Early resolution of troubled financial institutions: An examination of the accelerated resolution program

Journalof ELSEVIER

Journal of Banking & Finance 21 (1997) 1179-1194

BANKING & FINANCE

Early resolution of troubled financial institutions: An examination of the accelerated resolution program Roger D. Stover 1 Department of Finance, Iowa State University, 386 Carver Hall, Ames, 1A 50011, USA Received 7 June 1996: accepted 29 March 1997

Abstract

This paper expands the empirical research on the auctions of failed financial institutions by examining the thrift industry Accelerated Resolution Program as an alternative to the standard auction procedures. Jointly managed by the Office of Thrift Supervision and the Resolution Trust Corporation, the objective of this program was to intervene before insolvency and, thereby, to reduce the regulatory expenditures. Previous research has often found the existence of a wealth transfer to the winning bidders in both commercial bank and thrift auctions. In contrast to this previous research, no evidence is found in this study to conclude that a wealth transfer occurred in standard Resolution Trust Corporation auctions. Furthermore, while the Accelerated Resolution Program yielded positive abnormal returns, there is also no evidence of a wealth transfer. JEL classification." G28 Keywords. Thrift failures; Early resolution; Wealth transfer; Government assisted auctions; Purchase; Assumptions

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1. Introduction This study examines the Accelerated Resolution Program established in the early 1990s as a joint effort of the Resolution Trust Corporation and the Office of Thrift Supervision on the premise that early intervention in a failing thrift institution could create substantial taxpayer savings. There has been no systematic examination of whether such "open bank" transactions improved the government's role in handling troubled financial institutions. Previous research has focused on the wealth transfer hypothesis by examining assisted acquisitions of failed institutions. These studies generally conclude that the bidding process for already failed institutions has led to such underpricing of their values to result in a transfer of wealth from the government to winning bidders. 2 This study focuses on the nature of the bidding and the stock market reaction of winning bidders for a sample of the Accelerated Resolution Program auctions and a control sample of standard purchase and assumption auctions of Resolution Trust Corporation (RTC) institutions during the 1990-1992 period. Previous studies have compared purchase and assumption transactions of failed financial institutions with voluntary mergers on the premise that the former are not optional for the target institution. In this study, the Accelerated Resolution Program transaction could be considered voluntary in that the troubled savings and loan association, still with adequate capital, did have the option not to enter the program. However, in contrast to earlier studies of voluntary transactions, the RTC represents the target firm at the time of the auction. As Cochran et al. (1995) note, a difference in motivation exists between the government and target institution shareholders. The former's objective of achieving the least cost alternative does not necessarily result in obtaining the highest bid required for maximizing target shareholder wealth. The degree to which these motivations vary leads, in part, to the level of subsidization provided in this case by the government to the acquiring firm. The results indicate that the RTC resolution costs standardized by total deposits are significantly lower for the Accelerated Resolution Program transactions. Gupta et al. (1993) indicate that evidence of a wealth transfer would be the combined positive excess return on the announcement day and a positive linkage between that excess return and the level of regulatory financial assistance. Observing the bidding and the market reaction to both approaches, only the Accelerated Resolution sample exhibits significantly positive cumulative re-

2 The AcceleratedResolutionProgramwas intended to avoid the potential deteriorationin firm franchise value associated with the conservatorshipprocess inherent in these standard auction options. The empiricalquestionis whetherthis form of early interventionsignificantlyreducesthe level of wealth transferrelativeto standard auction procedures.

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turns. However, combining these results with cross-section regression results suggest no evidence of a wealth transfer for either sample. Therefore, neither the standard nor accelerated resolution procedures resulted in the over-subsidization evidenced in previous research. The remainder of this paper is as follows: Section 2 provides a brief summary of the Accelerated Resolution Program and the implications of relevant literature. Section 3 presents the samples, along with descriptive statistics. The results are delineated in Section 4 with the summary and conclusions outlined in Section 5.

2. Review of the accelerated resolution program

The standard definition of the Accelerated Resolution Program is "a series of transactions coordinated by the government to provide fresh capital to viable but materially undercapitalized institutions having significant franchise value as soon as possible". 3 Theoretically, the cost savings develop through the addition of private capital to resolve the institutions' problems at an early stage. Implicit in the decision to employ the early resolution option is the regulatory trade-off between restructuring an institution with positive franchise value and the savings that might be achieved if the interests of stakeholders such as uninsured depositors, shareholders, creditors, and service providers are eliminated when the institution is closed. The Accelerated Resolution Program differs primarily from the standard purchase and assumption option in that the savings and loan is not placed under a conservator. Given an insolvent institution, regulators have traditionally had two options in addition to the various liquidation procedures. 4 Purchase and assumption transactions are often considered less costly than liquidation because not only is some form of franchise value retained but also the remaining assets are expected to be more effectively managed by the acquiring entity. In the case of electing to employ the purchase and assumption alternative during the period of this study, the Office of Thrift Supervision (OTS) declared a savings and loan association insolvent and appointed the Resolution Trust Corporation as conservator for the failed firm. The grounds for such action range from firm insolvency and capital inadequacy to examiner judgment

