Blackstone, Centerbridge offer alternatives to FDIC rules

A group of private equity firms, including The Blackstone Group, Centerbridge Partners and TPG, have proposed various changes to the Federal Deposit Insurance Corporation’s draft rules that would govern the ownership of failed financial institutions by private investment firms.

The group, which also includes Oak Hill Capital Partners, Lightyear Capital, Irving Place Capital and Corsair Capital, sent a letter to the FDIC this week just before the public comment period of the FDIC’s proposed rules came to an end.

All of the firms are interested in investing in the financial services sector, and many of them have been part of recent bank deals.

The changes proposed by the private equity firms include allowing a lower required capitalisation rate for banks owned by private investment firms than what the FDIC has proposed; allowing small investors without controlling stakes to extend credit from the acquired bank to their portfolio companies and to eliminate the minimum hold period of at least three years the FDIC has proposed for private investment firm ownership of a failed bank.

“Private equity firms had approximately $470 billion of committed capital on a worldwide basis as of January 2009 and represent a tremendous resource that…could be effectively used to resolve failed banks and thrifts in a way that preserves jobs, enhances competition, increases the availability of banking services to local communities, and strengthens the diversity of our banking system,” the group, calling itself the Private Equity Commenters, said in its letter to the FDIC. The group’s letter was sent by law firm Simpson Thacher & Bartlett.

The FDIC created a draft set of guidelines in July for ownership of failed banks by private investment firms. The proposed rules have been in a 30-day public comment period.

The FDIC’s rules include requiring an acquired financial institution to be “very well capitalised at a Tier 1 ratio of 15 percent”. For example, a $100 million bank with a 15 percent leverage ratio would need to keep $15 million in the bank.

But, according to the private equity group, setting the initial capitalisation ratio “at such a high level” would put private investors at a competitive disadvantage to other bidders for failed banks. “Based on the most recently available data (31 March, 2009), a 15 percent Tier 1 leverage ratio would be 65 percent greater than the median ratio for large and midsized US banks and thrifts,” the group said.

“Singling out private capital investors for this increased capital requirement would exacerbate the existing financial disadvantage faced by private capital investors resulting from their generally limited ability to realise the cost savings often available to strategic buyers from branch closures, job and overhead reductions and similar synergies,” the group said.

Instead, the group proposed several alternatives to the 15 percent Tier 1 leverage ratio option, including a leverage ratio of 8 percent, and “that any determination to set a higher capital lever be done on a case-by-case basis taking into account the quality of the capital contributed, the strength and experience of the management team, the risk inherent in the business plan”, the group said.

The FDIC also proposed barring investors from using credit from acquired financial institutions to support their portfolio companies. The restriction should only apply to investors “with a significant ownership stake (at least 10 percent)”, the group said.

“Many private capital investors are part of large and complex groups with numerous (sometimes hundreds) of portfolio companies. Implementing procedures to deter and prevent any of those entities from inadvertently obtaining an extension of credit from the relevant depository institution would generally be cumbersome and expensive,” the group said.

“The burdens of investors contemplating a small investment would outweigh the benefits of such a restriction and would significantly discourage investors from making small investments.”

Also, the FDIC proposed private investors be required to hold troubled banks for a minimum period of three years, a rule the group says is not necessary, but if included, should be cut down to 18 months.

“The holding company in which the investors invest …should be able to conduct an initial public offering and follow-on offerings of its own securities without the need for FDIC approval,” the group said.

The FDIC will consider the public comments it received and decide if any changes need to be made to the proposed rules. FDIC officials have given no timeline for a final ruling.