The year has just started, and our elected leaders in Washington, from President Obama down to freshman legislators wrapping up their first terms, appear ready to toss in the towel on 2012.
It's election season, and even in good times that means attentions are focused on campaigning, not the slow grind of legislating. This year, with a national election already one of the most bitter in memory, even modest achievements appear unlikely.
Skeptic-in-chief Barack Obama summed up the sense of resignation in his State of the Union address Jan. 24: "No matter what party they belong to, I bet most Americans are thinking the same thing right now: Nothing will get done this year, or next year or maybe even the year after that, because Washington is broken. Can you blame them for feeling a little cynical?"
Sen. Bob Corker, Republican from Tennessee, says a dismal assessment for this year, at least, is on target. In a speech addressing financial regulation the same day as Obama's address, Corker said, "This is going to be pretty much a nonyear in Congress. We are probably not going to address the big issues in our country. There will probably not be many things overturned, especially in the financial areas."
The result will likely be a lot of noise and virtually no action from the White House and Congress, including on questions affecting dealmakers. These include the Republicans' call to repeal major portions of the Dodd-Frank financial reform law and Democrats' attempt to raise the carried interest tax.
Members of both parties say they still intend to pursue their legislation, for tactical purposes if nothing else. Corker, for example, had hoped to revamp part of the Bankruptcy Code to better deal with the failure of big financial firms and avoid use of the new orderly liquidation process that Dodd-Frank provided. He now says he doesn't expect legislation on that to move forward. "We know that most of the work we are doing right now is for the future. It is just laying a marker for the future."
Even in nonelection years, lawmakers have learned to scale back expectations. Steve Judge, interim president and CEO of the trade association Private Equity Growth Capital Council, notes that efforts to alter the carried interest tax rate have been defeated several times over the past five years and a sixth defeat is likely. "While we fully expect the president to include a carried interest tax hike in his budget as he has in the past, even with the highly charged election year rhetoric, it is uncertain that such a proposal will gain traction this Congress," he says.
The general legislative logjam could have two exceptions. There is bipartisan support in the House and Senate for easing a Securities and Exchange Commission rule that requires companies with more than 500 shareholders to register. The rule hurts startup companies hoping to raise capital as well as community banks. In fact, it's not clear who will act sooner: the SEC or Congress. The administration has already said it supports legislation in the Senate that would ease the burden of the rule.
In other ways too, Washington can't be written off completely. The regulatory agencies still have lots to do and, when they can stay out of lawmakers' sights, might even get some of it done. But the general inaction in Congress is likely to affect the agencies: For example, while regulators will continue to implement Dodd-Frank, progress will be slow. And a host of nominations to the antitrust and financial oversight agencies are caught in political gamesmanship.
The saving grace when it comes to nominations may be that a number of the unfilled seats are designated for Republicans, giving GOP Senate leaders incentive to strike a deal with the White House. However, as the election nears, confirmations will become more difficult to act upon. And even if confirmations aren't secured, a few empty seats aren't likely to stymie the agencies in areas that don't require White House or congressional attention.
The biggest question hanging over financial and banking regulators is how far they will get in implementing three key Dodd-Frank elements -- the designation of systemically important financial institutions; the law's "living wills" requirements; and the Volcker Rule ban on proprietary trading by banks.
Criticized for not providing enough details on how nonbank SIFIs will be selected, regulators told Congress recently they intend to provide more specifics soon. Lawyers expect that the Financial Stability Oversight Council, or FSOC, will quickly follow up with final designation rules and then late in the year with actual notices to the nominees.
"I think they are aiming to go as quickly as they can. They are sensitive to criticism that it has taken a long time," says Donald N. Lamson, a former Office of the Comptroller of the Currency official who is now part of Shearman & Sterling LLP's financial institutions advisory and financial regulatory group.
It's far less certain that all the nonbank designees will be named by year's end. "There are some [designations] that are very clear," says Lawrence D. Kaplan, of counsel in Paul Hastings LLP's Washington office, who focuses on bank regulatory issues. "The debate will be on those on the margins."
Especially for nonbanks, a SIFI designation carries with it lots of uncertainties. Designated nonbanks would face Federal Reserve oversight that could affect when they pay dividends, and they will need to create living wills that can be used to wind down a company.
Under initial procedures, a designee would have several months to challenge a designation, so even if a notice of designation was issued, the fight could continue until next year. Lawyers say while such a notice of designation isn't public, nonbanks may have to report it under SEC rules.
Controversial votes on individual designations could be even more problematic, given the recess appointment, now subject to legal challenge, of Richard Cordray to head the Consumer Financial Protection Bureau. The post gives him a seat on the FSOC, and should he cast a deciding vote on a SIFI designation, only to see his appointment overturned, an appeal of the designation would be likely.
For bank holding companies that are designated SIFIs based on the size of their assets, the question isn't so much who gets designated, but what that designation means. The immediate focus is living wills and to avoid being hit with the added designation of "too big to fail," which would entail greater oversight and rules. The details will be worked out this year.
Meanwhile, the Volcker Rule takes effect on July 21. But regulators have asked more than 1,200 questions about how it should work in practice. Eugene Scalia, a partner at Gibson, Dunn & Crutcher LLP, said recently that the number of questions and the lack of details about costs of the regulation would likely force regulators to repropose the rule, effectively putting off most if not all enforcement.
