Troubled Asset Relief Program: Opportunities Exist to Apply Lessons Learned from the Capital Purchase Program to Similarly Designed Programs and to Improve the Repayment Process
Published: 2010-10-04T00:00:00

Fast Facts:

Highlights:
section_title: What GAO Found
paragraphs: Congress created the Troubled Asset Relief Program (TARP) to restore liquidity and stability in the financial system. The Department of the Treasury (Treasury), among other actions, established the Capital Purchase Program (CPP) as its primary initiative to accomplish these goals by making capital investments in eligible financial institutions. This report examines (1) the characteristics of financial institutions that received CPP funding and (2) how Treasury implemented CPP with the assistance of federal bank regulators. GAO analyzed data obtained from Treasury case files, reviewed program documents, and interviewed officials from Treasury and federal bank regulators.

section_title: Letter
paragraphs: From October 2008 through December 2009, the U.S. Department of the  Treasury (Treasury) invested over $200 billion in over 700 financial  institutions as part of government efforts to stabilize U.S. financial  markets and the economy. These investments were made through the  Capital Purchase Program (CPP), which was the initial and largest  initiative under the Troubled Asset Relief Program (TARP). Specifically,  Treasury’s authority under TARP enabled it to buy or guarantee up to  almost $700 billion of the “troubled assets” that were deemed to be at the  heart of the crisis, including mortgages and mortgage-based securities, and  any other financial instrument Treasury determined it needed to purchase  to help stabilize the financial system, including equities. Treasury created  CPP in October 2008 to provide capital to viable financial institutions  through the purchase of preferred shares and subordinated debt. In return  for its investments, Treasury would receive dividend or interest payments  and warrants. The program was closed to new investments on December  31, 2009, after Treasury had invested a total of $205 billion in 707 financial  institutions over the life of the program. Since then, Treasury has  continued to oversee its investments and collect dividend and interest  payments. Some participants have repurchased their preferred shares or  subordinated debt and left the program with the approval of their primary  bank regulators.
Treasury has stated that it used CPP investments to strengthen financial  institutions’ capital levels rather than the purchases of troubled mortgage- backed securities and whole loans as initially envisioned under TARP  because it saw these investments as a more effective mechanism to  stabilize financial markets, encourage interbank lending, and increase  confidence in lenders and investors. Treasury envisioned that the  strengthened capital positions of viable financial institutions would  enhance confidence in the institutions themselves and the financial system  overall and increase the institutions’ capacity to undertake new lending  and support the economy. Financial institutions interested in receiving  CPP investments sent their applications directly to their primary federal  banking regulators, which did the initial evaluations. Institutions were  evaluated to determine their long-term strength and viability, and weaker  institutions were encouraged by their regulators to withdraw their  applications. The regulators provided Treasury’s Office of Financial  Stability (OFS) with recommendations approving or denying applications.  OFS made the final decisions.
This report is based upon our continuing analysis and monitoring of  Treasury’s process for implementing the Emergency Economic  Stabilization Act of 2008, (EESA), which provided GAO with broad  oversight authorities for actions taken under TARP and requires that we  report at least every 60 days on TARP activities and performance. To  fulfill our statutorily mandated responsibilities, we have been monitoring  and providing updates on TARP programs, including CPP, in several  reports. This report expands on the previous work. Its objectives are to  (1) describe the characteristics of financial institutions that received CPP  funding, and (2) assess how Treasury, with the assistance of federal bank  regulators, implemented CPP.
To meet the report’s objectives, we reviewed Treasury’s case files for CPP  institutions that were funded through April 30, 2009, and other supporting  documentation such as records of meetings and transaction reports. We  collected and analyzed information from the case files, including data on the  characteristics of institutions that participated in CPP, such as risk-weighted  assets, examination ratings, and selected financial ratios. We also gathered  information on the process that Treasury and regulators used to evaluate CPP  applications. We reviewed program documents and interviewed officials from  OFS who were responsible for processing applications and repayment  requests to obtain their views on CPP implementation. Additionally, we  interviewed officials from the four federal banking regulators—the Federal  Deposit Insurance Corporation (FDIC), the Office of the Comptroller of the  Currency (OCC), the Board of Governors of the Federal Reserve System  (Federal Reserve), and the Office of Thrift Supervision (OTS)—to obtain  information on their process for reviewing CPP applications and repayment  requests. Further, we collected and reviewed program documents from the  bank regulators, including their policies and procedures, guidance  documents, and analysis summaries. Finally, we reviewed relevant laws (e.g.,  EESA) as well as relevant reports by GAO, the Office of the Special Inspector  General for TARP (SIGTARP), the FDIC Office of Inspector General, and the  Federal Reserve Office of Inspector General. This report is part of our  coordinated work with SIGTARP and the inspectors general of the federal  banking agencies to oversee TARP and CPP. The offices of the inspectors  general of FDIC, Federal Reserve, and Treasury and SIGTARP have all  completed work or have work under way at their respective agencies  reviewing CPP’s implementation. In coordination with the other oversight  agencies and offices and to avoid duplication, we primarily focused our audit  work (including our review of agency case files) on the phases of the CPP  process from the point at which the regulators transmitted their  recommendations to Treasury.
We conducted this performance audit from May 2009 to September 2010 in  accordance with generally accepted government auditing standards. Those  standards require that we plan and perform the audit to obtain sufficient,  appropriate evidence to provide a reasonable basis for our findings and  conclusions based on our audit objectives. We believe that the evidence  obtained provides a reasonable basis for our findings and conclusions  based on our audit objectives.
subsections: section_title: Background
paragraphs: CPP was the primary initiative under TARP for stabilizing the financial  markets and banking system. Treasury created the program in October 2008  to stabilize the financial system by providing capital on a voluntary basis to  qualifying regulated financial institutions through the purchase of senior  preferred shares and subordinated debt. On October 14, 2008, Treasury  allocated $250 billion of the $700 billion in overall TARP funds for CPP but  adjusted its allocation to $218 billion in March 2009 to reflect lower  estimated funding needs based on actual participation and the expectation  that institutions would repay their investments. The program was closed to  new investments on December 31, 2009, and, in total, Treasury invested  $205 billion in 707 financial institutions over the life of the program.  Through June 30, 2010, 83 institutions had repaid about $147 billion in CPP  investments, including 76 institutions that repaid their investments in full.
Under CPP, qualified financial institutions were eligible to receive an  investment of between 1 and 3 percent of their risk-weighted assets, up to  a maximum of $25 billion. In exchange for the investment, Treasury  generally received shares of senior preferred stock that were due to pay  dividends at a rate of 5 percent annually for the first 5 years and 9 percent  annually thereafter. In addition to the dividend payments, EESA required  the inclusion of warrants to purchase shares of common stock or  preferred stock, or a senior debt instrument to give taxpayers additional  protection against losses and an additional potential return on the  investments. Institutions are allowed to repay CPP investments with the  approval of their primary federal bank regulators and afterward to  repurchase warrants at fair market value.
While this was Treasury’s program, the federal bank regulators played a  key role in the CPP application and approval process. The federal banking  agencies that were responsible for receiving and reviewing CPP  applications and recommending approval or denial were the    Federal Reserve, which supervises and regulates banks authorized to do  business under state charters and that are members of the Federal Reserve  System, as well as bank and financial holding companies;    FDIC, which provides primary federal oversight of any state-chartered  banks insured by FDIC that are not members of the Federal Reserve  System;    OCC, which is responsible for chartering, regulating, and supervising  commercial banks with national charters; and    OTS, which charters federal savings associations (thrifts) and regulates  and supervises federal and state thrifts and savings and loan holding  companies.
Treasury, in consultation with the federal banking regulators, developed a  standardized framework for processing applications and disbursing CPP  funds. Treasury encouraged financial institutions that were considering  applying to CPP to consult with their primary federal bank regulators. The  bank regulators also had an extensive role in reviewing the applications of  financial institutions applying for CPP and making recommendations to  Treasury. Eligibility for CPP funds was based on the regulator’s assessment  of the applicant’s strength and viability, as measured by factors such as  examination ratings, financial performance ratios, and other mitigating  factors, without taking into account the potential impact of TARP funds.  Institutions deemed to be the strongest, such as those with the highest  examination ratings, received presumptive approval from the banking  regulators, and their applications were forwarded to Treasury. Institutions  with lower examination ratings or other concerns that required further  review were referred to the interagency CPP Council, which was composed  of representatives from the four banking regulators, with Treasury officials  as observers. The CPP Council evaluated and voted on the applicants, and  applications from institutions that received “approval” recommendations  from a majority of the regulatory representatives were forwarded to  Treasury. Treasury provided guidance to regulators and the CPP Council to  use in assessing applicants that permitted consideration of factors such as  signed merger agreements or confirmed investments of private capital,  among other things, to offset low examination ratings or other weak  attributes. Finally, institutions that the banking regulators determined to be  the weakest and ineligible for a CPP investment, such as those with the  lowest examination ratings, were to receive a presumptive denial  recommendation. Figure 1 provides an overview of the process for  assessing and approving CPP applications.
