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Treasury Outlines Financial Stability Plan

Financial Services Task Force Update James D. Friedman

On February 10, 2009, the United States Department of the Treasury ("Treasury") announced that it was developing a Financial Stability Plan (the "Plan"), designed to further ease the financial crisis. Unlike prior Treasury efforts, the Plan also focuses specifically on the transparency of the process and the accountability of institutions receiving funds. While portions of the Plan are still under development, the general provisions have been released and are summarized below.

Capital Assistance Program

The Treasury intends to work with bank supervisors, the Securities and Exchange Commission and accounting standard setters to improve the public disclosure of bank balance sheets and to ensure that financial institutions have the necessary capital base to withstand a deepening recession. To that end, the Treasury will develop a Capital Assistance Program ("CAP").

Under CAP, banking institutions with consolidated assets greater than $100 billion will be required to undergo comprehensive "stress tests" to determine if they can absorb losses and continue lending in even the most adverse of conditions. Banks that have undergone this "stress test" will have access to Treasury funds to restore or maintain the banks' capital bases. In exchange for the funds, the Treasury will receive preferred securities convertible to common equity. The conversion price of the instruments will be set at a modest discount from the prevailing level of the institution's stock price as of February 9, 2009. The dividend rate for the securities has not yet been determined. In addition, all CAP investments by the Treasury will be placed in a Financial Stability Trust, a separate entity created solely to manage the United States' investments in U.S. financial institutions.

Banking institutions with consolidated assets less than $100 billion may also take advantage of CAP funds after participating in the "stress test," if the institutions are otherwise eligible. For CAP purposes, the eligibility requirements are the same as those for a Qualified Financial Institution under the current Capital Purchase Program ("CPP"). With supervisory approval, banks are also allowed to exchange existing CPP preferred stock for the new CAP securities.

Public-Private Investment Fund

In an effort to allow financial institutions to cleanse their balance sheets of "legacy" assets, the Treasury, in conjunction with the Federal Reserve, the Federal Deposit Insurance Corporation ("FDIC") and private investors, is creating the Public-Private Investment Fund ("PPIF"). The PPIF is intended to utilize public funds to leverage private capital in the purchase of "legacy" assets from financial institutions. Initially, $500 billion of public funds will be allocated to the PPIF, although the Treasury expects the program to expand to $1 trillion over time. The private sector influence on the PPIF is expected to aid in appropriately pricing and disposing of troubled assets.

Consumer and Business Lending Initiative

The Consumer and Business Lending Initiative's primary purpose is to open up the consumer credit market by stimulating demand for securities backed by consumer loans. It aims to do so by expanding the not yet implemented Term Asset-Backed Securities Loan Facility (TALF), increasing its funding from $200 billion to as much as $1 trillion. TALF attempts to promote lending by reducing the cost of term financing for investors in asset-backed securities. The Consumer Business Lending Initiative also expands TALF to include not only consumer loans but also commercial mortgage-backed securities. The Treasury is also considering adding other asset classes such as non-Agency residential mortgage-backed securities and assets collateralized by corporate debt. Finally, to limit the risk to taxpayers, TALF restricts purchases to only newly packaged AAA loans.

Transparency, Accountability, and Monitoring

In conjunction with the announcement of the Plan, the Treasury has refined its rules relating to transparency, accountability, and monitoring of the receipt of government assistance. These standards are not retroactive but apply to all recipients of federal funds under the Plan.

Institutions receiving funds under the Plan must submit, along with their application, a plan outlining how the funds are to be used. Once funds are received, the institution must provide a monthly report to the Treasury containing the following information: (1) the institution's lending, broken down by category; (2) the number of new loans made to businesses and consumers; (3) the number of asset-backed and mortgage-backed securities purchased; (4) a description of the lending environment in the community the institution serves; and (5) an estimate of what the institution's lending would have been in the absence of government support. Public companies will need to file Form 8-Ks containing such information and when they file their Form 10-Qs and 10-Ks. In addition to the above requirements, all CAP participants are required to participate in mortgage foreclosure mitigation programs.

The Treasury will also place greater restrictions on institutions receiving funds under the Plan. Institutions receiving exceptional assistance may only issue quarterly $.01 common stock dividends. This requirement also applies to institutions receiving generally available capital from the Treasury unless the Treasury or the institution's primary regulator approves a greater dividend as being consistent with reaching the institution's capital planning objectives. Likewise, all institutions receiving CAP funding may not repurchase privately held shares of their stock or pursue cash acquisitions of healthy firms until the entire government investment is repaid. However, these restrictions may be waived with Treasury or supervisory approval. Finally, under CAP, all institutions receiving funds must comply with the recently updated executive compensation rules, which regulate executive compensation, "say-on-pay" shareholder votes and disclosure requirements for luxury purchases, among other things.

In an effort to aid transparency, the federal government is also developing a separate Web site,, that is designed to track all government assistance under CAP. The Treasury will publish key metrics in regard to the impact of the Plan on credit markets, and all Plan contracts will be posted on the Web site within 10 business days of the completion of the investment. The value of the investment, the quantity and strike price of warrants received and the payment schedule will all be made public. In addition, to stem lobbyist influence, the Treasury will certify that each investment was based solely on investment criteria and the facts of that particular case.

Future Initiatives

In the near future, the government intends to announce comprehensive plans to address the housing crisis and the decline of small business lending. Under the anticipated housing crisis plan, the government intends to (1) drive down overall mortgage rates by spending as much as $600 billion to purchase government-sponsored enterprise ("GSE") mortgage-backed securities and GSE debt; (2) commit $50 billion to prevent avoidable foreclosures of middle-class, owner-occupied homes by working to reduce monthly payments; (3) establish loan modification guidelines and standards; and (4) build additional flexibility into the Hope for Homeowners program and the Federal Housing Administration to enable modification for distressed borrowers. To reverse the decline in small business lending, the government intends to (1) finance the purchase of AAA-rated Small Business Administration ("SBA") loans to help unfreeze secondary markets for small business loans; (2) increase the SBA loan guarantee from as low as seventy-five percent (75%) to as high as ninety percent (90%); (3) reduce fees for SBA 7(a) and 504 lending; and (4) provide funds for oversight and for speedier and less burdensome processing of loan applications.

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For more details, or if you have any questions, please contact Jim Friedman at 414-277-5735 / [email protected], Spencer Larche at 414-277-5571 / [email protected], or your Quarles & Brady LLP attorney.

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