Treasury Suit Announcement

7/27/2019 Treasury Suit Announcement

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FOR IMMEDIATE RELEASE

July 7, 2013

CONTACT

Robert Terra,[email protected], (O) 202-822-1205, (M) 209-769-5740Tony Fratto,[email protected], (O) 202-822-1205, (M) 202-550-5895

Fannie, Freddie Investors File Suit

Challenging U.S. Treasury's 2012 "Sweep Amendment"

Today, Perry Capital, on behalf of several institutional investment funds, filed suit in the U.S.District Court of the District of Columbia, challenging the 2012 Third Amendment to thegovernment's preferred stock purchase agreements (PSPAs) entered into by U.S. Treasury andthe Federal Housing Finance Administration (FHFA). The so-called "Sweep Amendment"

illegally changed the rules regarding the government's investments in Fannie Mae and FreddieMac.

Treasury's action violates the Housing and Economic Recovery Act (HERA), the statuteauthorizing the government's 2008 decision to take the firms into conservatorship. The Sweep

Amendment has caused irreparable harm to all private investors in these companies, includingcommunity banks, insurance companies, pension funds, university endowments, foundations,and mutual funds. While Treasury's illegal sweep is set to continue indefinitely, the payment toTreasury of $66 Billion on June 29, 2013 demonstrates the capacity ofFannie Mae and FreddieMac to pay back taxpayers with interest.

It is critically important to our economy and for the future of housing finance in the United Statesthat investors have confidence that the rule of law not populism or politics will guidegovernment policy over securities.

"This lawsuit seeks to uphold the rule of law," said Theodore B. Olson, partner at Gibson, Dunn& Crutcher and former Solicitor General of the United States. "HERA established very specificrules about the government's limits and obligations under conservatorship. Investors had everyright to expect these rules to be followed. If the government wanted to assume the powers ofreceivership, it could have chosen that course. Instead it chose conservatorship, and with theSweep Amendment it overreached, exceeding the legal boundaries of the statute and failing tomeet obligations of conservatorship mandated by Congress under HERA."

Acting pursuant to its authority under HERA, the FHFA placed Fannie Mae and Freddie Macinto conservatorship in 2008. Therefore, private investors reasonably expected that theprinciples of conservatorship not receivership would guide the government's actions. PerryCapital, in fact, began purchasing securities in 2010, well before the rules were changed. Asconservator, the statute requires FHFA to preserve the assets of Fannie Mae and Freddie Mac,not liquidate them. When changing the rules governing Treasury's investment, Treasury and theFHFA announced that they were beginning the process of winding down the companies the
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senior preferred stock or otherwise reduce the balance owed by Fannie Mae and Freddie Mac,essentially wiping out private investors, and liquidating, rather than conserving, the companies.

2012: Both GSEs become profitable.

June 29, 2013: Fannie Mae and Freddie Mac pay a combined $66.4 billion payment to

Treasury. With these payments, Fannie Mae has now paid $95 billion of the roughly $116 billionit has received, while Freddie Mac has repaid roughly $37 billion of the $71.3 it received.

2014: Fannie Mae and Freddie Mac are expected to fully pay back the taxpayers plus 10percent interest.

Further Background:

In 2008, to provide confidence in the economy, Congress passed the Housing and EconomicRecovery Act (HERA). HERA created the FHFA to oversee the entities and gave them theoption to place them into conservatorship or receivership. Soon after HERA passed, FHFA

determined that Fannie Mae and Freddie Mac should be placed into conservatorship. Therewere many benefits to this decision. Particularly, by avoiding nationalization, Treasury did nothave to consolidate the balance sheets' of the companies in the national debt. However,Treasury and the FHFA have obligations under conservatorship. HERA explicitly states thatunder conservatorship the companies are to be restored to a "sound and solvent condition" andto "conserve [the companies'] assets and property."

