A stall in FirstSun Capital Bancorp's bid to acquire HomeStreet Inc. has left the market with unanswered questions about whether, or how, the transaction will move forward.

The companies said Oct. 29 that they withdrew their merger application after the Federal Reserve and the Texas Department of Banking had blocked the deal. HomeStreet said in a Nov. 8 regulatory filing that it might have to initiate litigation against FirstSun in order for the transaction to be terminated in the event a new deal cannot be reached. Legal observers say, however, that a successful renegotiation is still possible, even if the path forward will be bumpy.

It remains unclear what drove the companies to publicize the application withdrawal. The two entities may have announced the setback publicly in response to market pressure to communicate updates to shareholders or get in front of regulatory reporting, Jonathan Hightower, a partner at the law firm Fenimore Kay Harrison, said in an interview.

HomeStreet CEO Mark Mason implied on the company's Oct. 30 earnings conference call that the announcement was a required disclosure. Bank holding companies must disclose the termination of a merger agreement but generally are not legally required to disclose a regulatory denial or a delay in a transaction closing.

Hightower said it is not unusual for companies to be told to withdraw a merger application and restructure, especially when one bank holding company is significantly changing its profile as a result of the deal.

"I would say that is typically not an indicator of something that's going to be very smoothly approved even in the future, but it does happen," he said.

Deal delay

FirstSun's acquisition of HomeStreet was announced Jan. 16 and renegotiated April 30. Following the regulators' action to block the deal, the companies said they would either terminate or restructure it but gave little insight into the issues holding the merger back. During the earnings call, Mason pointed to a press release that said "the regulatory approvals necessary for the mergers ... to proceed have not been obtained."

"We're disappointed that the regulators are unwilling to grant the regulatory approvals necessary for our merger to proceed," Mason said. "We have been advised by our bank regulators who shared with us that there were no regulatory concerns specifically related to HomeStreet that would have prevented approval of the merger."

FirstSun and its subsidiary Sunflower Bank declined to comment beyond the press release.

Bank regulators would typically block a deal over the financial health of the acquirer, compliance issues at either party, the acquirer's integration program or the possibility of consumer harm, John Geiringer, a partner at the law firm Barack Ferrazzano Kirschbaum & Nagelberg LLP, said in an interview.

In most successful deals, the acquirer's size and financial strength will make up for financial weakness of the target. Geiringer said. However, FirstSun's $8.14 billion in total assets as of Sept. 30 is just shy of HomeStreet's $9.20 billion in total assets, making the transaction more like a merger of equals. Moreover, regulators have heightened expectations because the merger would create a bank with a much higher risk profile because of its size, Geiringer said.

Since HomeStreet would make up more than half of the combined entity's balance sheet, the target company's management and financial health may be a more important consideration than usual, Hightower said.

Regulatory repercussions

Meanwhile, HomeStreet is facing shareholder discontent: Blue Lion Capital, an investor in the company, in June requested cancellation of change-of-control payments to HomeStreet's management team in conjunction with the deal. The letter came after HomeStreet shareholders had already voted against the payments in a nonbinding vote during the company's shareholder meeting.

Blue Lion Chief Investment Officer Chuck Griege blamed HomeStreet's board for the withdrawn merger application, citing "horrific" oversight of the company's management team in an interview.

Before HomeStreet agreed to sell to FirstSun, it received two competing bids, according to an SEC filing. Griege alleged that the board chose FirstSun because it offered Mason a full-time position for two years after the deal's closing, while the other two institutions offered him advisory or consulting roles.

The deal's subsequent troubles, he said, are "an indictment of HomeStreet's board."

HomeStreet's share price fell 37.5% between the close of trading Oct. 23 and the Oct. 30 close, and was trading roughly 18% below the per-share deal value of $14.00 as of the market close on Nov. 13.

Hightower said it is impossible to know the feasibility of the transaction without knowing regulators' specific concerns but added that some deals in similar straits have found success.

"It is possible to rehabilitate those deals. It's absolutely possible," he said. "I think the issue can be, is there room in terms of crafting something that's going to work for the parties from a business standpoint and also satisfy the regulators?"