Resolution of Systemically Important Financial Institutions: The Single Point of Entry Strategy
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Notice; request for comments.
Citation: "78 FR 76614"
"Notices"
SUMMARY: Since enactment of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) in 2010, the
   DATES: Comments must be received by the
   ADDRESSES: You may submit comments by any of the following methods:
    * Agency Web Site: http://www.fdic.gov/regulations/laws/federal. Follow instructions for Submitting comments on the Agency Web site.
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   SUPPLEMENTARY INFORMATION:
Background
   Since the passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) the
   The financial crisis that began in late 2007 demonstrated the lack of sufficient resolution planning on the part of market participants. In the absence of adequate and credible resolution plans on the part of global systemically important financial institutions (G-SIFIs), the financial crisis highlighted deficiencies in existing U.S. financial institution resolution regime as well the complexity of the international structures of G-SIFIs. At that time, the
   Title I and Title II of the Dodd-Frank Act provide significant new authorities to the
   Title II, therefore, provides a back-up authority to place a SIFI into an
   While the Dodd-Frank Act does not specify how a resolution should be structured, Title II clearly establishes certain policy goals. The
   In developing a resolution strategy the
    * Multiple Competing Insolvencies: Multiple jurisdictions, with the possibility of different insolvency frameworks, raise the risk of discontinuity of critical operations and uncertain outcomes;
    * Global Cooperation: The risk that lack of cooperation could lead to ring-fencing of assets or other outcomes that could exacerbate financial instability in
    * Operations and Interconnectedness: The risk that services provided by an affiliate or third party might be interrupted, or access to payment and clearing capabilities might be lost;
    * Counterparty Actions: The risk that counterparty actions might create operational challenges for the company, leading to systemic market disruption or financial instability in
    * Funding and Liquidity: The risk of insufficient liquidity to maintain critical operations, which may arise from increased margin requirements, termination or inability to roll over short-term borrowings, loss of access to alternative sources of credit.
Additionally, the
   To implement its authority under Title II, the
Overview
   U.S. SIFIs generally are organized under a holding company structure with a top-tier parent and operating subsidiaries that comprise hundreds, or even thousands, of interconnected entities that span legal and regulatory jurisdictions across international borders and share funding and support services. Functions and core business lines often are not aligned with individual legal entity structures. Critical operations can cross legal entities and jurisdictions and funding is often dispersed among affiliates as need arises. These integrated structures make it very difficult to conduct an orderly resolution of one part of the company without triggering a costly collapse of the entire company and potentially transmitting adverse effects throughout the financial system. Additionally, it is the top-tier company that raises the equity capital of the institution and subsequently down-streams equity and some debt funding to its subsidiaries.
   In resolving a failed or failing SIFI the
   To implement the SPOE strategy the
   The newly formed bridge financial company would continue to provide the holding company functions of the covered financial company. The company's subsidiaries would remain open and operating, allowing them to continue critical operations for the financial system and avoid the disruption that would otherwise accompany their closings, thus minimizing disruptions to the financial system and the risk of spillover effects to counterparties. Because these subsidiaries would remain open and operating as going concerns, and any obligations supporting subsidiaries' contracts would be transferred to the bridge financial company, counterparties to most of the financial company's derivative contracts would have no legal right to terminate and net out their contracts. Such action would prevent a disorderly termination of these contracts and a resulting fire sale of assets.
   Under the Dodd-Frank Act, officers and directors responsible for the failure cannot be retained and would be replaced. The
   During the resolution process, measures would be taken to address the problems that led to the company's failure. These could include changes in the company's businesses, shrinking those businesses, breaking them into smaller entities, and/or liquidating certain subsidiaries or business lines or closing certain operations. The restructuring of the firm might result in one or more smaller companies that would be able to be resolved under bankruptcy without causing significant adverse effect to the U.S. economy.
   The FDIC intends to maximize the use of private funding in a systemic resolution and expects the well-capitalized bridge financial company and its subsidiaries to obtain funding from customary sources of liquidity in the private markets. The
   If any OLF obligations are issued to obtain funding, they would be repaid during the orderly liquidation process. Ultimately OLF borrowings are to be repaid either from recoveries on the assets of the failed firm or, in the unlikely event of a loss on the collateralized borrowings, from assessments against the eligible financial companies. /1/ The law expressly prohibits taxpayer losses from the use of this Title II authority.
