Private Equity Firms Smell Blood

Private equity is back in the news. It seems that several private equity firms see the banks as an opportunity to make some fast money, but they want the Securities & Exchange Commission and the Federal Reserve Bank to suspend the regulations as they apply to bank ownership. What does that mean?

When a company buys into a bank that is publicly traded as all of the large banks in the United States are, there are certain rules that must be followed as they relate to the percent of ownership that an outside investor can maintain. These rules are designed to prevent conflict of interest and to insure some semblance of competition. The break points are 10% and 25%. Let me try and explain. If a company, such as a private equity firm, invests in more than 25% of the bank’s common stock, the private equity firm is then considered a bank holding company and is then governed by the rules and regulations of a bank. If a private equity firm would own between 10% and 25% of a bank, they can not control the bank’s management. And, to put a director on the board of the bank, the investment firm (private equity firm) must own less than 10% of the common stock. These rules exist to promote fairness and protect consumers and businesses that deal with banks.

But now the private equity firms smell blood in the water, and looking to maximize their profits would like the rules and regulations put aside for a while, while they fed on the bleeding (cash) banks. It is just that simple. We do not have to use big words to explain a simple point. The point being that banks are hurting from the loan losses and other investments they may have gotten themselves into. The investing public and several funds have taken a bath as a result of the decline in market valuation of many many of the banks’ common stocks. The banks need an infusion of fresh cash and the private equity firms have the cash to invest. The question is whether the government will hold the line on regulation or whether they will cave in. In that you and I are the ultimate guarantors, as we provide the government with the cash to back up the banks, should the government allow a suspension of the rules and regulations so the feeding frenzy can begin?

Private equity firms are not nonprofit organizations. They are the great white sharks of Wall Street. They do not bother with the little fish as it is not worth their effort in time or money. But, the large commercial banks, especially the ones that need fresh cash, are a meal. My opinion and two bucks will maybe buy you a cup of coffee, depending on where you live, is this. My view of the situation and knowing what private equity firms are like, I think the government better stick with the rules and regulations as they are and not get creative at this point in time. Private equity firms have one objective and that is to make as much profit in as short an amount of time as possible. They are measured against a time weighted return on capital. That is the last kind of measure we need for our commercial banks to labor under at this point in time. Our commercial banks, at this point in time, need a protective environment, not to be thrown to the sharks.

Stay tuned.