WILMINGTON, Delaware (Reuters) - Investors who have been frustrated in their attempts to buy some of the hundreds of failing U.S. banks are testing a new approach that is being hailed as a way to rescue lenders and protect the government's deposit insurance fund.
Rather than wait for an ailing bank to be seized by regulators and quickly sold to a rival, dealmakers are touting a recent $6.5 million bankruptcy sale as a way to attract new investors who can infuse banks with life-saving capital.
Lawyers who promote the approach call it a solution to deal with hundreds of ailing banks, and the idea has attracted the attention of large private equity investors. But critics are raising questions about the potential for hastily arranged insider deals.
"There is no shortage of potential candidates," said Van Durrer, an attorney at law firm Skadden Arps Slate Meagher & Flom LLP who has worked with investors looking for bank deals.
Banks cannot file for bankruptcy, but their holding companies can and the approach has only been used twice. But Durrer said investors "are just looking for the right one with the right profile."
Durrer said there are at least half a dozen bank holding companies looking at it as a way to solve a capital structure problem that applies to hundreds of troubled small and regional banks, generally with assets of less than $20 billion.
U.S. regulators have seized more than 300 banks since the start of the 2008 financial crisis, and regulators said there were nearly 900 "problem banks" at the end of last year.
Since the start of 2008, failed banks have cost the deposit insurance fund more than $80 billion, money that is paid out when a bank in receivership cannot meet the obligations to depositors.
Durrer said the strategy has already attracted the attention of big funds such as Oaktree Capital Management, Blackstone Group LP (BX.N) and Centerbridge Partners, which specialize in troubled and bankrupt companies.
The funds did not return a call for comment.
Blackstone and Centerbridge turned a big profit after they bought the failed BankUnited Inc (BKU.N), but there have been few other opportunities for buying seized banks. Supporters said the bankruptcy approach would give investors a way to acquire banks before regulators stepped in.
Supporters of the new approach point to the successful bankruptcy sale of AmericanWest, a 58-branch bank in Spokane, Washington.
The bank's holding company filed for bankruptcy and a court-supervised sale was quickly arranged.
The bank offered investors loyal borrowers and depositors who left their money in the bank despite the holding company's Chapter 11, a key factor in making the approach work.
SKBHC Holdings LLC, backed by units of Goldman Sachs Group Inc (GS.N) and Oaktree, paid $6.5 million for AmericanWest, which had $1.6 billion of assets and $1.4 billion of deposits at the end of 2010. The buyers agreed to pump in up to $200 million to get the bank back on its feet.
SKBHC has said in public disclosures it plans to acquire other banks in the Western United States.
Durrer said his law firm has been pushing this approach for years but "it sort of took the perfect storm of AmericanWest to make it work."
The deal saved the Federal Deposit Insurance Corp's deposit insurance fund $330 million, according to court documents, and protected creditors from being wiped out.
The process offers a way to solve the capital structure problem of trust preferred securities, or TruPS, which Durrer said plagues a majority of smaller troubled banks.
TruPS have helped small banks raise capital but become a problem when the bank tried recapitalize because new equity investment at the holding company level would flow to the TruPS before the bank.
Durrer said AmericanWest's advisers were unable to identify the TruPS holders to negotiate, and eventually settled on the idea of using bankruptcy to eliminate the TruPS roadblock.
In recent weeks, another bank holding company, Outsource Holdings Inc of Lubbock, Texas, filed for bankruptcy to sell its Jefferson Bank business through the same process.
"There are circumstances where it works," said James Rockett, a banking specialist with Bingham McCutchen LLP. "But there are a lot of risks in that strategy. "
At least one risk is that TruPS holders derail the process.
John Scannell, whose Hildene Capital Management hedge fund is a TruPS investor, opposed the AmericanWest sale, and similar objections have been raised in the Jefferson Bank sale.
"What our concern is, is people making backroom deals and walking in with a deal already done and no opportunity for anyone else to buy the bank," said Scannell. "We would like to see an open process and sufficient time for others to participate."
Durrer said timing depends in part on regulators and depositors, who could be spooked by a lengthy bankruptcy and force a seizure by pulling their money.
"It's a delicate line to walk," said Durrer. "In AmericanWest, there was no time on the shot clock at all."
Reporting by Tom Hals, editing by Matthew Lewis