On January 14, 2009, the Treasury Department released a term sheet and FAQ describing the terms under which private financial institutions that have elected to be taxed under Subchapter S of Chapter 1 of the U.S. Internal Revenue Code (S-Corp) may participate in the Capital Purchase Program (CPP). The program is open to Qualifying Financial Institutions (QFIs) that have made a valid election to be treated as an S-Corp and submit an application to their primary federal banking agency by February 13, 2009.

Investment Securities and Principal Terms

A private QFI approved by its primary bank regulator may sell "senior securities" to the Treasury in an amount equal to not less than 1 percent of its risk-weighted assets and not more than the lesser of 3 percent of its risk-weighted assets or $25 billion. The senior securities are subordinated debentures issued in increments of $1,000, with a term of thirty (30) years, and senior in priority to the QFI's common stock (or other class of equity) but subordinate to claims of depositors and the QFI’s other debt obligations. The senior securities will pay interest at a rate of 7.7 percent per annum until the fifth anniversary of the Senior Security, and thereafter at a rate of 13.8 percent per annum. Interest will be payable quarterly in arrears on February 15, May 15, August 15, and November 15 of each year, provided that interest may be deferred for up to 20 quarters. Any deferred interest shall accumulate and compound at the then applicable interest rate in effect. The senior securities may not be redeemed for three years, except with the proceeds of a "qualified equity offering" that results in gross proceeds of at least 25 percent of the issue price of the senior securities. In addition to senior securities, the Treasury will receive warrants to purchase additional senior securities (the warrant securities) which will have the same rights and privileges as senior securities, except that the warrant securities will pay interest at the rate of 13.8 percent per annum. The warrant shall be for the purchase of warrant securities in an amount equal to 5 percent of the senior securities initially purchased. The exercise price of such warrant shall be $0.01 per the debenture representing the warranty security. The Treasury has indicated that it intends to immediately exercise the warrants.

The senior securities may not be subject to any contractual restrictions or transfer restrictions under any stockholder's agreement or similar arrangement between the QFI and its shareholders, except that the Treasury will commit not to effect any transfer of the senior securities that would require the QFI to become subject to the reporting requirements of Section 13 or Section 15(d) of the Securities Exchange Act of 1934, as amended. However, if the QFI otherwise becomes subject to such reporting requirements, the institution will be required to 1) file a shelf registration statement covering the senior securities, the warrants, and the warrant securities; 2) grant piggyback registration rights to the Treasury; and 3) take all action required to cause the registration statement to be declared effective as soon as possible.

Restrictions on Dividends, Repurchases and Related Party Transactions

The Treasury's consent is required for any increase in common dividends until the third anniversary of the Treasury's investment, unless the senior securities and warrant securities have been redeemed in full or have been transferred by the Treasury to a third party. After the third anniversary and prior to the tenth anniversary of the Treasury's investment, the Treasury's consent will be required for any increase in aggregate common dividends per share greater than 3 percent per annum. The Treasury's consent will also be required for any repurchase of equity securities or trust preferred securities (other than repurchases of the senior securities or repurchases of junior shares in connection with a benefit plan in the ordinary course of business) until the tenth anniversary of the investment. No dividends may be declared or paid on any shares or equity or trust preferred, and no junior shares may be repurchased, in any case, unless all accrued and unpaid interest on the senior securities has been paid in full. After the tenth anniversary of the Treasury’s investment, no common dividends may be paid and no common shares or other securities junior to the senior securities may be redeemed until all of the senior securities and warrant securities owned by the Treasury have been redeemed or transferred to a third party.

For as long as the Treasury holds any of the senior securities of the QFI, the QFI and its subsidiaries may not enter into a transaction with a related person unless such transaction is on terms no less favorable to the QFI and its subsidiaries than could be obtained from an unaffiliated third party, and have been approved by the audit committee or comparable body of independent directors of the QFI.

Restrictions on Executive Compensation

As a condition to closing, the QFI must implement any required changes to its compensation, bonus, incentive, and other benefit plans, arrangements, and agreements, including golden parachute, severance, and employment arrangements, with senior executive officers (SEOs) that are required for the QFI to comply with the new executive compensation restrictions of Section 111 of the Emergency Economic Stabilization Act of 2008 (EESA). The QFI and each of its SEOs must also execute waivers releasing the Treasury from any claims arising from the amendment or modification of such plans or arrangements.

For further information on the Emergency Economic Stabilization Act, please contact:

Dominic J. De Simone , Practice Leader, Commercial Real Estate Recovery

Joseph A. Fanone, Public Finance Department

Thomas A. Hauser, Business and Finance Department

Alan S. Kaplinsky, Banking and Consumer Financial Services

Justin P. Klein, Business and Finance Department

Vincent J. Marriott III, Bankruptcy, Reorganization and Capital Recovery Group

Brian M. Pinheiro, Employee Benefits and Executive Compensation Group

Prior EESA Alerts

January 6, 2009
Federal Reserve Announces Additional Details for its Term Asset-Backed Securities Loan Facility (TALF)

December 12, 2008
Treasury Department Issues Closing Documents for Private Financial Institutions to Participate in the Capital Purchase Program

December 1, 2008
SEC Staff Issues Sample Guidance to CPP Participants Filing Proxy Statements

November 26, 2008
Federal Reserve and Treasury Announce Two New Programs To Boost Credit Availability

November 18, 2008
Treasury Department Issues Term Sheet and Announces December 8, 2008 Deadline for Private Financial Institutions to Participate in the Capital Purchase Program

November 14, 2008
Kashkari Details Future TARP Deployment Strategy

November 12, 2008
Treasury Secretary Details TARP Strategy 

November 7, 2008
Treasury Department Announces Solicitation Regarding Asset Management Services in Connection with EESA Capital Purchase Program

November 6, 2008
Beware: Is There a "Trojan Horse" in the Capital Purchase Program Securities Purchase Agreement?

October 23, 2008
Kashkari Testifies Before Senate Banking Committee

October 14, 2008
Treasury, Federal Reserve, and FDIC Joint Statement Capital Purchase Program

October 13, 2008
Remarks on TARP to Institute of International Bankers

October 7, 2008
Emergency Economic Stabilization Act of 2008/TARP

October 6, 2008
Employee Benefits and Executive Compensation Issues Connected to Emergency Economic Stabilization Act of 2008

October 6, 2008
Emergency Economic Stabilization Act of 2008


Copyright © 2009 by Ballard Spahr LLP.
www.ballardspahr.com
(No claim to original U.S. government material)

All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without prior written permission of the author and publisher.

This newsletter is a periodic publication of Ballard Spahr LLP and is intended to alert the recipients to new developments in the law. It should not be construed as legal advice or legal opinion on any specific facts or circumstances. The contents are intended for general informational purposes only, and you are urged to consult your own lawyer concerning your situation and specific legal questions you have.