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The Newest Scam from Wall Street: Investing in Private Equity Funds that Acquire Failed Banks
There is a great buzz in the marketplace about new private equity funds being raised to invest in failed banks. The story goes something like this: We are organizing a fund led by the former heads of federal regultory agencies with big time connections in Washington. These DC players are going to get a front-row seat to play in the sales process for failed banks being run by the FDIC. These funds claim that FDIC Chairman Sheila Bair is giving assets away for nothing and we are all going to make a lot of money in that old fashioned Washington way, namely slopping at the public trough.
Unfortunately none of the above is true. The representations that we are
hearing in the fund channel, both from the funds themselves and from our
clients who are receiving these solicitations, are wild and arguably
fraudulent. Some of these "offerings," if we can dignify them
so, arguably violate the fraud provision of the Securities Act of 1934 (which
governs all securities offerings, BTW, public or private). So when some
excited proprietor of a new fund formed to invest directly in failed banks
calls you, hang up the phone.
Consider a few data points based on my experience dealing with FDIC, with
banks that are acquiring failed institutions and with the handful of funds that we know which have actually taken the time and effort to comply with the legal and regulatory
requirements of becoming a bank holding company (BHC).
The first point to be made is that the FDIC is not -- emphasis not --
showing most failing banks to PE funds and other non-BHCs, period. The reason for this is
twofold.
First, the FDIC and other regulators do not believe that most funds have the financial and
managerial competence to operate a bank and they are right.
Second, the FDIC does not want to see these assets come back after the
sale. Thus the default option for selling a failing bank is to show the
opportunity to the growing number of banking institutions that have the
capital, management and operation skills necessary to take over a failed bank.
The next point is related to the first and is that most funds are not
configured to become a BHC. Most funds
require a veto on the corporate actions of portfolio companies that is unacceptable to regulators and a
violation of Reg Y. Also, a BHC must also
commit to be "a source of strength" to the subsidiary bank and to be prepared to
inject new capital when required. Most
funds cannot meet that test and thus cannot be a BHC.
For these and other reasons, the number of funds that have been successful
in gaining the approval for a "shelf charter" to become a BHC can be
counted on the fingers of one hand. And most of these organizations have
formed special C corporations to act as the BHC. That is, the entity buying the bank is not a PE fund. Got it?
The organizations which I advise that have achieved preliminary BHC status have been at the task for the better part
of two years. The cost of getting approval for a shelf charter from a) the Fed,
b) the OCC and c) the FDIC goes into the millions of dollars and the
requirements for approval are very tough, even with the changes made in 2008 to
the interpretation of Regulation Y and the other provisions of Section 12 of
the US Code.
Those members of the fund community who have not done so need to read the
interview we ran in 2008 with former FRBNY general counsel Ernie Patrikis 'A Change in Bank Control: Interview With
Ernest Patrikis', July 9, 2008. Ernie is a partner at White
& Case and is one of the most experienced lawyers who practices before the
Fed and other regulators with respect to BHC applications and change in bank control.
You can also read the 2008 rule approved by the FDIC, "Proposed
Statement of Policy on Qualifications for Failed Bank Acquisitions."
Unfortunately, few of the people we see running around the market trying to
raise funds to "invest in failed banks" seem to have actually read or taken legal advices
on any of these rules. And their lawyers don't seem to mind running the meter while they learn about the requirement for bank ownership.
The bottom line is this: If you want to deploy capital to invest in failed
banks, the best way to do so is to invest in the equity of banks that are
acquirers of failed banks. There are five such institutions on my
coverage list and dozens more in the FDIC universe. What we have been telling
our clients for more than a year is that the banks, and not funds, have the
front row seat that the failed bank auction. If you want to play, deploy
capital in strong, acquisitive banks. There are a growing number of funds that seem to understand this nuance, but far from a majority of the funds with whom we have contact.
And when the growing number of PE
fund charlatans show up at your doorstep with exciting stories about making big money by
investing directly in failed banks, just close the door and go back to work.
-- Chris
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the conclusions reached by this research are inaccurate and misleading. A list of 600 banks shows that IndyMac was the ONE one where the OTS and the FDIC took NO ENFORCEMENT action, NONE, NADA, ZILCH, ZIPPO . . . allowing IndyMac to take in $91 million of new deposits while it was in a death spiral and further allowing IndyMac to backdate a key deposit. It is not as though the FDIC and OTS were unaware. Some of their OWN employees recommended onsite examinations with no result. The official reasons given in the Audits of the OTS and FDIC OIG's (Offices of the Inspectors General) are that they had too many cases, and too many new, inexperienced employees, etc. WHOEVER WROTE THIS MUST HAVE BEEN A CANUBIS USER. Two bidders are not what the FDIC has divulged as its bigtime secret process auction. Nor has the FDIC told YOU that it spent over $7.6 million on a PR/lobbying campaign with Porter Novelli and Weber Shandwick, with OneWest spending over $13 million in PR for the IndyMac acquisition (nevermind legal fees). There's a term we use in the computer industry that applies here: GIGO GARBAGE IN/GARBAGE OUT.
How does this relate to the PPIP program?
http://www.financialstability.gov/latest/tg_11052009.html
http://www.financialstability.gov/docs/External%20Report%20-%2012-09%20F...
