Need To Know

Private equity and the banking industry have been flirting for months now. And, while government regulators have shown some signs of flexibility in their approach to getting the two together, the answer to the question of how buyout shops can participate in the healing of the financial sector has yet to reach a stage of necessary clarity.

“Everyone agrees there’s a match to be made,” said Lawrence Kaplan, an attorney in the Banking and Financial Institutions Group at international law firm Paul, Hastings, Janofsky & Walker LLP. “The banking industry is in need of new capital and private equity has access to such capital. What it comes down to now is the structure. Regulators want to make sure they understand who is controlling the bank, and that they are engaged only in permissable, non-banking activities.”

A concession was made in the September 2008 decision by the Federal Reserve, which sets the rules for national bank holding companies, to ease certain restrictions related to minority, non-controlling stakes, allowing ownership of up to 33.3 percent of total equity, up from 25 percent, as long as voting rights don’t exceed 15 percent. Then earlier this year, MatlinPatterson Global Advisers LLC managed to get clearance from the Office of Thrift Supervision, primarily the authority for savings and loan institutions, on its assumption of a roughly 70 percent stake in Flagstar Bancorp, a Troy, Mich.-based community bank with assets of more than $16 billion.

Kaplan, who is based in the firm’s Washington, D.C. office, said that, so far to address the activities restrictions imposed on entities that control banks, acceptable ownership structures must lead back to individuals, rather than a particular fund or the firm itself. That appears to have been the logic behind the move by J. Christopher Flowers, the head of J.C. Flowers & Co., to make a personal purchase of Missouri’s First National Bank of Cainesville last year.

The other avenue for private equity ownership of banks continues to be the club deal, but these transactions, which carry significant control restrictions, haven’t proven attractive enough to entice private equity to jump wholeheartedly into the fray.

Kaplan likens current conditions to a feeling-out process between regulators and buyout shops.

“Every fund, every firm is set up differently, and what works for one deal isn’t necessarily going to work for another,” he said. “This is playing out as conversations on a case-by-case basis, and buyout shops are probing regulators for structures that pass muster.”

He thinks that the government could eventually develop a set of guidelines for the process.

“Given the capital involved, the government by necessity is going to have get more comfortable with private equity ownership of banks,” he said. “What would be ideal is if regulators sat down and formalized a set of rules or guidance.”

Meantime, each deal that gets done in the sector will provide a tiny bit of insight. Stay tuned.