Heritage Bank in Jonesboro, Ga., faced a pair of massive challenges as it tried to recapitalize and redeem its debt. Not only was it under a consent order, but its regulator was also its main creditor.
The $375 million-asset bank completed a recapitalization last month, a tricky feat that involved buying back its trust-preferred securities from the Federal Deposit Insurance Corp.
Heritage is one of the first banks to buy back trust-preferreds from the FDIC, and the transaction was closely watched by many community bankers who could use it as a model. The FDIC holds $150 million of trust-preferred debt in 48 lenders, according to the agency.
Regulators "were very careful in the way they handled it because they were setting a precedent," Heritage Chief Executive Leonard Moreland said. "It was a long, arduous process, but they negotiated in good faith and ultimately we reached a fair solution for everybody."
The FDIC acquired $7.5 million of Heritage's trust-preferred debt from the 2009 failure of Silverton Bank, a correspondent lender that bought and sold trust-preferreds for many Georgia banks. Two other Georgia banks held $1 million total of Heritage's trust-preferreds.
The FDIC accepted roughly $3.3 million for the debt plus accrued interest, or about 44 cents on the dollar.
Reaching that agreement involved multiple rounds of negotiation with federal and state regulators as well as the other trust-preferred holders, while keeping investors on board through two postponements of the capital raise.
The FDIC has no formal policy regarding its trust-preferred debt, agency spokesman Andrew Gray said.
"We consider offers, and each one is unique to the institution," he wrote in an email.
More bank holding companies have filed bankruptcy in similar situations lately, but Heritage retired its debt without resorting to Chapter 11.
Trust-preferred securities allow banks to defer paying interest for five years, after which time the creditor can demand full payment. There are more than 450 companies that have defaulted on trust-preferreds or are approaching default, Fitch Ratings said in June.
"Not at any time did the FDIC or the two banks that owned our securities try to declare us in default or force us into bankruptcy," Moreland said. "But ultimately, we had borrowed the money, and we wanted to pay it back."
Heritage's hometown is about 12 miles south of Atlanta and was hit hard by the recession. Heritage is the last community bank standing in the counties it serves, after 11 competitors failed since the financial crisis, Moreland said.
Heritage survived, despite losing nearly $24 million from 2008 to 2011. After returning to profitability in early 2012, the bank made it a top priority to solve its trust-preferred problem. Default was still a ways off it didn't reach the end of its deferral period until last March but the bank wanted to act quickly.
"We could see what was coming," Moreland said.
Potential investors were concerned about the outstanding trust-preferreds. Yet the bank and its holding company, CCF Holding, are under regulatory orders that bar the bank from making payments to creditors without regulatory permission.
In other words, the bank's consent order with the FDIC effectively barred it from paying its debt to the FDIC. Moreover, the Federal Reserve Board wanted any money raised to support the bank, rather than paying off the holding company's debts. The Fed declined to comment for this story.
Heritage lined up investors by making the recapitalization contingent on its repaying at least 75% of the trust-preferreds. After securing commitments for about $5 million from local investors early last year, the bank made an offer for discounted repayment to the FDIC, and then asked the Fed to approve the payment.
That began a long, three-party negotiation. The bank's first meeting with the regulators was in August 2013, and the agreement wasn't signed until ten months later.
"My hat's off to the regulators," said Shaun Dalton, a managing director at Community Capital Advisors who helped negotiate the deal. The FDIC and Fed "have two separate agendas," and satisfying both was not easy, he said.
"The FDIC might say, 'We feel like we could get comfortable with your plan,' and so then you go to the Fed. And if they can't get comfortable, you have to go back to the FDIC," Dalton said. "The two don't generally pick up the phone and call each other."
"It's not for the faint of heart," added Brennan Ryan of Nelson Mullins, who also worked on the deal. "You've got a circular web of considerations and concerns, and you just keep going around and around in a circle until everybody comes to a consensus."
The FDIC proved a hard, but fair, negotiator, Ryan said. "Some people might think, 'It's the government maybe they'll be a pushover,'" he said. "Nobody is a pushover. It was a tough negotiation."
Ultimately, the FDIC accepted a five-year note at 5.5% in exchange for its stake. The other two debtholders, Affinity Bank in Atlanta and Queensborough National Bank & Trust in Louisville, Ga., took preferred stock in exchange for their $500,000 stakes.
Moreland is gratified that nearly all the original investors stuck with the bank even though the closing of the capital raise was delayed twice.
"All of our investors are customers of our bank, and we've always prided ourselves on helping the folks in our community meet their financial goals," he said. "Here was a chance to help us in one of our financial goals, and they really stepped up."
Moreland knows he's lucky that redemption was even an option. Most trust-preferred debt has been bundled in collateralized debt obligations and sold to investors, making it impossible for banks to identify the holders of their notes, much less negotiate repayment.
For the banks that still have trust-preferred securities held by the FDIC, the deal is an encouraging sign.
"There have been a lot of banks that are sitting on the sidelines waiting to see how this transaction plays out, and ultimately it shows a willingness on the FDIC's part to deal with the [trust-preferred] issuers," Dalton said.
Moreland thinks bankers with trust-preferred debt should follow Heritage's path, if they can.
"Don't ignore it. I have a lot of friends, a lot of other community bankers, who have been ignoring the issue. Just approach it head on," he said.