   FOOTNOTE 1 The Dodd-Frank Act defines "eligible financial companies" as any bank holding company with total consolidated assets of
The Appointment of the
   If a SIFI encounters severe financial distress, bankruptcy is the first option. Under Title I the objective is to have the SIFI produce a credible plan that would demonstrate how resolution under the Bankruptcy Code would not pose a systemic risk to the U.S. economy. A Title II resolution would only occur if a resolution under the Bankruptcy Code could not be implemented without serious adverse effects on financial stability in
   Before a SIFI can be resolved under Title II, two-thirds of the
   FOOTNOTE 2 The
   FOOTNOTE 3 Subsequent to a determination, the Secretary would notify the board of directors of the covered financial company. If the board of directors does not consent to the appointment of the
Organization and Operation of the
   Upon its appointment as receiver of the top-tier U.S. holding company of the covered financial company, the
   In connection with the formation of the bridge financial company, the
   Day-to-day management of the company would continue to be supervised by the officers and directors of the bridge financial company. The
   The FDIC would retain control over certain high-level key matters of the bridge financial company's governance, including approval rights for any issuance of stock; amendments or modifications of the articles or bylaws; capital transactions in excess of established thresholds; asset transfers or sales in excess of established thresholds; merger, consolidation or reorganization of the bridge financial company; any changes in directors of the bridge financial company (with the
Funding the
   It is anticipated that funding the bridge financial company would initially be the top priority for its new management. In raising new funds the bridge would have some substantial advantages over its predecessor. The bridge financial company would have a strong balance sheet with assets significantly greater than liabilities since unsecured debt obligations would be left as claims in the receivership while all assets will be transferred. As a result, the
   If the customary sources of funding are not immediately available, the
   All advances would be fully secured through the pledge of the assets of the bridge financial company and its subsidiaries. If the assets of the bridge financial company, its subsidiaries, and the receivership are insufficient to repay fully the OLF through the proceeds generated by a sale or refinancing of bridge financial company assets, the receiver would impose risk-based assessments on eligible financial companies to ensure that any obligations issued by the
   The Dodd-Frank Act capped the amount of OLF funds that can be used in a resolution by the maximum obligation limitation. Upon placement into a Title II resolution this amount would equal 10 percent of the total consolidated assets of the covered financial company based on the most recent financial statements available. If any OLF funds are used beyond the initial thirty (30) day period or in excess of the initial maximum obligation limit, the
   FOOTNOTE 4 The
Claims Determination and the Capitalization Process
   The FDIC is required by the Dodd-Frank Act to conduct an administrative claims process to determine claims against the covered financial company left in receivership, including the amount and priority of allowed claims. Once a valuation of the bridge financial company's assets and the administrative claims process are completed, creditors' claims would be paid through a securities-for-claims exchange.
