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FDIC Enforcement Decisions and Orders

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   [5044] FDIC Docket No. FDIC-83-254b (5-6-85).

   A bank was ordered to cease and desist from prior unsafe and unsound banking practices. Even if the bank's condition has improved as a result of new management, improved financial status, and cessation of violations of laws or regulations, a cease and desist order may be issued to avoid instituting a new enforcement proceeding at a later date, and to assure that the bank would not continue or resume its former unsafe practices.

   [.1] Cease and Desist Order—Defences—Cessation of Violation
   Even if a bank's condition may have improved because of new management, improved financial status, and cessation of violations of laws or regulations, a cease and desist order may be issued.

   [.2] Cease and Desist Order—Defences—Cessation of Violation
   Enforcement action based on prior conduct is clearly contemplated by FDI Act §8(b), [¶2002] which provides that an order may be issued "[i]f. . .any insured bank. . .is engaging or has engaged. . .in an unsafe or unsound practice."

   [.3] Practice and Procedure—Evidence—Admissibility of Remedial Conduct
   Evidence of events and conditions subsequent to a finding of unsafe or unsound banking practices includes the intent of the bank for the future, and the likelihood of the bank's resuming the unsafe or unsound practices. Such evidence is relevant to the issue of reasonableness and is therefore admissible.

IN THE MATTER OF * * * BANK OF
* * * (INSURED STATE NONMEMBER BANK)


DECISION AND ORDER TO CEASE
AND DESIST

FDIC-832b

INTRODUCTION

   On December 5, 1983, the Federal Deposit Insurance Corporation ("FDIC") issued a Notice of Charges and of Hearing against respondent * * * Bank of * * * ("Bank"), charging that the Bank engaged in specified unsafe or unsound practices. A hearing began on July 10, 1984, in * * * and concluded on July 16, 1984, in * * *.
   On January 21, 1985, the Administrative law Judge ("ALJ") filed a recommended decision upholding IC's charges as of the June 1983 examination and September 1983 visitation on which the charges were based, but finding in favor of the Bank on the ground that new ownership and improvement in the Bank's condition since those dates made a cease and desist order inappropriate and unnecessary. At the hearing and in exceptions filed to the Recommended Decision, FDIC objected to consideration of subsequent changed circumstances as a basis for not issuing an order that would otherwise be justified.

STATEMENT OF THE CASE

   In 1980 a cease and desist order was issued against the Bank by the State Banking Commissioner of * * *. The record does not reflect the terms of the order and there is no evidence concerning the reasons for its issuance by the state. In December 1981, a group headed by * * * acquired control of the Bank's parent holding company, * * * ("Holding Company"), which owned over 90% of the Bank. As a result the * * * group acquired control of the Bank and Mr. * * * was made chairman of its board of directors. Within a short time after these changes, the * * * Banking Commissioner lifted his cease and desist order.
   Within a relatively short time after * * * assumed control and management of the {{3-31-91 p.A-422.1}}Bank, problems began to develop. A May 1982 examination of the Bank by the * * * Banking Commissioner revealed, among other things, losses in excess of $350,000 which seriously affected the Bank's earnings and capital adequacy.
   On September 23, 1982, the Bank's president, * * * notified FDIC that approximately $1,500,000 in loans would be processed out of the Bank to effectuate a buyout by Mr. * * * of other major shareholders. An October 12, 1982, FDIC examination of the Bank determined that on September 22 and 23, 1982, $2,500,000 had actually been taken out for that purpose. In effect, the Bank, through their unauthorized insider loans, had bought itself. It was also found that * * * was overdrawn on his personal account with the Bank in the sum of $96,066.98. Mr. * * * resigned as chairman and as a director of the Bank on December 16, 1982, as a result of a threatened removal action by FDIC.
   FDIC conducted an examination of the Bank in January 1983, which found that the September 1982 insider loans had brought the Bank to the brink of insolvency. On April 18, 1983, the FDIC initiated a termination of insurance proceeding by an order requiring the Bank, within 60 days, to retain management acceptable to FDIC, including a qualified executive oflicer with the written authority to implement and maintain lending, investment, and operating policies in accordance with sound banking practices; to increase the capital and

(Next page is A-423.)