3 From a statement by Richard Dorfman of Lehman Brothers before the Thrift Deposit Oversight Board meeting 25 March 1992. 4 Under the purchase and assumption auctions, the buyer acquires deposits and no risk assets, including cash loans secured by deposits, and investment grade securities. Alternatively, the unsecured deposit transfer involves no material transfer of assets. Qualified acquirers bid a premium based on the percentageof core deposits.

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about the savings and loan's unsafe and unsound practices. Under the standard auction, the acquirer could purchase certain asset pools and limit the assumption of deposits and other liabilities. Most importantly, existing procedures eliminate original equity holders and likely replace existing management. For an institution to qualify under the Accelerated Resolution Program, the regulatory authorities must have identified potential investor interest in the complete firm and concluded that management was stable. Once the institution agreed to participate in the program, both the OTS and RTC would promote it among potential acquirers. When the winning bidder was identified, the OTS closed the thrift, placed it in RTC receivership and immediately transferred it to the buyer. In contrast to the conservatorship program, the regulatory authorities expected the Accelerated Resolution Program to minimize the deterioration in the failing thrift's franchise value prior to the transfer. Furthermore, the new owners were expected to be more interested in managing the firm's problem assets. The principal difference between this and the standard purchase and assumption transaction is that the new management takes over a going concern under this form of early resolution. Given this alternative resolution procedure, a principal policy issue is whether the de facto early closure and shift in management control would result in reduced wealth transfer from the deposit insurance fund to acquiring firm shareholders. Considerable debate has focused on the feasibility of the early resolution format. Previous programs such as the Management Consignment Program operated in the mid-1980s by the former Federal Home Loan Bank Board, the "Phoenix" thrifts organized by the Bank Board, and the net worth certificate and income capital certificate programs were oriented toward forbearance. These forbearance policies often placed banking regulators in a conflict of interests in that they were forced into the position of de facto favoring insolvent institutions in competition with adequately capitalized commercial banks and thrifts. The Accelerated Resolution Program did not represent forbearance in that the acquirer had to fully capitalize the problem institution to meet phased-in capital standards during that period. This form of early resolution permitted regulators to intervene prior to thrift insolvency in an attempt to both minimize the ultimate resolution costs as well as the moral hazard associated with management practices in such a risky venture. In contrast, potential acquirers incurred sizeable expenses in performing due diligence, securing capital commitments, structuring the bids and assessing the problems associated with the transfer of ownership during a relatively limited time interval. As James and Wier (1987) noted, any examination of market price reaction of winning bidders must net out these expenses. Therefore, while this program received general approval from financial policy experts, the empirical question that re-

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mains is the degree to which a wealth transfer occurred in the process of attaining the above advantages, s Considerable research has examined the wealth transfer effects inherent in the bidding for failed financial institutions. The preponderance of studies of Federal Deposit Insurance Corporation auctions of failed commercial banks (James and Wier, 1987; Bertin et al., 1989; Cochran et al., 1995) found a positive market reaction for winning bidders, thus suggesting some form of wealth transfer to the acquiring firm. Studies of the Federal Savings and Loan Insurance Corporation auctions of failed savings and loans (Balbierer et al., 1992: Gupta et al,, 1993; Gosnell et al., 1993) found similar results. Gosnell, Hudgins, and MacDonald found such results only for NASDAQ-Iisted winning bidders. Beyond merely observing positive abnormal returns to winning bidders, Gupta, LeCompte, and Misra argue that a wealth transfer only occurs when the expected value of the failed thrift's assets, plus assistance provided by regulators, exceeds the value of the liabilities transferred from the failed institution to the acquiring firm. Such underpricing is evidenced by a lack of competitiveness or efficiency in the market for failed institutions and by observing that whatever remaining franchise value went to the winning bidder and not the government. Balbierer, Judd, and Lindahl indicate that over-subsidization would likely occur when not only does the government infuse resources into the transaction but also the potential set of bidders is limited. Balbierer et al. and Gupta et al. find evidence of over-subsidization for FSLIC auctions of failed savings and loans while Cochran et al. (1995) draw similar conclusions for FDIC auctions of failed commercial banks. This study utilizes a similar research approach to examine transactions under the Accelerated Resolution Program. First, using standard event study methodology, the market reactions of winning bidder firms for the early resolution and purchase and assumption auctions are compared. In addition, employing a regression model based on a composite set of variables used in earlier studies of the wealth transfer hypothesis, the causality of the market returns is examined.

