On March 12, 2012, Treasury released its February 2012 Dividends and Interest Report providing an updated look at the status of TARP CPP funds, including the first update following the February 2012 dividend due date under the terms of the TARP CPP investments. As of February 29, 2012, there were 163 TARP recipients that had missed at least one dividend payment (excluding any TARP recipients that have filed bankruptcy or who have been placed into receivership).
As a result of the missed dividends, Treasury has appointed a total of 13 directors to eight different institutions. In addition, the Treasury has appointed observers to an additional 39 institutions.
Although the Treasury has the right, under the terms of the TARP investments, to appoint two directors once a TARP recipient misses six dividend payments, Treasury has focused its efforts on the largest recipients. This likely partially reflects that it is not necessarily easy to identify qualified individuals who are willing to serve as directors of troubled financial institutions. Directors appointed by Treasury have the same rights and responsibilities as all other directors, and are not provided any additional legal or financial protection or benefit due to their appointment by Treasury. Treasury has only appointed one or more directors at institutions that have now missed at least nine quarterly dividend payments, and event amongst that group, have generally focused on the larger recipients, with a focus on those who are behind over $3 million in dividend payments. Based on the Treasury appointees that we’re aware of, the Treasury has identified highly qualified independent bank directors, that can act as a real benefit to the institution they’re being appointed to. As a general matter, they tend to be well-credentialed outside directors, frequently former bank executives that understand the condition of the bank. Technically, Treasury only has the right to appoint the directors at the holding company level, although we understand that Treasury has requested that they also be appointed to any subsidiary bank boards – and that most TARP recipients with appointed directors have done so, perhaps reflecting the quality of the appointed directors.
For those institutions where Treasury has yet to place director appointees, Treasury has frequently requested (and received approval) to allow a Treasury employee to observe board meetings. Based on the February 2012 report, it would appear that Treasury currently appoints observers once an institution has missed at least five dividend payments and the aggregate dividend deferral exceeds $1 million. These observers tend to be silent telephonic attendees at board meetings.
As Treasury continues the pursuit of exiting TARP, the Treasury is likely going to have to recognize a relatively large discount to place its investment in the dividend-deferring institutions. When transitioned to a third party, the Treasury will lose the ability to appoint directors, as well as the practical need to appoint observers.
On the the other hand, third party acquirers of the TARP CPP investments will gain the contractual right to appoint directors, subject only to any necessary regulatory non-objections to the individual director appointees. I don’t see any reason, other than potentially practicality, that a third party acquirer would continue the Treasury’s practice of utilizing observers rather than directors or of focusing only on the largest investments. However, although the TARP CPP investments are generally non-voting, third party acquirers may risk being deemed in “control” of the underlying institution due to the nominal size of the equity investment and the ability to appoint two directors. As “control” could lead to a bank holding company determination as well as an obligation to act as a source of financial strength, we expect that the Federal Reserve may offer a form of passivity agreement to minimize these concerns.