Key Challenges for All Bank Boards
Ron Janis, partner, Pitney Hardin LLP

Bank directors face a growing number of challenges. I’d like to focus on the three most important challenges: dealing with bank regulators, learning about the M&A process, and learning how to deal with bank dissidents.

Dealing with Bank Regulators

The first challenge I want to discuss is how bank boards deal with their regulators,which is often a difficult learning process for directors. I look at bank regulators as people who play two different roles.When everything is going well, they play a very supportive role, but when you hit a bump in the road, they suddenly turn against you, so there are two different ways of dealing with the regulators, depending on the situation.

In the first scenario, I always advise boards to look to the regulators as a learning source.Regulators provide a lot of information either in written form or in person when they meet with the board. I encourage boards to ask a lot of questions during that process, because they can learn a lot about the bank regulators’ thinking.Most important, boards must develop credibility with the regulators when things are going well. Be up front with the regulators. If there’s a little problem that develops, let them know about it. Be honest with them, and be willing to speak with them.

The more difficult time is when you hit a bump in the road. That bump in the road may be because you missed some things due to the regulators changing their views of what needs to be done. That’s certainly been the case with the Anti-Money Laundering Act and Bank SecrecyAct regulations. Boards have had to deal with that, because it’s an issue that the bank regulators deal with at the board level, not just at the management level. In those sorts of situations, I advise directors to be aggressive–to let the regulators know their feelings if they think they’ve been wrongly accused or if judgment calls are involved.At the same time, the board has to do exactly,or pretty much exactly,what the regulators want it to do. So if the examiner in charge is not reasonable,move up the bureaucratic chain of command with the bank regulators and try to reach someone who is reasonable, and, at the same time, learn from the experience and put in place procedures that the bank regulators will want you to put in place.

The M&A Process

The next key challenge I want to deal with is the M&A process.Most bank boards are not exposed to the challenges of M&A.It is important for the board to develop its expertise in that regard. I’ve suggested to boards that they bring in both a lawyer and an investment banker at several sessions to help them become educated about the M&A process. It is not something that comes naturally to most people. There are very unique issues that arise, and if the board is asking questions and learning about the process in a situation where a deal is not imminent, they’ll do a lot better when presented with a deal.

The M&A process involves learning the perspective of both the target and acquirer because the approach of each is different, and you’re never sure whether you’re going to end up being a target or an acquirer.Over time a bank may end up being both. I think what happens in the process of learning is that the board focuses on what it’s expected to do, which, in a situation where it is the target, is to take over the process and be the controlling force. If it’s going to be the acquirer, the board needs to understand what the target is going through and the importance of the target board’s input.The process is one in which you’ll want to prepare in advance for something that may or may not be on the horizon. If you leave the learning up to the last minute and have no preparation, your board will not do as well in the heat of the moment.

One issue the board will be faced with, preferably in advance but sometimes in the heat of the moment, is executive change-in-control contracts.Contracts are a crucial element of the planning that any board should be doing well in advance of a change in control. It’s very difficult and harmful to be drafting change-in-control contracts at the last minute, especially now when the SEC rules require disclosure within four business days of the contracts and you are working on a transaction that is not yet ripe for disclosure.The board should consider the impact change in control contracts will have on its executives well in advance of any merger and acquisition.You don’t want to be dealing with change-in-control contracts in the heat of a deal when the board is going to be asked about a number of issues–such as cash versus stock, collars, break-up fees and mergers of equals,which is something that is coming up more often lately, especially among smaller banks.The board should be educated about each of these terms and that takes time.We’ve seen, especially in the current interest rate environment,more talk about “takeunders,” where the value of the merger might be less than the market price. Directors do not want to be involved in contract discussions at that time.

Dealing with Dissidents

Another topic I want to touch on is the problem boards have dealing with dissidents,which is very common at the moment.Many public companies are beginning to experience problems with dissidents who are affiliated with hedge funds. Smaller banks have long had problems with dissidents. Larry Seidman is a well-known dissident I’ll use as an example. Seidman’s modus operandi is that he buys a position, goes over 5%, has all his friends buy similar positions, which causes the board great distress by threatening a proxy fight, and in almost all of the situations he has been involved in, the board ends up selling the bank. It’s very important for a board to be prepared for this process well in advance, but what a board really wants to do is avoid getting involved with a dissident such as Seidman in the first place.To do so, the board must be able to perceive what is going on in the marketplace for its stock.The board should look to proxy solicitors or to a stock watch service to advise the bank about what is happening with regard to its stock. At smaller banks, especially newer ones, you may find that the dissidents aren’t the outside shareholders but are some of the directors on your board who become dissatisfied with either the bank’s performance or some other issue. In such situations, the board may find some of its directors are out soliciting interest in the bank.During the M&A preparation process, you will be told that,while the board controls the process, the CEO speaks for the bank, not individual directors.Directors should not be out soliciting interest in the bank on their own.

In this webcast,we’ve only dealt with three challenges.Obviously there are many other challenges for boards of directors, but if the board focuses on these three challenges, it will be well prepared for the others it faces down the road.

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