Two of the more commonly discussed programs that Treasury implemented pursuant to its discretion under TARP, the Capital Purchase Program (the “CPP”) and the Capital Assistance Program (the “CAP”), have been closed.

According to the Treasury’s FAQs, as of December 31, 2009, the Treasury will not make any additional investments under the CPP.  Over 700 institutions participated in the CPP, representing institutions from every state, except Montana and Vermont, and from Puerto Rico and Washington D.C.  California’s institutions were most highly represented, with 72 institutions receiving CPP funds.  Illinois and Missouri followed with 47 and 32 institutions, respectively, receiving CPP funds.

Although Treasury Secretary Geithner has extended TARP generally to October 3, 2010 and President Obama previously announced an that initiative would be developed for small community banks, there is currently no Treasury program aimed at providing capital support for community banks.

The CAP, which was intended to provide capital support to financial institutions in conjunction with the stress tests, was closed on November 9, 2009, without making any investments.

We will provide an update if the Treasury develops and implements any new program.

The deadline for banks (at least those other than the 19 participants in the Stress Test) to apply for the Capital Assistance Program has been extended again.  The Capital Assistance Program is the second round of potential capital investments under the TARP umbrella, following the Capital Purchase Program.  To date, the Treasury has not made any investments in banks under the Capital Assistance Program.

The original announced deadline of May 25, 2009 was extended until June 8, 2009 to coincide with the deadline for submitting capital plans under the Supervisory Capital Assessment Program.  However, the Treasury has subsequently decided to extend the application deadline for the Capital Assistance program to November 9, 2009.  This later deadline is memorialized in the answer to Question 12 of the Treasury’s FAQs on Capital Purchase Program Repayment and Capital Assistance Program, and has also been separately confirmed to us in writing by the Treasury Department.

On May 7, 2009, the Federal Reserve released its Overview of Results of the Supervisory Capital Assessment Program (or Stress Test).  The headlines regarding the Stress Test Results are likely to emphasize that ten of the 19 participating institutions are required to collectively raise $74.6 billion in new common equity, as follows:

• American Express – $0
• Bank of America – $33.9 billion
• BB&T – $0
• Bank of New York Mellon – $0
• Capital One – $0
• Citigroup – $5.5 billion
• Fifth Third – $1.1 billion
• GMAC – $11.5 billion (of which $9.1 billion must be new Tier 1 Capital)
• Goldman Sachs – $0
• JP Morgan – $0
• Key Corp – $1.8 billion
• MetLife – $0 billion
• Morgan Stanley – $1.8 billion
• PNC Financial – $0.6 billion
• Regions – $2.5 billion (of which $400 million must be new Tier 1 Capital)
• State Street – $0
• SunTrust – $2.2 billion
• U.S. Bancorp – $0
• Wells Fargo – $13.7 billion

Notably, only GMAC and Regions have to raise new Tier 1 Capital in order to satisfy the Stress Test standards; the remaining entities may satisfy the standard by converting existing Tier 1 Capital (such as the TARP Capital Purchase Program funds) into Common Stock.  This can be accomplished under the TARP Capital Assistance Program without any additional use of Treasury funds.

For the 8,000+ banks that did not participate in the Stress Test, however, the takeaways are likely to be completely unrelated to the actual results encountered by the 19 participating institutions.

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In advance of releasing the “Stress Test” results (scheduled for 5:00pm on Thursday, May 7, 2009), the Treasury and the federal banking regulators released a joint statement about the Supervisory Capital Assistance Program on May 6, 2009.  The joint statement also includes information about the process that will be used for institutions desiring to redeem their TARP Capital Purchase Program Preferred stock.

A few key points about the Stress Test:

• The government intends to announce, for each of the 19 institutions individually and in the aggregate, estimates of: losses and loss rates across select categories of loans; resources available to absorb those losses; and the resulting necessary additions to the capital buffers.
• Any of the 19 needing to raise capital will be given until June 8, 2009 to develop a detailed capital plan, and until November 9, 2009 to implement that plan.
• As part of the capital plan, an institution may apply for Mandatory Convertible Preferred under the TARP Capital Assistance Program, and may convert its existing TARP Capital Purchase Program Preferred shares into the Capital Assistance Program Convertible Preferred shares.
• “Smaller financial institutions generally maintain capital levels, especially common equity, well above regulatory capital standards.”
• Accordingly, the government does not intend to expand the Stress Test beyond the initial 19 bank holding companies (at least officially).
• The Treasury reiterates that the TARP Capital Assistance Program is available to other institutions on the same terms and conditions applicable to the 19 Stress Tested banks.  The Treasury intends to process applications received “in an expedient manner.”  (No discussion is made of when or if term sheets will be made available for non-publicly traded institutions to participate in the Capital Assistance Program.

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On April 24, 2009, the Federal Reserve published a white paper describing the process and methodologies employed by the federal banking supervisory agencies in their forward-looking capital assessment of large U.S. bank holding companies.  The white paper is thin on new details, but does provide a base for understanding the stress tests being undertaken of 19 bank holding companies with total assets in excess of $100 billion.

Purpose and Effect of the Stress Tests

The stress tests are designed as the first part of the Capital Assistance Program to demonstrate which institutions the government believes will need to raise additional capital.  If a stress test demonstrates that an institution requires additional capital, the institution will be required to enter an agreement to issue convertible preferred securities to the U.S. Treasury in an amount sufficient to meet the capital shortfall under the TARP Capital Assistance Program.  Each such institution will then be permitted up to six months to raise private capital in public markets to meet their capital needs, and would be able to cancel the obligation to the government without penalty.  Participants would also be given the opportunity to convert their existing TARP Capital Purchase Program preferred stock into the convertible preferred stock to be issued under the TARP Capital Assistance Program (such a conversion would not affect the institution’s Tier 1 capital, but could affect the institution’s tangible common equity and their dividend obligations).

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In an effort to calm the financial markets, on February 23, 2009, the Treasury, FDIC, OCC, OTS, and Federal Reserve issued a joint statement about the Capital Assistance Program and a “strong presumption” that banks should remain in private hands.

The joint statement also provides additional details about the Capital Assistance Program that was part of the Treasury’s previously announced Financial Stability Plan.  The Capital Assistance Program (presumably to become known as CAP, and not to be confused with the CPP, the Capital Purchase Program), will be “initiated” on February 25, 2009.  If the “stress test” indicates that an additional capital buffer is needed, institutions will be given an “opportunity” to raise capital privately before the government makes a capital buffer “available” to the institution.  The regulators provide that this higher level of capital “does not imply a new capital standard,” although it’s hard to see how that implication is avoided.

Any governmental infusion will be in the form of mandatory convertible preferred securities, and could be retired before conversion if the financial conditions improve.  It is not clear whether the preferred securities, prior to conversion, will be treated as Tier 1 capital.  The Treasury intends to make prior capital injections under the Capital Purchase Program also eligible to be exchanged for the new mandatory convertible preferred shares.

The joint statement concludes with an argument that widespread nationalization of banks will not occur under the Capital Assistance Program.  “Because our economy functions better when financial institutions are well managed in the private sector, the strong presumption of the Capital Assistance Program is that banks should remain in private hands.”