Alert January 10, 2012

FRB Introduces Financial Stability Analysis Required by Dodd-Frank Act in PNC-RBC Bank Approval Order

The FRB issued an approval order in connection with the proposed acquisition of RBC Bank (USA), a North Carolina banking unit of Royal Bank of Canada, by The PNC Financial Services Group, Inc. that included, for the first time, the financial stability analysis required by the Dodd-Frank Act.  Among other things, the Dodd-Frank Act amended Section 3 of the Bank Holding Company Act of 1956, as amended, to require the FRB to consider “the extent to which a proposed acquisition, merger, or consolidation would result in greater or more concentrated risks to the stability of the United States banking or financial system.”

To that end, in connection with the PNC-RBC Bank transaction, the FRB considered (i) whether the proposal would result in a material increase in risks to financial stability due to the increase in size of the combining entities; (ii) a reduction in the availability of substitute providers for the services offered by the combining entities; (iii) the extent of interconnectedness among the combining entities and the rest of the financial system; (iv) the extent to which the combining entities contribute to the complexity of the financial system; (v) the extent of cross-border activities of the combining entities, and (vi) the relative degree of difficulty of resolving the combined entities.

With respect to each factor, the FRB specifically addressed the following:

  • Size – The FRB considered certain measures of PNC’s size relative to the U.S. financial system (i.e., all U.S. financial institutions, aggregated), including PNC’s consolidated assets, total leverage ratio exposures, and U.S. deposits.
  • Substitutability The FRB examined whether either PNC or RBC Bank engages in any activities that are critical to the functioning of the U.S. financial system, and whether substitute providers would remain that could quickly step in to perform such activities should the combined entity suddenly be unable to do so as a result of severe financial distress.
  • Interconnectedness The FRB examined data to determine whether the combined entity’s relationships to other market participants and the similarity of product offerings could (i) transmit material financial distress experienced by the combined entity to its counterparties directly; (ii) transmit distress indirectly through a fire sale of assets or erosion of asset prices; or (iii) trigger contagion resulting in the withdrawal of liquidity from other financial institutions.
  • Complexity The FRB considered the extent to which the merged entity (on a pro forma basis) would contribute to the overall complexity of the U.S. financial system, and whether the merged entity’s assets and liabilities would hinder its timely and efficient resolution in the event it were to experience financial distress.
  • Cross-border activity The FRB examined the cross-border activities of PNC and RBC Bank to determine whether the cross-border presence of the combined organization would create difficulties in coordinating a resolution.
  • Financial stability factors in combination The FRB assessed the foregoing factors in combination to determine whether interactions among them might mitigate or exacerbate risks suggested by looking at them individually.  The FRB also considered whether the proposed transaction would provide any stability benefits and whether enhanced prudential standards applicable to the combined organization would tend to offset any potential risks.

The FRB noted that these categories are not exhaustive.  In addition, the FRB noted that it expects to issue a notice of proposed rulemaking implementing the provisions of the Dodd‑Frank Act that require the FRB to take into account a proposal’s impact on the risks to the stability of the U.S. financial or banking system.  The FRB did not give any indication as to when that proposal will be issued.