3. Sample and descriptive statistics The Freedom of Information Office of the RTC provided both the Accelerated Resolution Program sample and the control sample of purchase and assumption auctions transacted by the Resolution Trust Corporation. The

s A reviewof the testimonybeforethe Thrift DepositorProtectionOversightBoard provides a sense of expertevaluationof the concept of early resolutionof failing institutions.

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final samples consist of 18 Accelerated Resolution Program transactions and 53 purchase and assumption auctions that occurred during the period 19901992. During this time, the original Accelerated Resolution Program sample consisted of 33 transactions. The Freedom of Information Office provided the entire set of news releases of the Resolution Trust Corporation for the period 1990-1992. These releases identified the parties involved in the Accelerated Resolution Program along with associated sale information such as the amount of financial assistance provided the winning bidder, the number of potential bidders, and the level of core deposits. Of the total initial sample, the constraint of needing to have the winning bidder share price information be reported on the CRSP data tapes reduced the final sample to 18 usable transactions. An examination of the Resolution Trust Corporation Conservatorship Report and the bid sheets supplied by the Freedom of Information Office provided the control sample of purchase and assumption auctions that could be employed in this study. A total of 201 purchase and assumption auctions for the complete institution were identified. I eliminated those auctions that consisted of branch bids or a combination of branch and whole bids to avoid examining a bidding structure that required an independent assessment of how the Resolution Trust Corporation rationalized its decision among the various bidding combinations. 6 Auctions in which the winning bids were zero or negative were eliminated to facilitate the cross-sectional regressions in which the natural log of the winning bid is the dependent variable. A total of five such issues were removed. The bid sheets were then examined to confirm the basic elements of the transaction. Based on that review, I eliminated additional auctions. Reasons for these exclusions include discrepancies between the number of bids and winning bid listed on the Conservatorship Report and those reported on the bid sheets, subsequent amendments to originally submitted bids and mixtures of purchase and assumption and insured deposit transfer bids. A total of 71 auctions were eliminated in this phase. The final control sample consists of 53 purchase and assumption transactions with the final constraint being that the winning bidders had to have share price performance listed by CRSP. Table 1 presents descriptive statistics for both the Accelerated Resolution Program and purchase and assumption samples. The first two columns show that the sample used in this study was representative of those Accelerated Resolution Programs available during that period. I also employ a difference in means test to examine the potential effects of early intervention for the Accel-

6 An example is the auction on 2 May 1990 of Platte Valley Savings, a federal savings and loan in Gering, Nebraska. Bids included one for the whole institution, one for the Chadron branch, one for the Gering branch, and two for an insured deposit transfer. Thus, my sample consists of auctions in which the only bids were of the purchase and assumption form for the complete institution.

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Table 1 Sample characteristics Variable

Accelerated resolution program sample a Study sample Total sample

Purchase and assumption sample

Study sample vs. P and A sample significant difference

Target size (assets in $millions) Relative size

953.81 995.37 0.093 (0.129) 863.62 (835.35) 743.41 (750.45) 0.800 (0.190) 117.08 (148.54) 0.103 (0.086) 204.64 (333.24) 13.00 (7.33) 6.11 (8.43)

676,02 ( 1,384.68) 0.111 (0.160) 577.58 (1,169.45) 387.32 ( 714.30 ) 0.7825 (0.185) 170.57 (445.08) 0.276 (0.236t 272.21 (647.91 ) 18.91 (10.22~ 3.02 (1.95)

No

Total deposits ($millions) Core deposits (Smillion s) Core/total deposits RTC cost ($millions) RTC Cost/ total deposits RTC funding ($millions) Attending bidders Actual bidders

643.62 ( 818.16) N/A 570.20 (658.25) 503.63 (660.21 ) 0.800 (0.226) 79.77 ( 126.35) 0.104 (0.074) 102.29 (212.40) 12.38 (8.88) 4.90 (7.10)