The banking regulator or the CPP Council sent approval recommendations  to Treasury’s Investment Committee, which comprised three to five senior  Treasury officials, including OFS’s chief investment officer (who served as  the committee chair) and the assistant secretaries for financial markets,  economic policy, financial institutions, and financial stability at Treasury.  After receiving recommended applications from regulators or the CPP  Council, OFS reviewed documentation supporting the regulators’  recommendations but often collected additional information from  regulators and the council before submitting applications to the  Investment Committee. The Investment Committee could also request  additional analysis or information in order to clear any concerns before  deciding on an applicant’s eligibility. After completing its review, the  Investment Committee made recommendations to the Assistant Secretary  for Financial Stability for final approval. Once the Investment Committee  recommended preliminary approval, Treasury and the approved institution  initiated the closing process to complete the legal aspects of the  investment and disburse the CPP funds.
At the time of the program’s announced establishment, nine major  financial institutions were initially included in CPP. While these  institutions did not follow the application process that was ultimately  developed, Treasury included these institutions because federal banking  regulators and Treasury considered them to be essential to the operation  of the financial system, which at the time had effectively ceased to  function. At the time, these nine institutions held about 55 percent of U.S.  banking assets and provided a variety of services, including retail and  wholesale banking, investment banking, and custodial and processing  services. According to Treasury officials, the nine financial institutions  agreed to participate in CPP in part to signal the importance of the  program to the stability of the financial system. Initially, Treasury  approved $125 billion in capital purchases for these institutions and  completed the transactions with eight of them on October 28, 2008, for a  total of $115 billion. The remaining $10 billion was disbursed after the  merger of Bank of America Corporation and Merrill Lynch & Co., Inc., was  completed in January 2009.
section_title: CPP Institutions Were Diverse and with Some Exceptions Met CPP Guidelines, but More Institutions Are Showing Signs of Financial Difficulties
paragraphs: The institutions that received CPP capital investments varied in terms of  ownership type, location, and size. The 707 institutions that received CPP  investments were split almost evenly between publicly held and privately  held institutions, with slightly more private firms. They included state- chartered and national banks and U.S. bank holding companies located in  48 states, the District of Columbia, and Puerto Rico (see fig. 2). Most states  had fewer than 20 CPP firms, but 13 states had 20 or more. California had  the most, with 72, followed by Illinois (45), Missouri (32), North Carolina  (31), and Pennsylvania (31). Montana and Vermont were the only 2 states  that did not have institutions that participated in CPP.
The total amount of CPP funds disbursed to institutions also varied by  state. The amount of CPP funds invested in institutions in most states was  less than $500 million, but institutions in 17 states received more than $1  billion each. Institutions in states that serve as financial services centers  such as New York and North Carolina received the most CPP funds. The  median amount of CPP funds invested in institutions by state was $464  million.
The size of CPP institutions also varied widely. The risk-weighted assets of  firms we reviewed that were funded through April 30, 2009, ranged from  $10 million to $1.4 trillion. However, most of the institutions were  relatively small. For example, about half of the firms that we reviewed had  risk-weighted assets of less than $500 million, and almost 70 percent had  less than $1 billion. Only 30 percent were medium to large institutions  (more than $1 billion in risk-weighted assets). Because the investment  amount was tied to the firm’s risk-weighted assets, the amount that firms  received ranged widely, from about $300,000 to $25 billion. The average  investment amount for all of the 707 CPP participants was $290 million,  although half of the institutions received less than $11 million. The 25  largest institutions received almost 90 percent of the total amount of CPP  investments, and 9 of these firms received almost 70 percent of the funds.
subsections: section_title: Regulatory Examinations Found That the Financial Condition of Most CPP Institutions Was At Least Satisfactory
paragraphs: The characteristics Treasury and regulators used to evaluate applicants  indicated that approved institutions had bank or thrift examination ratings  that generally were satisfactory, or within CPP guidelines. Treasury and  regulators used various measures of institutional strength and financial  condition to evaluate applicants. These included supervisory examination  ratings and financial performance ratios assessing an applicant’s capital  adequacy and asset quality. While some examination results were more  than a year old, regulatory officials told us that they had taken steps to  mitigate the effect of these older ratings, such as collecting updated  information.
subsections: section_title: Examination Ratings
paragraphs: Almost all of the 567 institutions we reviewed had overall examination  ratings for their largest bank or thrift that were satisfactory or better (see  fig. 3). The CAMELS ratings range from 1 to 5, with 1 indicating a firm  that is sound in every respect, 2 denoting an institution that is  fundamentally sound, and 3 or above indicating some degree of  supervisory concern. Of the CPP firms that we reviewed, 82 percent had  an overall rating of 2 from their most recent examination before applying  to CPP, and an additional 11 percent had the strongest rating. Seven  percent had an overall rating of 3 and no firms had a weaker rating. We  also found relatively small differences in overall examination ratings for  institutions by size or ownership type. For example, institutions that were  above and below the median risk-weighted assets of $472 million both had  average overall ratings of about 2. Also, public and private firms both had  average overall examination ratings of about 2.
Bank or thrift examination ratings for individual components—such as  asset quality and liquidity—exhibited similar trends. In particular, each of  the individual components had an average rating of around 2. Institutions  tended to have weaker ratings for the earnings component, which had an  average of 2.2, than for the other components, which averaged between 1.8  and 1.9. Public and private institutions exhibited similar results for the  average component ratings, although private institutions tended to have  stronger ratings on all components except for earnings and sensitivity to  market risk. Differences in average ratings by bank size also were small.  For example, smaller institutions had stronger average ratings for the  capital and asset quality components, but larger institutions had stronger  average ratings for earnings and sensitivity to market risk.
Holding companies receiving CPP investments typically also had  satisfactory or better examination ratings. The Federal Reserve uses its own  rating system when evaluating bank holding companies. Almost 80 percent  of holding companies receiving CPP funds had an overall rating of 2 (among  those with a rating), and an additional 14 percent had an overall rating of 1.  The individual component ratings for holding companies (for example, for  risk management, financial condition, and impact) also were comparable  with overall ratings, with most institutions for which we could find a rating  classified as satisfactory or better. Specifically, over 90 percent of the  ratings for each of the components were 1 or 2, with most rated 2.
Many examination ratings were more than a year old, a fact that could  limit the degree to which the ratings accurately reflect the institutions’  financial condition, especially at a time when the economy was  deteriorating rapidly. Specifically, about 25 percent of examination ratings  were older than 1 year prior to the date of application, and 5 percent were  more than 16 months old. On average, examination ratings were about 9  months older than the application date. Regulators used examination  ratings as a key measure of an applicant’s financial condition and viability,  and the age of these ratings could affect how accurately they reflect the  institutions’ current state. For example, assets, liabilities, and operating  performance generally are affected by the economic environment and  depend on many factors, such as institutional risk profiles. Stressed  market conditions such as those existing in the broad economy and  financial markets during and before CPP implementation could be  expected to have negative impacts on many of the applicants, making the  age of examination ratings a critical factor in evaluating the institutions’  viability. Further, some case decision files for CPP firms were missing  examination dates. Specifically, 104 applicants’ case decision files out of  the 567 we reviewed lacked a date for the most recent examination results.
Treasury and regulatory officials told us that they took various actions to  collect information on applicants’ current condition and to mitigate any  limitations of older examination results. Efforts to collect additional  information on the financial condition of applicants included waiting for  results of scheduled examinations or relying on preliminary CAMELS  exam results, reviewing quarterly financial results such as recent  information on asset quality, and sometimes conducting brief visits to  assess applicants’ condition. Officials from one regulator explained that  communication with the agency’s regional examiners and bank  management on changes to the firm’s condition was the most important  means of allaying concerns about older examination results. However,  officials from another regulator stated that they did use older examination  ratings, depending on the institution’s business model, lending  environment, banking history, and current loan activity. For example, the  officials said they would use older ratings if the institution was a small  community bank with a history of conservative underwriting standards  and was not lending in a volatile real estate market.
