A proposal from the Federal Deposit Insurance Corp. has the potential to slow investors' share purchases in banks by as long as six months and some advisers said it could have ripple effects on M&A.
The proposed rule, related to the Change in Bank Control Act, would require investors to send a notice to the FDIC to review before acquiring voting securities "at a level sufficient to trigger a presumption of control." The FDIC anticipates it will receive 52 notices per year as a result of the rule. Investors already have to file similar notices with the Federal Reserve when the bank has a holding company structure, but an exemption has allowed them to avoid filing notices for FDIC-regulated subsidiaries.
The intent of the proposal is to eliminate the exemption and was introduced by Consumer Financial Protection Bureau Director Rohit Chopra, an FDIC Board member. Chopra has used the change-of-ownership of Farmington State Bank, a bank based in Washington state that was part of the fallout of Sam Bankman-Fried's FTX Trading Ltd., as an example of why the investments should have additional oversight.
The FDIC should not "abdicate the responsibility Congress entrusted to us to safeguard the ownership and control of the banks we supervise," Chopra said in a statement for a July 30 meeting in which the FDIC board voted 3-2 to approve the proposal, which now has an open comment period until Oct. 18.
Chopra also expressed concern about so-called passivity agreements that allow asset managers to avoid having to file change-in-control notices. Index-fund managers often have passivity agreements with regulators, but even though they are considered passive investors, Chopra noted that they sometimes have seats on bank boards.
"Part of the reasoning behind the proposal from the FDIC's perspective is that these investors have material sway given the size of their investments, and the FDIC wants to know about that and vet that and have ability to approve or not approve investments on those grounds because of the material economic sway that those investments represent," Cliff Stanford, partner at Alston & Bird LLP advising banks and more, said in an interview.
However, a concern is that the FDIC's proposal would give the agency up to six months to approve the investments, and the delay in executing the purchase could impact the investment strategy, which may serve as a deterrent to index fund managers' interest in owning the bank share.
The proposal could create "friction in the willingness or ability of the large fund complexes to have substantial investments in the public shares of these banks, and so from the banks' perspective, it's at least friction, if not a drag, on the willingness of those investors to put money into their institutions," Stanford said.
The proposed requirement to file notices could affect various investors in banks, not just those using index funds.
"The reasoning and the intent for this proposed rule is index fund holdings in banking organizations, and the proposed rule is much broader than that," Brent Standefer Jr., partner at Fenimore Kay Harrison who represents banks and their holding companies, said in an interview. "It's a one-size-fits-all approach, and I think that's going to be problematic for the industry. ... So I do expect there to be significant pushback across the industry on this, and hopefully it develops into a more tailored approach on this particular issue."
Small, family-owned or formerly family-owned banks could also be affected when estate planning transfers trigger filings under the Change in Bank Control Act, Standefer added.
Implications for M&A
A change in a bank's ownership structure could affect capital allocation and strategic decisions such as M&A.
"In an M&A deal, voting shares in favor of a deal — to the extent that these large institutional fund complexes don't invest in banks or invest less in banks — it could potentially change some of the calculus around votes in favor of a deal," Stanford said.
While the proposal itself is focused on passive investments, Stanford was not the only adviser to mention the potential impact on M&A.
"It could just be a little bit of a way to open the door to allow the FDIC to have more input on any deal but under the [guise] of wanting to regulate these passive investments from these large mutual fund and investor companies," Rick Childs, a partner at Crowe LLP who advises financial institutions, said in an interview.
Acting Comptroller of the Currency Michael Hsu said in a statement that he supported the proposal because it "includes a commitment" to work with the Fed and Office of the Comptroller of the Currency. In April, the five-member FDIC Board discussed a pair of proposals on this topic but did not vote on either, following Hsu's opposition. The "commitment includes following standard notice and comment rulemaking practices should an interagency approach be developed and adopted," the FDIC wrote in the proposed rule.
Some advisers suggested the bank regulatory agencies could join forces without this proposed rule, though they have not always coordinated on various works in the past. Although the agencies could collaborate informally, Alexandra Steinberg Barrage, partner at Troutman Pepper Hamilton Sanders LLP, pointed out a potential challenge with that.
"What happens when the FDIC disagrees?" Barrage, who advises on regulatory matters and formerly worked at the FDIC, said in an interview. If "you do have the beginnings of a turf disagreement, the Fed will point to the statute and say, 'Well, you're exempted from this. We were just doing this to extend a courtesy.' ... I'm not saying that would happen, but I'm saying if you really want this to happen the right way, you look to update the rule."
The Federal Reserve Board declined S&P Global Market Intelligence's request for comment about whether it is planning to work with the FDIC or issue a related proposal. Bank advisers noted it might not be finalized as proposed or finalized before the November elections.
"It seems, to a certain extent, like a solution looking for a problem," Chip MacDonald, managing director of MacDonald Partners LLC, said in an interview. Proposing the FDIC get involved would be "a duplication of effort, which is why they have the existing rule in the first place. And the regulatory agencies, just like any group, have limited resources, and the more you stretch those resources, the slower the processing of applications and the slower the deals."