ANALYSTS at Goodbody Stockbrokers do not believe AIB will repay €3.5bn owed to the National Pension Reserve Fund but instead think the State's investment arm will convert the debt into more shares in the bank that is already more than 99pc state owned.
In a note to investors, Eamonn Hughes of Goodbody said he thinks AIB's €3.5bn of "preference shares", which are held by the National Pension Reserve Fund on behalf of the State, will convert to equity in the bank. A decision on how and when that will happen will be made before May 2014, he said.
Despite the name, preference shares are a type of debt owed by banks to investors.
In the case of AIB, the debt is part of the €20.7bn taxpayer-financed bailout of the bank.
The National Pension Reserve Fund is supposed to be paid interest of 8pc per year on the investment; however, to date, the interest has been paid in shares, not cash.
Goodbody said it expects the entire €3.5bn to convert into equity because of a punitive clause that will trigger a 25pc "step up", or increase in the amount owed, if the debt has not been repaid by May next year.
That looks unlikely, according to Goodbody, and its "base-case" scenario is that the instrument will convert into AIB shares.
Converting the preference shares into equity means that instead of being owed €3.5bn by the bank, the State's hope of recovering the investment rests on the value of the lender itself rising dramatically.
It would not mean the State has to put any fresh money into the bank, however.
The National Pension Reserve Fund bought preference shares in AIB and Bank of Ireland in 2009 as part of the bank bailout.
Bank of Ireland is likely to raise €700m to €1bn in order to finance paying off its €1.8bn of preference shares, Goodbody said.
However, Eamonn Hughes does not believe AIB will be able to tackle its preference shares before the "step up".
Goodbody first outlined its view on the capital needs of the banks including AIB in a note that was circulated to clients in May, but the note has never been published.
Its view was reiterated yesterday after rating agency Fitch said it thinks AIB and Bank of Ireland could potentially require more capital when the lenders financial strength is assessed in so-called "stress tests" next year.