Excerpt from Current Issues and Rulemaking Projects Outline (November 14, 2000)

Section VIII.B.4. Current Disclosure, Legal and Processing Issues – Industry Specific Issues – Credit Linked Securities of Bank Subsidiaries

Recently, a number of banks proposed the following transaction structure:

• the bank forms a limited purpose finance subsidiary;

• the bank transfers mortgages or asset-backed securities to the subsidiary;

• the bank owns all of the subsidiary’s common stock; and

• the subsidiary registers the sale of its preferred stock to the public.

The source of funds for dividend payments on the preferred stock would be limited to the income generated by the finance subsidiary’s assets. The banks proposed this structure because the preferred securities of the subsidiary may, under relevant risk based capital guidelines, qualify as capital of the bank.

Under bank regulations, if a financial regulatory event occurs, banks must retrieve, or “claw back,” the assets of these subsidiaries. Because the assets of these subsidiaries are subject to this claw back, this structure raises significant registration and disclosure issues.

Under one structure, the preferred securities of the subsidiary automatically convert into securities of the bank. Therefore:

• the bank and the subsidiary must be co-registrants on the registration statement for the initial sale of the preferred stock since the bank is also offering preferred stock;

• the full audited financial statements of the bank must be included in this registration statement; and

• if the bank’s financial statements are not in US GAAP, they must be reconciled to US GAAP.

If the bank regulators can require the bank to claw back the subsidiary’s assets, the financial condition of the bank is material to the subsidiary preferred stockholder at all times. Therefore:

• the full audited financial statements of the bank must be in the registration statement and in the subsequent periodic reports of the subsidiary; and

• if the bank’s financial statements are not in US GAAP, they must be reconciled to US GAAP.

http://www.sec.gov/divisions/corpfin/guidance/ci111400ex_regs-k_cls.htm