Raising capital is like putting gas in your car—it is best to get it before you really need it. The biggest step in raising capital may be the step from “perhaps we should” to “let’s make it happen.” Your bank may have discussed raising capital for any number of reasons: regulatory obligations, potential expansion, fears of Basel III, or otherwise. If your institution is considering raising capital, consider this:
1. Involve your board. The board of directors has the ultimate responsibility for considering and approving a sale of stock, so make sure to involve your board throughout the process. Your board should consider the adequacy and appropriateness of the price, the amount of capital sought, and the terms of the offering, as well as the impact on existing shareholders. The board’s discussions and resolutions should be carefully recorded in the minutes of their meetings.
2. Identify your target investors. This should be one of the first questions your bank considers because it can be one of the central factors in planning a securities offering, including the timing and expense to the bank. For example, your obligations to make disclosures to potential investors could be vastly different for a limited sale to a few wealthy, sophisticated investors instead of a broad offering in your community. You may also have to, or want to, give existing shareholders the opportunity to buy their proportional shares.
3. Considering price. Valuations have become more difficult in recent years because of regulatory uncertainty and investor trepidation, so finding the right price is particularly important. Often, the best place to start is to look at any recent sales of stock among your shareholders. Particularly if you are selling stock to insiders only or to a small group of investors, the bank should be especially careful to make certain that the price is appropriate. Selling stock to insiders for a price that is too low could subject the bank and its directors to litigation by other shareholders. Your board of directors should act prudently and use its business judgment to set an offering price, and careful boards may also engage an independent third party to help set a fair price.
4. Common or preferred. Selling common stock is generally the simplest approach. Preferred stock can be an attractive option in some instances, but preferred stock must be structured according to specific regulations to make sure it constitutes Tier 1 capital. For example, preferred stock must be “perpetual,” meaning that it is never redeemable at the option of the investor or on a specific date—although it may be redeemable by the issuer. Within these restrictions, the terms of preferred stock can vary, so banks are often able to fix the terms of a series of preferred stock to make the stock attractive to potential investors. Some banks may also offer associated warrants to make the investment more appealing.
5. Watch out for traps. Before a stock offering, your attorney will review your charter, bylaws, and other important documents to make sure to avoid potential pitfalls. Here are a few points to keep in mind:
a. Your charter authorizes the issuance of a particular number of shares, so your attorney will make sure that the number of authorized shares minus the number of outstanding shares and the number of shares that might be reserved for particular purposes (e.g., issuance pursuant to stock option plans) leaves enough authorized, unissued shares for the stock offering. If you need to amend your charter to authorize new shares, the amendment will need to be approved by your shareholders.
b. If your bank has preemptive rights (i.e., each shareholder has the right to purchase its proportional share in any stock offering), your offering should be carefully structured to comply with that obligation.
c. Beware of the Bank Holding Company Act and the Change in Bank Control Act. Particularly for closely held institutions and for sales to large investors, potential change in control and bank holding company triggers should be carefully considered beforehand.
6. Tread lightly in the securities laws. Volumes of complex securities laws can be distilled to this: a sale of stock is either (1) registered with the SEC and the relevant state regulators, (2) exempt from registration, or (3) illegal. Registering securities can be an expensive and burdensome undertaking, so privately held institutions generally seek an exemption. Your attorney can help structure your stock offering to make sure it does not fall into category (3).
7. Get advice. Make sure to involve your lawyers and accountants as early as possible. Because each bank and each transaction is different, your lawyers and accountants can work with you to plan a stock offering. For many stock offerings, your lawyers and accountants will work together to prepare information to be provided to potential investors.