Buyout Firms Say FDIC’s Proposed Takeover Rules May Go Too Far

By Jason Kelly and Margaret Chadbourn

July 3 (Bloomberg) -- Private-equity firms said the Federal Deposit Insurance Corp. may be diminishing the appetite for future bank takeovers by demanding buyout groups put more capital at risk.

Under a proposal outlined by the FDIC yesterday, investor groups would act as a source of strength for “subsidiary depository institutions.” Buyout firms have expressed concern that expanding the so-called source of strength provision, which requires owners to support ailing banks, may impose obligations on minority investors.

“The FDIC’s proposed guidance would deter future private investments in banks that need fresh capital,” Douglas Lowenstein, president of the industry group the Private Equity Council, said in a statement yesterday.

The FDIC is courting private-equity companies that have about $400 billion to invest while trying to placate lawmakers such as U.S. Senator Jack Reed who have expressed fear that buyout firms may be lax stewards of the banking industry. Private-equity firms pumped more than $1 billion into U.S. banks, 52 of which have been closed by the FDIC this year.

The rules, subject to a 30-day public comment period, also require buyers to be well-capitalized for three years and to maintain a Tier 1 capital ratio of at least 15 percent. There’s also a provision requiring investors to own the bank for a minimum of three years.

‘Bad News’

“The dialogue has begun with respect to the rules and that’s a process that I think both sides would welcome,” said Thomas Vartanian, a partner at the law firm Fried Frank Harris Shriver and Jacobsen LLP in Washington. “The bad news is that the discussion has started in a way that suggests private equity investors should be treated differently.”

The plans would bar investment by so-called silo structures, in which a controlling investment would be isolated from a private-equity firm’s other holdings.

“The proposal may represent the starting point of an interesting compromise,” said Joseph Vitale, a partner at New York-based law firm Schulte Roth & Zabel LLP, who advises buyout firms on investments in financial institutions. “At first blush, the source of strength provision does not seem to be as problematic as it might have been.”

U.S. Comptroller of the Currency John Dugan and Office of Thrift Supervision acting director John Bowman, both members of the FDIC’s board, said the proposals may go too far.

‘Choke Off Capital’

The rule changes could “choke off capital,” Bowman said during the board meeting.

“We hope that the comment period yields changes that facilitate the flow of private capital into the banking system, consistent with the administration’s other efforts to address the financial crisis,” Lowenstein said in the statement.

The FDIC has worked on policy guidance for private-equity investors since January, after the sale of Pasadena, California- based IndyMac Bancorp to a group led by Steven Mnuchin, an ex- Goldman Sachs Group Inc. investment banker, and including buyout firm J.C. Flowers & Co.

The largest U.S. bank to collapse this year, Coral Gables, Florida-based BankUnited Financial Corp., was sold in May to firms including Blackstone Group LP and Carlyle Group LP, the world’s two largest private equity firms. Those buyers were told to hold the lender for at least 18 months.

The FDIC rules would require private-equity firms to disclose their ownership structure and provide details about their capital fund investments.

To contact the reporters on this story: Jason Kelly in New York at jkelly14@bloomberg.net; Margaret Chadbourn in Washington at mchadbourn@bloomberg.net