Foreign banking operations (FBOs) in the United States are about to face a whole new set of regulations that may dampen their enthusiasm for US-based operations, according to a February 14, 2013 webinar organized by the Global Association of Risk Professionals (GARP).
“The Fed observed over time that US branches were increasingly used to fund the home office operations,” said Charles Horn, partner at Morrison Foerster, who was the first speaker at the panel. Other concerns of the Federal Reserve Board are the increased complexity of FBOs, and “the availability of home country financial resources for branch offices.” The goal, he said, is to create some “workable framework” for systemically important FBOs that is “squarely risk-based in nature.”
Horn outlined the genesis of the proposed rules, which are modelled on the Dodd-Frank Act Section 165/166 proposed in December 2011. The new rules will affect FBOs and foreign nonbank financial companies (FNBFCs) to varying extents, depending on the size of their worldwide and US operations. The general effective date is July 1, 2015, with certain exceptions noted by Horn.
The new requirements vary, depending on size of FBO (categorized as less than $10 billion, $10 – 50 billion, and over $50 billion in US assets) and are too detailed for this posting. The following is intended as a brief overview of the presentation.
Corporate lawyers will be very busy over the next two years. “The most significant requirement,” said Horn, is that each FBO with $10 billion or more in US assets ($10B FBOs) must consolidate its assets under an intermediate holding company (IHC). The IHC must have, in essence, US-style governance, with an “elected and full-function” board of directors.
Capital adequacy is a key item in the new regulations. All FBOs must demonstrate adequate capital according to Basel at the group level; the IHCs must show compliance at the US level. This includes the new supplemental charges of Basel III as they are introduced. [Ed. Note: See related posting on Basel III timelines.]
Horn detailed numerous specific liquidity-related requirements for FBOs with $50B or more in US assets. These companies must conduct liquidity risk tolerance review, have a contingency funding plan for US operations, and report regularly on liquidity risk management. They must report on their worldwide consolidated cash flows, and conduct monthly liquidity stress tests. The IHC must maintain a liquidity buffer of “highly liquid assets” in the US. Other FBOs with less than $50B in US assets primarily must comply with Basel-compliant internal liquidity tests.
Horn summarized the single-counterparty credit limits of IHCs and combined US operations in the new regulations. There will be a 25 percent net credit exposure limit for the IHC and any single counterparty. (Exemptions include US government, home country sovereign exposures, and intraday credit exposures.) More stringent limits will apply to $500B FBOs.
Horn described a variety of regulations that apply to the functions of risk management. A risk oversight committee must be established for publicly-traded $10B FBOs; additionally, a US Chief Risk Officer must be appointed by FBOs with $50B or more in US assets, and responsibilities are delineated.
Stress testing also figures prominently in the new regulations. The $10B – $50B FBOs must have an annual supervisory stress test, and they can use home-country stress testing. The $50B FBOs have additional compliance and reporting requirements. The IHCs must independently satisfy stress test requirements.
The debt-to-equity limit is set to 15-to-1, but this only applies to FBOs deemed to pose a “grave threat” to US financial stability, noted Horn. In response to a question from the audience, Horn said the “grave threat” threshold is undefined.
The overall risk management considerations of the items noted above are far-reaching. “Overall, noncompliance risk is relatively high,” said Horn because the proposed rules are complex and highly technical. There will be four levels of early remediation, with specific triggers. “Compliance risk management is key,” he said.
“There may be a ripple off-shore effect,” Horn noted. The high economic and regulatory costs of the new requirements might cause companies to “reconfigure or reduce the size of their US operations.” During the question period, he said some FBOs “will take a long, cold, hard look at their operations” in the US. ª
The webinar presentation slides can be found at: http://event.on24.com/r.htm?e=572054&s=1&k=C19F270D67A297DF58184B8D2B2DD6BC>
The Morrison Foerster “cheat sheet” on the Dodd-Frank Act: http://www.mofo.com/files/Uploads/Images/SummaryDoddFrankAct.pdf
The source of the image for FBOs in the US is: http://blog.thecorporateattorneys.com/2012/08/us-companies-and-bank-accounts-for.html