The Hidden Value in an S&L Charter
The S&L charter may be the most undervalued franchise available in the financial services industry, particularly in view of recent changes in commercial banking.
The franchise was damaged substantively and symbolically by the industrywide debacle of the late 1980s.
Just before the 1989 bailout law was enacted, it seemed that almost every healthy thrift wanted to become a bank, to avoid the high deposit-insurance costs and public opprobrium associated with S&Ls.
Since then, the chartering incentives have shifted dramatically. But the industry and its analysts have yet to recognize the new value in a properly managed S&L that takes full advantage of the flexibility still inherent in its governing laws.
Just on a simple cost-of-doing-business basis, the S&L charter is starting to stack up very well against a bank franchise. Bank deposit insurance costs have now risen to equal those applicable to thrifts and will almost surely surpass thrift levels by the end of the year.
Furthermore, ever since passage of the bailout law, thrifts can refer to themselves as FDIC-insured, substantially reducing public concern about the safety of their deposits. Thus, a major business incentive for flipping charters no longer applies.
Beyond these savings, though, lies even greater value.
The Financial Institutions Reform, Recovery, and Enforcement Act of 1989 imposed a series of banklike regulatory and capital standards, many of them long overdue.
But the flexibility and product diversity previously permitted to S&Ls were not eliminated.
The qualified thrift lender test, though a nuisance, does not limit the products a thrift can offer. In any case, the test is likely to be revised soon, so it should not be viewed as a permanent impediment.
The strategic value in a thrift charter for a retail-oriented financial institution derives from the following factors:
* State lines do not impede its expansion. A thrift can operate interstate through a single, integrated, branched structure, achieving the economies of scale that will only slowly be available to commercial banks.
* The Glass-Steagall Act does not apply to thrifts. Therefore, S&Ls can offer full-service brokerage, revenue bond underwriting, and other services directly. This obviates the need to establish a Section 20 subsidiary, a structure that is particularly dysfunctional for smaller institutions. Furthermore, an S&L can securitize its own assets and would not be subject to the provisions of the Treasury bill that would require banks to transfer such activities to an affiliate.
* Thrifts can offer insurance services without the restrictions generally applicable to banks. Insurance agency activities are particularly attractive concomitants to retail banking and fit well with the market segments that thrifts often target.
* There are no banklike impediments to thrift offerings of financial planning, tax preparation, and similar financial services that attract retail customers. Unlike bank holding companies, thrifts need not demonstrate that such services are "closely related to banking." They must, however, ensure that the Federal Deposit Insurance Corp. does not view them as a hazard to the insured depository - a thoroughly reasonable criterion. Since the bailout law, these activities must also be conducted in separate subsidiaries - again, no serious constraint.
The financial service possibilities inherent in a thrift charter are especially important during periods - like the present - when capital is in short supply.
These agency and underwriting activities carry a far lower capital cost than traditional intermediation.
Fee-based services such as an insurance agency, securities brokerage, and securitization generate revenues without the funding costs, regulatory burden, and capital requirements associated with traditional lending. This makes such services particularly profitable.
Thrifts that aspire to do more commercial lending than is permissible directly can, of course, decide to become savings banks. Those that do can call themselves banks - sometimes a significant advantage.
The Cost of Insurance
Savings banks are exempt from the qualified thrift lender test, and for deposit insurance they would pay lower Savings Association Insurance Fund premiums that will probably soon apply to thrifts.
However, savings banks are subject to the same limits on securities and insurance powers as commercial banks. The charter thus offers few strategic advantages related to those very important fee-based services.
No nostalgia should be wasted on the old-fashion S&L, cushioned by regulated interest rates and cosseted by lax capital standards and lending limits.
By ending the unsafe regulatory practices that used to govern thrifts, the bailout law cleaned the tarnish off the industry. At the same time, it retained much of the flexibility inherent in an S&L charter.
Now that it's all cleaned up, the thrift charter is definitely ready to go.
Ms. Shaw is president of the Institute for Strategy Development, a financial services consulting firm in Washington.