by Doug Childers
For Virginia Business
You know money is tight when Altria Group Inc., owner of the world’s largest tobacco company, has to delay closing on a $10.3 billion deal.
Richmond-based Altria, the parent company of Philip Morris USA, had lined up financing to acquire snuff maker UST Inc. by the end of the year. Instead, Altria announced in October that, while the funding remains in place, the transaction could close in early January at the request of its lenders, Goldman, Sachs & Co. and JPMorgan Chase & Co.
In contrast to Altria, many businesses that wanted to do deals in recent months couldn’t get money from their banks. That was the problem Congress hoped to solve when it passed the $700 billion bailout bill. The law’s primary intent was to buy up toxic assets fouling the financial system, but the federal government will use $250 billion to invest in commercial banks.
The bailout plan capped a tumultuous period in which the federal government seized mortgage finance companies Fannie Mae and Freddie Mac, loaned $85 billion to insurance giant AIG, arranged the sale of investment bank Merrill Lynch to Bank of America and let another investment bank, Lehman Brothers, fail.
Other financial institutions were punished by the plunging stock market. Charlotte-based Wachovia Corp., the commercial bank with the biggest market share in Virginia, was sold for $11.7 billion to Wells Fargo & Co. after backing out of a $2.1 billion deal with Citicorp.
Virginians are beginning to assess the effects of the bailout on the state’s banks, federal contractors and service industries.
Most Virginia-based banks are community banks, not huge “super-regionals” with branches in many states. As recently as August, most banking experts believed community banks were safe from the financial crisis because they had stayed away from subprime mortgages.
Then the federal government took control of Fannie Mae and Freddie Mac, and community banks’ extensive investments in the two mortgage giants’ stock began to spell trouble. Among the early casualties was Virginia Beach-based Gateway Financial, which saw the value of its preferred stock in Fannie and Freddie worth drop $37.4 million after the takeovers. Facing big capital losses, Gateway merged with the parent company of Bank of Hampton Roads. (Gateway expects to recoup $12.7 million of its losses through federal tax benefits provided by the bailout bill.)
A survey conducted by the Virginia Bankers Association found that 25 percent of Virginia’s banks have some holdings in Fannie Mae and Freddie Mac, with an aggregate exposure of $130 million in preferred stock.
But the news isn’t all bad. “Just a handful of those banks have significant holdings in Fannie and Freddie,” says Bruce T. Whitehurst, president and CEO of the Virginia Bankers Association. “The majority who had them had only a small percentage. So the impact for Virginia is very minimal.”
Some Virginia banks could recapitalize by asking the government to buy their preferred stock. Nine major banks received half of the $250 billion set aside for bank investments. Other banks have until Nov. 14 to request a share of the remaining $125 billion. “I don’t know of any Virginia banks that plan to request government investment,” says Whitehurst. “But if any do, I am sure they will have evaluated their capital needs and made the determination that this option serves them well.”
In addition to its effects on community banks, the government’s actions raise questions about the future course of federal spending. Virginia ranks sixth among the 50 states as a recipient of federal spending in total dollars ($110 billion for fiscal year 2008, up approximately 5 percent from last year).
Some observers worry that paying for the bailout could crimp other federal spending. Yet economist Stephen Fuller doesn’t expect much change for Virginia. “[The bailout] will force the next president to look around in the budget for surpluses or excesses that could be used to fund new programs,” says Fuller, director of the Center for Regional Analysis at George Mason University. “But it won’t come out of defense spending, and that’s where Virginia’s competitive advantage is over other states. Defense spending may not grow much, but that was already the case.”
Nor will Virginia see a slowdown in federal spending in the IT sector, which is especially strong in Northern Virginia. “I think a lot of the federal contracting in Northern Virginia is so basic now that in order to run the government, those contracts have to be renewed,” Fuller says. “IT contracts have been growing slightly, and that’s what I’d project for the near-term. Two to three years down the road, maybe we’ll see some tightening.”
In fact, Northern Virginia may see a boost in jobs from the bailout as the federal government hires staff to buy and manage subprime mortgages. “It won’t be like after 9/11, when we saw job growth in homeland security,” Fuller says. “It will bring 5,000 to 10,000 jobs, not 100,000.”
Nonetheless, staffing the bailout program could provide a jolt to Northern Virginia’s reviving housing market. The Northern Virginia Association of Realtors reported that sales in August were up nearly 6 percent from the same month the year before. However, the average home price in that month was down 15 percent from August 2007.
The bailout also may create business opportunities for firms who can guide clients through the law’s ramifications. Richmond-based Williams Mullen, Virginia’s third largest law firm, created a financial crisis task force for that purpose even before Congress passed the bailout bill.
As it was being debated, the legislation grew from three to 450 pages. In final form, it includes provisions expanding parity rules for mental health insurance coverage, offering Midwest flood victims relief from retirement plan restrictions and making changes to the alternative minimum tax.
The law firm’s task force includes lawyers from a variety of fields, such as banking, real estate, bankruptcy and government relations. Some lawyers have experience dealing with failed savings and loan institutions from the days of the Resolution Trust Corp.
“It is such a large and significant piece of legislation, and it affects our clients in different ways,” says Michael C. Buseck, chair of the Williams Mullen task force. “We are helping our clients determine what opportunities there are, and what the ultimate impact on them will be.”
Others, no doubt, will follow Williams Mullen into this niche and others created by the bailout.
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