Opinion ID: 547464
Heading Depth: 1
Heading Rank: 1

Heading: the conversion process

Text: 2 There are two basic types of savings and loan associations: mutual associations and stock associations. Either type may be federally chartered or state chartered. 1 A mutual savings and loan association is owned by its depositors and borrowers, who elect the association's board of directors. Traditionally a borrower is entitled to one vote, while the voting power of a depositor is determined by the amount deposited in his account, usually one vote for every $100 deposited. Many depositors and borrowers, however, have no interest in voting on the association's policies and practices. Therefore, when first depositing or borrowing money, many association members will sign revocable proxies, authorizing the association's management to cast their votes as it sees fit. The stock association, on the other hand, is like any other corporation--its ownership and control are in the hands of those who have purchased its stock. Ownership of the association's stock is not a prerequisite for doing business with the association; its stockholders are not necessarily its depositors and borrowers. 3 Many mutual associations choose to convert to stock associations in order to increase their capital through stock offerings. Accordingly, a detailed set of rules and regulations concerning the conversion process has been developed. In 1933, Congress enacted the Home Owners' Loan Act (HOLA), 2 which created the federally chartered mutual savings and loan association. Originally, HOLA did not allow for the conversion of federally chartered mutual associations to stock associations. However, in 1948, Congress added section 5(i) to HOLA, allowing federal mutual savings and loan associations to convert to state stock associations. 4 The early conversion process began to weaken the Federal Home Loan Bank System. The system itself suffered because many federally chartered associations converted to state chartered associations. The depositors suffered because many conversion insiders reaped windfall profits, depleting the worth of many associations, and leading to disproportionate ownership and control by the insiders. The Federal Home Loan Bank Board (the Bank Board) 3 reacted by declaring a moratorium on federal to state conversions. 5 In 1973, Congress began to lift the moratorium. Congress amended HOLA by adding section 402(j), which gave the Bank Board the power to approve conversions of federally chartered mutual associations to federally chartered stock associations. The moratorium, however, was not lifted completely until 1976, giving the Bank Board an opportunity to develop and clarify the conversion regulations. These regulations continue to evolve. 4 6 By 1989, Congress had made clear that federally chartered mutual associations were free to convert to federally chartered stock associations, but only if the conversion complied with the rules promulgated by the Bank Board. 5 These rules are contained in the regulations of the Bank Board. Through its regulations, the Bank Board attempts to ensure that conversions will benefit the converting association, its members, and the general public. 6 7 The Bank Board has allowed three basic types of conversions. 7 In a standard conversion, a federal mutual association may convert to a federal stock association if a majority of the account-holders approve the plan of conversion already approved by two-thirds of the association's board of directors. The stock of the association must be sold at a price equal to the association's estimated market value, as determined by an independent appraiser. Voluntary and modified conversions are appropriate when the association is experiencing financial difficulty. In order for a voluntary conversion to be approved by the Bank Board, the association must be insolvent. Because the conversion of an insolvent mutual association is necessary to infuse capital into the association, the voting rights of the association's account-holders regarding the conversion decision are eliminated. A modified conversion is best when an association is not meeting its regulatory capital requirements. As in a voluntary conversion, the members of the association have no say in the decision to undergo a modified conversion because the financial needs of the association leave no room for choice in the matter. The stock created in a modified conversion must be sold for an amount greater than the association's market value; the acquirer is paying for the privilege of control. No conversion may take place without prior approval from the Bank Board. 8

