Do We Need Regulatory Consolidation for PE Bank Investments?

Yesterday FDIC Chairman Sheila Bair provided a relatively fruitless update on the FDIC’s plans for future private equity investments banks. It’s been a week since four buyout firms took control of BankUnited, the second-costliest bank to fail in the financial crisis, and almost a year since J.C. Flowers and crew took over IndyMac, the most expensive bank failure of the crisis. Yet with the bank investment regulations unchanged, the issues over control, regulation, and risk-bearing on such deals haven’t been addressed. More than 300 banks could fail, according to the FDIC’s “problem list,” but buyout firms, ready to deploy capital, are no closer to knowing how to proceed.

Earlier this week I spoke about these issues with Kevin Petrasic, former special counsel at the Office of Thrift Supervision, currently of counsel in the Banking and Financial Institutions Group at law firm Paul Hastings. A few takeaways:

  • Right now, the Federal Reserve, the Office of Thrift Supervision, The Office of the Comptroller of the Currency, and the Federal Deposit Insurance Corporation all have their own specific guidance for bank investments. This overlap makes the prospect of buying a bank all the more complicated. Petrasic said consolidation between regulatory bodies is one way to provide greater guidance for private equity banking investments, but such an overhaul would take years. In the short term, the best private equity can hope for is interagency coordination and joint guidance.
  • Another big issue is flexibility. Sheila Bair said she hopes to create some “generic rules.” But Petrasic noted that every bank is in a very specific situation, which requires a unique set of terms. “The real challenge is that there has to be flexibility and consistency in the new guidelines,” he said.
  • Buyout firms have been vocal on their desire to purchase controlling stakes in banks. With less than 25% ownership they’re currently permitted, they can’t oust underperforming management in the hassle-free manner with which they’re accustomed. Could the government choose to simply do away with the 25% ownership ceiling? Petrasic said it’s doubtful. That would require a statutory change, and “folks on the Hill have strong views regarding the mixing of banking and commerce,” he said. The trick is to somehow change the stake ceiling without running afoul those opinions, he said.
  • The other issue is that of receivership. As it stands, buyout firms aren’t incentivized to invest in banks before they enter receivership. Investing after the FDIC steps in is more attractive since the FDIC offers loss sharing after a bank is in receivership. Unfortunately, the FDIC cannot provide a benefit to shareholders and bondholders on an open bank unless it’s large enough to pose a “systemic risk.” That rules out a lot of middle market action on many of those 300 “problem banks.”