The Obama administration drew a line in the sand on financial bailouts Wednesday by denying emergency aid to CIT Group Inc., a struggling commercial lender on the brink of bankruptcy.
After days of round-the-clock talks with regulators about a possible government bailout, CIT said those negotiations had ceased. The company said its management and directors were “evaluating alternatives.”
The decision not to save CIT is a defining moment for the Obama administration’s financial rescue program, headed by Treasury Secretary Timothy Geithner. By withholding aid, the administration is betting that CIT’s likely failure won’t pose a critical risk to an economy weighed down by rising unemployment.
CIT, which had earlier received $2.3 billion of bailout money, is one of the nation’s largest lenders to small and mid-size businesses. The company has warned that its failure could imperil about a million corporate borrowers — from Dunkin’ Donuts franchisees to retailer Dillards Inc.
The Bush administration paid a price for its decision not to save investment bank Lehman Brothers, which had eight times more assets than CIT. Lehman’s collapse helped spark the financial crisis last fall.
Asked about CIT, a Treasury Department spokeswoman said in an e-mail that “even during periods of financial stress, we believe that there is a very high threshold for exceptional government assistance to individual companies.”
With its assets deteriorating and dangerously little cash on hand, the news left CIT with few options outside of bankruptcy. A filing could come as early as Wednesday night, analysts said.
A bankruptcy filing would wipe out CIT’s shareholders and the government’s $2.3 billion stake. But CIT’s clients would not automatically lose their lines of credit, longtime banking analyst Bert Ely said.
Still, with other lenders to retailers already under financial strain, many CIT clients may lose their financing options.
“The industry just won’t be able to absorb the amount of volume,” said Michael Cipriani, executive vice president of Rosenthal & Rosenthal Inc., a competitor of CIT that’s considered healthy.
New York-based CIT was negotiating with officials from the Treasury, Federal Reserve and Federal Deposit Insurance Corp. for much of the week. FDIC Chairman Sheila Bair resisted lobbying by CIT and other regulators for her agency to come to the rescue.
An agreement on aid appeared close at midday, but trading of CIT’s shares was halted Wednesday afternoon. CIT said late Wednesday that negotiations had stopped.
In the last 48 hours, creditors limited the company’s access to cash, worried customers drew down their deposits at CIT’s small retail bank and investors pushed its stock price to historic lows.
Officials became increasingly concerned about CIT’s ability to right itself even with a short-term loan from Treasury or other federal aid, said two industry officials who spoke on condition of anonymity because they were not authorized to discuss the matter.
“I think it makes a bankruptcy filing a near certainty,” Ely said. “It’s quite possible they could file before trading on Thursday.”
The company in April posted a larger first-quarter loss than expected and has seen funding options disappear as investors shy away from purchasing all but the safest forms of debt. The lender has $7.4 billion in debt coming due in the first quarter of 2010, plus other obligations.
A spokesman for the Fed declined to comment. A spokesman for the FDIC could not be reached for comment Wednesday evening.
Though a fraction of the size of big commercial banks, CIT’s holdings are substantial. The company had $75.7 billion in assets as of March 31, according to a corporate filing.
Lehman Brothers, which collapsed after former Treasury Secretary Henry Paulson declined to save it, listed $639 billion in assets when it filed for bankruptcy Sept. 15.
The failure of Lehman helped spark the financial crisis. Paulson, serving under President George W. Bush, was lambasted for letting the company fold.
But nearly a year later, the government faces growing criticism over its policy of propping up companies — including General Motors, Chrysler and large insurers — that claimed to be systemically important.
“They must have realized if they were going to support CIT, there was no end, it was a bottomless pit and anyone could show up with any excuse” and demand a bailout, said Simon Johnson, a former chief economist with the International Monetary Fund, now a professor at the Massachusetts Institute of Technology’s Sloan School of Management.
But the decision could come back to haunt the administration if CIT’s failure proves devastating to the firm’s many small business borrowers. Small businesses are considered crucial to economic recovery, employing about half of the private-sector work force.
“CIT may not be ’too big to fail,’ but they are systemically important,” said Scott Talbott, top lobbyist with the Financial Services Roundtable, which represents CIT and other big financial firms. “Many small businesses will be severely impacted by today’s actions, and the effect could lengthen the economic crisis.”
Investors reacted cautiously to the setback. U.S. stock futures on the Dow Jones industrial average and the Standard & Poor’s 500 index dipped immediately after the news, though they quickly stabilized.
Shares of CIT added 26 cents, or more than 19 percent, to $1.61 Tuesday on hopes that the government would throw the company a financial lifeline. The price was $1.64 before trading was halted Wednesday.
President Barack Obama had been briefed on CIT’s potential collapse, White House spokesman Robert Gibbs said earlier Wednesday. But Gibbs declined to discuss Obama’s briefing and referred questions to the Treasury Department.
CIT said Saturday it retained the law firm Skadden Arps, a bankruptcy specialist, as an adviser.