Bankruptcy Looms Large in New FDIC Takeovers

By Joe Adler

While supporters of the Dodd-Frank Act are hopeful a new resolution regime for financial giants will prove better than the traditional bankruptcy process, regulators are under pressure to prove it will at least be no worse. The Federal Deposit Insurance Corp. is planning how the agency, as required by the financial reform bill, will ensure creditors receive at least as much in a resolution as they would otherwise in a Chapter 7 bankruptcy. Dodd-Frank put a large asterisk on bankruptcies for large companies. The law allows the government in certain cases to sidestep traditional reorganizations and subject failing financial behemoths to a special wind-down process meant to limit effects on the broader financial system. But many in the debate over the reform law argued bankruptcy should not be tinkered with too dramatically, and whatever new process is put in place should resemble the bankruptcy code to give creditors comfort they would face similar treatment under the two systems. “It was important that creditors and investors understand that they would not be disadvantaged under a Title II resolution so that the potential for a FDIC resolution would not affect the value placed on a company’s debt or equity,” Krimminger said. As a result, the law included what is known as a “minimum recovery” section, saying the FDIC – authorized to pay certain creditors more than they would normally get in a bankruptcy – must not pay any creditor less than what they would have received in a liquidation. There are signals the FDIC may weigh in on the issue soon. A report earlier this month by banking policy analyst Karen Shaw Petrou included the FDIC’s “bankruptcy-equivalence test” as one of its remaining to-do items in implementing the resolution regime. “The FDIC is working on a minimum-recovery protocol to be proposed shortly in regulatory form to address this important issue,” according to the report, released by Petrou’s Federal Financial Analytics Inc.