No No Yes * No No Yes *~ No Yes ** No

The total sample consists of the 33 ARP auctions for which I had press releases. The study sample is the 18 ARP auctions (out of the 33 total) for which stock price data were available. ** Significant at 5% level. * Significant at 10% level. N/A: Seven of the winning bidders could not be identified from public documents. Characteristics of Accelerated Resolution Program and Purchase and Assumption Samples at times of Resolution Trust Corporation (RTC) auctions. The following defines selected variables: Relative Size is the ratio of target firm assets/acquiring firm assets; Core Deposits are defined by the RTC as the amount of deposits that are less than $80,000 and nonbrokered; RTC Cost is the estimated final resolution cost to the RTC following an allowance for recovery of retained assets and payment to other creditors, net of premium/discount; RTC Funding is the estimated cash infused by the RTC through the date of resolution, again net of premium/discount; Attending Bidders is the number of bidders attending the bid conference and/or receiving bid packages.

e r a t e d R e s o l u t i o n P r o g r a m s a m p l e r e l a t i v e to the m o r e n o r m a l c o n s e r v a t o r s h i p a p p r o a c h f o r t h e p u r c h a s e a n d a s s u m p t i o n t r a n s a c t i o n s . T h e m e a n sizes in t e r m s o f b o o k assets are n o t s i g n i f i c a n t l y different f o r t h e t w o s a m p l e s b u t are slightly l a r g e r t h a n t h e $370 m i l l i o n a v e r a g e in t h e B a l b i e r e r et al. (1992) s a m p l e o f F S L I C f a i l e d s a v i n g s a n d l o a n a u c t i o n s . M o r e i m p o r t a n t l y , the rel a t i v e size o f t a r g e t a n d a c q u i r i n g i n s t i t u t i o n are v e r y close f o r b o t h s a m p l e s a n d in the r a n g e o f p r e v i o u s studies.

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Those who have argued against regulatory forbearance have maintained that the problem savings and loan franchise value often deteriorates with time as measured by the level of core deposits. As illustrated in Table 1, while the dollar amount of core deposits is significantly higher in the Accelerated Resolution Program sample, the ratio of core deposits/total deposits for the two samples are approximately equal. This observation does not definitively reject the deterioration argument but does indicate that the two samples appear to have similar core customer bases at the time of the transactions. Despite this, the total resolution cost standardized by total deposits is significantly lower for the Accelerated Resolution Program sample. Finally, James and Wier (1987) note that, for F D I C auctions, one of the principal issues was whether the set of banks that actually bid on a failed bank included most of the potential bidders or did the regulatory selling procedures restrict competition. In Table 1, obviously the Accelerated Resolution Program transactions experienced fewer potential bidders attending the bidders conference. The more defined marketing program for the Accelerated Resolution Program is apparent in this significantly lower number. However, that marketing program appears more efficient as the number of actual bidders was higher for the Accelerated Resolution Program.

4. Empirical results

4.1. Market reactions Event study methods are employed to measure the common stock valuation effects of the auction announcements. Assume that stock returns follow a single-factor market model: Rj, : ~j +/~j Rm, + ~,,

(1)

where Rjt and Rmt are the rates of return on the common stock of the jth winning bid firm and on the CRSP equally weighted market index on day e and ejt is a random variable with an expected value of zero (constant variance, uncorrelated with the market index on other stock returns on day t, and zero autocorrelation). Define the abnormal return as: ARjt : Rj, - (~j + L Rm,),

(2)

where ~ and/~j are ordinary least squares estimates of ~j and fir. The parameter estimates of the linear market model, assumed to represent the return generated process, are computed over a 271-day estimation period starting 135 days before the announcement and including 135 days after the announcement (see Cochran et al., 1995). The announcement date is the date of the press release

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Table 2 Common stock price reactions to announcements of savings and loan association auctions of the resolution trust corporation during the 199(~1992 period Day

Accelerated resolution program

Purchase and assumption group

Average Z-Statistic Positive/ Generalabnormal negative ized sign return (%) Z

Average abnormal return (%)

Z-Statistic Positive/ Generalnegative ized sign Z

-0.72 0.70 -0.23 -0.39 -0.59 0.43 0.36 -0.60 -0.19 -0.18 0.34 0.37 -0.51 -0.29 0.07 0.15

1.99 ** 1.95 "" 0.64 1.07 1.64 * 1.18 0.99 1.67 ** 0.53 0.50 0.95 1.02 1.40 * 0.82 0.18 0.43

21:32 33:20 21:32 21:32 25:28 27:26 21:32 21:32 21:32 26:27 28:25 19:34 22:31 27:26 28:25 29:24

Panel B: Cumulative abnormal returns Cumulative t-Statistic Positive/ Generalreturn negative ized sign Z

