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From Banking and Finance Law Daily, August 6, 2014

“First-wave” filers’ 2013 living wills come up short

By John M. Pachkowski, J.D.

The Federal Deposit Insurance Corporation and the Federal Reserve Board have completed their second review of the resolution plans, commonly referred to as living wills, filed by 11 large, complex banking organizations in 2013. These 11 banking organizations, known as “first-wave filers,” are: Bank of America, Bank of New York Mellon, Barclays, Citigroup, Credit Suisse, Deutsche Bank, Goldman Sachs, JPMorgan Chase, Morgan Stanley, State Street Corp., and UBS. Each banking organization filed its first resolution plan in 2012.

Under Sec. 165(d) of the Dodd-Frank Act, U.S. and foreign bank holding companies with at least $50 billion in relevant assets and nonbank financial companies that have been designated by the Financial Stability Oversight Council for Fed supervision are required to file with the Fed and the FDIC plans for their own rapid and orderly resolution should they encounter material financial distress or become insolvent. The goal is to allow such a company to be resolved through bankruptcy rather than the FDIC’s orderly resolution authority. The two agencies have adopted consistent regulations that set out the requirements for these plans—12 CFR 243 for the Fed and 12 CFR 381 for the FDIC.—that phase-in the filing requirements based on asset-size criteria.

Improvements. The agencies found some improvements in the current plans from the plans filed in 2012. Specifically, the FDIC and Fed noted that plans’ narratives improved and each of the banking organizations attempted to address the five obstacles identified in guidance issued by the agencies in April 2013. The agencies’ 2013 guidance for both U.S. bank holding companies with at least $250 billion in total nonbank assets and for foreign-based bank holding companies with at least $250 billion in total U.S. nonbank assets called for more information on obstacles to resolving a company in bankruptcy and more analysis supporting the strategies and assumptions that were in the plans being submitted (see Banking and Finance Law Daily, April 16, 2014).

Shortcomings. Despite the improvements, the FDIC and Fed identified specific shortcomings with the 2013 resolution plans that will need to be addressed in the 2015 submissions. The FDIC found that the plans are not credible and do not facilitate an orderly resolution under the U.S. Bankruptcy Code. The Fed determined that the 11 banking organizations must take immediate action to improve their resolvability and reflect those improvements in their 2015 plans.

Common features. The agencies noted that, while the shortcomings varied across the first-wave firms, there were several common features of the plans’ shortcomings. These common features included: (1) assumptions that the agencies regard as unrealistic or inadequately supported, such as assumptions about the likely behavior of customers, counterparties, investors, central clearing facilities, and regulators, and (2) the failure to make, or even to identify, the kinds of changes in firm structure and practices that would be necessary to enhance the prospects for orderly resolution.

Remediation. To address these shortcomings, the FDIC and Fed issued letters to each banking organization requiring the 11 first-wave filers to take demonstrable steps to ensure that they are making significant progress to address all the shortcomings identified in the letters, and are taking actions to improve their resolvability under the U.S. Bankruptcy Code. Some of the actions that the banking organizations must take include:

  • establishing a rational and less complex legal structure that would take into account the best alignment of legal entities and business lines to improve the firm’s resolvability;

  • developing a holding company structure that supports resolvability;

  • amending, on an industry-wide and firm-specific basis, financial contracts to provide for a stay of certain early termination rights of external counterparties triggered by insolvency proceedings;

  • ensuring the continuity of shared services that support critical operations and core business lines throughout the resolution process; and

  • demonstrating operational capabilities for resolution preparedness, such as the ability to produce reliable information in a timely manner.

Agency comments. For their announcement regarding the review results, the Fed’s Board of Governors issued a statement. The Fed Governors noted that “The Board believes the joint letters of the Board and the FDIC identifying shortcomings that must be addressed by the firms provide an effective way to improve the resolvability of firms and the resiliency of the U.S. financial system, which is the purpose of section 165(d) of the Dodd-Frank Act.”

In addition, the FDIC chairman, vice chairman, and director each issued statements commenting on the agencies’ review. FDIC Chairman Martin J. Gruenberg stated that the agencies’ letters “provide a set of changes for the firms to implement which will make a meaningful difference in the ability to resolve these firms in an orderly manner in bankruptcy, and reduce the risk they pose to the financial system.”

FDIC Vice Chairman Thomas M. Hoenig said, “in my view each plan being discussed today is deficient and fails to convincingly demonstrate how, in failure, any one of these firms could overcome obstacles to entering bankruptcy without precipitating a financial crisis. Despite the thousands of pages of material these firms submitted, the plans provide no credible or clear path through bankruptcy that doesn’t require unrealistic assumptions and direct or indirect public support.” Hoenig also disagreed that the agencies did not provide any sufficient guidance for preparing the plans. He noted, “many of the firms being required to provide Living Wills are the same firms that employ teams of experts that prepare acquisition and restructuring plans for clients, corporations, and financial companies across the globe. There is every reason to expect a credible plan from these firms.”

Finally, FDIC Director Jeremiah O. Norton stated, “Title I resolution planning is a critical component of financial reform. In many respects, achieving a credible and workable framework for resolving large and complex financial institutions would be the pinnacle accomplishment in the wake of the 2008 financial crisis.”

Industry comment. Paul Kupiec, a resident scholar at the American Enterprise Institute, called the filing of an annual resolution plan “a total wasted effort” and said that the real systemic risk issue is not bankruptcy, but the broken FDIC resolution process for large banks. He added, “To reduce the cost of breaking up large banks in an FDIC resolution, the FDIC should be required to use Title I orderly resolution planning powers to require organizational changes within the depository institution that would allow the institution to be more easily broken apart in a resolution.”

Rob Nichols, President and CEO of the Financial Services Forum said, “The industry not only welcomes, but also needs comprehensive and substantive feedback from the regulators on the living will process.”

Companies: American Enterprise Institute; Bank of America; Bank of New York Mellon; Barclays; Citigroup; Credit Suisse; Deutsche Bank; Financial Services Forum; Goldman Sachs; JPMorgan Chase; Morgan Stanley; State Street Corp.; UBS

MainStory: TopStory BankHolding BankingOperations DoddFrankAct FederalReserveSystem FinancialStability Receiverships

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