As with the examination ratings, almost all of the institutions we reviewed  had a rating for compliance with the Community Reinvestment Act (CRA)  of satisfactory or better. Over 80 percent of firms received a satisfactory  rating and almost 20 percent had an outstanding rating. Only two  institutions had an unsatisfactory rating. Average CRA ratings also were  similar across institution types and sizes.
section_title: Performance Ratios
paragraphs: Performance ratios for the CPP firms we reviewed varied but typically  were well within CPP guidelines. In assessing CPP applicants, Treasury  and regulators focused on a variety of ratios based on regulatory capital  levels, and institutions generally were well above the minimum required  levels for these ratios. Regulators generally used performance ratio  information from regulatory filings for the second or third quarters of  2008. Two of these ratios are based on a key type of regulatory capital  known as Tier 1, which includes the core capital elements that are  considered the most reliable and stable, primarily common stock and  certain types of preferred stock. Specifically, for the Tier 1 risk-based  capital ratio, banks or thrifts and holding companies had average ratios  that were more than double the regulatory minimum of 4 percent with  only one firm below that minimum level. Further, only two institutions  were below 6.5 percent (see fig. 4). Although almost all firms had Tier 1  risk-based capital ratios that exceeded the minimum level, the ratios  ranged widely, from 3 percent to 43 percent. Similarly, banks or thrifts  and holding companies had average Tier 1 leverage ratios that were more  than double the required 4 percent, and only 3 firms were below 4  percent. The ratios also ranged widely, from 2 percent to 41 percent.  Finally, for the total risk-based capital ratio, banks or thrifts and holding  companies had average ratios of 12 percent, well above the 8 percent  minimum, and only two firms were below 8 percent. These ratios ranged  from 4 percent to 44 percent.
Asset-based performance ratios for most CPP institutions also generally  remained within Treasury’s guidelines, although more firms did not meet  the criteria for these ratios than did not meet the criteria for capital ratios.  Treasury and the regulators established maximum guideline amounts for  the three performance ratios relating to assets that they used to evaluate  applicants. These ratios measure the concentration of troubled or risky  assets as a share of capital and reserves—classified assets, nonperforming  loans (including non-income-generating real estate, which is typically  acquired through foreclosure), and construction and development loans.  For each of these performance ratios, both the banks or thrifts and holding  companies had average ratios that were less than half of the maximum  guideline, well within the specified limits. For example, banks/thrifts and  holding companies had average ratios of 25 and 32 percent, respectively,  for classified assets, which had a maximum guideline of 100 percent. The  substantial majority of banks or thrifts and holding companies also were  well below the maximum guidelines for the asset ratios. For example,  almost 90 percent of banks/thrifts and over 80 percent of holding  companies had classified assets ratios below 50 percent. However, while  only 3 firms missed the guidelines for any of the capital ratios, 38  banks/thrifts and holding companies missed the nonperforming loan ratio,  8 missed the construction and development loan ratio, and 1 missed the  classified assets ratio.
section_title: Treasury and Bank Regulators Took Steps to Help Ensure That CPP Applicants Met Guidelines for Viability
paragraphs: A small group of CPP participants exhibited weaker attributes relative to  other approved institutions (see table 1). For most of these cases,  Treasury or regulators described factors that mitigated the weaknesses  and supported the applicant’s viability. Specifically, we identified 66 CPP  institutions—12 percent of the firms we reviewed—that either (1) did not  meet the performance ratio guidelines used to evaluate applicants, (2) had  an unsatisfactory overall bank or thrift examination rating, or (3) had a  formal enforcement action involving safety and soundness concerns. We  use these attributes to identify these 66 firms as marginal institutions,  although the presence of these attributes does not necessarily indicate that  a firm was not viable or that it was ineligible for CPP participation.  However, they generally may indicate firms that either had weaker  attributes than other approved firms or required closer evaluation by  Treasury and regulators. Nineteen of the institutions met multiple criteria,  including those that missed more than one performance ratio for the  largest bank/thrift or holding company. The most common criteria for the  firms identified as marginal was an unsatisfactory overall examination  rating or an unsatisfactory nonperforming loan ratio. A far smaller number  of firms exceeded the construction and development loan ratio or had  experienced a formal enforcement action related to safety and soundness  concerns. One bank and two holding companies missed the capital or  classified assets ratios.
In their evaluations of CPP applicants, Treasury and regulators  documented their reasons for approving institutions with marginal  characteristics. They typically identified three types of mitigating factors  that supported institutions’ overall viability: (1) the quality of management  and business practices; (2) the sufficiency of capital and liquidity; and (3)  performance trends, including asset quality. The most frequently cited  attributes related to management quality and capital sufficiency.
High-quality management and business practices. In evaluating  marginal applicants, regulators frequently considered the experience and  competency of the applicants’ senior management team. Officials from one  bank regulator said that they might be less skeptical of an applicant’s  prospects if they believed it had high-quality management. For example,  they used their knowledge of institutions and the quality of their  management to mitigate economic concerns for banks in the geographic  areas most severely affected by the housing market decline. Commonly  identified strengths included the willingness and ability of management to  respond quickly to problems and concerns that regulators identified such  as poor asset quality or insufficient capital levels. The evaluations of  several marginal applicants described management actions to aggressively  address asset quality problems as an indication of an institution’s ability to  resolve its weaknesses. Regulators also had a positive view of firms whose  boards of directors implemented management changes such as replacing  key executives or hiring more experienced staff in areas such as credit  administration. Finally, regulators evaluated the quality of risk  management and lending practices in determining management strength.
Capital and liquidity. Regulators often reviewed the applicant’s capital  and liquidity when evaluating whether an institution’s weaknesses might  affect its viability. In particular, regulators and Treasury considered the  sufficiency of capital to absorb losses from bad assets and the ability to  raise private capital. As instructed by Treasury guidance, regulators  evaluated an institution’s capital levels prior to the addition of any CPP  investment. Although an institution might have high levels of  nonperforming loans or other problem assets, regulators’ concerns about  viability might be eased if it also had a substantial amount of capital  available to offset related losses. Likewise, capital from private sources  could shore up an institution’s capital buffers and provide a signal to the  market that it could access similar sources if necessary.
When evaluating the sufficiency of a marginal applicant’s capital,  regulators also assessed the amount of capital relative to the firm’s risk  profile, the quality of the capital, and the firm’s dependence on volatile  funding sources. Institutions with a riskier business model that included,  for instance, extending high-risk loans or investing in high-risk assets  generally would require higher amounts of capital as reserves against  losses. Conversely, an institution with a less risky strategy or asset base  might need somewhat less capital to be considered viable. Regulators  reviewed the quality of a firm’s capital because some forms of capital,  such as common shareholder’s equity, can absorb losses more easily than  other types, such as subordinated debt or preferred shares, which may  have restrictions or limits on their ability to take losses. Finally,  regulators considered the nature of a firm’s funding sources. They viewed  firms that financed their lending and other operations with stable funding  sources, such as core deposit accounts or long-term debt, as less risky  than firms that obtained financing through brokered deposits or wholesale  funding, which could be more costly or might need to be replaced more  frequently.
Performance trends. Regulators also examined recent trends in  performance when evaluating marginal applicants. For example,  regulators considered strong or improving trends in asset quality, earnings,  and capital levels, among others, as potentially favorable indicators of  viability. These trends included reductions in nonperforming and classified  assets, consistent positive earnings, reductions in commercial real estate  concentrations, and higher net interest margins and return on assets. In  some cases, regulators identified improvements in banks’ performance  through preliminary examination ratings. Officials from one bank  regulator stated that the agency refrained from making recommendations  until it had recent and complete examination data. For example, if an  examination was scheduled for an applicant that had raised regulatory  concerns or questions, the agency would wait for the updated results  before completing its review and making a recommendation to Treasury.
section_title: Some Firms Were Approved despite Questions about Their Ongoing Viability
paragraphs: Regulators and Treasury raised specific questions about the viability of a  small number of institutions that ultimately were approved and received  their CPP investments between December 19, 2008, and March 27, 2009.  Most of the questions about viability involved poor asset quality, such as  nonperforming loans or bad investments, and lending that was highly  concentrated in specific product types, such as commercial real estate  (see table 2). For these institutions, various mitigating factors were used  to provide support for the firm’s ultimate approval. For example,  regulators and Treasury identified the addition of private capital, strong  capital ratios, diversification of lending portfolios, and updated  examination results as mitigating factors in approving the institutions. One  of these institutions had weaker characteristics than the others, and  regulators and Treasury appeared to have more significant concerns about  its viability. Ultimately, regulators and the CPP Council recommended  approval of this institution based, in part, on criteria in Section 103 of  EESA, which requires Treasury to consider providing assistance to  financial institutions having certain attributes such as serving low- and  moderate-income populations and having assets less than $1 billion.