A number of other Dodd-Frank rules remain to be finalized, with some of the biggest being those resolving exactly which derivatives and swaps transactions must be reported and which could face margin requirements.
While Dodd-Frank regulations remain the center of attention, the Federal Communications Commission faces several decisions that could affect deals. The agency has to rewrite media ownership rules that include how many TV and radio stations can be owned in an individual market. The FCC is also examining rules for selling additional spectrum, even while its now-frequent critic, AT&T Inc., suggests that Congress take over setting the auction details.
The antitrust agencies, which have been as active in litigating against anticompetitive mergers as any time in their history, will continue to be aggressive. Federal Trade Commission Chairman Jon Leibowitz can remain at his post though the end of 2012 without reconfirmation. And the Justice Department's Sharis Pozen, who is leaving her post, has demonstrated that even an unconfirmed acting assistant attorney general can be a strong leader for the Antitrust Division. Mark Gidley, head of the antitrust practice at White & Case LLP and a former acting Justice Department AAG himself, says the Pozen-led Antitrust Division's success in stopping AT&T's proposed takeover of T-Mobile USA Inc. and H&R Block Inc.'s purchase of tax preparation software competitor 2nd Story Software Inc., better known as TaxAct, has been a huge confidence booster to the agencies and makes them more willing to demand changes to or even challenge mergers.
"I would expect DOJ and maybe even the FTC to be more aggressive on deals," Gidley says. He doubts the Antitrust Division will be slowed if it happens to be run by another "acting" AAG. The Antitrust Division, he says, "is one of the few agencies in D.C. that do just as well with an acting chief as with a confirmed one. It's a testament to the professionalism of the staff and people who have acted as head of the division."
The FTC also has been litigious, especially in hospital mergers, and is likely to continue to view such deals critically -- indeed, Leibowitz has made healthcare competition a marquee issue. The agency prevailed in an in-house trial to break up ProMedica Health System Inc.'s takeover of Toledo, Ohio, rival St. Luke's Hospital and in January pushed Community Health Systems Inc. to abandon its deal to acquire Roswell Regional Hospital in Roswell, N.M., after the commission said it would launch an extended investigation of the acquisition. The commission is also in the early stages of trying to block OSF HealthCare System's proposed acquisition of Rockford Health System, charging that the deal would substantially reduce competition among hospitals and primary-care physicians in Rockford, Ill.
The commission wasn't daunted by a big setback on the hospital front. Although federal courts have rejected the FTC's attempt to stop Phoebe Putney Health System Inc. from acquiring Albany, Ga.'s Palmyra Park Hospital Inc. from HCA Inc., Competition Bureau Director Richard Feinstein found vindication in the ruling for the commission's tough stand on hospital deals. He noted that the FTC lost only because the acquiring institution was owned by Hospital Authority of Albany-Dougherty County and the court deferred to local officials acting under power granted to them by the state of Georgia, an issue not likely to come up often in hospital deals. "The Eleventh Circuit agrees with the commission that this deal will create a monopoly and eliminate competition," Feinstein said when the appeals court announced its decision.
Leibowitz has been less successful in his push for more competition in the generic-drug market, most notably by trying to combat so-called pay-for-delay agreements in which branded drug companies pay makers of generics to delay bringing their products to market. The courts have not been kind to FTC challenges, leaving Leibowitz to seek help from Congress. On that front, the FTC's best bet will be to educate Congress on its position rather than push controversial legislation before the election, says Gidley, adding that the FTC may have to wait well beyond the next election unless Democrats manage to take the House and Senate. "The first two years of the Obama administration would have been perfect for passage of a law banning those deals," he says. That they didn't get it from a Democratic Congress and president doesn't bode well for passage in whatever Congress emerges from after 2012, he says.
On the national security front, regulators are now coming to grips with the major changes made in 2008 to the national security framework for reviewing takeovers of U.S. companies by foreign-owned buyers. Changes to the procedures used by the Treasury Department-led Committee on Foreign Investment in the United States put more burdens on CFIUS staffers, making it much more likely that a U.S. acquisition by a foreign buyer will be subjected to the second phase of the two-step CFIUS review process, which is a formal 45-day review of an investigation. Before the law was changed, acquiring parties typically abandoned a deal if it was likely to go beyond the initial 30-day informal review. Now it's more likely that beleaguered government investigators won't have time to craft mitigation terms necessary for a deal to be cleared, and 45-day investigations are increasingly commonplace.
Farhad Jalinous, a Kaye Scholer LLP partner specializing in CFIUS reviews, says nearly one-third of CFIUS-examined deals are going to 45-day investigations. "I'm not convinced all these deals were problematic or required an investigation, but the review process has become more intense," he says. To ease the pressure on investigators and merging parties alike, Jalinous says Treasury officials are encouraging merging parties to bring their deals before CFIUS before making a formal filing for approval. "Treasury is trying to engage parties on mitigation as soon as possible so you can still have resolution quickly," he says.
Those kinds of technocratic adjustments will hardly generate much excitement outside of the cloistered professionals that follow them. But they can have meaningful impact on dealmaking and are representative of the under-the-radar accomplishments possible in Washington this year.