Ten years ago, on October 13, 2008, the U.S. Treasury Secretary Henry Paulson effectively locked the CEO’s of the nine largest banks in the United States in a conference room and demanded that they accept an investment from the U.S. Government. Although we had front row seats for much of the activity over the ensuing years, reading the New York Times summary of that meeting from the following day still provides a sense of just how shocking all of this was.

While the U.S. Treasury simultaneously announced its intention to also provide the possibility of investments in other banks, it was a long wait for details, particularly for privately held and Subchapter S Banks.  Ultimately, over the course of the next 15 months, the U.S. Treasury invested $199 billion in 707 financial institutions across 48 states.  As of October 1, 2018, the Treasury has received over $226 billion back in dividends, repayments, auction proceeds, and warrant repurchases.

Of the $199 billion in investments in 707 institutions, as of October 1, 2018, only three investments, reflecting $24 million in original investments, remain in Treasury’s portfolio.  264 institutions repaid in full and another 165 refinanced into other government programs.  (The SBLF and CDFI funds were similar to the TARP CPP program, but were ultimately done under different congressional mandates.  While not necessarily representative of an ultimate cash return on the Treasury’s investment, each of these funds has also provided a strong return to the Treasury.)

On January 26, 2012, the Office of the Special Inspector General for the Troubled Asset Relief Program (SIGTARP) released its latest Quarterly Report to Congress.  At 302 pages, I can’t say that it’s recommended reading for anyone, but there are portions of it that may be of significant interest to those in the industry.

One of the central themes of the SIGTARP report is that TARP will continue to exist for years.  In addition to programs designed to support the housing market and certain securities markets that are scheduled to last until as late as 2017, 371 banks remain in the TARP Capital Purchase Program.  While I disagree with some of SIGTARP’s conclusions and framework for the issues, I agree that a clear and workable exit plan for community banks is crucial to financial stability.”  SIGTARP has recommended that Treasury develop a clear TARP exit path for community banks, especially in light of a steep rise in the TARP dividend rate from 5% to 9% starting as soon as late 2013.  “Treasury must develop a workable plan in consultation with the regulators and begin executing that plan to remove uncertainty related to these banks.”

Despite its negative public perception, the overall Capital Purchase Program is universally thought to have earned a positive return for the government.  While estimates for the total TARP program continue to show a significant cost, these costs are primarily tied to the housing support programs (which were never intended to be profitable) and relief provided to AIG and the automotive industry.  Estimates on the CPP program, on the other hand, range from a gain of between $7 billion and $17 billion.  Specifically, the Office of Management and Budget estimated on November 18, 2011 (using data as June 30, 2011) that the CPP would result in a $7 billion gain; the Congressional Budget Office estimated on December 16, 2011 (using data as of November 15, 2011) that the CPP would result in a $17 billion gain; and the Treasury estimated on November 10, 2011 (using data as of September 30, 2011) that the CPP would result in a $13 billion gain.  While Treasury may incur losses on some of the remaining investments, the program as a whole (even without considering how bad the economy may have performed in the event the Treasury had not invested in banks under the CPP), will be profitable.  Investing is a risk/reward analysis, and any investment strategy, especially when considering investments in over 700 financial institutions, should be viewed at the portfolio level.  To that extent, TARP generally, and the CPP specifically, should be viewed as a success.

Under the CPP, Treasury invested a total of $204.9 billion of TARP funds in 707 financial institutions.  Through December 31, 2011, 279 banks – including the 10 largest recipients of funds and 137 that exited TARP by refinancing the investment under the Small Business Lending Fund (SBLF) program – had fully repaid CPP or the Treasury had sold the institution’s stock.  In addition, 28 banks converted their CPP investments into CDCI investments and 13 banks have partially repaid.  On the other hand, 12 CPP investments have been sold for less than their par value and 14 are in various stages of bankruptcy or receivership.

As of December 31, 2011, $185.5 billion of the principal (or 90.5%) had been repaid, leaving approximately $19.5 billion outstanding.  Of the repaid amount, $355.6 million was converted into CDCI investments (which is part of TARP), and $2.2 billion was converted into SBLF investments (which is not part of TARP).  In addition, Treasury has received approximately $11.4 billion in interest and dividends and $7.7 billion from the sale of common stock warrants that were obtained in connection with the CPP financings.

On March 30, 2011, the Treasury announced that the TARP Capital Purchase Program has now generated more money for taxpayers than it originally cost.  Through March 30, 2011, the Treasury had collected, on behalf of the U.S. taxpayers, over$251 billion from the financial institutions that Treasury invested in through repayments, dividends, interest, and other income.