Cumulative returns

t-Statistic

Positive/ Generalnegative ized sign Z

+1,+2 2.73 0,+2 2.23

-0.24 0.17

0.48 0.29

22:31 26:27

Panel A: Average abnormal returns -5 0.06 0,12 8:10 - 4 -0.68 1,27 7:11 -3 0.15 0.28 11:7 -2 0.07 0.14 8:10 -1 -0.10 0.19 8:10 0 -0.50 0.94 6:12 +1 1.11 2.06 '* 11:7 +2 1.63 3.02 '** 12:6 +3 0.43 0.80 11:7 +4 -0.64 1.18 5:13 +5 0.06 0.11 7:11 +6 0.48 0.90 11:7 +7 (I.03 0.05 5:13 +8 (/.09 0.17 10:8 +9 -t).28 0.52 8:10 +10 -0.04 0.07 9:9

3.59*" 2.39 **

13:5 12:6

0.24 0.71 1.17 0.24 0.24 1.19 1.17 1.65 ** 1.17 1.66 ** 0.71 1.17 1.66 ** 0.70 0.24 0.23

2.12 ~* 1.65 **

1.15 2.16 *~" 0.87 1.15 1.55 0.04 0.51 1.15 1.15 1.15 0.23 0.78 1.70 x* 0.87 I).51 I).78

0.87 0.23

Day 0 is the date of case closure reported in the Resolution Trust Corporation, Resolved Conservatorship Reports and Corporation press releases, Daily abnormal returns are forecast errors from the single-index market model using the CRSP equal weighted index of all NYSE, AMEX, and NASDAQ stocks. The estimation period for the market model parameters is the 271 day period starting 135 days before the announcement and including 135 days after the announcement. The standardized cross-sectional test assumes cross-sectional independence of abnormal returns but adjusts for heteroskedasticity and variance increases on the event date. (See Boehmer et al., 1991). * Significance at the 10%, 5%, and 1% levels is indicated by one, two, and three asterisks, respectively.

issued by the R e s o l u t i o n T r u s t C o r p o r a t i o n . T o test w h e t h e r the average abn o r m a l r e t u r n s a n d c u m u l a t i v e a b n o r m a l r e t u r n s differ f r o m z e r o , I use t h e s t a n d a r d i z e d c r o s s - s e c t i o n a l t e s t d e v e l o p e d b y B o e h m e r et al. (1991). T h i s t e s t s t a n d a r d i z e s e a c h A R j / b y its e s t i m a t e d s t a n d a r d e r r o r t o a l l o w f o r c r o s s - s e c tional heteroscedasticity and also makes

a cross-sectional variance adjust-

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ment. 7 Several event periods are examined to include generally those employed in previous failed institution studies using daily data. s Table 2 presents both the average abnormal returns for the period five days prior to and 10 days following the R T C auction announcement date. An examination of the abnormal returns over the 10 days prior to the auction date failed to show any of the information leakage effects observed by James and Wier (1987) and controlled for in other studies. In addition, neither of the samples in Panel A exhibits any significant abnormal returns on the announcement date. 9 The announcement effect is evident in the two days immediately following the transaction that typically is reported late in the day on a Friday. F o r the Accelerated Resolution Program sample, the abnormal returns are both significantly positive in days +1 and +2 (I.11% and 1.63%, respectively). Furthermore, there is no apparent trend in abnormal returns following day +2 to indicate the need for observing a larger window used by such studies as Cole et al. (1994) and Pettway and Trifts (1985). The purchase and assumption sample exhibits an insignificantly positive and smaller (0.36%) abnormal return in day +1 only. Panel B of Table 2 reports the cumulative average abnormal returns for selected intervals. As expected, based on Panel A, the cumulative returns for the Accelerated Resolution Program sample are significantly positive for both intervals. The 2.73% cumulative return for the (+1, +2) interval is similar to the 2.36% (-1, 0 interval) observed by James and Wier (1987) for failed F D I C b a n k auctions. ~0 The nonparametric generalized sign test in column 4 confirms the evidence from column 3 that a significant shift occurs in the ratio of positive to negative cumulative return observations in the period immediately following the announced auction results. The null hypothesis is that the proportion of positive/negative returns is equal to the ratio in the estimation period. In contrast, none of the cumulative returns are significant for the purchase and assumption group. This observation is also consistent with the results of Gosnell et al. (1993), although they employed different intervals.

