September 24, 2008
The Gibson, Dunn & Crutcher Financial Markets Crisis Group is tracking closely government responses to the turmoil that has catalyzed dramatic and rapid reshaping of our capital and credit markets.
What follows is our latest in a series of updates on key regulatory and legislative issues.
Today, Treasury Secretary Henry Paulson and Federal Reserve Board Chairman Ben Bernanke testified before the House Financial Services Committee. Both Secretary Paulson and Chairman Bernanke reiterated the message they conveyed to the Senate Banking Committee yesterday, urging Congress to pass legislation quickly and warning of dire economic consequences if the federal government does not intervene soon.
Tomorrow, the House Financial Services Committee will hear testimony from Federal Housing Finance Agency Director James Lockhart, Fannie Mae President and CEO Herbert Allison, and Freddie Mac CEO David Moffett regarding the conservatorship of Fannie Mae and Freddie Mac.
Debate on the Hill
Members of Congress remain divided over the financial plan despite President Bush and Vice President Dick Cheney’s efforts to encourage a swift resolution. Nevertheless, Senate Democrats and the Administration appear to have made progress toward reaching compromises on key issues such as the plan’s oversight provisions, assistance for homeowners, and executive compensation limits. Several senators joined Senator Schumer’s call for $700 billion in purchase authority to be granted in tranches, and, in particular, requesting that much of the funding be withheld until the new administration and Congress is in place. This idea appears to be picking up steam, at least among Democrats.
After the House Financial Services hearing this afternoon, President Bush conceded to including executive compensation caps in the legislation, though Democrats dismissed the development as "irrelevant."
The House Democrats have produced a new working draft of their version of the Treasury legislation. The draft would:
Senate Majority Leader Harry Reid has stated that he is committed to staying in session past this Friday (the target adjournment date), if need be, to complete action on rescue legislation and other items. Senator Schumer has predicted that the Senate will vote on the bill this weekend. Republican leadership predicts a resolution before Rosh Hashanah begins at sundown on Monday. If a rescue passage is not passed by then, some say it could be shelved until after the election.
In prepared testimony, Congressional Budget Office ("CBO") Director Peter Orszag indicated that the plan does not have include enough details to be scored but predicted that the net cost of the plan would be "substantially less than $700 billion." He also noted, however, that significant short term increases in revenue will be necessary to fund the program.
It appears that the proposal will be scored by CBO and likely the Administration not on an outlay basis, but on a credit subsidy basis. That is the way government loans and loan guarantees are scored. In this case, CBO and the Office of Management and Budget are likely to view the purchase authority in the bill as a credit instrument in that the government would be buying loans or securities made up of loans. The actual "score", then, of the legislation, will not be determined by how much Treasury outlays to purchase loans but by how much OMB and CBO estimate the government will lose or gain, over time, in buying and selling assets under the bill.
Treasury Guaranty Program
Last week, the Treasury Department announced a program to insure money market funds. We discussed this program in our September 22, 2008 publication, Capital Markets in Crisis: The Government Formulates a Response.
While Treasury’s announced program did not include limits on the guaranty that would apply to a particular eligible money market mutual fund, both House and Senate drafts of broader financial markets rescue legislation would limit the guaranty to the insurance provided to individual depositors under the Federal Deposit Insurance Act. We understand, however, that new draft legislation will remove the cap placed on the amount of funds insured under the program.
Federal Reserve Board Enhances Passive Investment Framework for Minority Investors in Bank Holding Companies and Banks.
In connection with its various efforts to increase the capital and liquidity available to the banking industry, the Federal Reserve Board (“Fed”) has issued a new policy statement providing additional guidance on making equity investments in a bank or bank holding company (“BHC”). Importantly, the issuance only acts to modify certain elements in the Fed’s existing control framework and does not change any other items, for example, the rules relating to aggregation, attribution and acting in concert with respect to investors.