section_title: A Growing Number of CPP Firms, Including Many That Had Identified Weaknesses, Have Exhibited Signs of Financial Difficulty
paragraphs: Through July 2010, 4 CPP institutions had failed, but an increasing number  of CPP firms have missed their scheduled dividend or interest payments,  requested to have their investments restructured by Treasury, or appeared  on FDIC’s list of problem banks. First, the number of institutions missing  the dividend or interest payments due on their CPP investments has  increased steadily, rising from 8 in February 2009 to 123 in August 2010, or  20 percent of existing CPP participants. Between February 2009 and  August 2010, 144 institutions did not pay at least one dividend or interest  payment by the end of the reporting period in which they were due, for a  total of 413 missed payments. As of August 31, 2010, 79 institutions had  missed three or more payments and 24 had missed five or more. Through  August 31, 2010, the total amount of missed dividend and interest  payments was $235 million, although some institutions made their  payments after the scheduled payment date. Institutions are required to  pay dividends only if they declare dividends, although unpaid cumulative  dividends accrue and the institution must pay the accrued dividends  before making dividend payments to other types of shareholders in the  future, such as holders of common stock. Federal and state bank  regulators also may prevent their supervised institutions from paying  dividends to preserve their capital and promote their safety and  soundness. According to the standard terms of CPP, after participants  have missed six dividend payments—consecutive or not—Treasury can  exercise its right to appoint two members to the board of directors for that  institution. In May 2010, the first CPP institution missed six dividend  payments, but as of August 2010, Treasury had not exercised its right to  appoint members to its board of directors. An additional seven institutions  missed their sixth dividend payment in August 2010. Treasury officials told  us that they are developing a process for establishing a pool of potential  directors that Treasury could appoint on the boards of institutions that  missed at least six dividend payments. They added that these potential  directors will not be Treasury employees and would be appointed to  represent the interests of all shareholders, not just Treasury. Treasury  officials expect that any appointments will focus on banks with CPP  investments of $25 million or greater, but Treasury has not ruled out  making appointments for institutions with smaller CPP investments. We  will continue to monitor and report on Treasury’s progress in making  these appointments in future reports.
Although none of the 4 institutions that have failed as of July 31, 2010,  were identified as marginal cases, 39 percent of the 66 approved  institutions with marginal characteristics have missed at least one CPP  dividend payment, compared with 20 percent of CPP participants overall.  Through August 2010, 26 of the 144 institutions that had missed at least  one dividend payment were institutions identified as marginal. Of these 26  marginal approvals, 20 have missed at least two payments, and 14 have  missed at least four. Several of the marginal approvals also have received  formal enforcement actions since participating in CPP. As of April,  regulators filed formal actions against nine of the marginal approvals,  including four cease-and-desist orders and four written agreements.  Seven of these institutions also missed at least one dividend payment.  However, none of the approvals identified as marginal had filed for  bankruptcy or were placed in FDIC receivership as of July 31, 2010.
Second, since June 2009, at least 16 institutions have formally requested  that Treasury restructure their CPP investments, and most of the  institutions have made their requests in recent months. Specifically, as of  July, 9 of the 11 requests received this year were received since April.
Treasury officials said that institutions have pursued a restructuring  primarily to improve the quality of their capital and attract additional  capital from other investors. Treasury has completed six of the requested  restructurings and entered into agreements with 2 additional institutions  that made requests. According to officials, Treasury considers multiple  factors in determining whether to restructure a CPP investment. These  factors include the effect of the proposed capital restructuring on the  institution’s Tier 1 and common equity capital and the overall economic  impact on the U.S. government’s investment. The terms of the  restructuring agreements most frequently involve Treasury exchanging its  CPP preferred shares for either mandatory convertible preferred shares— which automatically convert to common shares if certain conditions such  as the completion of a capital raising plan are met—or trust preferred  securities—which are issued by a separate legal entity established by the  CPP institution.
Finally, the number of CPP institutions on FDIC’s list of problem banks  has increased. At December 31, 2009, there were 47 CPP firms on the  problem list. This number had grown to 71 firms by March 31, 2010, and to  78 at June 30, 2010. The FDIC tracks banks that it designates as problem  institutions based on their composite examination ratings. Institutions  designated as problem banks have financial, operational, or managerial  weaknesses that threaten their continued viability and include firms with  either a 4 or 5 composite rating.
section_title: While Treasury’s Processes Included Multiple Reviews of Approved CPP Applicants, Certain Operational Control Weaknesses Offer Lessons Learned for Similarly Designed Programs
paragraphs: Reviews of regulators’ approval recommendations helped ensure  consistent evaluations and mitigate risk from Treasury’s limited guidance  for assessing applicants’ viability. Reviews of regulators’ recommendations  to fund institutions are an important part of CPP’s internal control  activities aimed at providing reasonable assurance that the program is  performing as intended and accomplishing its goals. The process that  Treasury and regulators implemented established centralized control  mechanisms to help ensure consistency in the evaluations of approved  applicants. For example, regulators established their own processes for  evaluating applicants, but they generally had similar structures including  initial contact and review by regional offices followed by additional  centralized review at the headquarters office for approved institutions.  FDIC, OTS, and the Federal Reserve conducted initial evaluations and  prepared the case decision memos at regional offices (or Reserve Banks in  the case of the Federal Reserve), while the regulators’ headquarters (or  Board of Governors) performed secondary reviews and verification. At  OCC, district offices did the initial analysis of applicants and provided a  recommendation to headquarters, which prepared the case decision memo  using input from the district. All of the regulators also used review panels  or officials at headquarters to review the analyses and recommendations  before submission to the CPP Council or Treasury.
Applicants recommended for approval by regulators also received further  evaluation at the CPP Council or Treasury. Regulators sent to the CPP  Council applications that they had approved but that had certain  characteristics identified by Treasury as warranting further review by the  council. These characteristics included indications of relative weakness,  such as unsatisfactory examination ratings and performance ratios. At the  council, representatives from all four federal bank regulators discussed  the viability of applicants and voted on recommending them to Treasury  for approval. As Treasury officials explained, the CPP Council was the  deliberative forum for addressing concerns about marginal applicants  whose eligibility for CPP was unclear. The council’s charter describes its  purpose as acting as an advisory body to Treasury for ensuring that CPP  guidelines are applied effectively and consistently across bank regulators  and applicants. By requiring the regulators to reach consensus when  recommending applicants whose approval was not straightforward, the  CPP Council helped ensure that the final outcome of applicants was  informed by multiple bank regulators and generally promoted consistency  in decision making.
After regulators or the CPP Council submitted a recommendation to  Treasury, the applicant received a final round of review by Treasury’s CPP  analysts and the Investment Committee. CPP analysts conducted their  own reviews of applicants and the case files forwarded from the  regulators, including the case decision memos. They collected additional  information for their reviews from regulators’ data systems and publicly  available sources and also gathered information from regulators to clarify  the analysis in the case files. According to Treasury officials, the CPP  analysts were experienced bank examiners serving on detail from each of  the bank regulators except OCC. Treasury officials explained that CPP  analysts did not make decisions about preliminary approvals or  preliminary disapprovals. Only the Investment Committee made those  decisions.
In the final review stage, the Investment Committee evaluated all of the  applicants forwarded by regulators or the CPP Council. On the basis of its  review of the regulators’ recommendations and analysis and additional  information collected by Treasury CPP analysts, the Investment  Committee recommended preliminary approval or denial to applicants,  subject to the final decision of the Assistant Secretary for Financial  Stability. By reviewing and issuing a preliminary decision on all forwarded  applicants, the Investment Committee represented another important  control, much like the CPP Council. Unlike the CPP Council, however, the  Investment Committee deliberated on all applicants referred by regulators  rather than just those meeting certain marginal criteria.
The reviews by the CPP Council, analysts at OFS, and the Investment  Committee were important steps to limit the risk of inconsistent  evaluations by different regulators. This risk stemmed from the limited  guidance that Treasury provided to regulators concerning the application  review process. Specifically, the formal written guidance that Treasury  initially provided to regulators consisted of broad high-level guidance,  which was supplemented with other informal guidance to address specific  concerns. The written guidance provided by Treasury established the  institution’s strength and overall viability as the baseline criteria for the  eligibility recommendation. Regulators said that while the guidance was  useful in providing a broad framework or starting point for their reviews,  they could not determine an applicant’s viability using Treasury’s written  guidance alone. Officials from several regulators said that they also relied  on regulatory experience and judgment when evaluating CPP applicants  and making recommendations to Treasury. Treasury officials told us that  they believed they were not in a position to provide more specific  guidance to regulators on how to evaluate the viability of the institutions  they oversaw. Treasury officials further explained that with many different  kinds of institutions and unique considerations, regulators needed to make  viability decisions on an individual basis.
