June 9, 2009
Gibson, Dunn & Crutcher is closely monitoring risks and opportunities arising from the recent and dramatic reshaping of our capital and credit markets. We are providing updates on key transactions as well as regulatory and other legal developments that we believe could prove useful as financial institutions, investors, financial sponsors and other entities navigate these transformative times.
This update discusses two paths private equity firms have chosen this year to invest in bank depository institutions, while focusing on a recent privately negotiated transaction employing a "bad-bank" structure.
Private Equity Investments in Banks
Private equity interest in banks has blossomed in 2009 as depressed equity values and the availability of government assistance in consummating transactions have offered the prospect of meaningful investor returns. Recent deals highlight the two principal avenues available to private equity firms – pursuing a government assisted acquisition of a bank already seized (or facing imminent seizure) by regulators versus making an unassisted investment in a bank that has not yet failed.
Assisted transactions have grabbed many of the headlines this year. The first 2009 deal – announced in March – was an FDIC assisted transaction in which an investor group led byPaulson & Co. and J.C. Flowers & Co. capitalized a thrift holding company to acquire California based IndyMac Federal Bank. IndyMac, a thrift seized by regulators in July 2008, was at the time the second largest bank failure in U.S. history. A second significant assisted deal was announced May 21 when a group led by WL Ross & Co. and including Carlyle Investment Management and Blackstone Group acquired the banking operations and non-brokered deposits of Florida based BankUnited FSB. BankUnited, the largest bank to fail to date in 2009, was, like IndyMac, a thrift, but its closure was announced simultaneously with its acquisition and reopening.
In addition, a small number of private equity firms have negotiated bank investments without government support. In a deal announced June 1, Bancroft Capital and institutional investors including Orient Property Group entered a nonbinding letter of intent to invest up to $210 million in Temecula Valley Bancorp and to acquire a joint venture interest in a pool of troubled loans held by commercial bank subsidiary Temecula Valley Bank. The bank, operating thirteen full service branches in California, has almost $1.5 billion in total assets. If completed, the transaction would give the investors a 95% ownership interest in the bank’s fully diluted outstanding equity. Another privately negotiated deal, announced March 31, called for an investor group led by Taylor Bean & Whitaker Mortgage Corp. to invest $300 million in Colonial BancGroup of Alabama. Colonial, a bank with thrift, asset management and broker/dealer subsidiaries, has more than $26 billion in assets and over 350 branches.
Government assisted transactions following or contemporaneous with a bank seizure offer very different benefits and concerns from private deals. The major benefit of government assisted transactions is the reduced exposure to bad asset losses through tactics including selective purchases/assumptions of bank assets/liabilities (leaving the remainder in the hands of the regulators) and loss sharing arrangements with the FDIC, but such deals are burdened by the impact on franchise value occasioned by the bank’s publicly announced failure. The result can be erosion of the deposit base. Privately negotiated bank investments may, on the other hand, be the only alternative if the target has avoided receivership due to a stronger balance sheet. However, acquirers in such private transactions are unlikely(particularly where the target is not viewed by regulators to represent a systemic risk to the financial system) to enjoy the ability to surgically remove and put the worst assets and liabilities to regulators or to extract government guarantees limiting future losses on the loan portfolio.
Government assisted and privately negotiated bank investments also diverge in terms of deal timing. Government assisted deals happen much more quickly and with greater certainty. An FDIC assisted transaction is subject to due diligence and the negotiation of terms in advance of the public deal announcement. Private bank investments, however, are generally subject to both due diligence and the approval of bank regulatory authorities after announcement but before the parties can move forward. Moreover, an investment in a publicly traded bank may require either shareholder approvals or a submission to the relevant securities exchange seeking exemption from shareholder approval requirements, generally on the grounds that the delay occasioned by approval would put the financial viability of the company at risk. Delays can be considerable, as illustrated by the Colonial BancGroup deal not having closed as of early June after initially announcing at the end of March.
Temecula Valley Bancorp Investment
A closer look at the recently proposed Temecula Valley transaction and its "bad bank" structure is warranted. Under the proposal, a consortium including Bancroft Capital, a privately held real estate investment firm, and Orient Property Group, an investment group with reported backing from hedge fund D.E. Shaw, would invest $210 million in cash. The parties announced that $105 million of the investment would be used to purchase voting securities of the publicly traded parent company and that the remaining $105 million would be used by the investors to purchase an interest in a new joint venture vehicle formed with the commercial bank subsidiary to acquire a pool of the bank’s troubled loans (a so-called "bad bank"). These steps would leave the bank with a new equity infusion and a healthier asset base.
As proposed in the nonbinding letter of intent, the investors would initially receive preferred equity designed to satisfy Tier 1 regulatory capital standards. The preferred equity would be convertible to common shares at a conversion price of $0.50 per share, a 25% premium to the $0.40 closing price of common stock on May 29. Prior to conversion, the preferred stock would vote with Temecula Valley’s common stock on an as-converted basis. On completion of the proposed investment, the investors would own approximately 95% of Temecula Valley Bancorp’s fully diluted outstanding equity and would have the right to designate and elect a majority of directors.
For more information regarding this client alert, please contact your usual Gibson Dunn attorney or any of the attorneys listed below:
Dhiya El-Saden – Los Angeles (213-229-7196, firstname.lastname@example.org)
Kimble C. Cannon – Los Angeles (213-229-7084, email@example.com)
Stewart McDowell – San Francisco (415-393-8322, firstname.lastname@example.org)
Douglas Smith – San Francisco (415-393-8390, email@example.com)
Howard Adler – Washington, D.C. (202- 955-8589, firstname.lastname@example.org)
© 2009 Gibson, Dunn & Crutcher LLP
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