On the margin, this enhanced flexibility will benefit investors in BHCs, however, it undoubtedly does not represent the significant changes that were being sought when fund groups petition the Fed to liberalize this area. For a company, including a hedge fund or private equity fund, the policy statement describes the investment amount and certain other relationships, such as board representation, that may exist without the company being considered to control a BHC and thereby become a BHC itself under the Bank Holding Company Act (“BHC Act”).
Under the guidance, a company or fund that is a noncontrolling minority investor (“investor”) may now have a “modicum” of influence over a BHC without it constituting having a “controlling influence over the management or policies” of a BHC. In this regard, this policy modifies the following elements in the Fed’s control framework consistent with this position.
1. Director Representation. An investor may have at least one representative on a BHC’s board of directors. It may also have two representatives “when the investor’s aggregate director representation is proportionate to its total interest in the banking organization [that is, the greater of the investor’s voting interest or total equity in the organization], but does not exceed 25 percent of the voting members of the board, and another shareholder of the banking organization is a [BHC] that controls the banking organization under the BHC Act.” (footnotes omitted).
2. Increased Maximum Investment. An investor may own “a combination of voting and nonvoting shares that, when aggregated, represents less than one-third [33%] of the total equity of the organization (and less than one-third of any class of voting securities, assuming conversion of all convertible nonvoting shares held by the investor) and does not allow the investor to own, hold or vote 15 percent or more of any class of voting securities of the organization.”
3. Enhanced Consultations with Management. An investor may communicate and advocate with management for changes in a BHC’s policies or operations such as policies related to mergers, management changes, dividends, debt or equity financing, new business lines, and subsidiary divestitures. An investor may not make explicit or implicit threats to dispose of shares in the BHC or to sponsor a proxy solicitation as a condition of action or non-action by the BHC or its management in connection with these policy discussions.
Gibson Dunn has assembled a team of experts who are prepared to meet client needs as they arise in conjunction with the issues discussed above. Please contact Michael Bopp (202-955-8256, firstname.lastname@example.org) in the firm’s Washington, D.C. office or any of the following members of the Financial Markets Crisis Group:
Public Policy Expertise
Mel Levine (310-557-8098, email@example.com)
John F. Olson (202-955-8522, firstname.lastname@example.org)
Amy L. Goodman (202-955-8653, email@example.com)
Alan Platt (202- 887-3660, firstname.lastname@example.org)
Michael Bopp (202-955-8256, email@example.com)
Securities Law and Corporate Governance Expertise
Ronald O. Mueller (202-955-8671, firstname.lastname@example.org)
K. Susan Grafton (202- 887-3554, email@example.com)
Brian Lane (202-887-3646, firstname.lastname@example.org)
Lewis Ferguson (202- 955-8249, email@example.com)
Barry Goldsmith (202- 955-8580, firstname.lastname@example.org)
John H. Sturc (202-955-8243, email@example.com)
Alan Bannister (212-351-2310, firstname.lastname@example.org)
Financial Institutions Law Expertise
Chuck Muckenfuss (202- 955-8514, email@example.com)
Christopher Bellini (202- 887-3693, firstname.lastname@example.org)
Amy Rudnick (202-955-8210, email@example.com)
Howard Adler (202- 955-8589, firstname.lastname@example.org)
Richard Russo (303- 298-5715, email@example.com)
Dennis Friedman (212- 351-3900, firstname.lastname@example.org)
Stephanie Tsacoumis (202-955-8277, email@example.com)
Robert Cunningham (212-351-2308, firstname.lastname@example.org)
Joerg Esdorn (212-351-3851, email@example.com)
Stewart McDowell (415-393-8322, firstname.lastname@example.org)
C. William Thomas, Jr. (202-887-3735, email@example.com)
Real Estate Expertise
Jesse Sharf (310-552-8512, firstname.lastname@example.org)
Alan Samson (+44 20 7071 4222, email@example.com)
Andrew Levy (212-351-4037, firstname.lastname@example.org)
Dennis Arnold (213-229-7864, email@example.com)
Andrew Lance (212-351-3871, firstname.lastname@example.org)
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