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Banks Weighing Other Uses for Bailout Money
Some May Put It Toward Acquisitions

By Peter Whoriskey and Zachary A. Goldfarb
Washington Post Staff Writers
Wednesday, October 22, 2008

Several major U.S. banks are leaning toward spending a portion of their federal rescue money on acquiring other financial firms rather than for issuing new loans, the primary purpose of the government's $250 billion initiative to invest in banks.

J.P. Morgan Chase, BB&T, and Zions Bancorporation have all said in recent days that they are considering using some of their federal money to buy other banks.

About 10 financial institutions belonging to the Financial Services Roundtable, which represents 100 of the nation's largest financial services firms, are also considering making acquisitions with the money, said Scott Talbott, the group's senior vice president.

There is a growing consensus among Treasury and other federal officials that allowing healthy banks to use the money to acquire banks in jeopardy of failing could stabilize the economy and bolster confidence in banks. This could also save money for the Federal Deposit Insurance Corp.

Treasury Secretary Henry M. Paulson Jr. confirmed yesterday that some banks may use the capital they receive through the Treasury program to buy weaker banks and that this could benefit the financial system.

In an appearance on "Charlie Rose," Paulson said acquisitions were "not the driver behind this program. The driver is to have our . . . healthy banks be well-capitalized so they can play the role they need to play for our country right now." He added, "There will be some situations where it's best for the economy and for the banking system for there to be a consolidation."

Under the $250 billion program, the federal government will give banks cash in exchange for preferred shares.

The interest among banks in tapping the funds to finance acquisitions raises the possibility that the financial services industry could undergo a wave of mergers even more intense than what many analysts had predicted.

According to some analysts, an excess of mergers and acquisitions in the financial sector over the past decade created too many institutions deemed "too big too fail," meaning that the government would be obliged to rescue them if they faltered. Now, some worry the government's program will continue to drive that trend.

"I think it's a very serious problem, and I think it's part of a general failure to enforce antitrust laws in the last few years," Nobel Prize-winning economist Joseph Stiglitz said at a hearing of the House Financial Services Committee yesterday. "So one of the things I think is part of your exit strategy is that we have to think about breaking up some of the big banks," added Stiglitz, a Columbia University professor.

But supporters of consolidation say that bigger banks have bigger financial cushions and that healthier banks are able to buy -- and save -- weaker ones.

The Treasury program, which is designed to aid only healthy banks, could widen the disparity between the strong and the weak, analysts said. Some of the weakened banks could then be forced to look for a merger to survive.

"If the Treasury withholds its capital injection from banks . . . , then we could see many firms looking for partners in short order, as they would be at a competitive disadvantage against their peers," Morgan Stanley analyst Ken A. Zerbe wrote in a note to investors this week.

When the Treasury's program was announced last week, some bank executives said they didn't need the money and resented the federal intrusion. But in a number of earnings calls and interviews in recent days, several bank executives were more receptive.

The federal deal is relatively sweet in financial terms -- it requires banks to pay 5 percent interest annually on the investment over the first five years -- and some bankers said they would not pass it up.

A number of local banks are strongly considering applying for the Treasury program.

Virginia Commerce Bank, which has 26 branches and $2.2 billion in deposits, said it is looking to add $25 million to its capital base by the end of the year. In the past, the company said it was considering issuing stock to raise that capital, but the bank said yesterday that it may apply to the Treasury's program.

"Quite frankly, it is a very attractively priced alternative," chief executive Peter A. Converse told analysts.

In reporting third-quarter earnings, Virginia Commerce disclosed yesterday that profit fell 60.9 percent, to $2.7 million (10 cents per share). The bank said it had to put away vast more money to cover losses on its loans -- especially land-development and construction loans. Its provision was $8.3 million, compared with $910,000 a year ago.

Eagle Bank, a Bethesda firm with 15 branches and $1.5 billion in deposits, said it was leaning toward applying to the Treasury program even though executives said the bank was in strong financial shape. Eagle chief executive Ronald Paul said raising private capital was extraordinarily difficult because of the market turmoil.

Cardinal Bank, a McLean-based bank with 25 branches and $1.73 billion in assets, similarly said that it doesn't need the government's help. But chief executive Bernard Clineburg said his bank may still ask for it.

"It'll be more of a political need than the need for capital," he said. "Is there going to be a perceived government stamp of approval?"

Some larger banks elsewhere in the country also see the attraction.

"We do view the . . . program as the cheapest source of capital by some margin out there at the moment and we do expect to apply," Doyle Arnold, chief financial officer of Zions Bancorporation, told analysts this week. "The additional capital . . . would allow us to increase loan growth somewhat."

His bank is eligible for $500 million to $1.5 billion under the program.

He added that the money could be used to "take advantage of what we would expect will be some acquisition opportunities."

Similarly, BB&T's chief executive, John Allison, said his Winston-Salem, N.C., bank would probably take the government money.

"It's going to be difficult not to participate," he said. "One, the regulators are certainly encouraging us to. Second, it does have some favorable capital costs as we understand it today. Thirdly, our competitors will be taking advantage of the program and then, finally, it just provides us a potential for capital for acquisitions if those are realized."

Staff writer Neil Irwin contributed to this report.

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