Private Equity Firms About To Gear Up The Small Banking Sector

Private equity firms look like they are about to get a sweet deal, judging by the expected loosening of the FDIC rules on private capital investment in small, distressed banks and the fact that bigger banks seem more than willing to lend to them.

Felix Salmon points out that banks put up 129% of the funds for Proctor & Gamble's $3.1 billion drug business when private equity firm Warner Chilcott stepped in to buy it this week. In other words, Warner Chilcott borrowed the entire asking price for the acquisition plus $900 million in loans to refinance the firm.

With the FDIC in deep water recently over the 106 bank failures the United States has witnessed since last year, private equity firms are about to get a shot at buying into the industry. Requirements extending to even the Tier 1 capital ratio that private equity investors must maintain are expected to be reviewed in an FDIC board meeting in Washington today.

This is an embarrassing concession for the regulatory body, which only a few months ago shunned private equity investors. It's a real coup for the cloak-and-dagger investors however, especially coming at a time when banks are so ready to lend to them in size.

Similar to the P&G deal, the private equity firms are expected to use a minimum capital ratio of 3 to 1 in financing banks' assets that they purchase. In other words, a maximum of 25 percent of the funds will be their own capital. This method of financing will of course appeal to large national banks, which will end up doing the bulk of the lending, and in turn earning a hefty fee.

Of course, this also means that just when they are on their last legs, small banks will be about to get a whole lot more leveraged.