A Federal Deposit Insurance Corp. plan to place new restrictions on private-equity firms seeking to buy failed banks is facing strong opposition from fellow bank regulators and could temporarily freeze all private-equity activity in bank acquisitions.

Under the plan, private-equity firms would face additional capital, cross-guarantee and disclosure requirements if they buy a failed bank. Though FDIC officials said the proposal was balanced, Wilbur Ross, a prominent investor, warned it went too far and other regulators said it could increase resolution costs.

"It really feels like something simply designed to make it less attractive for private equity to invest," said Ross, who was part of a private-equity consortium that bought BankUnited from the FDIC in May.

Under the plan, private-equity investors would have to retain ownership of a bank they purchased for at least three years and would have to maintain a minimum 15% Tier 1 leverage ratio — nearly four times the norm — during that time.

Bidders on failed banks who already owned majority stakes in other banks would have to issue cross guarantees and pay for losses to the Deposit Insurance Fund proportionate to their ownership. The proposal would also institute new disclosure requirements for bidders and prohibit certain institutions from participating.

Ross said if the proposal is finalized, it would make private-equity investments unpalatable.

"Here we are being asked to take on the risks of a bank that's already failed once, to provide new capital so that it reduces the amount of capital the government has to put in, to introduce new management and possibly enter into loss-sharing, and then as a reward for all that you're condemned to a mediocre rate of return because they've forced you to overcapitalize it," he said. "You've had to put at risk a totally unrelated investment in an unrelated jurisdiction … and then you have to sit on it for three years?"

Ross was hardly alone. Though Comptroller of the Currency John Dugan and Acting Office of Thrift Supervision Director John Bowman voted to release the plan for public comment, they both said they opposed it in its current form.

"I commend you for wanting to provide transparency to prospective bidders because I do think there is a real balance that does need to be struck here," Dugan told FDIC Chairman Sheila Bair at the meeting. "You can also swing the pendulum too far in the other direction. … I have concerns that it's gone too far in the other direction."

Bowman said the DIF could suffer as a result.

"The concern would be that any policy we would finally approve would go too far and choke off that capital, increase the cost to the Deposit Insurance Fund and the ratepayers who are the ones required to keep the fund at its appropriate level," he said.

Ross said that even before the plan is finalized, it could have a chilling effect on whether private equity will consider bidding on failed banks.

"Under these conditions, we would never have invested in Bank United," he said.
Ross said his firm, W.L. Ross & Co., would stop working on any deals it may have been exploring to invest in failed banks "until this gets resolved."

"I say that very reluctantly," he said. "In the normal course, we have been putting a lot of time and effort into situations that go above and beyond BankUnited."

During the meeting, Bair said the intent was not to cut off potential bidders, and emphasized the plan is open for comment for 30 days and is not a final product.

"This is a very difficult balance to strike, it absolutely is," she said. "I want to get it right; I'm not sure we have it right here, but I do think we have a good solid document at least to precipitate public comments."

Bair said the FDIC wants to prevent repeat failures. "We want to maximize the prices we get; we want to minimize losses to the Deposit Insurance Fund," she said. "On the other hand, we don't want to see institutions coming back."

The agency is planning a meeting today with interested parties to discuss the proposal.

Two consortia of private-equity firms have snapped up large institutions that were taken over by the FDIC.

At the beginning of the year, investors led by Dune Capital Management LP Chief Executive Steven Mnuchin, J.C. Flowers & Co. and Paulson & Co. won a bid to purchase IndyMac Bancorp from the FDIC, in a deal that included a loss-sharing agreement and a capital injection.

In May, a group led by former North Fork Bancorp CEO John Kanas placed a winning bid for BankUnited Financial Corp., with a $900 million capital injection and a loss-sharing agreement on $10.7 billion of the failed Miami bank's assets.

But the proposal would require even more of a commitment from private-equity firms than those deals entailed. For example, Ross said that BankUnited's buyers had agreed to hold on to the bank for 18 months.

Though he agrees buyers should not immediately try and flip the bank, he said three years is too long a commitment.

He also raised the question of whether firms would be allowed, during the three-year period, to take the bank public.

"I don't see why they would want to prevent you from accessing low-cost public funding capital," he said, adding that whatever capital the firms had already put in the bank would not go away in the event of a public offering.

As a limited liability partnership, a private-equity firm could also never conceivably issue a cross-guarantee like the one the FDIC would require, Ross said.

"If I'm not in control of the bank, why would I ever give any thought whatsoever to cross-collateralization?" he said. Requiring a 15% Tier 1 leverage ratio was "discriminatory," Ross said, pointing to Wells Fargo's purchase of Wachovia as an example.

"Neither bank has even a 10% capital ratio," he said. "Why is it that somebody whose sweatshirt says 'bank' on it should be allowed to acquire an institution and yet live with combined capital ratios that are a fraction of what is being proposed here?"

V. Gerard Comizio, a partner at Paul, Hastings, Janofsky & Walker LLP, said the new rules would likely give pause to many private-equity investors.

"I believe there's a potential spillover, a chilling effect, for potential equity investors in non-failed banks," he said.

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