FDIC Seeks Limits on PE Firms' Failed Bank Buys

WASHINGTON — Private equity investors seeking to buy the growing number of failed banks would be limited from lending to their investors and investment funds, and would have to make sure the new bank remained well capitalized under a new proposal from regulators.

The Federal Deposit Insurance Corp.'s board of directors on Thursday voted to seek comment on a proposal that would set new limits on allowing private equity firms to purchase failed banks. The staff proposal calls for investors to maintain certain capital levels at the acquired bank — a minimum 15% Tier 1 leverage ratio for at least three years — and would put other restrictions on ownership changes and where credit can be extended.

"There is a significant need for capital and there's significant capital out there ... We want to accomodate that, but accomodate it in a way that is prudent," FDIC Chairman Sheila Bair said in a statement.

The proposal comes as U.S. banks are failing at levels not seen since the early 1990s. In total, 70 banks have been shut down since the beginning of 2008, including 45 already this year.

The FDIC, which protects consumers' deposits, is responsible for negotiating to sell the assets of failed institutions. That market is increasingly attractive to private investors who have available capital and see an attractive investment opportunity.

Regulators, however, are wary that private investors may not be committed to the long-term ownership of a healthy bank and that allowing some firms into the market could just result in future bank failures.

"We are particularly concerned with the owners' ability to support depository institutions with adequate capital and management expertise," Bair said.

The FDIC's five-member board voted unanimously to seek comment on the proposal, but divisions among the members were obvious. Comptroller of the Currency John Dugan said he was concerned that some of the restrictions are too onerous, and suggested they should be scaled back before a final rule is put in place.

Dugan was not alone in his concerns. The requirement to keep the bank "well capitalized" even after three years and other restrictions that could affect smaller shareholders could dissuade private equity firms from buying banks, said Lawrence Kaplan, an attorney at Paul, Hastings, Janofsky & Walker LLP.

"Even in proposed format, it's very frightening to entities that are not used to dealing with the government," Kaplan, a former attorney at the Office of Thrift Supervision, said of the proposal.

Jane Storero, a partner specializing in corporate banking at Blank Rome LLP, said any new requirements could make private investors think twice about buying a failed bank, but that the three-year requirement wouldn't be an automatic deterrent.

"It's going to come down to when they crunch the numbers, whether these additional capital requirements and other restrictions will work for them," Storero said. "If the deal's good enough, they're going to jump in."

Beyond the capital requirements, the proposal would prevent certain types of investment structures from purchasing a failed FDIC-insured institution. Specifically, agency staff said it would not be appropriate to allow firms "involving complex and functionally opaque ownership structures" to buy a failed bank. Bair said the FDIC has already received bids from some firms whose legal structures raised red flags, which is one of the reasons they want to put the new rules in place.

Additionally, private equity firms would not be able to sell or transfer their interest in a purchased bank within three years without consent from the FDIC. The staff proposal said this limit would "ensure that investors are committed to providing banking services to the community ... and provide a continued link" between ownership and the FDIC.

The proposal will be open for comment for 30 days.

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