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Fewer Bank Failures? Chapter 11 Sale Offers a New Way

Source: WSJ 1/6/2011
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This has huge implications for the troubled banking situation's across the country!

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By ERIC MORATH
The recent sale of a Washington state bank out of Chapter 11 created a new tool that potentially could rescue hundreds of similarly troubled institutions and save the Federal Deposit Insurance Corp. billions of dollars, according to a number of banking experts.

An investment vehicle backed by a Goldman Sachs Group Inc. fund and Oaktree Capital Management LP late last month purchased AmericanWest Bank, of Spokane, Wash., out of bankruptcy from its holding company, without the need for regulators to seize the bank and shore up its deposits.

The deal could open up options to save other banks teetering on the edge of failure, particularly those whose holding companies are saddled with so-called trust-preferred securities, and make it easier for hungry investors to acquire undercapitalized banks.

State banking regulators said the sale, which they believe to be the first transaction of its kind, could have a wide-ranging impact. "We are encouraged to find another way to skin the cat," said Brad Williamson, director of banks for the Washington State Department of Financial Institutions. The sale "allowed the bank to be recapitalized and addressed the TruPS conundrum."

Trust-preferred securities, commonly called TruPS, have weighed down many banks struggling to remain afloat. The securities were issued frequently in the 1990s as a way for bank holding companies to raise capital cheaply and without diluting their shareholders' equity.

However, as the financial crisis took hold, those securities often stood in the way of private investors willing to step in to rescue banks stung by bad loans and faltering real-estate markets. The reason so many bank holding companies, including AmericanWest Bancorp., couldn't persuade investors to come forward was because the ultimate holders of the trust-preferred securities are entitled to payment before any capital infusion can occur.

Trustees representing the debtholders often were unwilling or unable to negotiate a settlement that could allow a bank to be recapitalized without government intervention.

The result: Some banks that could have been rescued were seized and billions of dollars have been drained from the FDIC's insurance fund.

More than 150 banks failed last year, costing the FDIC more than $20 billion. AmericanWest's failure alone would have cost the FDIC $330 million, according to papers filed with the U.S. Bankruptcy Court in Spokane.

Instead, the bankruptcy sale allowed the 58-branch bank, which became insolvent in the first half of last year, to find its way to new owners without government assistance. SKBHC Holding LLC, the Goldman-Oaktree vehicle, paid $6.5 million for AmericanWest and pledged up to $200 million in additional capital.

SKBHC said it was attracted to AmericanWest because the investment vehicle feels the Pacific Northwest economy is poised to rebound and was impressed with the AmericanWest's operation. While AmericanWest was closely watched by regulators, it was never seized, in part because banking executives kept regulators closely informed of their plans to recapitalize.

"We made a strong business case to regulators that this could be a bit of a game changer," said Scott Kisting, SKBHC's chairman and chief executive.

Bankruptcy sales are commonplace in manufacturing and other industries, but they aren't in banking. Typically, bank holding companies file for bankruptcy after their bank is seized.

Mr. Kisting credited former AmericanWest Bank President Patrick Rusnak for developing the idea of using a bankruptcy sale to complete the transaction.

With a Chapter 11 sale, SKBHC acquired the bank free and clear of liens, including amounts owed to the trust-preferred securities holders.

AmericanWest Bancorporation raised capital years ago through the issuance of roughly $40 million in debt through trusts, which was then repackaged into several different collateralized debt obligations that held about $2 billion of securities. Those CDOs, in turn, issued bonds to investors.

That complicated investment structure meant it wasn't possible to trace individual holders of the holding company's debt—making it nearly impossible to negotiate with the debtholders.

"In cases like this, there is simply no one to negotiate with," said Van C. Durrer, an attorney for SKBHC. Durrer is a bankruptcy attorney with Skadden, Arps, Slate, Meagher & Flom.

"It would be very hard to do this transaction out of court and out of receivership," he said.

The sale drew the attention of others in the industry.

"AmericanWest very well could be an example to follow," said Frank Bonaventure, chairman of the financial-institutions group at law firm Ober Kaler.

This isn't to say that waves of holding companies will file for Chapter 11 protection in order to execute sales, he said, but even the threat of bankruptcy could be enough to bring trust-preferred securities trustees to the table for more serious negotiations.

Mr. Williamson, the state regulator, said he hopes that is the case.

"The AmericanWest recap shows that trust-preferred securities holders need to start being a little more flexible," he said.

Mr. Williamson said the outcome of the AmericanWest case was preferable to that of other holding companies weighed down by trust-preferred securities.

For example, when Troubled Asset Relief Program recipient Sterling Savings Bank, also based in Spokane, was recapitalized last year, TruPS holders received full payment while the U.S. Treasury took a significant loss, he said.

With private-equity firms, such as SKBHC, ready to recapitalize troubled banks, Chapter 11 proceedings could open the door to needed investment without government assistance, said banking analyst Brett Rabatin.

Many investors, including affiliates of billionaire Wilbur Ross, have purchased banks after the FDIC became a receiver. Mr. Rabatin, a senior analyst at Sterne, Agee & Leach Inc., said the AmericanWest deal could pave the way for a new model.

"The FDIC is realizing that they don't have to fail more banks," he said. "They can use private equity as a vehicle for institutions that need capital."

Write to Eric Morath at [e-mail]

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