On May 6 2009 the Treasury Department, the board of governors of the Federal Reserve System, the Federal Deposit Insurance Corporation and the Office of the Comptroller of the Currency issued a joint statement announcing the imminent release of the Supervisory Capital Assessment Programme capital assessment of the 19 largest US bank holding companies and describing how those results should be understood. The joint statement also outlines the requirements applicable to bank holding companies that wish to redeem outstanding Capital Purchase Programme preferred stock.
The report focuses on a more adverse scenario for the target bank holding companies, both individually and in aggregate, and measures:
- their estimates of losses and loss rates across certain loan categories;
- the available resources to absorb such losses; and
- any resulting necessary additions to capital buffers.
More specifically, the report determines the ability of each target bank holding company to achieve a certain capital buffer, defined as a Tier 1 risk-based capital ratio of at least 6% and a Tier 1 common risk-based capital ratio of at least 4% by the end of 2010, "under a more adverse microeconomic scenario than is currently anticipated". The report focuses on Tier 1 common capital to reflect the fact that common equity is the first part of a capital structure to absorb losses and protect more senior parts of the capital structure.
The Supervisory Capital Assessment Programme is not a solvency test. The Supervisory Capital Assessment Programme buffer was designed to provide bank holding companies with excess capital above regulatory minimum requirements, even in the event of a worse-than-likely economic scenario. Therefore, the results of the report are not an indication of current inadequate capitalization or insolvency.
Any bank holding company that needs additional capital according to the report has until June 8 2009 to develop a detailed capital plan, to be approved by its primary federal supervisor and in consultation with the Federal Deposit Insurance Corporation, and has until November 9 2009 to implement such plan. The capital plan will consist of three elements:
- The plan must include a detailed description of the actions that the bank holding company will take to increase the level or quality of capital consistent with reaching the Supervisory Capital Assessment Programme buffer goals. Bank holding companies are encouraged to raise capital from private sources whenever possible. Possible methods of raising or enhancing capital include:
- issuance of new private capital instruments;
- restructuring current capital instruments;
- selling business lines;
- participating in joint ventures; and
- conserving internal capital generation.
- It must include a list of steps that the bank holding company will take to address weaknesses, where appropriate, in its assessment of its capital needs and to engage in more effective capital planning.
- It must include an outline of the steps that the bank holding company will take to repay government-provided capital taken under the Capital Purchase Programme, the Targeted Investment Programme or the Capital Assistance Programme, and to reduce reliance on guaranteed debt issued under the Temporary Liquidity Guarantee Programme.
Significantly, in addition to creating this plan and as part of the 30-day process, bank holding companies that require more capital are required to review their existing management and boards of directors to ensure that the leadership has sufficient expertise to manage the risks to the bank holding companies.
In order to ensure that capital is available, the Treasury is making capital available under the Capital Assistance Programme as a bridge to private capital for those bank holding companies that need it. A bank holding company may apply for mandatory convertible preferred securities in an amount of up to 2% of its risk-weighted assets (or higher upon request). Mandatory convertible preferred securities may serve as contingent common capital for the bank holding company, convertible to common equity if necessary to meet the Supervisory Capital Assessment Programme buffer requirements. The Treasury will also consider requests to exchange outstanding preferred shares sold under the Capital Purchase Programme or the Targeted Investment Programme for new mandatory convertible preferred shares issued under the Capital Assistance Programme. In order to protect taxpayer interests, the Treasury expects that any exchange of Treasury-issued preferred stock for mandatory convertible preferred shares will be preceded or accompanied by the raising of new capital or the conversion of private capital securities into common equity.(1)
The Treasury stresses that the Capital Assistance Programme application process remains open to all financial institutions, regardless of whether they were examined under the Supervisory Capital Assessment Programme. In the event that any financial institution not examined under the Supervisory Capital Assessment Programme wishes to take part in the Capital Assistance Programme, the Treasury will examine such an institution's risk profile and capital position, as well as its internal capital assessment processes, including capital planning efforts that incorporate the potential impact of stressful market conditions and adverse economic outcomes.
In the event that a bank holding company wishes to redeem outstanding Capital Purchase Programme preferred stock, the Treasury will weigh this request against the contribution of Treasury capital to the bank holding company's overall soundness, capital adequacy and ability to lend, and will confirm that the bank holding company has a comprehensive internal capital assessment process. In addition, any bank holding company that wishes to repay its Capital Purchase Programme obligations will be subject to the existing supervisory procedures for approving redemption requests for capital instruments. The 19 bank holding companies subject to the Supervisory Capital Assessment Programme examination must have a post-repayment capital base at least consistent with the Supervisory Capital Assessment Programme buffer requirements, and must be able to issue senior unsecured debt not backed by Federal Deposit Insurance Corporation guarantees for a term greater than five years, in amounts sufficient to demonstrate a capacity to meet funding needs independent of government guarantees.
For further information on this topic please contact David Teitelbaum, William Eckland or Daniel Rossner at Sidley Austin LLP by telephone (+1 202 736 8000) or by fax (+1 202 736 8711) or by email ([email protected] or [email protected] or [email protected]sidley.com).
(1) The term sheet for mandatory convertible preferred securities may be found at www.financialstability.gov.
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