Federal Deposit
Insurance Corporation

{{12-31-90 p.C-592}}
   [¶10,124] In the Matter of Frontier State Bank, Show Low, Arizona, Docket No. FDIC-90-227b (10-29-90).

   Bank ordered to cease and desist from operating with inadequate management; operating with inadequate equity capital and reserves; operating with a large volume of poor quality loans, with an inadequate loan valuation reserve; following hazardous lending and lax collection practices; operating with inadequate provisions for liquidity and funds management; operating with inadequate routine and controls policies; operating in such a manner as to produce low earnings; and operating in violation of law and regulations.

   [.1] Management—Qualifications—Compliance
   [.2] Primary Capital—Increase—Methods
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   [.3] Assets—Adversely Classified—Eliminate
   [.4] Assets—Adversely Classified—Reduce—Schedule
   [.5] Loans—Extensions of Credit—Existing Borrowers—Curtail
   [.6] Loans—Accrual of Interest—Overdue
   [.7] Definition—"Well Secured"
   [.8] Definition—"In the process of collection"
   [.9] Loan Policy—Minimum Requirements—Review
   [.10] Loan Loss Reserve—Adequacy—Review
   [.11] Profit Plan—Overhead Expenses—Review
   [.12] Violations of Law—Eliminate/Correct
   [.13] Asset/Liability Management Plan—Minimum Requirements—Review
   [.14] Bank Operations—Written Policy—Review
   [.15] Reports of Condition and Income—Amend
   [.16] Dividends—Restricted
   [.17] Shareholders—Disclosure—Cease and Desist Order
   [.18] Compliance—Progress Reports—Frequency

In the Matter of

FRONTIER STATE BANK
SHOW LOW, ARIZONA
(Insured State Nonmember Bank)
ORDER TO CEASE AND DESIST
FDIC-90-227b

   Frontier State Bank, Show Low, Arizona ("Bank"), having been advised of its right to a Notice of Charges and of Hearing detailing the unsafe or unsound banking practices and violations of law and/or regulations alleged to have been committed by the Bank and of its right to a hearing on the alleged charges under section 8(b)(1) of the Federal Deposit Insurance Act ("Act"), 12 U.S.C. § 1818(b)(1), and having waived those rights, entered into a STIPULATION AND CONSENT TO THE ISSUANCE OF AN ORDER TO CEASE AND DESIST ("CONSENT AGREEMENT") with counsel for the Federal Deposit Insurance Corporation ("FDIC"), dated October 12, 1990, whereby solely for the purpose of this proceeding and without admitting or denying the alleged charges of unsafe or unsound banking practices and violations of law and/or regulations, the Bank consented to the issuance of an ORDER TO CEASE AND DESIST ("ORDER") by the FDIC.
   The FDIC considered the matter and determined that it had reason to believe that the Bank had engaged in unsafe or unsound banking practices and had committed violations of law and/or regulations. The FDIC, therefore, accepted the CONSENT AGREEMENT and issued the following:

ORDER TO CEASE AND DESIST

   IT IS HEREBY ORDERED that the Bank, and any institution-affiliated party as such term is defined in section 3(u) of the Act, 12 U.S.C. 1813(u), cease and desist from the following unsafe or unsound banking practices and violations:
   (a) operating with inadequate management;
   (b) operating with inadequate equity capital and reserves in relation to the volume and quality of assets held by the Bank;
   (c) operating with a large volume of poor quality loans;
   (d) operating with an inadequate loan valuation reserve;
   (e) following hazardous lending and lax collection practices;
   (f) operating with inadequate provisions for liquidity and funds management;
   (g) operating with inadequate routine and controls policies;
   (h) operating in such a manner as to produce low earnings; and
   (i) operating in violation of section 23A of the Federal Reserve Act, 12 U.S.C. § 371c, made applicable to state nonmember insured institutions by section 18(j)(1) of the Act, 12 U.S.C. § 1828(j)(1), as more fully described on {{12-31-90 p.C-594}}page 6-a of the Report of Examination as of May 25, 1990;
IT IS FURTHER ORDERED that the Bank take affirmative action as follows:

   [.1] 1. The Bank shall have and retain qualified management.
   (a) Each member of management shall have qualifications and experience commensurate with his or her duties and responsibilities at the Bank. Management should include a chief executive officer with proven ability in managing a Bank of comparable size, and experience in upgrading a low quality loan portfolio, improving earnings, and other matters needing particular attention. Management should also include a senior lending officer with significant appropriate lending, collection, and loan supervision experience and experience upgrading a low quality loan portfolio. Each member of management shall be provided appropriate written authority from the Bank's board of directors to implement the provisions of this ORDER.
   (b) The qualifications of management shall be assessed on its ability to:

(i) comply with the requirements of this ORDER; (ii) operate the Bank in a safe and sound manner; (iii) comply with applicable laws and regulations; and (iv) restore all aspects of the Bank to a safe and sound condition, including asset quality, capital adequacy, earnings, management effectiveness, and liquidity.

   [.2] 2. (a) Within 180 days from the effective date of this ORDER, the Bank shall have adjusted primary capital in such an amount as to equal or exceed eight (8.0) percent of the Bank's adjusted Part 325 total assets. Thereafter, during the life of this ORDER, the Bank shall maintain adjusted primary capital in such an amount as to equal or exceed eight (8.0) percent of the Bank's adjusted Part 325 total assets. Primary capital and Part 325 total assets utilized shall be calculated in accordance with prevailing instructions for the preparation of Reports of Condition. The computation of adjusted primary capital and the ratio of adjusted primary capital to adjusted Part 325 total assets shall be determined by using the procedures outlined in the "Analysis of Capital" schedule in the FDIC Report of Examination.
   (b) Any increase in primary capital necessary to meet the requirements of Paragraph 2 of this ORDER may be accomplished by the following:

   (i) the sale of common stock; or
   (ii) the sale of perpetual preferred stock; or
   (iii) the direct contribution of cash by the board of directors, shareholders, and/or parent holding company; or
   (iv) the collection of assets previously charged off; or
   (v) the reduction of the "Loss" assets specified in Paragraph 3 of this ORDER without loss or liability to the Bank; or
   (vi) any other means acceptable to the Regional Director and the Superintendent; or
   (vii) any combination of the above means.

   [.3] 3. (a) Within 10 days from the effective date of this ORDER, the Bank shall eliminate from its books, by charge-off or collection, all assets classified "Loss" as of May 25, 1990, that have not been previously collected or charged off. Elimination of these assets through proceeds of other loans made by the Bank is not considered collection for the purpose of this paragraph.

   [.4] (b) Within 90 days from the effective date of this ORDER, the Bank shall have reduced the assets classified "Substandard" as of May 25, 1990 that have not previously been charged off to not more than $3,750,000.
   (c) Within 180 days from the effective date of this ORDER, the Bank shall have reduced the assets classified "Substandard" as of May 25, 1990 that have not previously been charged off to not more than $3,000,000.
   (d) Within 365 days from the effective date of this ORDER, the Bank shall have reduced the assets classified "Substandard" as of May 25, 1990 that have not previously been charged off to not more than $2,250,000.
   (e) The requirements of subparagraphs 3(a), 3(b), 3(c) and 3(d) of this ORDER are not to be construed as standards for future operations and, in addition to the foregoing, the Bank shall eventually reduce the total of all adversely classified assets. Reduction of these assets through proceeds of other loans made by the Bank is not considered collection for the purpose of this paragraph. As used in subparagraphs 3(b), 3(c), and 3(d) the word "reduce" means:

   (i) to collect;
   (ii) to charge-off; or
   (iii) to sufficiently improve the quality of assets adversely classified to warrant removing any adverse classification, as determined by the FDIC.