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reserves to $2,500,000, and to eliminate from its books all assets classified "Loss" and 50% of those assets classified "Doubtful" as shown in the January 21, 1983 examination.
   A June 24, 1983, FDIC examination of the Bank revealed that the condition of the Bank had improved to some extent due to the removal of certain insider loans and the addition of $240,000 in new capital. However, the Bank continued to have serious problems with an excessive volume of weak loans, insufficient capital, poor liquidity, reduced earnings, and weak and ineffective management. Most of the violations noted in the January 1983 examination had not been corrected. The examination also revealed that the Bank's capital was only $1,750,000, a violation of the April 1983 corrective order requiring the Bank to increase its capital to $2,500,000. The Bank had also violated that order by rebooking certain insider loans which it had previously charged-off in March 1983. However, since the Bank's asset condition had improved sufficiently to remove any immediate risk of insolvency, a cease and desist action was recommended in lieu of termination of insurance under Section 8(a) of the Federal Deposit Insurance Act ("Act").
   On September 19, 1983, an FDIC examiner visitation to the Bank reported that the Bank had made some progress in improving its condition but that it still remained weak. Ownership and management was unstable and continued to have a negative impact on the Bank. It was also noted that since the June 1983 examination the president of the Bank had, without approval of the Bank's investment committee or board of directors, speculated in certain mortgage participation certificates. Accordingly, FDIC issued a Notice of Charges and of Hearing ("Notice") on December 5, 1983, based on its June 24, 1983 examination and the September 16, 1983 visitation. In its response to the Notice the Bank admitted most of the charges but claimed that since the examination of June 24, 1983, its new ownership and management had rectified or was in the process of rectifying the remaining adverse conditions. The FDIC took the position that cessation of the unsafe and unsound practices alleged is not a defense to a cease-and-desist proceeding. At the hearing, the FDIC objected to the introduction by the Bank of evidence concerning matters and events subsequent to the September 1983 visitation. The ALJ deferred ruling on the objection at the hearing and allowed the Bank to present such evidence.

ALJ's RECOMMENDED DECISION

   In his Recommended Decision the ALJ found that:
   1. The Bank was engaging in banking practices that were unsafe or unsound within the meaning of Section 8(b)(1) of the Act in that it was operating with an excessive volume of poor quality assets in relation to its total equity capital and reserves.
   2. The Bank's management had engaged in hazardous lending and lax collection practices by extending credit without adequate security, by failing to enforce or establish programs for the repayment of loans, and by failing to require complete or current credit information.
   3. The Bank failed to provide adequate reserves for loan losses which resulted in an overstatement of the Bank's earnings and equity capital.
   4. The Bank was operating with an inadequate provision for liquidity and without due regard to its liquidity situation, had improperly speculated on interest rates by trading in mortgage participation certificates insured by the Government National Mortgage Association and Federal Home Loan Mortgage Corporation.
   5. The Bank was being operated with an inadequate level of capital protection for the kind and quality of assets being held.
   The ALJ found the following violations of Federal and * * * laws and regulations, all as specified in the June 24, 1983 report of examination:
   1. Extending credit to a business interest of the Chairman of the Board of the Bank in excess of 5% of the Bank's capital and unimpaired surplus without obtaining prior approval of the board as required by Section 337.3(b) of the FDIC's Rules and Regulations;
   2. Extending credit to the principal stockholder of the Bank in excess of 5% of the Bank's capital and unimpaired surplus without obtaining the prior approval of the Board as required by Section 337.3(b) of the FDIC's Rules and Regulations;
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   3. Extending credit to a related interest of the Chairman of the Board of the Bank which involved more than the normal risk of repayment or presented other unfavorable features within the meaning of Section 215.4(a) of Regulation O of the Board of Governors of the Federal Reserve System;
   4. Extending credit to the principal stockholder of the Bank which involved more than the normal risk of repayment or presented other unfavorable features within the meaning of Section 215.4(a) of Regulation O of the Board of Governors of the Federal Reserve System;
   5. Extending credit to the principal stockholder of the Bank which exceeded the lending limits of Section 215.4(c) of Regulation O;
   6. Extending credit to one * * * which exceeded the lending limits of Section 9-1104 of the * * * statutes.
   The ALJ concluded that the Bank's board of directors had failed to provide adequate supervision over the Bank's officials to prevent the above-described unsafe or unsound practices and violations of laws and regulations which was detrimental to the Bank and jeopardized the safety of its deposits.
   Based upon these findings, the ALJ found that issuance of a cease and desist order under Section 8(b) of the Act would be justified by the Bank's condition as it existed in June and September of 1983. However, the Bank alleged that, subsequent to the examination of June 1983 and the September 1983 visit, the Holding Company was acquired by Mr. * * * a creditor of the former shareholder of the Holding Company, and that as a result a substantial number of the practices charged were rectified while the others were being corrected under the new management. Over FDIC's objection at the hearing, the ALJ permitted introduction by the Bank of evidence concerning matters occurring subsequent to June and September of 1983. On the basis of this evidence, the ALJ made Additional Findings of Fact in his Recommended Decision (See Recommended Decision at 18 – 21).
   On the basis of these Additional Findings of Fact relating to events occurring after September 1983, the ALJ concluded that many of the Bank's problems had been corrected and that its remaining deficiencies were in the process of being remedied by a changed management which appeared to be both willing and able to carry forward with a program designed to return the Bank to a safe and sound condition. The ALJ concluded that issuance of a formal order against the Bank was not only unnecessary to continued improvement in its condition, but could create a public perception that the Bank was going from bad to worse and thereby make its rehabilitation more difficult, if not impossible.

