Fitch Ratings says two distinct structures have emerged for Basel III-compliant Tier 2 instruments issued by New Zealand banks, with equity conversion expected to be the primary method of loss absorption.Two recent transactions were given as examples. The first was a NZ$400m ASB Bank deal, issued directly to investors in April 2014. "The loss absorption feature requires conversion to ordinary shares of ASB's parent, Commonwealth Bank of Australia, if either ASB or CBA were deemed non-viable by their respective regulators," said Fitch."The notes would be written-off in full if equity conversion was not possible, for example if conversion is prevented due to legal issues."The second structure was used in a Kiwibank NZ$100m deal, launched earlier this month and due to be issued in June 2014. In this structure, a special purpose vehicle owned by Kiwibank's parent, Kiwi Group Holdings, was set up to issue notes to the public, using the proceeds to invest in Kiwibank's Basel-III Tier 2 instruments. "Under this structure only the Kiwibank instruments convert to ordinary equity in the bank on a non-viability trigger event. The capital notes issued by the SPV do not convert but become perpetual instruments and coupon payments become non-cumulative which link to dividends (if any) paid on Kiwibank's ordinary shares," the agency said. Fitch expects the major NZ banks to use the ASB structure for future Basel-III Tier 2 issuance as it allows the instrument to receive regulatory capital recognition from both the New Zealand bank and its Australian parent. "Further issuance of these instruments is likely, as the major banks seek to diversify their capital mix and/or bolster total capital ratios," the agency said."Smaller, domestically-owned financial institutions with unlisted parents are likely to use the second structure, although it would require them to establish holding company structures which could become costly," Fitch said. The rating agency said it does not expect smaller domestically-owned financial institutions to be frequent issuers of Basel-III compliant instruments "as their core capital ratios are generally strong and current growth projections do not appear to put these ratios under pressure."