A 2009 audit by the Federal Reserve’s Inspector General (Fed IG)  assessing the Federal Reserve’s process and controls for reviewing CPP  applications similarly found that Treasury provided limited guidance in the  early stages of the program regarding how to determine applicants’  viability. As a result, the Federal Reserve and other regulators developed  their own procedures for analyzing CPP applications. The report also  found that formal, detailed, and documented procedures would have  provided the Federal Reserve with additional assurance that CPP  applications would be analyzed consistently and completely. However, the  multiple layers of reviews involving the regulators, the CPP Council, and  Treasury staff helped compensate for the risk of inconsistent evaluation of  applicants that received recommendations for CPP investments. The Fed  IG recommended that the Federal Reserve incorporate lessons learned  from the CPP application review process to its process for reviewing  repurchase requests. The Federal Reserve generally agreed with the  report’s findings and recommendations.
subsections: section_title: Treasury and the Regulators’ Documentation of Approval Decisions Improved as the Program Matured
paragraphs: As Treasury fully implemented its CPP process, it and the regulators  compiled documentation of the analysis supporting their decisions to  approve program applicants. For example, regulators consistently used a  case decision memo to provide Treasury with standard documentation of  their review and recommendations of CPP applicants. This document  contained basic descriptive and evaluative information on all applicants  forwarded by regulators, including identification numbers, examination  and compliance ratings, recent and post-investment performance ratios,  and a summary of the primary regulator’s evaluation and recommendation.  Although the case decision memo contained standard types of  information, the amount and detail of the information that regulators  included in the form evolved over time. According to regulators and  Treasury, they engaged in an iterative process whereby regulators  included additional information after receiving feedback from Treasury on  what they should describe about their assessment of an applicant’s  viability. For example, regulators said that often Treasury wanted more  detailed explanations for more difficult viability decisions. According to  bank regulatory officials, other changes included additional discussion of  specific factors relevant to the viability determination, such as information  on identified weaknesses and enforcement actions, analysis of external  factors such as economic and geographic influences, and consideration of  nonbank parts of holding companies. Treasury officials explained that as  CPP staff learned about the types of information the Investment  Committee wanted to see, they would communicate it to the regulators for  inclusion in case decision memos.
Our review of CPP case files indicated that some case decision memos  were incomplete and missing important information, but typically only for  applicants approved early in the program. For instance, several case  decision memos contained only one or two general statements supporting  viability, largely for the initial CPP firms.  Eventually, the case decision  memos included several paragraphs, and some contained multiple pages,  with detailed descriptions of the applicant’s condition and viability  assessment. Most of the cases in which the regulator did not explain its  support for an applicant’s viability occurred in the first month of the  program. Some case decision memos lacked other important information,  although these memos also tended to be from early in the program. For  example, multiple case decision memos were missing either an overall  examination rating, all of the component examination ratings, or a  performance ratio related to capital levels. Most or all of those were  approved prior to December 2008. Further, 104 of 567 case files we  reviewed lacked examination ratings dates, and almost all of these firms  were approved before the end of December 2008. Missing CRA dates,  which occurred in 214 cases, exhibited a similar pattern.
For applications that regulators sent to Treasury with an approval  recommendation, Treasury staff used a “team analysis” form to document  their review before submitting the applications to the Investment  Committee for its consideration. According to Treasury officials, the team  analysis evolved over time as CPP staff became more experienced and  different examiners made their own modifications to the form. For example,  as the CPP team grew in size, additional fields were added to document  multiple levels of review by other examiners. As with the case decision  memos, the consistency of information in the team analysis improved with  time. For instance, team analysis documents did not include calculations of  allowable investment amounts for almost 60 files that we reviewed that  Treasury had approved by the end of December 2008. Finally, a small  number of case files did not contain an award letter, but all of those  approvals had also occurred before the end of December 2008.
Treasury and regulators compiled meeting minutes for the CPP Council  and Investment Committee, although they did not fully document some  early Investment Committee meetings. The minutes described discussions  of policy and guidance related to TARP and CPP and also the review and  approval decisions for individual applicants. However, records do not  exist for four meetings of the Investment Committee that occurred  between October 23, 2008, and November 12, 2008. According to Treasury,  no minutes exist for those meetings. We did not find any missing meeting  minutes for the CPP Council, although at the early meetings, regulators did  not collect the initials of voting members to document their  recommendations to approve or disapprove applicants they reviewed.  Within several weeks however, regulators began using the CPP Council  review decision sheets to document council members’ votes in addition to  the meeting minutes.
section_title: Treasury’s Implementation Process Limited Its Ability to Oversee Regulators’ Recommendations for Applicant Withdrawals
paragraphs: Although the multiple layers of review for approved institutions enhanced  the consistency of the decision process, applicants that withdrew from  consideration in response to a request from their regulator received no  review by Treasury or other regulators. To avoid a formal denial, regulators  recommended that applicants withdraw when they were unable to  recommend approval or believed that Treasury was unlikely to approve the  institution. Some regulators said that they also encouraged institutions not  to formally submit applications if approval appeared unlikely. Applicants  could insist that the regulator forward their application to the CPP Council  and ultimately to the Investment Committee for further consideration even  if the regulator had recommended withdrawal. However, Treasury officials  said that they did not approve any applicants that received a disapproval  recommendation from their regulator or the CPP Council. Regulators also  could recommend that applicants withdraw after the CPP Council or  Investment Committee decided not to recommend approval of their  application. One regulator stated that all the applicants it suggested  withdraw did so rather than receive a formal denial. Treasury officials also  said that institutions receiving a withdrawal recommendation generally  withdrew and that no formal denials were issued.
Almost half of all applicants withdrew from CPP consideration before  regulators forwarded their applications to the CPP Council or Treasury.  Regulators had recommended withdrawal in about half of these cases  where information was available. Over the life of the program, regulators  received almost 3,000 CPP applications, about half of which they sent to  the CPP Council or directly to Treasury (see table 3). The remaining  applicants withdrew either voluntarily or after receiving a  recommendation to withdraw from their regulator. Three of the  regulators—OCC, OTS, and the Federal Reserve—indicated that about half  of their combined withdrawals were the result of their recommendations.  FDIC, which was the primary regulator for most of the applicants, did not  collect information on the reasons for applicants’ withdrawals.  According to Treasury officials, those applicants that chose to withdraw  voluntarily did so for various reasons, including uncertainty over future  program requirements and increased confidence in the financial condition  of banks. In addition to institutions that withdrew after applying for CPP,  Treasury officials and officials from a regulator indicated that some firmsdecided not to formally apply after discussing their potential application  with their regulator. However, regulators did not collect information on  the number of firms deciding not to apply after having these discussions.
Although applications recommended for approval received multiple  reviews and were coordinated among regulators and Treasury, each  regulator made its own decision on withdrawal recommendations. Most  regulators conducted initial reviews of applicants at their regional offices,  and staff at these offices had independent authority to recommend  withdrawal for certain cases. Regulatory officials said that regional staff  (including examiners and more senior officials) made initial assessments  of applicants’ viability using Treasury guidelines and would recommend  withdrawal for weak firms with the lowest examination ratings that were  unlikely to be approved. Applicants that received withdrawal  recommendations might have had weak characteristics relative to those of  other firms and might have received a denial from Treasury. But following  regulators’ suggestions to withdraw before referral to the CPP Council or  Treasury, or to not apply, ensured that they would not receive the  centralized reviews that could have mitigated any inconsistencies in their  initial evaluations. Further, while regulators had panels or senior officials  at their headquarters offices providing central review of approved  applicants, most of the regulators allowed their regional offices to  recommend withdrawal for weaker applicants or encourage such  applicants not to apply, thereby limiting the benefit of that control  mechanism. Allowing regional offices to recommend withdrawal without  any centralized review may increase the risk of inconsistency within as  well as across regulators. In its report on the processing of CPP  applications, the FDIC Office of Inspector General found that one of  FDIC’s regional offices suggested that three institutions withdraw from  consideration that were well capitalized and technically met Treasury  guidelines. Regional FDIC management cited poor bank management as  the primary concern in recommending that the institutions withdraw. The  report concluded that the use of discretion by regional offices in  recommending that applicants withdraw increased the risk of  inconsistency. The report made two recommendations to enhance  controls over the process for evaluating applications: (1) forwarding  applications recommended for approval that do not meet one or more of  Treasury’s criteria to the CPP Council for additional review and (2)  requiring headquarters review of institutions recommended for withdrawal  when the institutions technically meet Treasury’s criteria. In commenting  on the report, FDIC concurred with the recommendations.
