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Recent US Government Intervention in Support of the Financial Markets
Overview of the US Capital Purchase Plan and Liquidity Guarantee Program
Thomas J. Pax
Partner, Clifford Chance US LLP
November 6, 2008
Recent Goverment Intervention in the Financial Markets · November 6, 2008 2
US Capital Purchase Program -- Authority
The US Congress passed the Emergency Economic Stabilization Act (Pub. L. No. 110-343) (“EESA”) on October 3, 2008
EESA authorized the US Treasury to use up to $700 billion to purchase troubled assets
EESA defined “Troubled Assets” to include “any other financial instrument” that Treasury and the Fed determined “the purchase of which is necessary to promote financial market stability”
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US Capital Purchase Program -- Overview
The Capital Purchase Program has become the cornerstone of the US government’s plan rather than EESA’s original focus, the purchase of troubled assets
The program will be used to purchase up to $250 billion of senior preferred shares of banks and thrift institutions
Bank of America, Bank of New York Mellon, Citigroup, Goldman Sachs, JPMorgan Chase, Morgan Stanley, State Street, Wells Fargo, and Merrill Lynch initially opted to participate in the program and sold preferred shares in the aggregate of $125 billion
Since the original nine institutions initiated the program, press reports indicate that Capital One, Huntington, KeyCorp, PNC, and SunTrust have accessed another $30 billion
PNC is reported to have used its funds in its acquisition of National City
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US Capital Purchase Program -- Eligibility
Participation is available for bank holding companies, financial holding companies, insured depository institutions, and savings and loan holding companies that engage only in activities that are permitted for financial holding companies under Section 4(k) of the Bank Holding Company Act
Financial institutions controlled by foreign entities are currently not eligible under this program
All eligible Qualifying Financial Institutions must apply to be a part of the program by November 14, 2008. The eligible institution must submit an application to the appropriate federal banking agency
The minimum subscription amount will be 1% of risk-based assets, while the maximum subscription will be the lesser of 3% of risk-based assets or $25 billion
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US Capital Purchase Program -- Purchased Preferred Shares
Shares purchased under the program will qualify as Tier 1 capital and will rank senior to common stock and pari passu with existing preferred shares
The purchased shares will be non-voting and pay a dividend of 5% per year for the first five years, and 9% per year for subsequent years
The Treasury must consent to any increase in common dividends per share for the first three years of the program, unless all senior preferred shares have been redeemed or control of the shares has been transferred to a third party
In the event of a liquidation, or any other winding up of the financial institution, the senior preferred shares will have a liquidation preference of $1000 per share
Shares will be callable at par after three years
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US Capital Purchase Program -- Warrants
The Treasury will obtain warrants for common stock with a market value of 15% of the amount of senior preferred stock
For publicly traded companies, the Treasury will receive warrants for nonvoting common stock, preferred stock or voting common stock
For non-publicly traded companies, the Treasury will receive a warrant for common or preferred stock or a senior debt instrument
All of the warrants must contain anti-dilution provisions
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US Capital Purchase Program -- Executive Compensation Standards
To qualify for the program, financial institutions must adopt the Treasury’s standards for executive compensation
The program requires that financial institutions restrict incentives for executives to take excessive risks, and clawback any bonus or incentive compensation paid to officers or executives as a result of inaccurate or false earnings statements
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US Capital Purchase Programs in Other Countries
United Kingdom Government Bank Reconstruction Fund -- HM Treasury would make available at least GBP50bn in exchange for ordinary or preference shares.
Germany Financial Market Stabilization Fund -- EUR80bn in exchange for non-voting preferred shares, shares and hybrid capital such as participation certificates.
France Recapitalization fund -- EUR 40bn for subscription in preferred shares or subordinated debt issued.
Switzerland The Swiss National Bank will subscribe to CHF6bn mandatory convertible notes (MCN) of UBS in return for UBS transferring illiquid assets to a special purpose vehicle for orderly liquidation.
