On June 29, 2010, the Senate voted to commence debate on the Small Business Jobs and Credit Act of 2010, a bill passed by the House on June 17, 2010 which includes a $30 billion fund for small business lending through the provision of capital to community banks. This legislation would implement the program described in President Obama’s State of the Union address earlier this year. Obama has promoted the program by saying that it “takes money repaid by Wall Street banks to provide capital for community banks on Main Street” that can in turn help small businesses create jobs. In the latest version of the bill presented to the Senate, certain banks with less than $10 billion in assets would be eligible for government infusions of capital, dividend payments on which would decrease with increasing levels of small business lending. Banks are also generally permitted to use this capital to refinance existing TARP obligations. The substitute amendment currently before the Senate cuts out a provision of the House bill to permit eligible banks to amortize recent real estate loan losses over as many as 10 years.
The original Obama proposal called on Congress to transfer TARP money to create the fund, but the fund has evolved as a completely separate initiative. Acknowledging this possible confusion, Section 3111(a) of the bill specifically provides that the fund “is established as separate and distinct from the Troubled Asset Relief Program established by the Emergency Economic Stabilization Act of 2008” and that an institution “shall not, by virtue of a capital investment under the Small Business Lending Fund Program, be considered a recipient of the Troubled Asset Relief Program.” Proponents continue the political battle to detach this potentially negative association from a bill that would target recovery on Main Street.
The Small Business Lending Fund
Title III of the bill currently before the Senate establishes the fund and authorizes the government to make up to $30 billion in capital investments into eligible institutions. These investments would be similar to TARP infusions but would not result in executive compensation and other restrictions. Banks up to $10 billion in assets would generally be eligible to apply for funding. However, the Small Business Lending Fund will not be a source of capital for the banks most in need of additional capital. Banks on the FDIC’s Troubled Bank List (generally those with composite CAMELS ratings of 4 or 5) would be ineligible to participate. As with the Capital Purchase Program, the program is designed to provide assistance to otherwise healthy institutions. Each institution’s primary federal banking regulator will continue to have a significant say in whether the institution should receive any funds under the Small Business Lending Fund.
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We are aware of several fraudulent emails circulating purporting to be from the FDIC. Subject lines include: “FDIC has officially named your bank a failed bank” and “FDIC Alert: you need to check your Bank Deposit Insurance Coverage.”
These e-mails and the associated Web site are fraudulent. Recipients should consider the intent of these e-mails as an attempt to collect personal or confidential information, some of which may be used to gain unauthorized access to on-line banking services or to conduct identity theft.
The FDIC does not issue unsolicited e-mails to consumers. Financial institutions and consumers should NOT follow the link in the fraudulent e-mail.
The FDIC has released a special alert confirming that these announcements are not from the FDIC.
The official FDIC website does contain useful information if you have questions about FDIC insurance; alternatively, we encourage you to contact your bank if you have questions about whether your deposited funds are insured.
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Background
On July 2, 2009, the Board of Directors of the Federal Deposit Insurance Corporation (“FDIC”) issued for public comment a proposed Statement of Policy that sets forth the qualifications for private equity investors in failed bank acquisitions (the “Proposed Policy”). The FDIC established a 30-day comment period and sought public comment on nine topics:
- definition of private equity investor and scope of the policy;
- permissibility of “silo” structures;
- capital requirements;
- applicability of the source of strength doctrine;
- imposition of cross-guarantee liability;
- restrictions on bidders from bank secrecy jurisdictions;
- post-investment holding period;
- possible limitations on 10% investors in failed institutions; and
- length of restriction period.
On August 26, 2009, the FDIC issued its Final Statement of Policy on Qualifications for Failed Bank Acquisitions (the “Final Policy”). The FDIC notes that the policy statement is just that—a statement of policy and not a statutory provision imposing civil or criminal penalties and that the requirements it imposes on investors only apply to investors that agree to its terms.
In response to 61 comment letters from a broad variety of interests, in the Final Policy the FDIC reduced the proposed capital requirements, removed the proposed “source of strength” requirement, and increased the ownership threshold for cross-guarantee liability. These changes are intended to make the failed bank acquisition opportunity more attractive for private equity investors, while retaining many of the other elements of the Proposed Policy that address the FDIC’s apparent concerns about such investors.
The Final Policy is relevant only to bidders for failed financial institutions. Investors seeking to acquire control of banks that have not failed should refer to the Bank Holding Company Act and the relevant regulations and policy statements issued by the Federal Reserve Board including, but not limited to, the policy statement issued by the Federal Reserve Board on September 22, 2008 that eased certain limitations on private equity investments in banks and bank holding companies. This policy statement is summarized in our prior client alert on private equity investments generally. Investors seeking to acquire control of federal savings institutions that have not failed should refer to the Home Owners’ Loan Act and relevant regulations issued by the Office of Thrift Supervision. These existing holding company statutes and regulations are not replaced or substituted by the Final Policy. The Final Policy merely adds additional limitations and requirements in the context of acquiring failed financial institutions.