7 See Cowan and Sergeant (1996) for the use of this testing. 8 The Scholes-Williams'estimated betas were also examined but the results were not significantly different. 9 Balbierer et al. (1992) found a similar pattern in announcement returns for their sample of Federal Savings and Loan Insurance Corporation (FSLIC) auctions, They found no pattern of returns prior to the announcement to suggest information leakage. The lack of return on the announcement day of OTC bidders was explained in terms of the lag in market recognition and the thinly traded securities in that market. Io Other announcement period abnormal returns include Cochran et al. (1995) of 1.16% (-2, 0), Bertin et al. (1989) of 0.95% (-1, +l), Gupta et al. (1993) of 1.02% (-1, 0), and Balbierer et al. (1992) of 0.36% (0, +1) for NYSE/AMEX bidders, and 0.84% (0, +1) for OTC bidders.

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Furthermore, the insignificant generalized sign tests show that no shift occurs in the nature of the bidding reaction distribution for the purchase and assumption sample. 4.2. Cross-sectional results

These initial results reported in Table 2 provide preliminary evidence that a wealth transfer may have occurred in the Accelerated Resolution Program auctions. The abnormal returns appear sufficient to more than offset the preparation costs associated with the bidding process. The principal purpose of this section is now to test the over subsidization hypothesis regarding whether purchasers of Resolution Trust Company failed thrifts received such a transfer of wealth. A weakness in several previous studies has been to concentrate their focus solely on the equity market reaction to the announced auction results. Conclusions are made without fully understanding the dynamics of the auction bidding process. To fully test the potential for a wealth transfer, the relationship between the market reaction of the winning bidder to the level of the winning bid must be examined. James (1991) and Giliberto and Varaiya (1989) provide insight into the bidding process for failed commercial banks. James finds the premiums paid by the winning bidder are positively related to the size of bank core deposits, number of bidders and assumed risk assets. Most importantly for this study, the significantly positive bidder coefficients suggest that the Federal Deposit Insurance Corporation did not receive the full value of failed banks' values. Giliberto and Varaiya found a similar effect of bidder competition in their winning bid model. To examine the determinants of winning bids in the sample of this study, the following equation estimates the relationship for the combined Accelerated Resolution Program and the purchase and assumptions samples: WBID = fl~ + f12 (CORE) + f13 (REPO) + f14 (PUT) + fls (BIDDERS) +//6 (SIZE) +//7 (ARP) + e,,

(3)

where WBID is the natural log of the winning bid. CORE, the ratio of core deposits to total deposits, refers to the Resolution Trust Corporation estimate of core deposits as all those nonbrokered deposits under $80,000 in total amount. This measure represents a franchise value of the institution. As a measure of the asset quality for those assets acquired through the process, REPO is the ratio of firm repossessed assets to total assets. James (1991) notes that the relationship between the winning bid and the loss probability on the assumed assets depends on the existence of a put option for those assets. The dummy variable, PUT, takes the value of one if the option exists and zero if there is no option, Similar to both James and Giliberto and Varaiya, I employ the number of actual bidders (BIDDER), to reflect bidder competition. The issue

1.491 (1.143) 0.419 (0.267) 1.372 (1.004) 1.448 (1.151)

-0.066 * (1.855) -0.078 ** (2.300) -0.064* (1.778) -0.063 ** (1.963)

0.357 (1.031) 0.269 (0.744) 0.323 (0.939) 0.425 (1.231)

Reposses- Put sed assets option 0.112 **" (3.886) 0.101 *** (3.371) 0.106 *** (3.613) 0.271 *** (2.841)

BIDDERS

ARP "

ARP x CORE ~

0.001 *** 0.216 . . (7.167) (1.482) 0.001 . . . . 3.369 " 4.444 . (6.381) (2.030) (2.081) 0.00l *'" 0.537 (7.037) (0.988) 0.001 *** 0.889 (7.144) (1.447)

SIZE

-0.136 (1.227) -

.

. .

.

-

.

-0.187 * (1.926)

.

.

ARP × ARP x Repossessed Bidders

-

-

-

-

0.570

0.556

0.565

0.557

14.239

13.506

14.010

15.666

R T C R T C Adj. R 2 F BID W I N

• Significance of coefficients illustrated by one (10% level), two (5% level), and three (1% level) asterisks. a Eq. (2) coefficients cannot be considered representative because of the variance inflation in the A R P and A R P x C O R E variables. Winning bid is in natural log form. C O R E deposits is the ratio of core deposits to total deposits as provided by Reduction Trust Corporation; Repossessed assets is ratio of repossessed assets to total assets; Put option equals 1 if put option exists, 0 if not; B I D D E R S is the n u m b e r of actual bidders. A R P equal to 1 if an Accelerated Resolution Program auction, 0 if purchase and assumption auction; SIZE is measured as total assets.

(4) 5.343

(3) 5.938

(2) 6.830

(1) 5.820

Intercept C O R E deposits

Table 3 Winning bids regressed on set o f independent variables for accelerated resolution program and purchase and assumption auctions by resolution trust corporation during period 1990-1992. (White's heteroskedastic adjusted t-statistics are in parentheses.)

