TCF Takes Stand on Debit Fees

TCF Financial has come to represent the little engine that could for its industry - a small, regional lender standing up against burdensome regulations the way megabanks simply can't.
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WAYZATA, Minn. (

TheStreet

) -

TCF Financial

(TCB)

has come to represent the little engine that could for its industry - a small, regional lender standing up against burdensome regulations the way megabanks simply can't.

When the government bailout, dubbed the Troubled Asset Relief Program, turned into a scarlet letter of sorts, TCF was the first to say "enough is enough." The bank received $361 million from TARP in the fall of 2008. By March, TCF decided to repay the U.S. Treasury Department in full, with interest.

"The rules have definitely changed," TCF Chairman and CEO Bill Cooper said at the time, adding that "recent actions by the U.S. Treasury and possible congressional or regulatory restrictions/mandates changed the rules."

That sentiment wasn't expressed quite so bluntly when

JPMorgan Chase

(JPM) - Get Report

and

Goldman Sachs

(GS) - Get Report

repaid TARP a few months later, or when

Bank of America

(BAC) - Get Report

and

Wells Fargo

(WFC) - Get Report

announced the same thing by year-end.

On Tuesday, TCF announced its latest battle: Financial reform's most costly provision for consumer lenders, the so-called Durbin interchange amendment.

The Wayzata, Minn.-based company has decided to file suit against the

Federal Reserve

regarding this rule change, which will limit the fees banks can charge merchants for taking payments via debit card. The Durbin amendment stands to sap $9 billion dollars' worth of annual revenue from biggest card issuers and skim 6% off their collective bottom line, according to an analysis by FBR Capital Markets.

Bank of America

, the largest U.S. card issuer, stands to take the biggest hit. In July, management estimated the financial impact: A $22 billion goodwill writedown for its card business and as much as $2.3 billion in lost revenue per year.

Wells Fargo

(WFC) - Get Report

and

JPMorgan Chase

(JPM) - Get Report

, the second- and third-largest U.S. card issues, appear to be close behind. FBR estimates that those three money-center banks represent 29%, 22% and 18% of interchange-fee revenue, respectively.

Yet while those mammoth banks have a lot of exposure in dollar terms, TCF has a lot more relative exposure to the Durbin amendment when it comes to earnings per share. The FBR analysis predicts that TCF will take a 16% hit to earnings per share - more than three times the exposure of any megabank. On a conference call Tuesday, Cooper estimated that TCF's debit revenue at approximately $100 million per year, but said the cost of Durbin's implementation is yet to be determined.

"It remains to be seen if, indeed, this law is found to be constitutional what the final impact will be," said Cooper. "We don't know."

In light of that, it may be unsurprising that TCF was pulling out the big guns to fight the Durbin provision. Along with longtime general counsel Tim Kelly, the bank hired Richard Epstein, a law professor at the University of Chicago who's known for his free-market ideology - and whom Cooper referred to as "preeminent constitutional lawyer as it relates to these issues."

Cooper took pains to compare his bank's aggressive stance with regulators to those of large competitors that have been forced to clam up due to the groundswell of populist rage. Cooper cited TCF's early bailout repayment and its response to a new rule forcing banks to stop automatically enrolling customers into overdraft protection, from which the industry had been collecting enormous fees.

"People are afraid of the government today," said Cooper. "TCF, we've dealt with these things before. When we paid off the TARP, we were the first big bank to do it. Everybody says, 'You can't do it, they're not gona let you do it, etc., -- we did it. When they passed the opt-in thing, everybody says, 'Oh the banking industry is screwed.' We opted our customers in."

He added that, unlike TCF, "Bank of America, remember, they threw up their hands on the opt-in."

Even so, Cooper hopes to make nice with heavyweights in the banking industry as its lawsuit progresses. TCF is assuming that big banks and their trade groups will file "amicus briefs" to support the principles, even if they're not directly involved with the litigation.

In a statement, the American Bankers Association said that TCF's lawsuit "demonstrates clearly that the Senate should not have approved this poorly thought out amendment, which was adopted with no hearings and little debate at the urging of large retailers." Scott Talbott, senior vice president of government affairs at the Financial Services Roundtable, said "the amendment was never subjected to the sunlight of a hearing or debate. We support taking the time to examine before its negative impact is felt."

TCF's strategy in combating the Durbin provision relies on the 14th Amendment's "equal protection" clause, as well as earlier judgments that found the government had improperly regulated the profit and revenue of utility firms. The company believes the new law is discriminatory in a few ways.

First, because the Durbin amendment targets only banks that have $10 billion or more in assets, giving an advantage to smaller competitors. TCF will also argue that the provision is unconstitutional because the Fed is required to analyze debit cards as an individual profit stream, rather than part of the broader checking account platform. Therefore, Fed officials will look only at processing costs to assess fee limits, ignoring expensive maintenance, marketing and acquisition of new checking accounts.

"This thing is nothing but blatant lobbying by one industry to take advantage of the political weakness of another in an economic distress time," said Cooper, noting big-box retailers stand to save hundreds of millions of dollars per year on interchange fees. "And they've come up with a law that's unconstitutional."

But, whatever the merits of its case, TCF's stock got hammered on Tuesday following the announcement. Evercore Partners analyst Andrew Marquardt downgraded the stock to "equal-weight" almost immediately, citing near-term litigation overhang. Marquardt and several other analysts said TCF's forceful posture showed just how much the interchange fees mean to its business - and how much is at stake if its suit gets kicked out of court.

"Management has previously said that any restrictions on interchange fees imposed by the Fed could be passed onto the customer, either through charging for debit cards or lower deposit rates," BMO Capital Markets analyst Lana Chan said in a report reiterating a "market-weight" rating. "... Now, management believes that TCB would be at a disadvantage and could possibly lose customers to those banks that are not impacted by the Durbin Amendment."

TCB shares were down 3.3% at $15.40 by late afternoon. Its shares have held up better since mid-April when the financial-stock sell-off began, dropping 6.8%, vs. a range of 15% to 35% for the three biggest card issuers. Still, 11 of the 18 analysts who cover the stock rate it a "hold," compared with a "buy" rating for the bigger lenders whose revenue streams are more diversified.

But even if TCF's legal battle is all for naught, the median target price of $18 suggests its stock may have a little more room to run. And its "can-do" attitude in battling regulatory provisions that the industry finds burdensome has made TCF a hero of sorts on Wall Street.

"Our first reaction upon reading this morning's news was 'Good for them!'" says Sandler O'Neill analyst Scott Siefers. "After spending the last couple of years watching banks being abused publicly by numerous parties and seeing their models assaulted, it is nice to see someone start to push back and defend the business."

-- Written by Lauren Tara LaCapra in New York

.

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Lauren Tara LaCapra

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