Executive Summary: 2010 provides an extraordinary growth opportunity for those banks and investors that enter into FDIC-backed Shared-Loss Agreements. However, optimizing this “once in-a lifetime” opportunity requires a disciplined approach, beginning with conducting due diligence through managing the technology and reporting processes.
FIC’s Shared-Loss experience in working with banks and investors indicates that success with these transactions requires a high level of focus in five key areas. The initial area is “pre-deal” oriented, while the others center on post-closing implementation activities:
- Conducting a focused portfolio due diligence and negotiating the FDIC Shared-Loss Agreement
- Addressing key accounting-related priorities
- Ensuring strong portfolio support
- Making accurate and complete Certificate submissions
- Tracking and monitoring loan submissions and recoveries over the life of the FDIC Agreement
Based upon our practical (and in some cases hard-won) experience in each of these areas, we will discuss each of these five critical elements. Our goal is to provide acquirers with a path for completing each of them, ultimately creating a “factory” that can successfully manage multiple FDIC transactions.
Conducting a Focused Due Diligence and Negotiation Process
A disciplined due diligence process is critical in any M&A transaction. However, with Shared-Loss transactions, this capability takes on even greater significance because buyers are dealing with failed banks and distressed assets, the timeframe in which bids are made is short, and they will be entering into a partnership with the FDIC for up to ten years. For example, it is critical for buyers to assess the portfolio risk in order both to validate the FDIC’s loss threshold estimate and determine the appropriate asset discount bid.
Many banks are viewing FDIC-related deals as strategic opportunities that result in increased market share or a move into contiguous and attractive new markets. Deals such as BB&T’s purchase of Colonial, BBVA Compass’s acquisition of Guaranty Bank of Texas, and First Financial’s purchase of Irwin Bank provide examples of that strategic emphasis.
However, today, there is an increasing amount of investor and bank dollars evaluating and perhaps “chasing” these FDIC-supported deals. In the past year, many “blank check” or blind pool companies have formed with the specific purpose of acquiring weak or failed banks. Examples include ventures headed by former executives at Bank of America and Citizens Financial. Some industry observers believe these new entrants have resulted in increased costs to buyers in FDIC-deals as more bidders appear and the FDIC’s revenue expectations increase.
Investor groups need to determine their acquisition strategy, creating priority screening criteria for evaluating deals rather than, as some are doing, looking for “opportunities.” In addition, they need to realize that they may be disadvantaged in the bidding process: the FDIC appears to be more comfortable dealing with bank management versus private investors; banks’ return criteria is lower than most investor groups, allowing banks to bid more for the same deal; and, banks operate with a longer term horizon than most investor groups, providing greater comfort to the FDIC while alleviating the concern surrounding the short-term “flipping” of an investment.
As for the negotiation and documentation process, while much of the Agreement has been standardized by the FDIC, many of the deals we know have some uniqueness to them. For example, New York Community Bancorp, to make its offer for AmTrust Bank more attractive, offered an equity upside that netted the FDIC an additional $20 million when exercised in December. Similarly, as part of its purchase of BankUnited, the investor group issued Warrants, giving the FDIC a stake in any future IPO. Transactions closed since October include a “true up” calculation to provide the FDIC with revenues when actual losses are lower than expected. The structure of the agreements will continue to change as the FDIC reads the competitive “tea leaves” for its deals.
Based upon the intricacies of these agreements and the fact that they become a transaction “Bible,” acquirers should reach out to one of the few law firms that have developed a specialty in this area. We have seen some cases in which bank General Counsels have relied on their own knowledge rather than reach out to these specialists; that could be a costly mistake.
Intense deal preparation, including the creation of a transaction Playbook and accessing outside resources, appears critically important for success in the Shared-Loss arena.
Our next newsletter will discuss some of the accounting, tax, and valuation issues that are unique to Shared-Loss transactions and that need to be addressed very early in the deal’s life.