8 The Bank Board's regulations offer guidance to mutual associations interested in converting to stock associations. The regulations describe the characteristics of a Bank Board-approved conversion, including the roles of the association's board of directors and members, the method of sale of the converted institution's stock, and the procedure to be followed throughout the conversion process. The standard conversion, as is apparent from its name, is the most common. Many of the standard conversion regulations also apply to voluntary and modified conversions. 9 9 A standard conversion requires action by the association's board of directors as well as its members. The association's plan of conversion must be approved by at least two-thirds of the association's board of directors. 10 If approved, the association's members vote on the plan, which must be accepted by at least a majority of the total outstanding votes of the association members. 11 The Bank Board sets forth specific notice, proxy, and voting rules to ensure that the approval or disapproval of the association's members is fairly obtained. 12 10 The Bank Board also prescribes regulations concerning the sale of the converting association's stock. Each officer, director and account holder eligible to purchase stock in the converted association, plus each association voting member, must receive a certain number of subscription rights to purchase the association's stock. 13 The regulations restrict the amount of stock that may be purchased by one person or group of persons acting together, including the converting association's officers and directors. 14 11 The standard conversion regulations also dictate the price at which the converted association's stock must be sold. The total stock price must equal the association's pro forma market value, based on an independent appraisal. 15 The price per share, which must be uniform, should be between $5.00 and $50.00, and account holders should be permitted to draw from their accounts without penalty in order to pay this price. 16 The association may not lend money to any person or group of persons to purchase its stock. 17 Finally, the Bank Board's regulations provide that the sale of the converting association's stock should be conducted as quickly as possible and must be completed within 45 days. 18 Once the sale is complete, the Bank Board regulations limit repurchases of stock and payments of dividends by the converted association, and limit the ability of the association's officers and directors to resell their stock. 19 12 The Bank Board regulations specify the procedural requirements of the conversion application process. For example, the conversion must be completed within a certain amount of time, 20 the costs incurred by the converting association must be reasonable, 21 and the conversion plan must establish a liquidation account. 22 Several rules also discuss the actual filing and preparation of a conversion application. 23 13 Finally, the Bank Board has created a catch-all requirement: the conversion application may not contain any provision the Bank Board believes to be unfair or harmful to the converting association, its members, or the public interest. 24 This provision allows the Bank Board to act as a watchdog over the conversion process.
14 Many of the Bank Board's standard conversion regulations apply to voluntary and modified conversions. 25 However, the Bank Board has promulgated separate regulations for voluntary and modified conversions. These regulations explain when the converting association may deviate from the standard conversion rules, and provide substitute rules for the association to follow. 26 15 In a voluntary conversion, a majority of the converting association's board of directors must approve the conversion plan. 27 The converting association's members, however, have no right to approve or otherwise participate in the conversion process. 28 Therefore, the Bank Board must ensure that the plan is or would be in the association members' best interest. 16 Before the Bank Board will consider authorizing a voluntary conversion, two requirements must be met. First, the association's liabilities must exceed its assets according to generally accepted accounting principles (GAAP). 29 In other words, the association must be GAAP-insolvent. Second, the association must demonstrate that it would be a viable entity after the conversion. 30 To create a viable entity, the prospective acquirer of the association must infuse capital into the association sufficient to achieve a required ratio of net worth to total liability. 31 The acquirer must also convince the Bank Board that the conversion transaction taken as a whole is in the best interests of, and does not present the potential for injury to, the converting institution, its depositors and the FSLIC [Federal Savings and Loan Insurance Corporation]. 32 17 To obtain authorization for a voluntary conversion, the converting association must file a special application with the Bank Board. The filing of this application must comply with certain procedural requirements. 33 The conversion application itself must comply with numerous substantive requirements. It must contain: a plan of conversion describing the proposed purchasers of the converted association's stock, the sale of the stock, and the type of stock to be sold; opinions of independent attorneys and certified public accountants; a business plan for the converted association; an audited balance sheet and financial statements of the association; and a proposed charter and set of bylaws for the converted association. 34 The application also must include Change-In-Control Act notices for each proposed conversion stock purchaser. 35 If the converting association files a proper conversion application, is GAAP-insolvent, and has shown that it would be a viable entity after conversion, the Bank Board may authorize the association's voluntary conversion. 36
18 Modified conversions, like voluntary conversions, are available for mutual associations facing financial difficulty, and similarly require the approval of a majority of the association's board of directors, but not the approval of the association's members. 37 A mutual association may qualify for a modified conversion if it is unable to meet its regulatory capital requirement and if a standard conversion feasibly could not remedy this situation. 38 19 To obtain Bank Board authorization of a modified conversion, the association must submit a conversion application that complies with the procedural 39 and substantive 40 requirements set forth in the Bank Board's modified conversion regulations. The application must contain: a plan of conversion identifying the proposed purchasers of the conversion stock, the terms of the sale of stock, and the nature of the stock itself; opinions of independent counsel and certified public accountants; a proposed business plan, charter and by-laws for the converted association; all required filings; Change-In-Control Act notices for each proposed conversion stock purchaser 41 ; an audited balance sheet and financial statements; an independent appraisal to validate the association's conversion plan; and an estimate of the conversion expenses. 20 Even after receipt of a complete application, the Bank Board will authorize a modified conversion only if certain other conditions are met. The conversion stock must be sold at an aggregate price greater than the independently appraised, pro forma market value of the association. 42 This price includes a control premium paid by an acquirer of a controlling interest in the association. 43 An independent expert must convince the Bank Board that the capital infused into the association as a result of the modified conversion would enable the association to meet its regulatory capital requirement. 44 Finally, the Bank Board must be certain that the modified conversion would benefit the association, its members and the FSLIC. 45 If all of these prerequisites have been met, the Bank Board may authorize a modified conversion. 46
21 The Bank Board is the overseer of the entire Federal Home Loan Bank System, 47 and as such plays an important role in the conversion process. Congress has explicitly stated that no conversion, whether standard, voluntary or modified, may occur unless the converting association complies with the rules and regulations of the Bank Board. 48 No mutual association may convert to the stock form without the Bank Board's consent. 49 22 In its role as watchdog the Bank Board has promulgated numerous regulations which reflect an extended effort on the part of the [Bank] Board to develop a conversion procedure that is equitable to account holders and [FSLIC] insured institutions and which functions effectively as a capital-raising tool. 50 Compliance with the Bank Board's substantive and procedural conversion application requirements, however, does not always lead to an equitable result. Therefore, the Bank Board regulations repeatedly refer to the role of the Bank Board's discretion in the conversion process. 51 The Bank Board has the power to deny a conversion application even if it complies with all substantive and procedural requirements, and will do so if the proposed conversion would not be in the best interests of the association, its members, or the general public. 52 23 The power of the Bank Board to approve or disapprove a conversion application is not absolute. Congress has provided mutual associations and their members with a procedure to appeal a final decision of the Bank Board. 53 The Bank Board has promulgated regulations describing this appellate process in detail. 54 24 Once the Bank Board has decided not to approve a mutual association's plan of conversion, a party aggrieved by this decision may file a petition requesting relief in a court of appeals of the United States. 55 The petition must be filed in the court of appeals for the circuit in which the mutual association has its principal place of business or the circuit in which the aggrieved party resides, and must be filed within 30 days of the Bank Board's decision. 56 The clerk of the court receiving the aggrieved party's petition sends a copy to the Bank Board. 57 The Bank Board then returns to the clerk the record of its administrative proceeding. 58 Upon the filing of the administrative record, 59 the court of appeals obtains exclusive jurisdiction over the matter, and has the power to affirm, modify, terminate, or set aside in whole or in part the Bank Board's final decision not to authorize the conversion. 60 The judgment entered by the court of appeals is final, unless subject to review by the Supreme Court upon grant of a writ of certiorari. 61