The Federal Reserve Board ("FRB") proposed to modify its regulations for determining "whether a company has the ability to exercise a controlling influence" on another company under the Bank Holding Company Act and the Home Owners' Loan Act.

The proposal identifies several factors and thresholds the FRB will use to determine whether a company has such a "controlling influence," including:

  • the company's total voting and non-voting equity investment in the bank;
  • director, officer and employee overlap between the company and the bank in question; and
  • the scope of business relationships between the company and the bank.

The FRB proposed a "tiered framework" that would modify and clarify the FRB's existing regulatory presumptions of control. Specifically, the framework would establish a series of presumptions arranged in tiers based on the level of voting ownership: less than 5%, 5-9.99%, 10-14.99%, and 15-24.99%. According to the FRB, the proposal is structured so that "as an investor's ownership percentage in the target company increases, the additional relationships and other factors through which the investor could exercise control generally must decrease in order to avoid triggering the application of a presumption of control."

The proposal includes:

  • several additional presumptions of control;
  • a new presumption of non-control;
  • additional provisions to highlight how the presumption would apply in specific circumstances; and
  • definitions and ancillary rules to make sure that the application of the proposed presumptions is "clear, transparent, and consistent."

According to the FRB, the proposed revisions are intended to give bank holding companies, savings and loan holding companies, depository institutions, investors and the public a better understanding of the circumstances that the FRB considers most relevant when evaluating controlling influence.

Comments will be accepted for 60 days following publication of the proposal in the Federal Register.

A Cadwalader memorandum will be made available shortly.

Commentary / Scott Cammarn

The codification of previously unrecorded positions of the Federal Reserve Staff, developed on a case-by-case basis in connection with one-off transactions, of what may constitute a "controlling influence" and, thus, presumptively, "control" for purposes of the Bank Holding Company Act, is undoubtedly welcome. While the Federal Reserve's proposal is consistent with industry expectations at the margins – in particular, what additional relationships may result in a "controlling influence" when voting ownership is high (i.e., above 15%) or low (i.e., below 5%) – the proposal's treatment in the middle ranges – (i.e., between 5% and 15%) – is particularly troubling. The idea that ownership of 6% of a class of voting securities, when either coupled with a minor business relationship (e.g., where business between the two entities represent 10% of the nonbank company's revenues) or coupled with more than one shared or interlocking employee, constitutes presumptive "control" will likely be shocking to many in the industry and wholly unsupported by the statutory language or the Federal Reserve's last written guidance on control, issued in 2008. Such arrangements are not uncommon, particularly in the FinTech space, and it is doubtful that many bank holding companies currently view such arrangements as causing the bank holding company to "control" the FinTech company. The Federal Reserve Staff should revisit these presumptions of control in the 5%-15% to develop more rational positions.

Commentary / Mark Chorazak

Determining whether "control" exists is one of the most important tasks for parties operating in the banking space. In many cases, the "rules" are unwritten or imprecise in application.

FRB staff should be applauded for attempting to bring transparency to rules that have developed, in the words of Vice Chair Randal Quarles, through a "Delphic and hermetic process," which often cannot be determined "except through supplication to a small handful of people who have spent a long apprenticeship in the subtle hermeneutics of Federal Reserve lore, receiving the wisdom of their elders through oral tradition in a way that gnostic secrets are transmitted from shaman to novice."

In the near term, the FRB's control proposal will be combed through and read carefully by banking lawyers, and interpretive questions will undoubtedly emerge. Industry participants should see this as a rare opportunity to weigh in on how the proposed rules can be improved. There may not be another chance to do so for a very long time.

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