   [.6] (c) In connection with subparagraph 4(a) and 4(b) of this ORDER, the Bank shall not:

   (i) continue the accrual of interest on any loan which is delinquent in principal or interest payments ninety (90) days or more unless the asset is both well secured and in the process of collection; or
   (ii) engage in any practice or device which essentially avoids recognition of overdue loans and/or artificially inflates the income of the Bank. For any loans restructured in accordance with FASB 15, consideration should be given to the reasonableness of the modified terms of the loan, since loans should not be restructured in an attempt to conceal credit losses or delay their recognition.

   (i) collateral in the form of liens on or pledges of real or realizable value sufficient to discharge the debt (including accrued interest) in full; or
   (ii) the guaranty of a financially responsible party.

   [.9] 5. (a) Within 60 days from the effective date of this ORDER, the Bank shall revise, adopt, and implement written lending and collection policies to provide effective guidance and control over the Bank's lending function, which policies shall include specific guidelines for placing loans on a non-accrual basis. In addition, the Bank shall obtain adequate and current documentation for all loans in the Bank's loan portfolio. Such policies and their implementation shall be in a form and manner acceptable to the Regional Director and the Superintendent as determined at subsequent examinations and/or visitations.
   (b) The initial revisions to the Bank's loan policy and practices, required by this paragraph, at a minimum, shall include the following:

   (i) provisions, consistent with FDIC instructions for the preparation of Reports of Condition and Income, under which the accrual of interest income is discontinued and previously accrued interest is reversed on delinquent loans;
   (ii) provisions which prohibit the capitalization of interest or loans related expense unless the board of directors supports in writing and records in the minutes of the corresponding board of directors meeting why an exception thereto is in the best interests of the Bank;
   (iii) provisions which require complete loan documentation, realistic repayment terms and current credit information adequate to support the outstanding indebtedness of the borrower. Such documentation shall include current financial information, profit and loss statements or copies of tax returns and cash flow projections;
   (iv) provisions which incorporate limitations on the amount that can be loaned in relation to established collateral values.
   (v) provisions which specify the circumstances and conditions under which real estate appraisals must be conducted by an independent third party;
   (vi) provisions which establish standards for unsecured credit;
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   (vii) provisions which establish officer lending limits;
   (viii) provisions that require extensions of credit to any of the Bank's executive officers, directors, or principal shareholders, or to any related interest of such persons, to be approved in advance by a majority of the entire board of directors in accordance with section 215.4(b) of Regulation O of the Board of Governors of the Federal Reserve System, 12 C.F.R. §215.4(b);
   (ix) provisions which prohibit the issuance of standby letters of credit unless the letters of credit are fully secured by readily marketable collateral and/or are supported by current and complete financial information;
   (x) provisions that directors first determine that the lending staff has the expertise necessary to properly supervise construction loans and that adequate procedures are in place to monitor any construction involved before funds are disbursed;
   (xi) provisions which prohibit concentrations of credit in excess of 25 percent of the Bank's total equity capital and reserves to any borrower and that borrower's related interests;
   (xii) provisions which require the preparation of a loan "watch list" which shall include relevant information on all loans in excess of $15,000 which are classified "Substandard" as of May 25, 1990 or by the FDIC or State Banking Department of Arizona in subsequent Reports of Examination and all other loans in excess of $15,000 which warrant individual review and consideration by the board of directors as determined by the loan committee or active management. The loan "watch list" shall be presented to the board of directors for review at least monthly with such review noted in the minutes; and
   (xiii) the board of directors shall adopt procedures whereby officer compliance with the revised loans policy is monitored and responsibility for exceptions thereto assigned. The procedures adopted shall be reflected in minutes of a board of directors meeting at which all members are present and the vote of each is noted.

   [.11] 7. Within 60 days from the effective date of this ORDER, the Bank shall develop and adopt a plan to control overhead and other expenses and restore the Bank's profitability. The plan shall be in a form and manner acceptable to the Regional Director and the Superintendent as determined at subsequent examinations and/or visitations.

