Bank holding companies ("BHC"s) across the US have billions of dollars of holding company debt and trust preferred stock ("TruPS"). Deeply troubled banks with highly leveraged holding companies are struggling with bond and TruPS holders who either cannot or will not consider any restructuring to facilitate a recapitalization or sale. These BHCs should exhaust all alternatives to complete a recapitalization of the BHC. If those efforts are not successful, they should consider a bankruptcy and a sale of bank stock pursuant to 11 U.S.C. §363 (a "363 Sale") to avoid seizure of the bank.

1. The Bankruptcy Option
The Bankruptcy Option - A Compelling Alternative to Bank Failure
By Mindi H. McClure, Managing Principal
Bank holding companies ("BHC"s) across the US have billions of dollars of holding
company debt and trust preferred stock ("TruPS"). Deeply troubled banks with highly
leveraged holding companies are struggling with bond and TruPS holders who either
cannot or will not consider any restructuring to facilitate a recapitalization or sale.
These BHCs should exhaust all alternatives to complete a recapitalization of the BHC.
If those efforts are not successful, they should consider a bankruptcy and a sale of
bank stock pursuant to 11 U.S.C. §363 (a "363 Sale") to avoid seizure of the bank.
How we got here - Pooled and securitized TruPS created a way for mid-cap banks to
access the fixed income capital markets efficiently. During the early and mid 2000s
when $45 billion of TruPS were issued to 1,500 small and mid-size banks, issuance
costs and coupons declined dramatically, creating an attractive, low cost form of Tier 1
Capital for banks and BHCs. The unforeseen outcome of the efficient securitization
vehicles that bought all that low yield trust preferred is that most (but not all) of the
entities that hold this $45 billion of TruPS are passive and governed by rules that make
them near impossible negotiating partners.
This daisy chain of events has left many troubled banks in the uncomfortable position
of requiring a recapitalization but being stymied in their efforts because of their
holding company debt issues.
In a normal troubled company restructuring, debt and bond-holders are rational actors
with the ability to respond to restructuring proposals. Not so with the passive
securitization vehicles: No manager exists to evaluate a proposal and in many cases
the trustee is unwilling or not incentivized to forward restructuring proposals to the
underlying bondholders. Additionally, many underlying bonds are now in the hands of
vulture investors who are unwilling to negotiate their positions.
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2. The Bankruptcy Option
Table 1- Hypothetical Leveraged Bank Holding Company
ABC Corp (BHC) ABC Bank (Bank)
Consolidated Assets $2 billion $2 billion
Trust Preferred $100 million NA
Tangible Common Equity 0% / $0 5% / $100 million
Required Loss on Sale of $100 million $100 million
Troubled Assets
Pro Forma Tangible -5% / $(100) million 0% / $0
Common Equity
Ability to Attract Investors Very Unlikely Possible
Table 1describes a troubled bank and its parent BHC with significant TruPS. The BHC
has exhausted its tangible common equity, yet the Bank continues to have 5% tangible
common equity. In this hypothetical example new investors require that the bank sell
certain non-performing and criticized assets as a condition of their investment. This
sale results in an additional $100 million loss. On a pro forma basis, the BHC has 5%
NEGATIVE tangible equity - a very tough re-cap candidate. The Bank, while its pro
forma equity is zero, could possibly access capital.
Table 2 - Bank Holding Companies with Assets Between $500 Million and $50 Billion
BHCs With High Leverage Greater Than 30% of Tier 1 Equity
Texas Ratios
Number of Average Average NPAs/
Banks Tangible Assets
Equity/ Assets
Texas Ratio 360 123 4.24 8.61
Greater Than
50%
Texas Ratio 132 70 2.66 11.14
Greater Than
100%
Source: SNL Financial
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3. The Bankruptcy Option
Table 2 describes the number of bank holding companies with assets between $500
million and $50 billion with high Texas Ratios and high holding company leverage at
December 31, 2011. Nearly 35% of the BHCs with Texas Ratios greater than 50% have
BHC leverage exceeding 30%. Over half of the BHCs with Texas Ratios greater than
100% have significant leverage. Some of these institutions will need to consider a
Chapter 11 Bankruptcy and 363 sale of the bank stock in order to effectuate a bank
recapitalization.