HERA also provided temporary authority to Treasury to offer financial assistance to thecompanies. When offering financial assistance, Treasury was required to determine thatfinancial support was necessary to "provide stability to the financial markets," "preventdisruptions in the availability of mortgage finance," and "protect the taxpayer." When making

these determinations, Treasury, among other things, had to consider "the Corporation's plan fororderly resumption of private market funding" or "the need to maintain the corporation's statusas a private shareholder company."

In September 2008, Treasury exercised this authority and entered into preferred stock purchaseagreements (PSPAs) to purchase senior preferred stock of both Fannie Mae and Freddie Mac.The stock had a liquidation preference equal to its purchase price and was entitled to acumulative dividend equal to 10 percent of the outstanding value. Previously issued classes ofpreferred stock, which are held by community banks (often at the strong guidance ofgovernment), pension funds, university endowments, insurance companies, mutual funds, andother institutional investors, were subordinated to Treasury's senior shares.

Between 2008 and 2012, largely because of accounting reserves taken, Fannie and Freddiecontinued to experience paper losses and were therefore unable to pay the 10 percentdividends owed to Treasury. As a result, Treasury purchased more senior preferred stock,allowing Fannie and Freddie to pay dividends owed to Treasury out of the proceeds of thosesales. The sale of additional senior preferred stock to Treasury increased the amount ofTreasury's aggregate liquidation preference, and thus the amount of dividends owed toTreasury. Over this time period, Treasury invested a total of approximately $188 billion in


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Fannie and Freddie and received approximately $55 billion in return in the form of dividends andother fees.

As the housing market improved in 2012, the financial outlook for Fannie and Freddie alsobrightened. The companies began posting sizable quarterly profits. It was at this moment in

August 2012that Treasury and FHFA revised the PSPAs so that instead of the 10 percentdividend, Fannie and Freddie would pay Treasury a quarterly dividend equal to all of thecompanies' respective net worth above a capital reserve amount that steadily declines to zero in2018. Under the Sweep Amendment, Treasury is entitled not only to every dollar of net profit ofFannie and Freddie, but eventually all of its capital reserves. Over time, this arrangement willreduce the entities to a state of perpetual weakness. The Sweep Amendment was designed toensure that Fannie and Freddie could not be returned to the private sector and that Fannie'sand Freddie's private investors would be wiped out.

The Sweep Amendment directly undermines both the rules of conservatorship and Treasury'sstatutory requirement for providing financial assistance to the companies as explicitly stated inHERA. First, Treasury acted beyond its statutory authority because its authorization to purchasesecurities of Fannie and Freddie and to set the "terms and conditions" of those purchasesexpired on December 31, 2009. Because the Third Amendment fundamentally changes thenature of the senior preferred stock to allow Treasury to recover all the net income of Fannieand Freddie as long as they remain in operation, the agreement impermissibly altered the termsand conditions of the securities and otherwise constituted a constructive purchase of a newsecurity in violation of this sunset provision.

Second, the Sweep Amendment deprives Fannie and Freddie of any ability to rebuild capital oraccumulate net assets and therefore does exactly the opposite of "preserv[ing] and"conserv[ing]" their assets. In fact, the press release issued by Treasury regarding the Sweep

Amendment emphasized that the amended agreement was the "next step toward responsibly

winding down Fannie Mae and Freddie Mac." The Sweep Amendment is thus inconsistent withFHFA's statutory responsibilities.

Further, HERA sets forth specific rules governing Treasury's financial assistance to thecompanies. Because the Sweep Amendment essentially wiped out the value of all privateinvestors in Fannie and Freddie, Treasury's actions were clearly inconsistent with "the orderlyresumption of private market funding or capital market access," and the "need to maintain theCorporation's status as a private shareholder-owned company."

Stripping capital from the companies keeps the taxpayer in the first-loss position while removingprivate capital from the mortgage market. This works to ensure that private investors will be

completely wiped out, despite HERA and the choice by Treasury to pursue conservatorshipexplicitly directing the opposite.