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We have advised a number of banks on the feasibility of bidding to acquire the assets of failed institutions. The loss sharing arrangements currently being offered by the FDIC can be an attractive means to increase market presence or to expand into new markets.
The specific criteria used by the FDIC will vary from project to project based on the characteristics of the troubled institution, the time available for marketing, and other factors. However, the FDIC has indicated the following base criteria:
Supervisory Criteria:
- Total Risk Based Capital ratio of 10% or higher
- Tier 1 Risk Based Capital ratio of 6% or higher
- Tier 1 Leverage Capital ratio of 4% or higher
- CAMELS composite rating of 1 or 2
- CAMELS Management component rating of 1 or 2
- Compliance rating of 1 or 2
- RFI/C rating of 1 or 2
- CRA rating of at least Satisfactory
- Satisfactory AML Record
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SunTrust Robinson Humphrey has created a depressing slideshow of Atlanta’s residential and CRE properties in development (or in lack of development). From the SunTrust Robinson Humphrey report:
While the city’s residential real estate lot inventory woes are well known to the investment community, we believe the extent of inventory in CRE property types like office and retail centers is not fully appreciated. We took some photos of residential and CRE properties around Atlanta, which is admittedly a small sample. Based on our observations and the statistics, we believe there are significant and growing vacancies around the city, particularly in the outer suburban areas like Alpharetta and Cumming (North of Atlanta). We witnessed particularly high vacancy rates in numerous outer suburb strip and neighborhood retail centers. Atlanta’s retail vacancy rate was 9.9% at the end of 1Q09, compared to the national average rate of 7.2% and Atlanta’s 4Q08 level of 9.0%. This is the sixth highest level of retail vacancy among the 63 major U.S. retail markets. Moreover, Atlanta led all major U.S. markets in aggregate retail space delivered during 1Q09, with 1.7 million square feet hitting the market.
On March 3, 2009, the FDIC published Financial Institution Letter FIL-13-2009 on the use of volatile or special funding sources by financial institutions that are in a weakened condition. The guidance generally suggests that banks should be run safely and soundly.
Directors and officers of institutions that are in a weakened financial condition are expected to oversee the operations of these institutions in a way that stabilizes the risk profile and strengthens the financial condition. Actions taken by a weak financial institution to increase its risk profile are inconsistent with this expectation.
While the guidance is overly broad, we believe the FDIC guidance may be focused on two practices:
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Over the last two weekends, 60 Minutes has aired two interviews that are directly relevant to community bankers.
On Sunday, March 15, 2009, Federal Reserve Chairman Ben Bernanke sat down with 60 Minutes for a rare interview. Chairman Bernanke discusses the current financial condition of the country as well as the actions taken by the Federal Reserve to address those conditions. (Video: Part I, Part II)
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On February 6, 2009, the Wall Street Journal ran a story indicating that the Treasury Department is shifting away from a “bad bank” concept and towards a second round of capital injections. This second round of capital injections, according to the Wall Street Journal, would carry stricter terms than the current TARP Capital Purchase program and would be targeted towards weaker banks.
Instead of buying preferred shares, as it did before, the government is discussing taking convertible preferred stakes that automatically convert into common shares in seven years.
To get money, banks would likely have to pay a higher dividend to the government than the 5% rate the government charged in the first round of infusions and agree to a host of new restrictions, such as lending above a baseline level, reporting frequently on their use of the money and curbing executive salaries. While Treasury wouldn’t preclude healthy banks from participating, the stricter terms would likely attract primarily weaker banks in need of capital.
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On January 27, 2009, the FDIC proposed to amend its regulation relating to interest rate restrictions on institutions that are less than well capitalized. The proposed regulation would tie the interest rate caps to published national interest rates and eliminate the concept of local deposit market areas.
Section 29 of the Federal Deposit Insurance Act places statutory limitations on the ability of any insured depository institution that is not well capitalized to accept funds obtained by or through any deposit broker. Because of the statutory definition of a deposit broker, these limitations also limit the interest rates which may be paid by insured depository institutions that are less than well-capitalized. In order to be considered well-capitalized, an institution may not be subject to any written agreement or order issued by its primary federal regulatory which requires the institution to meet and maintain a specific capital level for any capital measure.
Under the existing regulations, any institution that is not well capitalized (including any institution subject to a regulatory enforcement action with capital requirements) may generally not pay interest in excess of 75 basis points over the average interest paid for comparable deposits in the institution’s “normal market area.”
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Changes to Loss Share Transactions Forthcoming
We understand that the FDIC is substantially changing the loss share formula structure, applicable to all bids made after March 31, 2010. The material changes include:
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