N.H. banks weigh the wisdom of taking Treasury funds

Peterborough-based Monadnock Community Bank decided to take the money — $1.8 million of it – making it the only New Hampshire-based financial institution to do so thus far. But First Colebrook Bank is leaning toward taking it, and Community Guaranty Savings in Plymouth is leaning against it. Bedford-based Centrix Bank and Newport-based Lake Sunapee Bank aren’t saying whether they’ve made up their minds or not. And, at least at this point, Mascoma Savings Bank wouldn’t take the money, even if it could.

The money in question comes from the Capital Purchase Program, or CPP, a pool of some $250 billion that is part of the $700 billion federal Troubled Asset Relief Program, or TARP, often referred to as the “bank bailout” program — a phrase that causes New Hampshire Bank Association President Jerry Little to “tear his hair out” every time he hears it.

Congress first passed TARP to buy up “troubled assets” from financial institutions, but the Treasury Department shelved that idea about a week after the money was appropriated, instead deciding to buy shares in banks to provide them with capital.

The CPP is not for troubled banks, only those that are the most highly capitalized. The money comes at a price: preferred stock with a guaranteed dividend return, and perhaps other terms to be named later.

It isn’t for all banks. Foreign owned banks – like Citizens (owned by the Royal Bank of Scotland), TD Banknorth (owned by TD Bank Financial Group of Canada) and Sovereign Bank (which is being acquired by the largest bank in Spain) – can’t participate, and thus far, neither can mutual savings banks, like Mascoma Savings.

But questions remain: Will this added capital help jump-start the local economy? Or will it pose the danger – in Little’s words – of “too much capital chasing too few good loans” in a recession, sucking our local banks into the very risky behavior that they have avoided in the past?

“The folks that really need the capital can’t get it. And those that don’t need it are encouraged to take it.” said Little. “It doesn’t make sense.”

A quandary

The Treasury Department maintains that it does make sense — you only want to invest in banks that won’t fail. It is a way of infusing capital, “restoring confidence in the financial institutions that will increase the flow of credit,” Treasury Secretary Henry Paulson said in testimony last year before Congress.

Besides, Brookly McLaughlin, spokeswoman for the Treasury, told NHBR, “It’s a voluntary program. They don’t have to apply.”

The CCP was originally set up for nine larger financial institutions, some of which were indeed in trouble because of their exposure to subprime mortgages. Of the nine only Bank of America – which had recently acquired Merrill Lynch – has branches in New Hampshire. The Treasury Department invested some $15 billion in BofA.

BofA could not say how it is using the CCP money but might have more information after it released its fourth-quarter earnings report, said spokesperson Anne Pace.

Then the federal government turned to well-capitalized smaller banks to take the same deal, which puts them in quite a bind, said Little.

Banks that don’t apply for the money might imply that they weren’t well capitalized, said Little. But, since TARP is widely perceived as a “bailout” program, banks might be perceived as troubled if they do apply. Faced with this dilemma, many banks plan to apply to show they qualify and then turn down the money to show they don’t really need it, Little said.

The terms of the CCP program also present another quandary for smaller banks. The problem is the cost of the money itself.

The capital comes in the form of preferred stock, with a guaranteed pretax dividend return of 5 percent over the first five years, and 9 percent if it’s paid back after that. In addition, CPP banks have to award another 15 percent of that investment in warrants exercised at the price of the common stock at the time of issuance. To make up for the various costs and taxes, a bank would have to get a 9 percent return on that investment.

It is difficult for any bank to get that kind of return, especially with the Federal Reserve striving to keep interest rates so low, Little said.

But CCP makes sense to Monadnock Community Bank, which took the third-lowest capital purchase in the country – nearly a thousand times smaller than the amount BofA received.

Monadnock said that it could make the CCP terms work if it could “leverage” its $1.8 million into about $18 million in loans, said William Pierce, president and chief executive of Monadnock Bancorp, holding company of Monadnock Community Bank.

Using this “multiplier effect,” banks can get a higher return from a lower interest rate, the reasoning goes.

That means that the bank intends to grow, and that happens to be Monadnock’s goal. The bank, which started out as a mutual, became a publicly traded bank in 2006 in order to raise additional capital for growth.

The bank plans to originate more commercial loans, since they result in a higher returns over residential mortgages, even if they are more risky, said Pierce.

“We plan to do this in a safe and sound manner. We are very well regulated and there are a lot of checks and balances,” he said.

As a publicly traded bank, Monadnock was among the first wave of 215 CCP participants announced by the Treasury Department. The department hasn’t yet announced which privately held banks have been accepted.

One of those banks is First Colebrook, which is leaning toward taking the money, said Jim Tibbetts, president and chief executive.

“We are still working on a strategy on how to leverage the money,” said Tibbetts. “We think we have a strategy.”

Tibbetts said the bank has enough capital, but it also has a “strong pipeline of demand” for additional loans. The bank also is concerned that capital may be less readily available as the recession deepens.

Community Guaranty Savings, another bank with private shareholders, applied and has been preliminarily approved, but the bank is leaning toward turning down the money, said its president, Michael Long.

“It’s pretty expensive money,” said Long. “But the main reason is we don’t want the government involved in our business.”

Long was particularly concerned by a clause buried in the agreement that allows the government to “unilaterally amend any provision of this Agreement to the extent required to comply with any changes after the Signing Date in applicable federal statutes.”

“They can change the rules at any time, and you really don’t know what they are going to do,” Long said.

Tibbetts, however, shrugged off the clause: “They change the rules and regulations on us practically daily, anyway, and we don’t think they want to hurt financial institutions. They are hoping to get that money back.”

Other banks that are eligible won’t say what they are planning to do.

“It’s a reasonable cost of capital,” said Joe Reilly, president in Centrex Bank based in Bedford. “And there is no book value dilution, so it’s favorable to common shareholders, but the government could change the terms in the future. I think most banks will pass on it.”

“I can’t tell you yes or no,” said Stephen Ensign, chairman and chief executive of Lake Sunapee Bank. “A case could be made that managed properly the program has merit.”

Mutual savings banks and partnerships owned by an S corporation don’t have any preferred stock to offer, so the Treasury Department has to come up with new rules for them. The department is working on them, but already, the CPP has so far announced capital purchases of $187 billion, so there is a good chance that the department will reach $250 billion before it gets to the mutuals.

Congress may allocate more money, since it has to approve the next half of the $700 billion TARP program, but chances are even more strings will be attached to banks that, arguably, need them the least.

“It kind of points to how half-baked the idea was in its inception,” said Stephen Christy, president of Mascoma Savings, a mutual savings bank based in Lebanon.

Even with the current terms, Mascoma would probably pass. “Why take out more capital that we don’t need at a cost we can’t afford?”

Bob Sanders can be reached at bsanders@nhbr.com.