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CAPITAL: An Insider’s Account of TARP’s Unseemly Side
We all remember when the CEOs of the nation’s largest banks trekked down to Washington, D.C., and were told by regulators that they would receive TARP funds, whether they wanted them or not.
But what was the process like for other financial institutions that were not on the A list? Not so “giving,” it turns out. In an interesting Q&A with CFO magazine, Bruce Nolop, the CFO of E*Trade Financial Corp., describes the process the brokerage went through. Eventually, E*Trade did not receive TARP support; it found its own way out of a funding crisis, eventually restructuring about $1.7 billion of debt.
[O]ne month after I started [as E*Trade CFO], they came out with the TARP program, and we thought, Hallelujah: here is a source of inexpensive capital that can really help us get through this. We applied immediately for the TARP, and we had very strong support from a regulator, the [Office of Thrift Supervision]. We thought that this would be a relatively straightforward process. Little did we know how long and uncertain the process would be. What was the process like?
There was a continual need to come up with financial plans and revise them, and to update our submission to the OTS. In turn, the submission went to the Treasury with the new projections and the new capital plan. And we had to work very closely with Citadel Investments, which owned a good part of our equity but more important owned about 70% of our outstanding debt.
There was a continual need to come up with financial plans and revise them, and to update our submission to the OTS. In turn, the submission went to the Treasury with the new projections and the new capital plan. And we had to work very closely with Citadel Investments, which owned a good part of our equity but more important owned about 70% of our outstanding debt.
What was your worst moment in the process?
It would be getting a call from the OTS on a Friday night saying that we needed a new plan by Monday morning. We had to spend the weekend negotiating the terms and coming up with the new financial model by that time. And then, submitting the plan and not hearing anything for weeks. And never once having a direct dialogue with Treasury about the projections.
Ultimately, you did not get a loan from TARP.
We were never turned down, but we were never accepted. To this day we have never received an explanation. People have a number of theories, but we never had any formal communication from the government saying that we would not get TARP, or an explanation of why they didn’t give it to us.
What theories do you have about why the regulators acted the way they did?
I’d prefer not to speculate.
E*Trade eventually gave up on TARP and pursued what Nolop called a “self-help” recapitalization plan. You can’t help but admire the effort:
Did you ever find yourself critically short of cash? We never had a liquidity issue. We had more than enough cash to cover any losses.
How much cash did you have at the height of the crisis?
We would have excess cash on our balance sheet of as much as $5 billion to $7 billion. But the issue wasn’t cash, it was capital. We had to have enough capital to meet the regulatory requirements. And the secret was the earnings from the brokerage plus the gain on the sale of a Canadian subsidiary and an Indian subsidiary that produced the capital for the bank to offset the losses.
How much cash did you have at the height of the crisis?
We would have excess cash on our balance sheet of as much as $5 billion to $7 billion. But the issue wasn’t cash, it was capital. We had to have enough capital to meet the regulatory requirements. And the secret was the earnings from the brokerage plus the gain on the sale of a Canadian subsidiary and an Indian subsidiary that produced the capital for the bank to offset the losses.
Through the Lehman [crisis] we had excess capital, but as time went on we were using capital beyond what we were generating. Our excess was being reduced, and we knew we needed more capital.
How did you respond?
At a certain point we said that we needed to raise this capital ourselves and not count on TARP. That was around May or June of 2009. It was a huge, huge decision. The term we used was “self-help.” First we said, Let’s start selling stock in the market. We did it through a “dribble-out [at-the-market] offering,” which means that you sell stock every day in the open market. We just filed the prospectus and started selling stock. And one thing about E*Trade, we [already had] such high volume in our stock that the market could handle that volume.
The second decision was, Let’s try to fix the problem once and for all. Let’s do a large transaction: sell a public-offering stock issuance and exchange equity for debt.
Were you concerned about dilution?
We knew that this would be enormously dilutive to existing shareholders. But we felt that if we did it right and put the problem behind us, the value of the stock should start going up from that point forward. It was a big decision, and we said to our board that we think this is the right way to go in order to get the value of the company [up]. In other words, the cost of dilution was offset by the reduction in the risk of bankruptcy for the company.
And it work. E*Trade’s stock eventually stabilized and the company’s market capitalization now resides at around $3.23 billion. The stock price of $1.73 per share is a far cry from where it was in 2005 to 2007, but at least it’s stable. In other words, all is well that ends well.
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