Treasury did not collect information on applicants that had received  withdrawal recommendations from their regulators or on the reasons for  these decisions. According to Treasury officials, Treasury did not receive,  request, or review information on applicants that regulators recommended  to withdraw and thus could not monitor the types of institutions that  regulators were restricting from the program or the reasons for their  decisions. The officials said that Treasury did not collect or review  information on withdrawal recommendations in part to minimize the  potential for external parties to influence the decision-making process.  However, such considerations did not prevent Treasury from reviewing  information on applicants that regulators recommended for approval, and  concerns about external influence could also be addressed directly  through additional control procedures rather than by limiting the ability to  collect information on withdrawal recommendations. The lack of  additional review outside of the individual regulator or oversight of  withdrawal requests by Treasury presents the risk that applicants may not  have been evaluated in a consistent fashion across regulators. As the  agency responsible for implementing CPP, it is equally beneficial for  Treasury to understand the reasons that regulators recommended  applicants withdraw from the program as it is for Treasury to understand  the reasons regulators recommended approval. Collecting and reviewing  information on withdrawal requests would have served as an important  control mechanism and allowed Treasury to determine whether leaving  certain applicants out of CPP was consistent with program goals. It also  would have allowed Treasury to determine whether similar applicants  were evaluated consistently across different regulators in terms of their  decisions to recommend withdrawal.
Treasury has indicated that it may use the CPP model for new programs to  stimulate the economy and improve conditions in financial markets, and  unless corrective actions are taken, such programs may share the same  increased risk of similar participants not being treated consistently.  Specifically, in February 2010, Treasury announced terms for a new TARP  program—the Community Development Capital Initiative (CDCI)—to  invest lower-cost capital in Community Development Financial  Institutions that lend to small businesses. According to Treasury and  regulatory agency officials, Treasury modeled its implementation of the  CDCI program after the process it used for CPP, with federal bank  regulators—in this case including the National Credit Union  Administration (NCUA)—conducting the initial reviews and making  recommendations. The CDCI program also uses a council of regulators to  review marginal approvals, and an Investment Committee at Treasury  reviews all applicants recommended by regulators for approval. As in the  case of CPP, control mechanisms exist for reviewing approved applicants,  but no equivalent reviews are done for applicants that receive withdrawal  recommendations. Thus, the CDCI structure could raise similar concerns  about a lack of control mechanisms to mitigate the risk of inconsistency in  evaluations by different regulators. The deadline for financial institutions  to apply to participate in the CDCI was April 30, 2010, and all  disbursements or exchanges of CPP securities for CDCI securities must be  completed by September 30, 2010.
The Small Business Jobs Act of 2010, enacted on September 27, 2010,  established a new Treasury program—the Small Business Lending Fund  (SBLF)—to invest up to $30 billion in small institutions to increase small  business lending. Treasury may choose to model the new program’s  implementation on the CPP process, as it did with the CDCI. Treasury is  required to consult with the bank regulators to determine whether an  institution may receive a capital investment, and Treasury officials have  indicated that they would likely rely on regulators to determine applicants’  eligibility. Unless Treasury also takes steps to coordinate and monitor  withdrawal requests by regulators, the disparity that existed in CPP  between the control mechanisms for approved applicants and those  receiving withdrawal recommendations may persist in this new program,  potentially resulting in similar applicants being treated differently.
section_title: Treasury Does Not Monitor Regulators’ Decisions to Approve or Deny CPP Repayments
paragraphs: Treasury relies on decisions from federal bank regulators concerning  whether to allow CPP firms to repay their investments, but as with  withdrawal recommendations, it does not monitor or collect information  on regulators’ decisions. The CPP institution submits a repayment request  to its primary federal regulator and Treasury (see fig. 5). Bank regulatory  officials explained that their agencies use existing supervisory procedures  generally applicable to capital reductions as a basis for reviewing CPP  repurchase requests and that they approach the decision from the  perspective of achieving regulatory rather than CPP goals. Following their  review, regulators provide a brief e-mail notification to Treasury indicating  whether they object or do not object to allowing an institution to repay its  CPP investment. Treasury, in turn, communicates the regulators’ decisions  to the CPP firms.
As of August 2010, 109 institutions had formally requested that they be  allowed to repay their CPP investments, and regulators had approved over  80 percent of the requests (see table 4). According to Treasury officials,  there have been no instances where Treasury has raised concerns about a  regulator’s decision. Officials at the Federal Reserve—which is  responsible for reviewing most CPP repayment requests because requests  for bank holding companies go to the holding company regulator— explained that they had not denied any requests but had asked institutions  to wait or to raise additional capital. In these cases, institutions typically  had experienced significant deterioration since the CPP investment,  raising concerns about the adequacy of their capital levels.
Under the original terms of CPP, Treasury prohibited institutions from  repaying their funds within 3 years unless the firm had completed a  qualified equity offering to replace a minimum amount of the capital.  However, the American Recovery and Reinvestment Act of 2009 (ARRA)  included provisions modifying the terms of CPP repayments. These  provisions require that Treasury allow any institution to repay its CPP  investment subject only to consultation with the appropriate federal bank  regulator without considering whether the institution has replaced such  funds from any other source or applying any waiting period. Treasury  officials indicated that, as a result of these restrictions, they did not  provide guidance or criteria to regulators. The officials explained that even  before the ARRA provisions limited Treasury’s role, the standard CPP  contract terms allowed institutions to repay the funds at their discretion— subject to regulatory approval—as long as they completed a qualified  equity offering or the 3-year time frame had passed. The officials said that  the contract terms themselves helped ensure that CPP goals were  achieved.
While the decision to allow repayment ultimately lies with the bank  regulators, Treasury is not statutorily prohibited from reviewing their  decision-making process and collecting information or providing feedback  about the regulators’ decisions. The two regulators responsible for most  repayment requests prepare a case decision memo to document their  analysis that is similar to the memo they used to document their  evaluations of CPP applicants, but Treasury and agency officials said that  Treasury does not request or review the memo or other analyses  supporting regulators’ decisions. One regulator indicated that it would  provide Treasury with a brief explanation of the basis for its decisions to  deny repayment requests and a brief discussion of the supervisory  concerns raised by the proposed repayment. But Treasury officials stated  that they did not review any information on the basis for regulators’  decisions to approve or deny repayment requests. Without collecting or  monitoring such information, Treasury has no basis for considering  whether decisions about similar institutions are being made consistently  and thus whether CPP firms are being treated equitably. Furthermore,  absent information on why regulators made repayment decisions,  Treasury cannot provide feedback to regulators on the consistency of  regulators’ decision making for similar institutions as part of its  consultation role.
section_title: Regulators Independently Developed Similar Guidelines for Evaluating Repurchase Requests and Processes for Coordinating Their Decisions without Treasury Guidance
paragraphs: Regulators have independently developed similar guidelines for evaluating  repurchase requests and also established processes for coordinating  decisions that involved multiple regulators, and Treasury officials stated  that they did not provide input to these guidelines or processes.  Regulators said that, in general, they considered the same types of factors  when evaluating repayment requests that they considered when reviewing  CPP applications. According to the officials, regulators follow existing  regulatory requirements for capital reductions—including the repayment  of CPP funds—that apply to all of their supervised institutions. In addition  to following existing supervisory procedures, officials from the different  banking agencies indicated that they also considered a broad set of similar  factors, including the following:  the institution’s continued viability without CPP funds;  the adequacy of the institution’s capital and ability to maintain appropriate  capital levels over the subsequent 1 to 2 years, even assuming worsening  economic conditions;  the level and composition of capital and liquidity;    earnings and asset quality; and    any major changes in financial condition or viability that had occurred  since the institution received CPP funds.
Although regulators said that they considered similar factors in their  evaluations, without reviewing any information or analysis supporting  regulators’ recommendations, Treasury cannot be sure that regulators are  using these guidelines consistently for all repayment requests.
In addition to setting out guidelines for standard repayment requests, the  Federal Reserve established a supplemental process to evaluate  repayment requests by the 19 largest bank holding companies that  participated in the Supervisory Capital Assessment Program (SCAP).  As  we reported in our June 2009 review of Treasury’s implementation of  TARP, the Federal Reserve required any SCAP institution seeking to repay  CPP capital to demonstrate that it could access the long-term debt  markets without reliance on debt guarantees by FDIC and public equity  markets in addition to other factors. As of September 16, 2010, four bank  holding companies that participated in SCAP had not repurchased their  CPP investment and one had not repaid funds from TARP’s Automotive  Industry Financing Program.
