As Rebecca Simmons of Sullivan & Cromwell LLP notes, the way in which regulators and governments deal with failing banks is crucial in determining the consequences of such failures. In the US, much of the responsibility for finding a resolution for failing banks falls to the Federal Deposit Insurance Corporation (FDIC), which acts as deposit insurer and the receiver of failed banks. In normal circumstances, it will take over the bank and try to sell it to healthy bank in a very short period of time. Recently of course, the FDIC has been acting in abnormal times. For example, Paul Marquardt of Cleary Gottlieb Steen & Hamilton LLP notes that when the property bubble burst, the FDIC had to work out how to sell assets trading at huge discount. When finding buyers for troubled banks, Marquardt says the FDIC usually tries to form a public private partnership and operate a loss sharing agreement where the FDIC shares the risk with the buyer.

 

Simmons notes that the 2008 financial crisis highlighted a peculiarity of the US system, where banks tend to be subsidiaries of larger corporate conglomerates rather than being owned by banks. This can present a fundamental problem if the parent entity ends up in financial difficulty because of the subsequent opposing bankruptcy proceedings, where parties can be locked in messy legal battles for years. The collapse of Lehman Brothers, and the subsequent complications from proceedings in multiple jurisdictions is a prime example of the scale of the problem this can present. Title 2 in the Dodd Frank Act (regulation in response to the crisis) seeks to address this by taking such proceedings out of the bankruptcy court and bar, and handing them to one single liquidator – the FDIC. Simmons notes that it remains to be seen how the FDIC handles this role given it was not established for such a responsibility.

 

The Brazilian equivalent of the FDIC is the Fundo Guarantor de Créditos (FGC), which has been taking a bigger role in the handling of troubled banks in the country. In a recent case it was appointed as the manager and played the part of an investment bank, looking for buyers, and it has also started to be more flexible in looking for solutions. “FGC is trying to become a commercial partner, to try to convince people to invest in the entity” says Bruno Balduccini of Pinheiro Neto Advogados. It is also starting to act preventively, approaching banks that are likely to face problems in the future and looking for ways to protect them – for example, by matching them up with foreign banks interested in setting up in the country. Balduccini notes that the FGC has been criticised – for example in its use of public money to bail out banks, but overall it is notable that there have not been bank failures that cause systemic risk in recent years.

 

Mexico’s difficult lessons came from the country’s crisis during the 1990s. Thomas Heather of Heather & Heather says Mexico has used the Inter-American Development Bank’s three pillars as guidance for its handling of bank insolvency: equity must come first in taking the hit, troubled banks should have their operations restricted and should be ring fenced. There is also recognition of the need for political will to prioritise public funds in bail outs. Heather says the Mexican system is based on two fundamentals: the realisation that bank insolvency is very different to corporate insolvency, given the associated impact on economic stability and confidence; and the legal institutional framework must be built upon a more effective banking supervisory regime. Heather describes Mexico’s system as proactive and based on early warnings. He says the most important lessons Mexico has learnt are that there is no universal model for rescuing all banks and that prevention is better than cure.

 

Latin Lawyer's Corporate Finance Conference took place in São Paulo on Tuesday 19 March.

 

(Source: LatinLawyer)

 

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