Lastly, by unilaterally wiping out all minority shareholders, the Sweep Amendment is notconsistent with the fiduciary duties majority shareholders owe to the corporation's minority.Under applicable principles of corporate law, a corporation's controlling shareholder owesfiduciary duties to the corporation's minority shareholders. Treasury, as the dominantshareholder of Fannie and Freddie, ignored those duties when it conspired with FHFA to enter


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into the Sweep Amendment and expropriate the value of the privately held preferred stock forthe sole benefit of the federal government. Indeed, there is no evidence that Treasuryconsidered the interests of other holders of Fannie and Freddie securities at all, making itsactions unlawful.

Highlights From Legal Complaint:

The Sweep Amendment, or Third Amendment, Sweeps All Profits From The Companies.

"In Treasurys words, under the Third Amendment, it is owed a full sweep of 'every dollar ofprofit that each firm earns going forward.'" (Paragraph 48)

The Sweep Amendment Illegally Destroys The Value Of All Privately Held Securities.

"The Third Amendment fundamentally and unfairly alters the structure and nature of thesecurities Treasury purchased under the PSPAs, impermissibly destroys value in all of theCompanies privately held securities, and illegally begins to liquidate the Companies. This

blatant overreach by the federal government to seize all of the Companies profits at theexpense of the Companies and all of their private investors is unlawful and must be stopped."(Page 2)

The Dividends That Will Be Paid Under The Sweep Amendment Are "Expected To ResultIn A Torrent Of Cash."

"The dividends that will be paid under the Third Amendment are expected to result in a torrent ofcash to Treasury." (Paragraph 49)

"Treasury's additional profits from the Third Amendment are enormous. On or about June 30,2013, Fannie and Freddie collectively paid Treasury the largest dividend in history: $66.3billion. By contrast, without the Third Amendment, Treasury would have received $4.7 billion."(Paragraph 10)

"the Presidents proposed Fiscal Year 2014 budget estimated that by the end of the next 10years, Treasury will have collected more than $238 billion from the Companies, approximately$50 billion more than it cost Treasury to purchase the Government Preferred Stock." (Paragraph13)

The Sweep Amendment Goes Beyond Treasury And FHFA's Authority To Destroy TheValue Of The Companies' Preferred Stock.

"The Third Amendment enriches the federal government through a self-dealing pact, anddestroys tens of billions of value in the Companies' preferred stock." (Paragraph 14)

"As the FHFAs inspectorgeneral recently observed, the PSPAs mean that 'preferred andcommon shareholders of [the Companies] . . . effectively lost their investments. (Paragraph 17)

"Treasurys temporary statutory authority to purchase securities issued by Fannie Mae andFreddie Mac expired at the end of 2009the FHFA lacks any authority to initiate the wind downof Fannie Mae and Freddie Mac." (Paragraph 18)


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The Sweep Amendment Impairs The Companies' Ability To Operate "In DirectContravention Of HERA's Statutory Command."

"The Third Amendment intentionally impairs the Companies ability to operate as goingconcerns, preventing them from ever rebuilding capital, achieving financial health, or returningto private ownership." (Paragraph 83)

"This dissolution of the Companies is in direct contravention of HERAs statutory command thatthe FHFA 'conserve [their] property and assets' and undertake those actions necessary to placethe Companies in 'a sound and solvent condition'" (Paragraph 84)

"Treasurys stated purpose of winding down the Companies, which necessarily involvesdissipating their assets and property, is incompatible on its face with FHFAs charge to put theCompanies back into 'a sound and solvent condition' and to 'conserve [their] assets andproperty.'" (Paragraph 55)

The Sweep Amendment Turns Temporary Authority Granted By HERA Into "AnUnconstrained, Permanent Authority."

"Treasury executed the Third Amendment, creating a new equity interest that seizes all of theCompanies gains for itself." (Paragraph 63)

"This turn[s] HERA's grant of temporary authority to Treasury to purchase the Companiessecurities under certain conditions into an unconstrained, permanent authority Treasury hasthus arbitrarily and capriciously failed to provide a reasoned explanation for its conduct, whichresults in the governments appropriation of tens of billions in private shareholder value."(Paragraph 65)

Treasury Suit Announcement

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