Claims Determination
   The Dodd-Frank Act established a priority of claims that would apply to all claims left in the receivership. Following the statutory priority of claims, the administrative expenses of the receiver shall be paid first, any amounts owed to
   Certain claims of the holding company would be transferred to the bridge financial company to facilitate its operation and to mitigate systemic risk. For instance, obligations of vendors providing essential services would be assumed by the bridge financial company in order to keep day-to-day operations running smoothly. Such an action would be analogous to the "first-day" orders in bankruptcy where the bankruptcy court approves payment of pre-petition amounts due to certain vendors whose goods or services are critical to the debtor's operations during the bankruptcy process. The transfer would also likely include secured claims of the holding company because the transfer of fully secured liabilities with the related collateral would not diminish the net value of the assets in the receivership and would avoid any systemic risk effects from the immediate liquidation of the collateral. The
   In general the
   Although the consent of creditors of the receivership is not required in connection with any disparate treatment, all creditors must receive at least the amount that they would have received if the
   FOOTNOTE 5 The
   Similar to the bankruptcy process, for creditors left in the receivership, the
   FOOTNOTE 6 The
   FOOTNOTE 7 An expedited process is available to certain secured creditors in which the
Capitalization
   In reorganization under the bankruptcy laws, creditors' claims are sometimes satisfied through the issuance of securities in the new company. Likewise, the SPOE strategy provides for the payment of creditors' claims in the receivership through the issuance of securities in a securities-for-claims exchange. This exchange involves the issuance and distribution of new debt, equity and, possibly, contingent securities--such as warrants or options--in
   Prior to the exchange of securities for claims, the
   The valuation work would include, among other things, review and testing of models that had been used by the covered financial company before failure as well as establishing values for all assets and business lines. The valuation would provide a basis for establishing the capital and leverage ratios of the bridge financial company, as well as the amount of losses incurred by both the bridge financial company and the covered financial company in receivership. The valuation would also help to satisfy applicable
   Due to the nature of the types of assets at the bridge financial company and the likelihood of market uncertainty regarding asset values, the valuation process necessarily would yield a range of values for the bridge financial company. The
   FOOTNOTE 8 The
   The bridge financial company would issue audited financial statements as promptly as possible. The audited financial statements of the bridge financial company would be prepared by a qualified independent public accounting firm in accordance with generally accepted accounting principles and applicable
   Figure 1 demonstrates the claims and capitalization process. In this hypothetical example,
   In order to exit the bridge financial company,
BILLING CODE 6741-01-P
See Illustration in Original Document.
   Ownership of securities in
Restructuring and the Emergence of
   The FDIC's goal is to limit the time during which the failed covered financial company is under public control and expects the bridge financial company to be ready to execute its securities-for-claims exchange within six to nine months. Execution of this exchange would result in termination of the bridge financial company's charter and establishment of
   The termination of the bridge financial company would only occur once it is clear that a plan for restructuring, which can be enforced, has been approved by the
   This process would result in the operations and legal entity structure of the company being more closely aligned and the company might become smaller and less complex. In addition, the restructuring might result in the company being divided into several companies or parts of entities being sold to third parties. This process would be facilitated to the extent the former company's Title I process was effective in mitigating obstacles and addressing impediments to resolvability under the Bankruptcy Code.
   Before terminating the bridge financial company and turning its operations over to the private sector, the
   FOOTNOTE 9 While NewCo (or NewCos) would no longer be systemic, it is still likely to fall under the requirement to file a Title I plan due to having assets greater than
   Figure 2 demonstrates the
See Illustration in Original Document.
BILLING CODE 6741-01-C
Reporting
   The FDIC recognizes the importance of providing transparent reporting to the public, financial markets,
   The FDIC would provide the best available information regarding the financial condition of the bridge financial company to creditors of the covered financial company. The bridge financial company would comply with all disclosure and reporting requirements under applicable securities laws, provided that if all standards cannot be met because audited financial statements are not available with respect to the bridge financial company, the
   The FDIC anticipates that the bridge financial company would retain the covered financial company's existing financial reporting systems, policies and procedures, unless the
   The FDIC would fully comply with the Dodd-Frank Act requirement that the
   The FDIC anticipates making a public version of its Congressional report available on its Web site and providing necessary updates on at least a quarterly basis. In addition, if requested by
Request for Comment
   To implement its authority under Title II, the
Disparate Treatment
   The issue of disparate treatment has been raised regarding the lack of a creditors' committee under a Title II resolution and the fact that creditor approval is not necessary for the
