monte dei Paschi Foundation grew deeply enmeshed with the center-left politicians that dominate Tuscany.

In the mid-2000s, Italian regulators, hoping to strengthen the country's fragmented banking industry, pushed banks to get bigger by merging with domestic rivals or selling out to foreign competitors.

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Luca Santese/CESURALAB for The Wall Street Journal

Siena Mayor Franco Ceccuzzi

In 2007, Monte dei Paschi announced a deal to acquire a major lender in northern Italy, Banca Antonveneta. The deal would make Monte dei Paschi the country's third-largest lender, with more than 3,000 branches.

Analysts and investors were stunned by the hefty €9 billion cash price, especially because there were already signs of a brewing financial crisis. On a conference call about the deal, one analyst bluntly asked executives: "Did you negotiate?"

The deal was structured as an all-cash transaction to maintain the foundation's majority control of the bank; a stock purchase would have deeply eroded its stake.

The purchase largely depleted the bank's cash reserves, just as the world was careening into the worst financial crisis since the Great Depression. The bank's capital cushion hovered just above 5% of its risk-adjusted assets, below the bank's target level of 7%.

In March 2009, as some of the world's largest banks teetered, Monte dei Paschi turned to the Italian government for help. It requested a €1.9 billion infusion from the government and agreed to pay about €160 million a year in interest.

Over the next two years, the economy slumped and Monte dei Paschi's profits slipped. Its dividend payout, tied to the bank's profitability, shriveled to less than €0.01 a share for 2009. That deprived the foundation of its primary income source. The foundation responded by cutting its charitable donations from €230 million in 2008 to about €100 million in 2010. It plans to donate just €50 million this year and about the same next year.

That left hundreds of community organizations short of cash. The local chapter of national volunteer group Associazione Arci, whose services include nursery schools, programs for the elderly and support for battered women, had its foundation grants sliced from €40,000 in 2009 to zero. Marcello Rosi, a retiree who trains horses to run in the Palio—a wild race through Siena's cobblestone streets—no longer gets financial help.

The bank, meanwhile, spent 2010 in retrenchment mode. It sold dozens of branches and real-estate assets. It shed peripheral businesses. The net effect was to modestly pad the bank's capital cushion.

"We will not need more capital than we have," the bank's finance chief, Marco Massacesi, asserted in March 2011.

He was wrong. With Europe's crisis intensifying, regulators at the Bank of Italy already were pressuring Italian lenders to drum up capital.

Two weeks later, Monte dei Paschi's board gathered. Directors agreed that the bank should sell €2.1 billion of stock.

The decision put the foundation in a bind. It could preserve its majority stake in the bank by buying more than €1 billion of the new stock—further draining its coffers. Or it could sit out the capital-raising, but lose control of the bank.

The foundation's board decided to keep control. "Preserving the independence of the bank is the greater good," said Mr. Mancini, the foundation's chairman.

To come up with the €1 billion needed, the cash-strapped foundation's officials phoned their local contacts at banks including J.P. Morgan Chase & Co. and Goldman Sachs Group Inc.

J.P. Morgan lined up roughly 10 banks, including itself, to loan the foundation €600 million. The collateral on the six-year loan was a chunk of the foundation's Monte dei Paschi shares, according to people familiar with the deal.

The foundation turned to Goldman to raise the other €400 million. The foundation held a 58% stake in Monte dei Paschi. In early June, the foundation transferred about 400 million Monte dei Paschi shares—representing nearly 8% of shares outstanding—to Goldman. Goldman agreed to sell the shares in the open market at whatever prices it could fetch.

The sale put downward pressure on the stock, according to bankers, executives and analysts. In the first half of June, before the bank had managed to sell the new shares to investors as part of the capital-raising plan, the stock plunged nearly 20%. A foundation spokesman denied that the share sale affected the stock price.

At Monte dei Paschi's headquarters, in a cluster of medieval stone buildings filled with renaissance paintings and ancient bank ledgers, bank executives were unhappy with the plunging stock price, according to people familiar with the matter. They were forced to the drop the price on the shares they were selling to the public, which meant the capital-raising effort generated less money.

The stock's drop had another consequence: The collateral on the foundation's loan lost value. As a result, the foundation had to pony up additional Monte dei Paschi shares to J.P. Morgan and the other banks, according to the people familiar with the loan.

Today, European banks are under mounting pressure to beef up their capital bases. Despite its summer stock sale, Monte dei Paschi is expected to need still more capital. Its dividend—the foundation's lifeblood—could be a victim, analysts say.

If Monte dei Paschi's stock price keeps falling, or its dividend is further curtailed, the foundation likely will have to sell shares to keep up with payments on the €600 million loan, according to people familiar with the loan's terms. The foundation's ownership stake would then dip below 50%.

Locals are bracing for deeper cuts as the foundation continues to hunker down. "People haven't felt the full impact yet in Siena," said Mr. Riccaboni. His university has lost scores of scholarships, although it's mostly managed to replace that money from other sources.

The city itself is getting squeezed. The foundation historically has donated about €25 million a year to the city, representing about one-sixth of the city's revenues. It helps pay for everything from cultural events like the Palio to new fiber-optic cables to museum refurbishments.

Still, politicians insist the foundation made the right decision to go deeply into debt to maintain control.

"The goal is keeping the bank independent and free of any takeover risk," said Siena Mayor Franco Ceccuzzi, who is slapping a new tax on tourists to help compensate for the foundation's pullback. "The community is willing to make the necessary sacrifices for this."