In retrospect, it’s clear that the calamity faced by FGIC Corporation in the first months of 2008 was an early sign of the tsunami that hit Wall Street in the fall. Early on, FGIC–the holding company for the nation’s third-largest bond insurer–faced the same sort of ballooning credit exposure and downward ratings spiral that would topple some of the financial sector’s marquee names just a few months later.
But FGIC’s case did not end with a government bailout or insolvency. With the help of Corinne Ball, the insurer crafted a first-of-its-kind reinsurance transaction that satisfied policyholders and insurance regulators while keeping the banks at bay.
First, a little background. A monoline like FGIC is paid a premium to guarantee debt issued by lower-rated borrowers. (It’s called a monoline because it provides services to only one industry, the capital markets.) A public issuer paid FGIC a premium to, for instance, back a municipal bond issue. In return, the bond’s rating rose, reflecting FGIC’s own triple-A rating. The system has long made the muni bond market more attractive to investors, and made public borrowing cheaper. At its peak, FGIC backed some $300 billion of the roughly $2.6 trillion in total U.S. municipal debt.
But in recent years, FGIC–like other monolines–had diversified into the mortgage-backed securities business; it eventually wrote swaps contracts for major banks backing some $60-70 billion in these structured products. That got it into trouble in late 2007, as the subprime crisis cranked up and FGIC’s estimated exposure zoomed from $50 million to $1 billion. In January 2008 ratings agencies lowered FGIC’s credit rating, making it one of the first monolines hit with a downgrade.
Meanwhile, regulators grew concerned as the wheels started to come off the municipal finance market; after all, that market relied on the monolines’ triple-A credit ratings. New York State insurance superintendent Eric Dinallo, concerned about muni investor policyholders, called a meeting with executives from FGIC and the banks who were major swaps counterparties in January 2008 to work out a solution. Keeping them at the table was Dinallo’s threat to declare FGIC insolvent under New York insurance law and take over the muni bond insurance business.
Enter Corinne Ball, who had been referred to FGIC by one of the company’s financial advisers. Weeks earlier, Ball had shepherded auto parts supplier Dana Corporation out of Chapter 11 in less than two years.
Alongside FGIC general counsel A. Edward Turi III, whose background is in capital markets, Ball initially explored whether FGIC could raise capital in the securities markets. But when FGIC was downgraded again, that option grew remote.
Ball and Turi then began looking at other options to raise capital, including selling FGIC’s still-healthy muni book of business outright or reinsuring it. To do so, Ball’s team had to somehow disentangle FGIC’s “good” muni business from the structured finance business. That separation had to be regulator-vetted and, as much as possible, litigation-proof.
Arrayed against them were the banks, which had already collectively tapped Paul, Weiss, Rifkind, Wharton & Garrison and threatened to sue to block the deal. “The banks were saying we couldn’t possibly do it, that they had to be paid first,” Ball recalls. “And I was saying, ‘Be careful-you could push us into insolvency.’ “
By early summer, FGIC had settled on a competitive auction of the muni business. Ball and FGIC offered the bank group the right to top bids that were received. “The thing was to invite [the banks] into the house,” Ball says. “Ignoring them was not a viable strategy.” In the end, the banks didn’t bite, and rival MBIA Inc. agreed to take over most of the muni bond book and its future earnings in exchange for reinsuring almost all of the underlying policies.
The deal, announced August 27, promised to boost value for investors in municipal bonds–who would get the benefit of MBIA’s higher credit rating–and to shore up FGIC’s capital position, keeping it out of bankruptcy. From there, FGIC could begin whittling down exposure in its “bad” book.
One major concern remained: how to prevent the counterparty banks, which stood to gain nothing from the proposed deal, from filing litigation to block it. But Ball had been working on preempting such a challenge. She and Turi had worked with regulators to clear each step of the auction process, soliciting solvency reports and issuing public notices at each juncture. On September 23, a week before the MBIA deal closed, Dinallo’s office publicly endorsed the plan, announcing that FGIC was now solvent and that MBIA was paying more than fair value. It was a regulatory coup for FGIC that preempted any legal challenges by the banks. Dinallo’s opinion also cut the heart out of a suit by General Electric Company, a major stakeholder, to stop the deal. The transaction closed the day that the suit was dismissed by the Delaware Chancery Court.
FGIC is now out of immediate danger, and it has since worked out some of its remaining swaps contracts one by one. And after a brief pause, Ball is on to the next big assignment: counseling Chrysler LLC on a possible bankruptcy filing.
See all 25 of our Dealmakers of the Year, from the April 2009 issue of The American Lawyer.
Photo by Paul Godwin