   FOOTNOTE 10 The
   The FDIC expects that disparate treatment of creditors would occur only in very limited circumstances. It is permissible under the statute only if such an action is necessary to continue operations essential to the receivership or the bridge financial company, or to maximize recoveries. For example, such treatment could be used to provide payment for amounts due to certain vendors whose goods or services are critical to the operations of the bridge financial company and in this sense would be analogous to the "first-day" orders in bankruptcy where the bankruptcy court approves payment of pre-petition amounts due to certain vendors whose goods or services are critical to the debtor's operations during the bankruptcy process. To the extent that operational contracts and other critical agreements are obligations of subsidiaries of the bridge financial company, they would not be affected by the appointment of the
Use of the OLF
   Another issue is that the existence of the OLF and the
   From the outset, the bridge financial company would be created by transferring sufficient assets from the receivership to ensure that it is well-capitalized. The well-capitalized bridge financial company should be able to fund its ordinary operations through customary private market sources. The
   It might be necessary, however, in the initial days following the creation of the bridge financial company for the
   OLF resources can only be used for liquidity purposes, and may not be used to provide capital support to the bridge company. OLF borrowings would be fully secured through the pledge of assets of the bridge financial company and its subsidiaries. The OLF is to be repaid ahead of other general creditors of the Title II receivership making it likely that it would be repaid out of the sale or refinancing of the receivership's assets. In the unlikely event that these sources are insufficient to repay the borrowings, the receiver has the authority to impose risk-based assessments on eligible financial companies--bank holding companies with
   The FDIC is interested in commenters' views on the
Funding Advantage of SIFIs
   SIFIs have a widely perceived funding advantage over their smaller competitors. This perception arises from a market expectation that a SIFI would receive public support in the event of financial difficulties. This expectation causes unsecured creditors to view their investments at a SIFI as safer than at a smaller financial institution, which is not perceived as benefitting from an expectation of public support. One goal of the SPOE strategy is to undercut this advantage by allowing for the orderly liquidation of the top-tier U.S. holding company of a SIFI with losses imposed on that company's shareholders and unsecured creditors. Such action should result in removal of market expectations of public support.
   The successful use of the SPOE strategy would allow the subsidiaries of the holding company to remain open and operating. As noted, losses would first be imposed on the holding company's shareholders and unsecured creditors, not on the unsecured creditors of subsidiaries. This is consistent with the longstanding source of strength doctrine which holds the parent company accountable for losses at operating subsidiaries.
   This outcome raises issues about whether creditors, including uninsured depositors, of subsidiaries of SIFIs would be inappropriately protected from loss even though this protection comes from the resources of the parent company and not from public support. Creditors and shareholders must bear the losses of the financial company in accordance with statutory priorities, and if there are circumstances under which the losses cannot be fully absorbed by the holding company's shareholders and creditors, then the subsidiaries with the greatest losses would have to be placed into receivership, exposing those subsidiary's creditors, potentially including uninsured depositors, to loss. An operating subsidiary that is insolvent and cannot be recapitalized might be closed as a separate receivership. Creditors, including uninsured depositors, of operating subsidiaries therefore, should not expect with certainty that they would be protected from loss in the event of financial difficulties.
   The FDIC is interested in commenters' views on the perceived funding advantage of SIFIs and the effect of this perception on non-SIFIs. Specifically, does the potential to use the OLF in a Title II resolution create a funding advantage for a SIFI and its operating companies? Would any potential funding advantage contribute to consolidation among the banking industry that otherwise would not occur? Additionally, are there other measures and methods that could be used to address any perceived funding advantage?
Capital and Debt Levels at the Holding Company
   The SPOE strategy is intended to minimize market disruption by isolating the failure and associated losses in a SIFI to the top-tier holding company while maintaining operations at the subsidiary level. In this manner, the resolution would be confined to one legal entity, the holding company, and would not trigger the need for resolution or bankruptcy across the operating subsidiaries, multiple business lines, or various sovereign jurisdictions. For this resolution strategy to be successful, it is critical that the top-tier holding company maintain a sufficient amount of equity and unsecured debt that would be available to recapitalize (and insulate) the operating subsidiaries and allow termination of the bridge financial company and establishment of
   The discussion of the appropriate amount of equity and unsecured debt at the holding company that would be needed to successfully implement a SPOE resolution has begun. Regulators are considering minimum unsecured debt requirements in conjunction with minimum capital requirements for SIFIs. In addition, consideration of the appropriate pre-positioning of the proceeds from the holding company's debt issuance is a critical issue for the successful implementation of the SPOE strategy.
