FDIC to Soften Stance, Luring Private Capital

Reuters
August 27, 2009

U.S. regulators are likely to back down from the tough stance they took a month ago on rules for auctions of troubled banks, which could clear the way for more private equity bidders to come back into the game.

The Federal Deposit Insurance Corp (FDIC), voting on final guidelines on Wednesday, is still likely to make it hard for private investors to buy failed banks, but is seen rolling back some of the most controversial measures following vociferous complaints from the industry.

Regulators are trying to reach a middle ground with the private equity industry because it represents a crucial source of capital as the United States tries to resuscitate its struggling banking industry.

"The potential pool, from us and other private equity firms, could be a hundred billion dollars -- its a huge amount of money that's at stake," billionaire investor Wilbur Ross told Reuters. He estimates that up to 500 banks could fail between now and the end of 2010.

The biggest complaint from the industry has been that the proposed rules called for a Tier 1 leverage ratio -- the ratio of a bank's capital to its assets -- of 15 percent for three years, above 5 percent required of well-capitalized banks.

The FDIC may roll that back to 10 percent, two sources familiar with the process said. One of the sources said there were some questions about whether the level would be a fixed number or a range of perhaps 8 percent to 10 percent.

The sources declined to be identified because the rules are not public.

Some experts argue that even at 10 percent it will be more expensive for private equity to buy a failed bank than for a strategic bidder, such as a well-capitalized large bank.

"I don't think an imposition of 10 percent will keep people like us from bidding," BankUnited Chief Executive John Kanas told Reuters. "But having a higher level of capital like that would be reflected in our bid."

Kanas led a consortium that included private equity giants Blackstone Group, Carlyle Group and Ross to take over failed Florida lender BankUnited earlier this year. Kanas did not expect the FDIC to want to change the terms of the BankUnited deal in light of the new guidelines, but hold them to the new standard in the future.

The FDIC, led by Chairman Sheila Bair, regulates more than 8,000 banks and insures their deposits. It has said it needs to issue tough guidelines to ensure that private equity groups are interested in nursing ailing banks back to health.

"The only way that private equity gets any bank ... is by bidding more than the commercial banks would bid," said Ross. "There's really no need to have draconian rules when the process already calls for competitive bids."

RULES ROLLBACK

Another guideline causing concern among the private equity industry says investors would be expected to serve as a "source of strength" for the bank they buy, which could put them on the hook for more capital if the institution struggles.

However, the FDIC may make it such that the holding company can raise capital, so that it doesn't necessarily have to come from the investors themselves, the first source said.

A cross-guaranty proposal -- meaning if a company owns more than one bank the FDIC can use the assets of the healthier bank to cut losses from the one that's faltered -- could also be modified, both sources said.

A guideline, which calls for a minimum holding period of three years for the investments, is less likely to change, both sources said.

FDIC spokesman Andrew Gray said, "We have taken the feedback of all stakeholders into account as we have worked to craft a final rule."

HEAVIER BURDEN

Despite a marked pull-back from the FDIC's initial proposals, the new rules will impose a heavier burden on private equity investors. But they may still find they can achieve high enough returns to make investments in U.S. banks worthwhile.

Indeed, the threat of tough rules did not stop private equity investors from bidding on FDIC-run auctions.

An auction for the assets of failed Texas lender Guaranty Financial Group this month drew a bid from at least one private equity consortium, which included Blackstone, Carlyle and TPG. A U.S. unit of Spain's BBVA won the auction.

The FDIC is correct in toeing a hard line, said John Chrin, a former JPMorgan Chase & Co investment banker who is now executive-in-residence at Lehigh University's College of Business and Economics.

"They (FDIC) staked out a position that was probably overly conservative to start. The PE firms wanted to be where the industry is," said Chrin, referring to the lower capital requirements for well capitalized banks. "And you wind up settling in between."

U.S. Gets Tough on Funds Trying to Buy Failed Banks

By Edmund L. Andrews, The New York Times
July 2, 2009

Federal bank regulators toughened policies on Thursday that have allowed private equity firms to buy up failing banks, saying they were worried if such investors would have enough capital and the willingness to run the banks in a “prudent manner.”

The surprisingly tough rules came as a blow to high-rolling private equity firms, which control vast amounts of capital and have been pushing for greater ability to buy up failed banks at bargain prices from the government.

The Federal Deposit Insurance Corporation adopted tentative rules that would require banks owned by private equity firms to have three times as much capital as ordinary banks.

Private equity firms also would not be able to sell their stakes for three years. Firms would also have to make commitments about providing subsequent financing if the banks need it, and they would have to disclose much more than many do right now about their own ownership structures.

The F.D.I.C. has seized 45 banks and thrift institutions so far this year and 70 in the last year, more than in any year since the Great Depression. The wave of bank failures is seen as far from over.

The F.D.I.C., which insures customer deposits, is responsible for seizing insolvent banks and usually tries to find new buyers for them in order to minimize the potential losses to taxpayers.

But officials said they had numerous concerns about whether private equity firms would provide additional capital if a bank’s problems deepened. They also expressed discomfort with the sometimes opaque ownership structures that some investment firms have been proposing.

“Obviously, we want to maximize investor interest in failed bank resolutions,” said Sheila C. Bair, the chairwoman of the F.D.I.C. However, she said, she did not want to see the same institutions fall into a failed state again.

Ms. Bair said she was also concerned that the ownership proposed by some private investment firms was murky. “We have seen bids where it has been difficult to determine actual ownership. We have seen bidders who have wanted permission to immediately flip ownership interests.”

In the rules outlined on Thursday, private equity firms that own more than one bank would have to provide “cross-guarantees,” under which they would use capital from a healthier bank to shore up a weaker one. The investment firms would also have to accept limits on their ability to extend credit to other affiliates, and they would have to make sure that their banks remain well capitalized.

Industry executives said the new rules would be unworkable and prevent their putting new money into deals that might alleviate the banking crisis. But they held out hope that the F.D.I.C. would relax its requirements after it received public comment on its proposals.

“We believe that the F.D.I.C.’s proposed guidance would deter future private investments in banks that need fresh capital,” said the Private Equity Council, a trade association for firms like the Carlyle Group, J. C. Flowers and Stone Castle Partners, all of which have been actively seeking to acquire banks.

The new guidelines will go into effect immediately, but the F.D.I.C. asked for comment on its requirements and said it would consider changes based on the reaction it received.

“I remain open-minded on many aspects of this proposal,” Ms. Bair said.

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