   [.12] 8. Within 60 days from the effective date of this ORDER, the Bank shall eliminate and/or correct all violations of {{12-31-90 p.C-598}}law which are more fully set out on page 6-a of the Report of Examination of the Bank as of May 25, 1990. In addition, the Bank shall take all necessary steps to ensure future compliance with all applicable laws and regulations.

   [.13] 9. Within 60 days from the effective date of this ORDER, the board of directors shall develop a comprehensive asset/liability management policy. The policy shall establish standards consistent with generally accepted prudent banking operations by giving specific consideration to:

   (i) establishing a range for the Bank's volatile liability dependence ratio, as computed by the FDIC in its Reports of Examination, and which ratio shall, within 180 days from the effective date of this ORDER, be reduced to not more than zero (0.0) percent; and within 360 days from the effective date of this ORDER, be reduced to not more than negative 5 (5.0) percent. The requirements of this paragraph shall not be construed as standards for future operations, and the Bank's volatile liability dependency ratio shall be maintained at a level consistent with prudent banking practices;
   (ii) establishing a range for short-term investments to potentially volatile liabilities, as those terms are defined by the FDIC in its current edition of "A Users Guide for the Uniform Bank Performance Report";
   (iii) establishing maturity ranges for the Bank's investment portfolio.
   (iv) establishing acceptable ranges for the Bank's rate sensitivity and gap ratios; and
   (v) the establishing of an asset/liability committee, including a description of its responsibilities, how often it will meet, how it will obtain information and guidance from the board of directors, and how its activities will be reported to the board of directors.

   [.15] 11. Within 10 days after eliminating from its books any asset in compliance with Paragraph 3 of this ORDER, the Bank shall file with the FDIC amended Consolidated Reports of Condition and Income which shall accurately reflect the financial condition of the Bank as of March 31, June 30, and September 30, 1990. Thereafter, during the life of this ORDER, the Bank shall file with the FDIC Consolidated Reports of Condition and Income which accurately reflect the financial condition of the Bank as of the end of the period for which the Reports are filed, including any adjustment in the Bank's books made necessary or appropriate as a consequence of any State Banking Department of Arizona or FDIC examination of the Bank during that reporting period.

   [.16] 12. The Bank shall not pay cash dividends in any amount except as follows:

   (a) such declarations and payments are made in accordance with applicable State and Federal laws and regulations;
   (b) that after payment of such dividends, the ratio of adjusted primary capital to adjusted Part 325 total assets of the Bank will be not less than eight (8.0) percent;
   (c) that such declaration and payment of dividends shall be approved in advance by the board of directors; and
   (d) that such declaration and payment of dividends shall be approved in advance, in writing, by the Regional Director and the Superintendent, which approval shall not be unreasonably withheld.

   [.18] 14. Within 30 days of the end of the first quarter following the effective date of this ORDER, and within thirty (30) days of the end of each quarter thereafter, the Bank shall furnish written progress reports to the Regional Director and the Superintendent detailing the form and manner of any actions taken to secure compliance with this ORDER and the results thereof. Such reports shall include a copy of the Bank's Report of Condition and the Bank's Report of Income. Such reports may be discontinued when the corrections required by this ORDER have been accomplished and the Regional Director and the Superintendent have released the Bank in writing from making further reports.
   The provisions of this ORDER shall be binding upon the Bank, its directors, officers, employees, agents, successors, assigns, and other persons participating in the conduct of the affairs of the Bank.
   This ORDER shall become effective ten (10) days from the date of its issuance.
   The provisions of this ORDER shall remain effective and enforceable except to the extent that, and until such time as, any provisions of this ORDER shall have been modified, terminated, suspended, or set aside by the FDIC.
   Pursuant to delegated authority.
   Dated at San Francisco, California, this 29th day of October, 1990.