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4000 - Advisory Opinions


Affiliation of Insured Nonmember Banks with Securities Companies

FDIC-85-3

February 1, 1985

Pamela E. F. LeCren, Senior Attorney

The following is in response to your request for an opinion with respect to whether or not ***, a registered broker-dealer that has been in business 1 1/2 years, is an "affiliate" of *** as that term is defined in FDIC's recently adopted regulations governing the affiliation of insured nonmember banks with securities companies. (12 C.F.R. § 337.4).

According to the information provided to this office, *** is 100% owned by ***, a software provider, which is itself in turn 100% held by eight individual shareholders, yourself included (hereinafter referred to as "investor group"). All eight persons in the investor group are directors of *** as well as directors or officers of *** parent company ***. In addition, you hold the position of president at ***. Four of the individuals in the investor group hold positions as directors of ***, one of which serves as the chairman of the board.

*** has a 13-person board of directors. The bank's chairman, ***, owns 32% of the stock of the bank and is a director and 10% shareholder of *** parent company. The remaining seven persons in the investor group who are all directors of ***, hold, in the aggregate, an additional 2.3% of the stock of the bank. Four of the seven each hold 10% of the stock of *** parent, two hold 17% each, and one individual holds 16%. None of the eight persons in the investor group has any family relationship with any other investor, however, five persons in the investor group hold stock in the same insurance agency. Although you have not provided this office with specific details regarding that ownership, you have indicated that one of the five is a major shareholder in the insurance agency and the other four persons have only a minimal ownership interest.

Section 337.4(a)(1) of FDIC's regulations defines the term affiliate as "any company that directly or indirectly, through one or more intermediaries, controls or is under common control with an insured nonmember bank." Control is defined as "the power to directly or indirectly vote 25% or more of the voting stock of a bank or a company, the ability to control in any manner the election of a majority of a bank's or company's directors or trustees, or the ability to exercise a controlling influence over the management and policies of a bank or company." If *** and *** are affiliated for the purposes of section 337.4, the relationship between the two companies will have to conform to the requirements of sections 337.4(c) and (e) as soon as practicable (not to exceed one year without the FDIC's consent).

Among other things, section 337.4(c) requires that any offices of an insured nonmember bank and its securities company affiliate be separate and distinct (i.e., the affiliate must have separate offices that do not share a common entrance with the bank except a common outer lobby or common corridor). Section 337.4(e) places certain restrictions on loans and other transactions involving the bank's affiliated securities company. You indicated on the telephone that *** is interested in leasing space in ***. *** would not be precluded from doing so by FDIC's regulation, even assuming that *** and the bank are affiliated, so long as the physical separation requirement is met.

As demonstrated by the definitions described above, *** and *** would be affiliates for the purposes of section 337.4 if both were controlled by the same company, person, or group of persons. Although no one person holds more than 25% of the voting stock of both the bank and *** and no one person would appear to have the ability to control in any manner the election of a majority of both the bank's and *** directors, it would appear that members of the investor group do have the ability to exercise a controlling influence over the management and policies of both the bank and ***. We therefore feel compelled to conclude that *** and the bank are under common control within the meaning of section 337.4 and that the two entities are affiliates.

We come to this conclusion in view of the following: (1) the members of the investor group together own (a) 100% of the company that wholly owns ***, and (b) hold 34.3% of the stock of the bank; (2) *** parent company has five directors, four of whom are directors of the bank (one of the four is Chairman of the Board); (3) one member of the investor group acts as president for both the bank and *** parent company; and (4) of the remaining two members of the investor group, both of which are vice presidents of the bank, one serves *** parent as secretary/treasurer and one serves *** parent as a director. In view of the close management interlock between the bank and *** company and the substantial ownership of the investor group in the bank (albeit 32% of that ownership is vested in one person) we do not feel that one can escape the conclusion that this group of persons has the ability to exercise a controlling influence over the management and policies of both entities.

You indicated on the phone that should the FDIC determine that *** and *** are affiliated within the meaning of section 337.4 that you are interested in an opinion as to what steps could be taken to terminate that affiliation. It is our opinion that the affiliation could be terminated if the director interlock between the bank and *** parent company is broken. We realize that ***, who owns 32% of the bank, may not wish to remove himself from the board of directors of the bank simply in order to effect the disaffiliation of the two entities. If, however, (1) the three directors of the bank who are directors of *** parent who together own 36% of the stock of *** parent were to resign from the board of directors of the bank, and (2) the person who serves as president of both the bank and *** parent were to resign as president of the bank, the affiliation between the bank and *** parent company would, in our opinion, be terminated. It would not be necessary that *** resign his position as chairman of the board. ***, who, as we have said, owns 32% of the bank is himself only a 10% shareholder and director of *** parent company. Although he would be in a position to "control" the bank within the meaning of section 337.4(a)(4), he probably would not be said to himself control both the bank and *** parent.


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