This exceeds the original investment Treasury made in these banks by approximately $6 billion, and Treasury currently estimates that the bank programs under TARP will ultimately provide a lifetime profit of approximately $20 billion to taxpayers.

We have attempted to emphasize the investment nature of the Capital Purchase Program since 2008, but the term “bailout” helps sell papers and has generally stuck.  As we noted on October 30, 2008:

The emphasis should be on supporting the Government’s program to strengthen the entire banking system in order to enable banks to continue supporting their local community through this economic downturn.  The program is designed to earn a return for the Government (and thus the taxpayer), and is thus not a “bail-out” at all.

Perhaps now that the Treasury has already recognized a positive return on its investment, the mainstream press (and the public generally) may begin to accept that TARP should not have been a four letter word.

On June 29, 2010, the Senate voted to commence debate on the Small Business Jobs and Credit Act of 2010, a bill passed by the House on June 17, 2010 which includes a $30 billion fund for small business lending through the provision of capital to community banks. This legislation would implement the program described in President Obama’s State of the Union address earlier this year.  Obama has promoted the program by saying that it “takes money repaid by Wall Street banks to provide capital for community banks on Main Street” that can in turn help small businesses create jobs. In the latest version of the bill presented to the Senate,  certain banks with less than $10 billion in assets would be eligible for government infusions of capital, dividend payments on which would decrease with increasing levels of small business lending.  Banks are also generally permitted to use this capital to refinance existing TARP obligations.  The substitute amendment currently before the Senate cuts out a provision of the House bill to permit eligible banks to amortize recent real estate loan losses over as many as 10 years.

The original Obama proposal called on Congress to transfer TARP money to create the fund, but the fund has evolved as a completely separate initiative.  Acknowledging this possible confusion, Section 3111(a) of the bill specifically provides that the fund “is established as separate and distinct from the Troubled Asset Relief Program established by the Emergency Economic Stabilization Act of 2008” and that an institution “shall not, by virtue of a capital investment under the Small Business Lending Fund Program, be considered a recipient of the Troubled Asset Relief Program.”  Proponents continue the political battle to detach this potentially negative association from a bill that would target recovery on Main Street.

The Small Business Lending Fund

Title III of the bill currently before the Senate establishes the fund and authorizes the government to make up to $30 billion in capital investments into eligible institutions.  These investments would be similar to TARP infusions but would not result in executive compensation and other restrictions.  Banks up to $10 billion in assets would generally be eligible to apply for funding. However, the Small Business Lending Fund will not be a source of capital for the banks most in need of additional capital.  Banks on the FDIC’s Troubled Bank List (generally those with composite CAMELS ratings of 4 or 5) would be ineligible to participate. As with the Capital Purchase Program, the program is designed to provide assistance to otherwise healthy institutions.  Each institution’s primary federal banking regulator will continue to have a significant say in whether the institution should receive any funds under the Small Business Lending Fund.

The Treasury Department is conducting a survey on how all TARP CPP recipients used the capital provided by TARP during 2009.  Specifically, the Treasury is seeking to collect information to understand what actions institutions took, or were able to avoid taking, because of CPP funding.  In addition to collecting feedback through the surveys, the Treasury will also publish summary balance sheet and income statement information from each institution’s regulatory filings.

Survey responses are due Thursday, April 15, 2010.

While responding to the survey is not required under the TARP CPP agreements or regulations, banks failing to respond are likely subject to possible criticism from their primary regulator.  For example, FIL-1-2009 encourages state non-member banks to document how the CPP funds were used and encourages summarizing such information in public documents.  While the Use of Capital Survey is not explicitly listed, FDIC examiners may take the failure to respond as an affront to their regulatory guidance.

On March 23, 2010, the Special Master for TARP Executive Compensation issued a letter to all financial institutions that received TARP CPP funds prior to February 17, 2009.  The letter requests compensation data to permit the Special Master to review all bonuses, retention awards and other compensation paid to the institution’s senior executive officers and next 20 most highly-compensated employees from the receipt of TARP CPP funds through February 17, 2009.

In the event the Special Master determines that such compensation is inconsistent with the purposes of TARP or otherwise contrary to the public interest, the Treasury shall seek to negotiate with the TARP CPP recipient and the affected employee for appropriate reimbursements to the federal government.