Bank regulators said that they also shared their repayment process  documents with each other to enhance the consistency of their  evaluations and recommendations. For example, the Federal Reserve  designed a repayment case decision memo that documents the review of  repayment requests and the factors considered in making the decision and  shared it with other regulators to promote consistency in their reviews.  Officials from OTS explained that they used the Federal Reserve’s  repurchase case decision memo as the framework for their document  while adding certain elements specific to thrifts such as confirmation that  FDIC concurrence was received for thrift holding companies with state  bank subsidiaries regulated by FDIC. Bank regulatory officials also stated  that bank regulators discussed the repayment process during their weekly  conference calls on CPP-related topics. OCC also prepares a memo to  document its review of repurchase requests that differs from the form  used by the Federal Reserve and OTS; however, it contains similar  elements such as an explanation of the analysis and the basis for the  decision. Finally, FDIC officials said that they followed existing  procedures for capital retirement applications from FDIC-supervised  institutions that included safety and soundness considerations.
Bank regulators also established processes for coordinating repayment  decisions for CPP firms with a holding company and subsidiary bank  supervised by different regulators. For example, Federal Reserve officials  said that if a holding company it supervised that had a subsidiary bank  under another regulator requested to repay CPP funds, the agency would  consult with the subsidiary’s regulator before making a final decision. The  officials stated that if the regulator of the subsidiary bank objected to the  Federal Reserve’s preliminary decision, the regulators would try to reach a  consensus. However, as regulator of the holding company that received  the CPP investment, the Federal Reserve has the ultimate responsibility  for making the decision as it is considered the primary federal regulator in  such cases. According to Federal Reserve officials, when OTS is the  primary regulator of a subsidiary thrift, it provides a repayment case  decision memo to the Federal Reserve for it to consider as it evaluates the  repayment request. OCC also provides the Federal Reserve with its  analysis of any subsidiary bank for which it is the primary regulator, and  FDIC identifies certain individuals who provide their recommendation and  are available to discuss the decision. OTS performs a similar coordination  role for CPP repayment requests that involve thrift holding companies  with nonthrift financial subsidiaries. However, if Treasury does not collect  information on or monitor the processes regulators use to make their  repayment decisions, Treasury cannot provide any feedback to regulators  on the extent to which they are coordinating their decisions.
section_title: Conclusions
paragraphs: Approved CPP applicants generally had similar examination ratings and  other strength characteristics that exceeded guidelines. However, a  smaller group of firms had weaker characteristics and were approved after  consideration of mitigating factors by regulators and Treasury. The ability  to approve institutions after consideration of mitigating factors illustrates  the importance of including controls in the review and selection process to  provide reasonable assurance of the achievement of program goals and  consistent decision making.
While Treasury established such controls for applicants that regulators  recommended for approval, Treasury’s process was inconsistent in the  control mechanisms that existed for applicants that regulators  recommended to withdraw from program consideration. These  institutions did not benefit from the multiple levels of review that Treasury  and regulators applied to approved applicants. For example, regulators  could decide independently which applicants they would recommend to  withdraw and may have considered mitigating factors differently. Treasury  did not collect information on these firms or the reasons for regulators’  decisions. Without mechanisms such as those that exist for approved  applicants to control for the risk of inconsistent evaluations across  different regulators, Treasury cannot have reasonable assurance that all  similar applicants were treated consistently or that some potentially  eligible firms did not end up withdrawing after following the advice of  their regulator. Treasury officials explained their desire to conduct  adequate due diligence on all applicants recommended for approval, but as  Treasury is the agency responsible for implementing CPP, understanding  the reasons that regulators recommended applicants withdraw would have  been equally beneficial for Treasury. Collecting and reviewing information  on withdrawal requests would allow Treasury to determine whether  applicants that were left out of CPP were evaluated consistently across  different regulators and conformed to Treasury’s goals for the program.
Although Treasury is no longer making investments in financial institutions  through CPP, it may continue to use the process as a model for similar  programs as it has for the CDCI program. One such program is the SBLF,  which Congress authorized in September 2010. SBLF contains elements  similar to those of CPP and requires Treasury to administer the program  with bank regulators. Unless Treasury makes changes to the CPP model to  include monitoring and reviews of withdrawal recommendations, these new  programs may share the same increased risk of similar participants not  being treated consistently that existed in CPP.
As with the approval process, agencies are expected to establish control  mechanisms to provide reasonable assurance that program goals are being  achieved. Treasury has not established mechanisms to monitor, review, or  coordinate regulators’ decisions on repayment requests because, in its  view, it lacks the authority to do so and is limited to carrying out  regulators’ decisions regarding the institution making the request.  However, Treasury is not precluded from providing feedback to help  ensure that regulators are treating similar institutions consistently when  considering their repayment requests. Although regulators said that they  consider similar factors when evaluating CPP firms’ repayment requests,  without collecting information on how and why regulators made their  decisions, Treasury cannot verify the degree to which regulators’ decisions  on requests to exit CPP actually were based on such factors.
section_title: Recommendations for Executive Action
paragraphs: If Treasury administers programs containing elements similar to those of  CPP, such as the SBLF, we recommend that Treasury apply lessons  learned from the implementation of CPP and enhance procedural controls  for addressing the risk of inconsistency in regulators’ decisions on  withdrawals. Specifically, we recommend that the Secretary of the  Treasury direct the program office responsible for implementing SBLF to  establish a process for collecting information from bank regulators on all  applicants that withdraw from consideration in response to a regulator’s  recommendation, including the reasons behind the recommendation. We  also recommend that the program office evaluate the information to  identify trends or patterns that may indicate whether similar applicants  were treated inconsistently across different regulators and take action, if  necessary, to help ensure a more consistent treatment.
As part of its consultation with regulators on their decisions to allow  institutions to repay their CPP investments to Treasury, and to improve  monitoring of these decisions, we recommend that the Secretary of the  Treasury direct OFS to periodically collect and review certain information  from the bank regulators on the analysis and conclusions supporting their  decisions on CPP repayment requests and provide feedback for the  regulators’ consideration on the extent to which regulators are evaluating  similar institutions consistently.
section_title: Agency Comments and Our Evaluation
paragraphs: We provided a full draft of this report to Treasury for its review and  comment. We received written comments from the Assistant Secretary for  Financial Stability. These comments are summarized below and reprinted  in appendix III. In addition, we received technical comments on this draft  from the Federal Reserve, FDIC, OCC, and Treasury, which we  incorporated as appropriate. In its written comments, Treasury agreed to  consider our recommendation to review information on applicants that  regulators recommend to withdraw from program consideration if  Treasury implements a similar program in the future. Treasury stated that  the system used to evaluate CPP applicants balanced the objectives of  ensuring consistent treatment for all applicants while also utilizing the  independent judgment of federal banking regulators. Treasury suggested  that ensuring regulators hold regular discussions about their standards  could be an additional action to help ensure consistency in regulators’  reviews. As we note in the report, Treasury implemented multiple layers of  review for approved institutions to enhance the consistency of the  decision process. However, applicants that withdrew from consideration  in response to a request from their regulator received no review by  Treasury or other regulators. Although CPP is no longer making any new  investments, the passage of the SBLF, which, according to Treasury  officials, would also rely on regulators to determine applicants’ eligibility,  presents an opportunity for Treasury to address this area of concern. We  continue to believe that unless Treasury takes steps to monitor and  provide feedback on regulators’ withdrawal requests, applicants that  receive withdrawal recommendations under this new program may not be  treated consistently and equitably.
Treasury stated that our second recommendation—to review information  on regulators’ decisions on repayment requests and provide feedback to  regulators—also raises questions about how to balance the goals of  consistency and respect for the independence of regulators. However,  Treasury acknowledged the potential value of our recommendation and  agreed to consider ways to address it in a manner consistent with these  considerations. Specifically, Treasury noted that while it is prohibited  from imposing standards for repayment as a result of statutory changes to  its authority under EESA, it did help facilitate meetings among regulators  to discuss when CPP participants would be allowed to repay their  investments. Finally, Treasury explained that it does not receive  confidential supervisory information about CPP participants on a regular  basis, which could limit any information collection envisioned by our  recommendation. However, as we noted in the report, the two regulators  with responsibility for most CPP repayment requests document their  analysis in a manner similar to what regulators provided to Treasury when  recommending CPP applicants, but Treasury does not review this  information.
We are sending copies of this report to the Congressional Oversight Panel,  Financial Stability Oversight Board, Special Inspector General for TARP,  interested congressional committees and members, Treasury, the federal  banking regulators, and others. The report also is available at no charge on  the GAO Web site at http://www.gao.gov.
