Fed Guidelines Seen on Bank Investments

NEW YORK (Reuters) – The U.S. Federal Reserve is looking into proposals for private investment in banks and may come up with further guidelines on how such deals could work, two prominent banking lawyers said on Monday.

Such guidance could clarify under what circumstance and deal structures a private investor in a bank would be deemed to have control of the institution, said Sullivan and Cromwell’s Michael Wiseman and Mitchell Eitel at the Reuters Global Finance Summit in New York.

The guidelines are expected to focus on issues such as an investor group’s relationship with the bank’s management, the voting rights they have and how the deal was put together, said Eitel, a partner in the elite law firm’s financial institutions group.

“Those are the kind of factors that the regulators are looking at, and I think they will generate guidance based on that,” said Eitel, whose recent work includes advising private equity firm J.C. Flowers in its investment in failed IndyMac bank, and Wachovia Corp in its takeover by Wells Fargo (WFC.N: Quote, Profile, Research, Stock Buzz).

“Among the regulatory and legal staff at the Fed, other than failures this is the thing they say they are working the hardest on,” Eitel said.

The Federal Reserve could not immediately be reached for comment.

In September 2008, the Federal Reserve relaxed bank ownership rules for private equity firms, allowing an investor to buy up to a 15 percent voting stake instead of the previous 9.9 percent limit. It also allowed investors to buy up to 33 percent total equity interest, including voting and nonvoting shares, instead of the 25 percent prior limit.

But those rules only went so far in solving existing problems.

Separately, in August 2009 the Federal Deposit Insurance Corp came out with new rules on private equity firms investing in troubled banks, imposing stricter capital requirements on such firms than rival bank bidders.

Private equity firms remain attracted to the sector, seeing the opportunity to turn around troubled institutions at profit. But they worry about being deemed in control of banks and becoming bank holding companies, as that could restrict their activities in other sectors.

So firms have been coming up with new ways to structure their investments in banks while staying below the thresholds that would make them considered in control of these institutions. Not all of these deal structures, though, have been given an all-clear by regulators and lawyers say there is need for further clarity on how regulators will determine control.

Wiseman, a managing partner of Sullivan & Cromwell’s financial institutions group, said he expected regulators to stick to an incremental approach in any new guidelines they issue.

“They have been very receptive to considering these structures,” said Wiseman, who represented Goldman Sachs Group Inc (GS.N: Quote, Profile, Research, Stock Buzz) in its conversion to a bank holding company, among other deals.

But he added, “The agencies are understandably concerned about creating precedent.”

The regulators have a difficult job in thinking about what the boundaries are for nontraditional investors, the lawyers said.

“It all falls in with what does it mean to have or not have control for statutory purposes,” Eitel said. “There are a lot of touchy-feely factors in that evaluation.”

 

(Reporting by Paritosh Bansal, Additional reporting by Megan Davies; Editing by Phil Berlowitz)