The review is applicable to all institutions that received TARP assistance prior to February 17, 2009, even if the institution has repaid such funds.  Institutions that received TARP assistance after February 17, 2009 are not included in the review.  A complete list of the affected TARP institutions is included as an appendix to the Special Master’s letter.

Institutions must confirm receipt of the Special Master’s request no later than April 6, 2010, and must submit the required data and certification not later than April 22, 2010.

On February 3, 2010, the Treasury Department announced enhancements to the TARP Capital Purchase Program for Community Development Financial Institutions (CDFIs).  In addition to significant improvements for CDFIs, for the first time the Treasury Department has formally announced that it will consider private matching investments to determine bank viability – which could be a significant signal of how the Treasury might treat community banks under the proposed $30 billion Small Business Lending Fund.

Basic Program Terms

• CDFI’s can apply for capital equal to up to 5 percent of their total risk weighted assets.
• The dividend rate on the preferred stock will be 2% for eight years (as opposed to 5% for five years under the original Capital Purchase Program) before increasing to 9%.
• CDFI’s with existing TARP Capital Purchase Program investments will be eligible to transfer those investments into this program (effectively lowering the carrying costs of the capital and potentially providing additional capital, if desired).
• Consistent with the previous terms for CDFI’s, CDFI’s will not be required to issue any warrants or other additional equity kickers to the Treasury Department under the program.

Matching Capital

As noted above, for the first time the Treasury Department has formally recognized the possibility of institutions raising matching private capital to become eligible for TARP capital.  Specifically, the new plan contemplates that if a CDFI might not otherwise be approved by its regulator, it will be eligible to participate “so long as it can raise enough private capital that – when matched with the Treasury capital up to 5 percent of risk-weighted assets – it can reach viability.”  The new private capital will have to be junior to the TARP investment (i.e. common stock or preferred stock with lower preferences – although potentially higher dividend rates – than the TARP preferred stock).

Carrying through with his announcement in the State of the Union, on February 2, 2010, President Obama provided the outlines of a proposed $30 billion Small Business Lending Fund to provide capital to community banks, with incentives to increase small business lending.  As proposed, the program will require Congressional approval to move the funds outside of TARP, which should remove the applicability of the executive compensation and governance restrictions and is also hoped to remove the stigma associated with TARP funds.

Based on the initial fact sheet, the terms appear generally comparable to the financial terms under the Capital Purchase Program, with reductions in the dividend rate for the first five years triggered by increases in small business lending.  Every 2.5% increase in small business lending through December 31, 2011 over 2009 levels would trigger a 1% decrease in dividend rate, down to a minimum rate of 1%.

Banks with less than $1 billion in assets would be eligible to receive a capital investment of up to 5% of their risk-weighted assets.  Banks with between $1 and $10 billion in assets would be eligible to receive a capital investment of up to 3% of their risk-weighted assets.  Participation in the program will require approval by the bank’s primary federal regulator, although no details are available as to the standards that will be employed.

In his January 27, 2010 State of the Union address, President Obama renewed his call for using some of the TARP money for community banks in an effort to drive small business lending.

So tonight, I’m proposing that we take $30 billion of the money Wall Street banks have repaid and use it to help community banks give small businesses the credit they need to stay afloat.

This proposal would be consistent with President Obama’s speech last October in which he stated the broad outlines of a new program to provide additional capital to community banks in an effort to spur lending to smaller business, as well as Secretary Geithner’s extension of the TARP program.

We understand that government officials have indicated that additional details on the program will be rolled out by Treasury officials in the coming days.  We have previously analyzed the known terms of such an expansion, based on the guidance provided last October.

Two of the more commonly discussed programs that Treasury implemented pursuant to its discretion under TARP, the Capital Purchase Program (the “CPP”) and the Capital Assistance Program (the “CAP”), have been closed.

According to the Treasury’s FAQs, as of December 31, 2009, the Treasury will not make any additional investments under the CPP.  Over 700 institutions participated in the CPP, representing institutions from every state, except Montana and Vermont, and from Puerto Rico and Washington D.C.  California’s institutions were most highly represented, with 72 institutions receiving CPP funds.  Illinois and Missouri followed with 47 and 32 institutions, respectively, receiving CPP funds.

Although Treasury Secretary Geithner has extended TARP generally to October 3, 2010 and President Obama previously announced an that initiative would be developed for small community banks, there is currently no Treasury program aimed at providing capital support for community banks.

The CAP, which was intended to provide capital support to financial institutions in conjunction with the stress tests, was closed on November 9, 2009, without making any investments.

We will provide an update if the Treasury develops and implements any new program.