The 363 Sale Solution
Few BHCs have completed 363 sales because the need has only recently been identified
and addressed. In the Sterling Financial Corporation and Pacific Capital Bancorp
recapitalizations, the TruPS holders refused to negotiate after and exhaustive and time
consuming tender process. The recapitalization investors ultimately capitulated and
agreed to invest without any relief from the pooled TruPS, a victory for the TruPS
bondholders, but perhaps a short lived victory. Sterling and Pacific Capital were likely
the last of the big franchises to recapitalize or fail. the recap investors, all extremely
knowledgeable and rational, nonetheless had big incentives to "get in the game" with
these last few large recapitalization candidates. The banks represented in our Table 2
above may face a different reality. They are generally much smaller and lack the
franchise value and scale necessary to attract similar institutional capital.
Securitized TruPS and their accompanying complexity did not exist in the S&L Crisis.
Therefore a 363 sale was not a solution in the recapitalization and restructuring toolkit
of banking professionals as we entered this crisis.
The TruPS deferral option has become a double-edged sword in restructurings. TruPS
allow troubled BHCs to defer dividends for up to five years before typical default
remedies apply. This deferral option was a requirement of the Federal Reserve when it
deemed TruPS an acceptable form of Tier 1 Capital for BHCs in 1996. The deferral
period was intended to enable troubled BHCs to get their corporate houses in order
before being subject to typical bond covenants. But the deferral option structure didn't
contemplate that most deferring BHCs would have issued multiple series of TruPS
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4. The Bankruptcy Option
governed by multiple indentures. Nor did the deferral option contemplate a financial
crisis of the severity experienced in the past few years and the inevitable necessity of
restructuring and renegotiating multiple BHC obligations. The end result: A deferring
BHC often may not repay or restructure ANY of its obligations. The Restricted
Payments restrictions triggered by deferrals include dividends on common and
preferred stock; other trust preferred and debt; and principal repayments or
modification of any parri passu obligations.
The bondholders in each pooled TruPS securitization (there are approximately 84
pooled TruPS deals that together hold the $45 billion of pooled TruPS) create an
additional layer of complexity as most of the pools are non-managed. A modification
of any collateral in the pool (i.e. TruPS) is conditioned on the consent of bondholders.
If a deferring BHC is fortunate enough to negotiate discounted pay-offs or
restructurings of some of its debts, it is blocked from doing so unless it receives the
consent of 100% of every class of note holders of each affected TruPS pool. Deferring
BHCs with TruPS in multiple pools must separately gain the consent of each pool, a
task which requires contacting multiple bond trustees and hundreds of bondholders in
dozens of countries worldwide (full disclosure, our broker-dealer division, TBC
Securities, has acted as lead dealer-manager in many such efforts). Even if the
trustees were cooperative and the bondholders willing, the lengthy process of
obtaining consent creates additional risk to the ailing bank.
A "363 Sale" is the sale of assets by a bankrupt BHC subject to the rules of Section 363
of the US Bankruptcy Code (11 U.S.C. §363). A 363 Sale is advantageous, because it
enables the BHC to sell its assets, primarily the stock of its ailing bank subsidiary to an
appropriate recap partner without the consent of creditors or the approval of
shareholders. Additionally, it enables the sale to take place quickly. For an ailing bank,
the time consuming shareholder approvals process and near impossible creditor
consent process can create a recipe for failure as regulators weigh its impending
seizure. A traditional M&A proxy process may take six months or more. A sale of
bank stock under Section 363 can be effectuated in under two months.
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5. The Bankruptcy Option
Table 3 – Comparison of Traditional M&A with Section 363 Sale
Traditional Section 363
M&A Sale
Securities and Exchange Commission Review Y N
Shareholder Vote Y N
Creditor Approval Y N
Bankruptcy court approval NA Y
Regulatory approvals (Federal Reserve, FDIC, OCC,
Y Y
OTS, DFI)
A successful 363 Sale must have several important features: It must convince the court
that it is the only option available to save the bank; that the price is fair and defensible;
and that the stalking horse bidder will be approved by all the appropriate regulators
and is capable of capitalizing and managing the bank going forward. In addition, all
the parties must work hand in glove with all appropriate regulatory agencies to gain
the required approvals for the transaction. Once a troubled BHC has exhausted all
available opportunities to effect a BHC recapitalization or sale, it should explore
recapitalizing its bank subsidiary through a BHC bankruptcy and a Section 363 Sale of
the bank subsidiary.
About the Author: Mindi McClure is Managing Principal of The Bear Companies, an investment banking
and advisory firm located in the Washington, DC area. Ms. McClure and The Bear Companies principals
have completed numerous bank recapitaliztions and restructurings during the past 23 years. TBC
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6. The Bankruptcy Option
Securities recently served as exclusive Dealer Manager negotiating the contingent discounted payoff of
TruPS and sub debt for Pacific Capital Bancorp, Sterling Financial Corporation and numerous other BHCs.
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