If you or your staff have any questions about this report, please contact me  at williamso@gao.gov or (202) 512-8678. Contact points for our Offices of  Congressional Relations and Public Affairs may be found on the last page  of this report. GAO staff who made major contributions to this report are  listed in appendix IV.
section_title: Appendix I: Objectives, Scope, and Methodology
paragraphs: The objectives of our report were to (1) describe the characteristics of  financial institutions that received funding under the Capital Purchase  Program (CPP), and (2) assess how the Department of the Treasury  (Treasury), with the assistance of federal bank regulators, implemented  CPP.
To describe the characteristics of financial institutions that received CPP  funding, we reviewed and analyzed information from Treasury case files  on all of the 567 institutions that received CPP investments through April  30, 2009. We gathered information from the case files using a data  collection survey that recorded our responses in a database. Multiple  analysts reviewed the collected information, and we performed data  quality control checks to verify its accuracy. We used the database to  analyze the characteristics of CPP applicants including their supervisory  examination ratings, financial performance ratios, and regulators’  assessments of their viability, among other things. We spoke with Treasury  and regulatory officials about their processes for evaluating applicants, in  particular about actions they took to collect up-to-date information on  firms’ financial condition. We also collected and analyzed information  from the records of the CPP Council and Investment Committee meetings  to understand how the committees evaluated and recommended approval  of CPP applicants. Additionally, we collected limited updated information  on all CPP institutions approved through December 31, 2009—for  example, their location, primary federal regulator, ownership type, and  CPP investment amount—from Treasury’s Office of Financial Stability  (OFS) and from publicly available reports on OFS’s Web site to present  characteristics for all approved institutions. To describe how Treasury and  regulators assessed firms with weaker characteristics, we collected  information on the reasons regulators approved these firms and the  concerns regulators raised about their eligibility from case files and  records of committee meetings. To describe enforcement actions that  regulators took against these institutions, we reviewed publicly available  documents on formal enforcement actions from federal bank regulators’  Web sites. We also collected information on CPP firms that missed their  dividend or interest payments or restructured their CPP investments from  OFS and publicly available reports on its Web site. Finally, we collected  information from the Federal Deposit Insurance Corporation (FDIC) on  the number of CPP firms added to its list of problem banks.
To assess how Treasury implemented CPP with the assistance of federal  bank regulators, we reviewed Treasury’s policies, procedures, and  guidance related to CPP, including nonpublic documents and publicly  available material from the OFS Web site. We met with OFS officials to  discuss how they evaluated applications and repayment requests and  coordinated with regulators to decide on these applications and requests.  We interviewed officials from FDIC, the Office of the Comptroller of the  Currency (OCC), Office of Thrift Supervision (OTS), and the Board of  Governors of the Federal Reserve System (Federal Reserve) to obtain  information on their processes for reviewing and providing  recommendations on CPP applications and repayment requests. We also  discussed the guidance and communication they received from Treasury  and their methods of formulating their CPP procedures. Additionally, we  collected and analyzed program documents from the bank regulators,  including policies and procedures, guidance documents, and summaries of  their evaluations of applications and repayment requests. We also gathered  data from regulators on applicants that withdrew from CPP  consideration—including the reason for withdrawing—and on the number  of repayment requests and their outcomes. We reviewed relevant laws,  such as the Emergency Economic Stabilization Act of 2008 and the  American Recovery and Reinvestment Act of 2009, to determine the  impact of statutory changes to Treasury’s authority. To assess how  Treasury and regulators documented their decisions to approve CPP  applicants, we analyzed information from case files and CPP Council and  Investment Committee meeting minutes to identify how consistently  Treasury and regulators included relevant records of their reviews and  decision-making processes. We also discussed with Treasury and  regulatory officials the key forms they used to document their decisions  and the evolution of these forms over time. To assess Treasury programs  that were modeled after CPP, we collected and reviewed publicly available  documents from Treasury and interviewed Treasury officials to discuss  the nature of these programs—including the Community Development  Capital Initiative (CDCI) and Small Business Lending Fund (SBLF)—and  plans for implementing them. Finally, we met with the Federal Reserve’s  Office of Inspector General to learn about its work examining the Federal  Reserve’s CPP process and reviewed its report and other reports by GAO,  the Special Inspector General for the Troubled Asset Relief Program  (SIGTARP), and the FDIC Office of Inspector General.
This report is part of our coordinated work with SIGTARP and the  inspectors general of the federal banking agencies to oversee TARP and  CPP. The offices of the inspectors general of FDIC, Federal Reserve, and  Treasury and SIGTARP have all completed work or have work under way  reviewing CPP’s implementation at their respective agencies. In  coordination with the other oversight agencies and offices and to avoid  duplication, we primarily focused our audit work (including our review of  agency case files) on the phases of the CPP process from the point at  which the regulators transmitted their recommendations to Treasury.
We conducted this performance audit from May 2009 to September 2010 in  accordance with generally accepted government auditing standards. Those  standards require that we plan and perform the audit to obtain sufficient,  appropriate evidence to provide a reasonable basis for our findings and  conclusions based on our audit objectives. We believe that the evidence  obtained provides a reasonable basis for our findings and conclusions  based on our audit objectives.
section_title: Appendix II: Information on Processing Times for the Capital Purchase Program
paragraphs: In general, the time frame for the Department of the Treasury and  regulators to complete the evaluation and funding process for Capital  Purchase Program applicants increased based on three factors. First,  smaller institutions had longer processing time frames than larger firms.  The average number of days between a firm’s application date and the  completion of the CPP investment increased steadily based on the firm’s  size as measured by its risk-weighted assets. The smallest 25 percent of  firms we reviewed had an average processing time of 100 days followed by  83 days for the next largest 25 percent of firms. The two largest quartiles  of firms had average processing times of 72 days and 53 days respectively.  Also, it took longer to complete the investment for smaller firms, as the  average time between preliminary approval and disbursement increased as  the institution size decreased. Second, private institutions took longer for  Treasury and regulators to process than public firms. The average and  median processing time frames from application through disbursement of  funds was about 6 weeks longer for private firms than for public firms. As  with the trend for smaller institutions, private institutions had longer  average time frames between preliminary approval and disbursement.  Third, when Treasury returned an application to regulators for additional  review, it took an average of about 2 weeks to receive a response from  regulators. On average, Treasury preliminarily approved these applicants  after an additional 3 days of review.
Firms that applied earlier had shorter average processing times—from  application to disbursement—than firms that applied in later months. The  average time from application through disbursement was 70 days for firms  that applied in October, 82 days for firms that applied in November, and 89  for those that applied in December. Also, public firms tended to apply  earlier than private firms and larger firms tended to apply earlier than  smaller firms. For example, 62 percent of firms that applied in October  were public, while 93 percent of firms that applied in December were  private—a trend that largely resulted from the later release of program  term sheets for the privately held banks. Likewise, 61 percent of firms that  applied in October were the largest firms and 84 percent of firms that  applied in December were the smallest firms. Because larger firms and  public firms also had shorter average processing time frames than smaller  and private firms, this may explain why firms that applied earlier had  shorter processing times than those that applied later in the program.
The overall process for most firms, from when they applied to when they  received their CPP funds, took 2 1/2 months. There were many interim  steps within this broad process that can shorten or lengthen the overall  time frame. For example, in our June 2009 report on the status of  Treasury’s implementation of the Troubled Asset Relief Program, we  reported that the average processing days from application to submission  to Treasury varied among the different regulators from 28 days to 57 days.  Also, Treasury preliminarily approved most firms within 5 weeks from  application. The Investment Committee approved most firms the same day  it reviewed them; however, it generally took longer to approve firms with  the lowest examination ratings, resulting in a longer average review time  frame. As previously mentioned, firms that Treasury returned to regulators  for additional review took longer to receive Treasury’s preliminary  approval, and these firms tended to be those with lower examination  ratings. Once Treasury preliminarily approved an applicant, it took an  average of 33 days to complete the investment. As with the trends for the  overall processing time frames, the final investment closing and  disbursement took longer for smaller institutions and private institutions.
section_title: Appendix III: Comments from the Department of the Treasury’s Office of Financial Stability
section_title: Appendix IV: GAO Contact and Staff Acknowledgments
subsections: section_title: Staff Acknowledgments
paragraphs: Daniel Garcia-Diaz (Assistant Director), Kevin Averyt, William Bates,  Richard Bulman, Emily Chalmers, William Chatlos, Rachel DeMarcus,  M’Baye Diagne, Joe Hunter, Elizabeth Jimenez, Rob Lee, Matthew  McDonald, Marc Molino, Bob Pollard, Steve Ruszczyk, and Maria Soriano  made important contributions to this report.