Why should a falling share price matter re capital raising?

The debt to equity ratios at based on market value... This ratio has to be maintained above a certain level as per the legal documentation of the debt (incurrence covenants)... If your share price falls, your ratio rises... If the covenant is breached you are in default and if you are unnable to renegotiate the terms (banks have publc debt, very hard to do) you declare bankruptcy... The leverage issue is the problem, that's why you don't usually see debt injections and if you do, they retire the unfavorable ones...

By injecting cash, you strengthen the net debt ratio... In effect giving the market confidence that you have no solvency/liquidity issues... Boosting the price... In theory, the way it should work...

Also, when the Company is trying to raise cash via equity offerings (you can't raise more debt if you're trying to raise your equity/debt ratio), they will have to do it (usually) at a discount to the market price. This makes raising the same amount of cash more dilutive to existing shareholders and therefore further driving down EPS and consequently the stock price. This is why the banks were under such high pressure. It is really a downward spiral.

ANother thing is that when your price is drastically low, ala MS at $7 or C at sub-$5, people start....wondering...and counterparties start wanting to hedge their risk with you (translation: usually stop their business with you). Your employees start sending out their resumes "just in case", etc. Weird stuff that's really unpredictable starts happening to you operationally.

It is more of a crisis of confidence than anything, especially relevant for investment banks because they were so reliant on short term paper with quick maturities being constantly rolled over. When the share price falls, confidence takes a hit, making it more expensive and difficult to keep the debt cycle flowing smoothly.

Thank you for these excellent and prompt responses. I knew crisis of confidence can easily create a run on the bank/firm, I was just confused how articles always directly linked a falling share price to the need for capital raising. Regarding covenant breaching, I thought typically the metrics were net debt:EBITDA, or sometimes net debt:Sales rather than simply the gearing ratio, hence again a falling share price wouldn't directly make them liable for covenant breaching. Rgds

Not to mention that the ratings agencies, again proving their infinite wisdom, have been threatening to cut the ratings of companies (especially banks) whose share prices are falling.

One thing you need to consider is that regulatory capital goes beyond debt covenants, rating agencies, and debt ratios. Regulatory capital is strictly defined and monitored by the Fed, OTS, and other bank regulatory bodies. So it's not the falling stock price that is the primary cause for the need for capital, but the drivers of the stock price: ie asset writedowns. If you have certain assets making up part of your regulatory capital structure (Tier 1, 2...etc..) writedowns are going to put you close to being "poorly capitalized" levels as adhered to by banks around the world (while standards differ in the United States, global metrics have been coming together for some time - think Basel II). Banks talk about "Tier 1 Ratios."

This is not to understate the confidence crisis; it is very important, as well. I used to work on financial institution capital raising, and a lot of the work was around sending the right message. Banks in need of capital were/are concerned that that a falling stock price would motivate customers to withdraw their deposits. From a bank regulatory standpoint, customer deposits are part of your capital base. As that begins to erode, all of the other negatives follow and it, indeed, becomes a vicious circle. This is precisely what happened to WaMu, and what many other regional banks were/are worried about.
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You're talking about S&L banks... these don't apply to investment banks... I was purely referring to the old dilemma of Investment Banks (Goldman, MS, ML, Bear, Lehman etc.) These do not follow Basell or Tier ratios...

Carrytrade, just a clarification but bank deposits are not part of a bank's capital ratios as calculated for either regulatory or rating agency capital ratios. It is a liability not part of equity. But you are right, the erosion of deposits was the reason why the bank Wamu failed. With major deposits outflow after the Lehman failure and no way to reduce their assets in a timely manner, the bank's day-to-day funding sources were running precariously low. Regulators saw the negative trajectory, stepped in before they went bankrupt and forced a sale to the highest bidder who happed to be JPM.

Kuka, another way to look at the correlation with falling share prices and capital-raising is to know they are both caused by another issue, expectation of increased future losses. The losses are going to discounted into the company's stock price as the company's future earnings is revised downwards. Increased losses are also going to eat into shareholder equity and worsen your capital ratios (i.e. equity/assets). As a bank, a highly regulated entity, you have to have certain amounts of capital as a margin of safety for investors that the bank won't get wiped out from additional unexpected losses. To increase capital ratios, you have to go issue some more stock.

Also on a side note, "old-style investment banks" are regulated by the SEC. Or if they run off and become a bank holding company then they are also regulated by the Fed. But the banks themselves, subsidiaries of the holding company, can either be nationally chartered or state chartered and regulated by, respectively, the OCC or the state's banking department. There are regulators for different type of banks such as the OTS for thrifts. Other regulators such as the FDIC get involved because of the deposits that banks all hold, but I'll stop here...