Lots of assets being acquired for less than par.
The author is incorrect
From SNL Financial:
"Friday, February 26, 2010 10:07 AM ET
Report: Former FDIC Chairman Issac leading investor group to buy failed banks"
bottom line is there really is no market provided profits here, just another way to extort the taxpayer into delivering his hard earned pittance into the banksters pockets at gunpoint. those of you who commented above who are profiting from this should really be proud of yourselves for licking up the few crumbs that the squid leaves for the peons.
I wish the point in the article is true, but is not. somehow I sense the author is defending FDIC. How about this, how long does it take for GS to be a BHC? I rest my case.
Hilltop Holdings is a very interesting play in this area.
"do not believe that most funds have the financial and managerial competence to operate a bank and they are right."
Should that not read?
'do not believe that most banks have the financial and managerial competence to operate a bank and they are right.'
A sucker and his money are soon parted.
More reasons wall street is ascam.
http://finance.yahoo.com/banking-budgeting/article/108943/8-reasons-wall...
Chris,
Great article. Why don't you revisit bank private equity fiasco of Doral Financial. An "innovative" (that dirty word again) structure involving several PE and hedge funds that formed an investor syndicate. Led by a Bear Stearns fund and including GE, Perry Capital, Marathon, DE Shaw, Tennenbaum, Canyon, GOldman and Eton Park, this group recapitalized the (nearly) failed Puerto Rico a few years ago for about $600mm. Fast forward a few years later, the stock is like $3 and the bank's choking on NPLs....oops!...incidentally, the banker at Bear Stearns whose hatched the Doral deal made a $25mm+ fee for the firm (insert Warren Buffett anti banker quip). The structure was shopped left, right and center to every crap bank in America apparently - bet those banks wished they bit before all those ARMs reset and crap RE loans ate through the interest reserve!
Best acquirers have been MBFI (acquiring Chicago area banks), NYB, EWBC, BBT (Colonial), in my opinion. Look for CYN, CFR, PRSP, IBKC, MTB and FMER to scoop up lions share of attractively priced assets coming in the next wave.
This author is misinformed in several regards. This coming from a PE investor who has navigated the issues with a few successful transaction already.
Cheers,
Bank Investor
I know of several funds looking to get into this market, with 700+ bank failures to go in this cycle, the FDIC will be more than accomodative to new money.
It's not a rumor
Sounds like the big rush towards distressed mortgage REITs (non-agency) a few months ago... PMT is one of them (about 20% below IPO value and yet to make a dime). Of course there were billions poured in the IPO based on the premise of buying distressed sub-prime and jumbo mortgages from folks who have a 575 FICO score...
I am pretty sure they will find some Canadian or US public pension funds to invest in these private equity scams. Governance gone by the wayside.
Leo wouldn't you think those pension funds, based on their getting totally smoked chasing returns via exotic stuff they didn't understand, would be getting as risk averse as possible? Are they not getting sued and/or fired for breaching their fiduciary responsibilities? Blaming the intermediary has its limit.
Nah, it's a big club, and they all scratch each other's back. It's business as usual at pensions and Wall Street. Greed rules, greed is good, blah, blah, blah...until the next time we get royally screwed.
This is a great article and thank you for sharing, Chris.
If people really want to invest in failed banks, I would recommend buying shares in C, WFC, STI, RF, BAC, PNC, MI, shall i go on.......
"slopping at the public trough"
Sounds like a capital offense? Guess I am just to conservative?
I thought the definition of "conservative" was "Wall Street".
Uhhhhh, take a look at Community Bank Partners based out of Colorado... Their whole objective is to profit off of failed assets backed by the FDIC. Look at who is backing the operation as well.
Yes this almost (if it wasn't for the highest re-guard for ZH) seems like a propaganda piece.
All these HF have to do is buy a majority of a bank to participate.
Having these debt's back-stopped by the FDIC is the money machine.
Market players see the OneWest bonanza (reported profit approximating the purchase price within a year) and see the favorable terms (shared - loss agreements using original loan amounts to reimburse for foreclosure losses) and the easy terms for putting the loans back to FDIC for R & W breach (if you can't get made more than whole by foreclosing, put the bum deals - most of them - back to FDIC). Why not play? The government should not be regarded as a sharp dealer, and the FDIC needs cash flow to keep their receivership and resolution engine running. OneWest (Paulson, Flowers, Sorps, Dell, et al, are not bankers, yet they are knocking the cover off the ball and FDIC just gave them a few more banks to play with. You say it take a long time to get BHC status yet GS / JPM etc. got chartered overnight. To me it looks like a rigged insiders' game, consolidation and more money gushing upward in another record harvest.
I met with one such fund several months ago. My impression was that they were well equipped to sail these waters and had strong connections with the FDIC regulators and bank chiefs. The investment sounded like a no-brainer...take assets with implicit FDIC support? Sign me up. If I can employ pension and foundation funds to benefit from this madness, I will.
BTW the PE fund was designed to buy the banks outright, including their charters, etc., not take carve out the assets.
What am I missing?
LOL
"First, the FDIC and other regulators do not believe that most funds have the financial and managerial competence to operate a bank and they are right."
Seems banks don't have "financial and managerial competence" either, eh?
No kidding, the OneWest guys are going to get incredibly rich off the FDIC, we are talking billions.