4~

~'q

~'

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with BIDDER is whether evidence exists for a wealth transfer in a positive coefficient for this variable in Eq. (1). The size variable is measured in terms of total assets. Finally, ARP is one if the observation is from the ARP group and zero if from the purchase and assumption group. Table 3 presents the regression results employing Eq. (3) for winning bids. The coefficients are as expected, but of varying significance. The core deposits variable indicates, albeit marginally, that the winning bid reflects the franchise value of the firm. In addition, this bidding valuation does reflect the market perception of the firm in terms of the level of pre-conservatorship asset risk as measured by the significantly negative REPO coefficients. The put option exhibits the expected positive albeit insignificant effect on the level of the winning bid. Finally, the positive and highly significant coefficient for the number of bidders suggests that at least those winning bid firms with public traded stock do not appear to compensate for the winners' curse phenomenon observed in various types of auctions. This coefficient also reinforces findings of James (1991) of a positive coefficient which he argues is evidence of wealth transfer to the winning bidder from the regulatory authority. The generally insignificant ARP coefficient indicates that bidders for the Accelerated Resolution Program thrifts did not pay a premium, given the levels of the other coefficients in the model. I also employed a series of interaction terms with ARP to examine whether the Accelerated Resolution Program winning bids were unique in terms of the model control variables. Only the ARP x BIDDER interaction term is significant but negative. The combination of the ARP and the ARP x BID interaction terms shows that the lack of a wealth transfer is evident in the Accelerated Resolution Program sample. Previous research focusing on wealth transfers in financial institution auctions have employed several relationships in various cross-sectional regressions to test this hypothesis. In their models of winning bidder abnormal returns, the principal independent variables are the relative sizes of the bidder and failed savings and loan association and the level of assistance provided by the Resolution Trust Company to the winning bidder. The size variable has been measured both in terms of assets and deposits. 11 While potential synergies could be identified by a negative coefficient, a positive coefficient suggests a wealth transfer. Gupta et al. (1993) also examine the regulatory authority assistance package to the winning bidder. While positive abnormal returns to the winning bidder could reflect other factors, they argue that a positive relationship between the size of the assistance package and winning bidder abnormal returns would further demonstrate a wealth transfer. James and Wier (1987) include the number of bidders participating in the auction to further test the wealth

tl Balbierer et al. (1992), Cochran et al. (1995) and G u p t a et al. (1993) employ assets as their relative size measures while Bertin et al. (1989) and James and Wier (1987) use deposits.

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transfer hypothesis. They maintain that a negative relation between winning bidder returns and the number of bidders is consistent with the wealth transfer hypothesis, lz Given these exogenous variables, the issue is whether their relationships are unique to the Accelerated Resolution Program sample. Employing the above relationships, the following equation is: M A R O ( + I , +2) = fll + f12 (BIDDER) + f13 (RELSIZE) + f14 (ASSIST) + f15 (ARP) + ei, (4) where MARO(+ l, +2) is the cumulative abnormal return in window from day + 1 to day +2, BIDDER the number of actual bidders, RELSIZE the ratio of target firm assets to acquiring firm assets, ASSIST the cash infused by the RTC through date of resolution net of premium or discount, ARP is equal to 1 if Accelerated Resolution Program; 0 if purchase and assumption control sample. The results in Table 3 fail to provide evidence of a wealth transfer that may be concluded from the market response results in Table 2. This lack of a wealth transfer for the ARP sample is also apparent in the results of Table 4. As stated earlier, Gupta et al. (1993) maintain that positive relationships between the abnormal returns and the relative size of the two parties and the level of regulatory assistance would indicate a wealth transfer. In Table 4 the positive coefficients for RELSIZE and ASSIST appear to confirm this observation for the Resolution Trust Corporation samples of purchase and assumption transactions. While the coefficients for BIDDERS are consistent with such expectations, they are generally insignificant. It is again worth repeating that the cumulative abnormal returns for the purchase and assumption sample were insignificant. Therefore, in contrast to earlier studies of failed financial institution auctions, these results provide no evidence of wealth transfer in the purchase and assumption sample. Observing columns 2-4, the lack of significance for all three interaction terms indicates that the ARP sample also did not evidence a differential level of wealth transfer. Therefore, the significantly positive abnormal returns for the Accelerated Resolution Corporation sample may reflect the existing franchise value of the pre-failure savings and loan. 13 However, a wealth transfer also required a significant and positive market reaction which occurred only for the Accelerated Resolution Program sample. Therefore, while these variables influenced market returns, no wealth transfer occurred.