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US Temporary Liquidity Guarantee Program
On October 14, 2008, Treasury invoked the systemic risk exception to the FDIC Improvement Act of 1991, permitting the Federal Deposit Insurance Corporation to implement the Temporary Liquidity Guarantee Program
The program has two components:
One component guarantees newly issued senior unsecured debt of the participating organizations, within a certain limit, issued between October 14, 2008 and June 30, 2009. In the case of debts maturing after June 30, 2009, the guarantee remains in effect until June 30, 2012
– Eligible senior debt includes promissory notes, commercial paper, interbank funding and any unsecured portion of secured debt
The other component provides full coverage for non-interest bearing transaction deposit accounts, notwithstanding dollar amount, until December 31, 2009
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US Temporary Liquidity Guarantee Program -- Eligible Institutions & Fees
Eligible entities generally include: FDIC-insured depository institutions, US bank holding companies, US financial holding companies, US saving and loan holding companies that engage only in activities that are permitted for financial holding companies under Section 4(k) of the Bank Holding Company Act
FDIC-insured institutions owned by a non-US entity are also eligible to participate, but insured branches of foreign banks are excluded
All eligible institutions are automatically enrolled in the programs at no cost
Institutions that do not want to participate in the programs must “opt out” of one or both programs by December 5, 2008. After that time, participating institutions will be assessed fees
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US Temporary Liquidity Guarantee Program -- Terms and Conditions
Participants in the program will be charged a 75-basis point fee to protect their new debt issues and a 10-basis point surcharge will be added to an institution's current insurance assessment to cover the non-interest bearing deposit transaction accounts
The amount of debt covered by this program may not exceed 125% of debt that was outstanding as of September 30, 2008 that was slated to mature before June 30, 2009
An enhanced supervisory regime will be put in place to ensure the appropriate use of the guarantee
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US Money Market Funds Guarantee
The Treasury will guarantee that investors receive $1 for each money market fund share held as of September 29, 2008 ($1 is the standard net asset value for money market mutual funds)
The guarantee will be triggered if a participating fund’s net asset value falls below $0.995
Eligible funds must be regulated under the Investment Company Act of 1940, and must maintain a stable share price of $1
Funds must be publicly offered and registered with the SEC
Both taxable and non-taxable funds are eligible to participate
There is no limit on the amount of shares that can be covered
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Government Guarantees in Other Countries
United Kingdom Credit guarantee scheme of up to GBP250bn pursuant to which HM Treasury is to guarantee eligible liabilities issued after October 13, 2008 and before April 9, 2009 of certain eligible institutions
Germany May issue guarantees of up to EUR400bn with respect to liabilities incurred from date of enactment of authorizing legislation until December 31, 2009.
Belgium Credit guarantee scheme without overall set amount for liabilities issued before October 31, 2009, including CDs, interbank deposits, and MTNs. The guarantee amount would be determined for each institution by the Ministry of Finance separately.
Canada Canadian Lenders Assurance Facility would guarantee certain senior unsecured marketable instruments issued until April 30, 2009. There is no set maximum amount for the guarantee sheme.
Recent Goverment Intervention in the Financial Markets · November 6, 2008 14
Recently Established US Liquidity Facilities
Commercial Paper Funding Facility -- US branches of a foreign bank and US issuers with a foreign parent are eligible participants
Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility -- US branches of foreign banks and US depository institutions are eligible participants
Money Market Investor Funding Facility -- Eligible investors include US money market funds and over time may include other money market investors
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Liquidity Measures in Other Countries
United Kingdom GBP100bn under special liquidity scheme, allowing illiquid assets to be swapped for T-Bills. BoE to provide short-term liquidity (theoretically unlimited).
Germany Bundesbank to take steps to secure liquidity of money market funds and near-market money funds through temporary provision of special liquidity support in return for collateral.
France The French government will provide up to EUR320bn until December 31, 2009 to address funding needs of French banks.
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Questions?
Contact: Tom Pax
+1 202 912 5168
WA417839