   The FDIC is interested in commenters' views on the amount of equity and unsecured debt that would be needed to effectuate a SPOE resolution and establish a
Treatment of Foreign Operations of the
   Differences in laws and practices across sovereign jurisdictions complicate the resolvability of a SIFI. These cross-border differences include settlement practices involving derivative instruments, credit swaps, and payment clearing-and-processing activities. In the critical moment of a financial crisis, foreign authorities might ring-fence a SIFI's operations in their jurisdictions to protect their interests, which could impair the effectiveness of the SPOE strategy. A key challenge for a successful resolution of a SIFI under the SPOE strategy, therefore, will be to avoid or minimize any potential negative effects of ring fencing of the SIFI's foreign operations by foreign supervisors in those jurisdictions.
   SIFIs operate in foreign jurisdictions primarily through two forms of organization--subsidiaries or branches of the IDI. Foreign subsidiaries are independent entities, separately chartered or licensed in their respective countries, with their own capital base and funding sources. As long as foreign subsidiaries can demonstrate that they are well-capitalized and self-sustaining, the
   A multiple point of entry (MPOE) resolution strategy has been suggested as an alternative to the SPOE resolution strategy. To minimize possible disruption to the company and the financial system as a whole, an MPOE resolution involving the cross-border operations of a SIFI would require having those operations housed within subsidiaries that would be sufficiently independent so as to allow for their individual resolution without resulting in knock-on effects. Independent subsidiaries could also arguably facilitate a SPOE strategy by having well-capitalized subsidiaries with strong liquidity that would continue operating while the parent holding company was placed in resolution.
   A subsidiarization requirement could resolve some problems associated with the need for international coordination. However, it is not clear that such a requirement would resolve all of the issues associated with resolving a SIFI with foreign operations, such as those of interconnectedness or of needing the cooperation of foreign authorities to maintain certain services or operations.
   The FDIC would welcome comments on whether a subsidiarization requirement would facilitate the resolution of a SIFI under the MPOE or SPOE strategies, or under the Bankruptcy Code. The
   The FDIC would also welcome comments on the impact a branch structure might have on a banking organization's ability to withstand adverse economic conditions that do not threaten the viability of the group, for example, by enabling the organization to transfer funds from healthy affiliates to others that suffer losses in a manner that is consistent with 23A and 23B of the Federal Reserve Act. /11/ In addition, the
   FOOTNOTE 11 Sections 23A and 23B restrict the ability of an insured depository institution to fund an affiliate through direct investment, loans, or other covered transactions that might expose the insured depository institution to risk. END FOOTNOTE
Cross-Border Cooperation
   Cross-border cooperation and coordination with foreign regulatory authorities are a priority for the successful execution of the SPOE strategy. The
   An important example of cross-border coordination on resolution issues is a joint letter the
   The FDIC welcomes comment on the most important additional steps that can be taken with foreign regulatory authorities to achieve a successful resolution using the SPOE strategy.
Additional Questions
   In addition to the issues highlighted above, comments are solicited on the following:
   Securities-for-Claims Exchange. This Notice describes how
   Valuation. This Notice describes how the assets of the bridge financial company would be valued and how uncertainty regarding such valuation could be addressed. Would the issuance to creditors of contingent value securities, such as warrants, be an effective tool to accommodate inevitable uncertainties in valuation? What characteristics--such as, term or option pricing, among others--would be useful in structuring such securities, and what is an appropriate methodology to determine these characteristics?
   Information. This Notice recognizes the importance of financial reporting to the resolution process. What information, reports or disclosures by the bridge financial company are most important to claimants, the public, or other stakeholders? What additional information or explanation about the administrative claims process would be useful in addition to the information already provided by regulation or this Notice?
   Effectiveness of the SPOE Strategy. This Notice describes factors that would form the basis of the initial determination as to whether the SPOE strategy would be effective for a particular covered financial company. Are there additional factors that should be considered? Is there an alternative to the SPOE strategy that would, in general, provide better results considering the goals of mitigating systemic risk to the financial system and ensuring that taxpayers would not be called upon to bail out the company?
   Dated at
By order of the Board of Directors.
Executive Secretary.
[FR Doc. 2013-30057 Filed 12-17-13;
BILLING CODE 6741-01-P
| Copyright: | (c) 2013 Federal Information & News Dispatch, Inc. |
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