12 James and Wier (1987) also test the relation between the bidder returns and potential, instead of actual, number of bidders. They find that no significant relation exists which is consistent with the wealth transfer hypothesis. 13 To further examine the franchise value effect the (+ 1, +2) abnormal returns were regressed on Eq. (3) variables. While exhibiting the correct sign, the A R P x CORE interaction term was insignificant. Therefore, the franchise value argument in explaining abnormal returns must be the focus of additional research.

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Table 4 Regression coefficients relating announcement period abnormal returns to set of independent variables with primary emphasis on indicators of wealth transfer from resolution trust corporation to winning bidder (White's heteroscedasticity-adjusted t-statistics in parentheses) Independent variables

(I)

(2)

(3)

(4)

Intercept BIDDERS

- 1.984 -0.084 (1.244) 10.268 *** (2.754) 3.166 * (1.649) 4.358 *** (3.182)

-2.556 -0.076 (0.346) 10.328 *'* (2.739) 3.427 * (1.668) 5.066 *** (2.793) -0.187 (0.801)

- 1.870 -0.080 (1.279) 9.193 ** (2.460) 3.135 * (1.639) 3.816 *** (3.226)

- 1.801 0.097 (l.459) 10.106 *" ( 2.782 I 2.718 ( 1.398) 3.337 ** (2.353t

RELSIZE ASSIST ARP ARP x BIDDERS ARP x RELSIZE

5.554 (O.374)

ARP x ASSIST Adjusted R 2 F-Statistic

0.216 *** 5.817

0.209 *** 4.691

0.210 *~* 4.712

9.451 (O.835) 0.213 *** 4.780

*Significance of coefficients illustrated by one (10% level), two (5%, level), and three (1% level) asterisks. The dependent variable is the (+1, +2) cumulative abnormal return for winning bidder. BIDDERS is the number of actual bidders reported by the RTC; RELSIZE is the ratio of the target firm assets/ acquiring firm assets; ASSIST is the estimated cash infused by the RTC through the date of resolution, net of premium/discount; and ARP is equal to 1 if transaction part of Accelerated Resolution Program, 0 if purchase and assumption.

5. Conclusions P r e v i o u s studies o f t h e a u c t i o n i n g p r o c e s s f o r failed f i n a n c i a l i n s t i t u t i o n s h a v e o f t e n f o u n d e v i d e n c e o f a w e a l t h t r a n s f e r f r o m t h e r e g u l a t o r y b o d y to t h e w i n n i n g b i d d e r . T h e p r i n c i p a l r e a s o n s f o r this p h e n o m e n o n h a v e b e e n t h e c o m b i n e d effects o f l i m i t e d b i d d e r s a n d l i m i t e d f i n a n c i a l r e s o u r c e s a v a i l a b l e to the r e g u l a t o r . T h i s w a s p a r t i c u l a r l y t r u e for t h e t h r i f t a u c t i o n s in the late 1980s. T h i s p a p e r e x a m i n e d t h e A c c e l e r a t e d R e s o l u t i o n P r o g r a m for failing thrifts in w h i c h t h e o b j e c t i v e w a s to r e s c u e t h e i n s t i t u t i o n b e f o r e it d e t e r i o r a t e d to the p o i n t o f failure. By c o m p a r i n g this t r a n s a c t i o n f o r m w i t h t h e m o r e trad i t i o n a l p u r c h a s e a n d a s s u m p t i o n f o r m , I w a s a b l e t o test w h e t h e r A c c e l e r a t e d R e s o l u t i o n P r o g r a m effectively m i t i g a t e d a g a i n s t the w e a l t h t r a n s f e r o b s e r v e d in o t h e r a u c t i o n s . T h e g e n e r a l results first s u g g e s t t h a t n o s i g n i f i c a n t w e a l t h t r a n s f e r o c c u r r e d f o r the c o n t r o l s a m p l e o f p u r c h a s e a n d a s s u m p t i o n s a u c t i o n s . T h i s is a s u b s t a n tive c o n c l u s i o n in t h a t it p r o v i d e s e v i d e n c e t h a t t h e R e s o l u t i o n T r u s t C o r p o r a -

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tion auctions in this study differed from similar auctions examined in previous studies. Furthermore, winning bidders in the Accelerated Resolution Program group experienced positive abnormal returns following the auction announcement. However, while the announcement period returns were significantly positive, the cross-sectional results exhibited no evidence to confirm the regulator's role in the market price reaction. Such results suggest that the use of this mechanism in place of the traditional forbearance yielded favorable results for both parties.

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