DECISION

   Based upon review of the record, the Board of Directors of the FDIC ("Board") finds that the ALJ's Findings of Fact 1 through 8, at pages 12 – 14 of his Recommended Decision, were correct as to the unsafe or unsound practices of the Bank and its serious financial condition at the June 23, 1983 examination and the September 19, 1983 FDIC visitation. The Board also agrees that based on the circumstances existing at that time, a formal cease and desist order was justified. However, the Board disagrees with the ALJ's conclusion that, based on events occurring later, a formal order is no longer justified or required. The Board reverses that portion of the ALJ's Recommended Decision and finds that a formal cease and desist order is required in this case.
   The underlying factual basis for the ALJ's Findings and Conclusions is not specifically set forth in his Recommended Decision, but the Board's review of the record establishes the following facts as the close of the June 1983 examination and September 1983 visitation:
   1. The Bank had adversely classified assets totaling $2,413,000, including $324,000 classified "Loss", $72,000 "Doubtful", and $2,017,000 "Substandard", which equaled 108 percent of its total equity capital and reserves of $2,234,000.
   2. The Bank had total adversely classified loans of $2,132,000 but a balance in its reserve for loan losses of only $3,000. The combined total of loans classified "Loss" and 50 percent of those classified "Doubtful" exceeded its loan loss reserve by $321,000.
   3. The Bank had extended at least eighteen loans without obtaining adequate collateral to secure such loans.
   4. The Bank had failed to establish or enforce loan repayment programs for at least seven loans.
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   5. The Bank had extended at least six loans without obtaining current or complete credit information for the borrower.
   6. The Bank's net deposits and short-term liabilities equaled $22,868,000, while its net cash, short-term, and marketable assets equaled only $6,085,000. The Bank's longterm earning assets were substantially funded by short-term, potentially volatile liabilities. The Bank failed to match the maturities of its assets with its liabilities, having approximately $7,128,000 more in liabilities due for renewal within 12 months than assets maturing during the same period.
   7. The Bank had adjusted equity capital and reserves equal to 5.8 percent of adjusted total assets.

   [.1] These facts and the record as a whole support the ALJ's Findings 1–8, set forth at pages 12 – 14 of his Recommended Decision. The Board, therefore, adopts those Findings of the ALJ. However, the Board of Directors is of the opinion that, even if the Bank's condition may have improved somewhat, there would still be a need for a formal enforcement order.
   The ALJ's Additional Findings of Fact show clearly that the Bank continues to have serious problems. Its capital is still substantially below the recommended level. By the June 1983 examination, the Bank's capital had increased to only $1,750,000, well below the $2,500,000 level ordered by the FDIC in April of 1983. Furthermore, the record established and the ALJ found that by the end of December 1983, only an additional $240,000 contribution had been made to the Bank's capital, approximately $480,000 short of the required level. Its loan classifications remain unacceptably high at $1,306,000, as of July 1984, which includes $16,000 classified "Loss" and $156,000 "Doubtful". Its liquidity ratio stood at only 39 percent as of June 198411 and earnings still needed improvement. While some improvement in some of these areas may have occurred, it cannot be known with any degree of certainty whether this alleged improvement is real and substantial and likely to continue. A final, enforceable cease and desist order will ensure that the proper corrective action is taken by the Bank and that its position will continue to improve.
   The failure to issue an enforceable cease and desist order could well result in the necessity of instituting a new enforcement proceeding at a later date. The delays inherent in repeating the administrative process could make it necessary to terminate the Bank's deposit insurance or even result in losses to the insurance fund should the Bank fail to take adequate corrective actions and resume its deterioration. For these reasons, the Board of Directors considers it imperative to reject the ALJ's recommendation and to proceed to issue a formal order to cease and desist.

   [.2] This conclusion is fully consistent with applicable statutory and case law. Section 8(b) of the Act provides in applicable part that a cease and desist order may be issued against any bank, "If upon the record made [at] any hearing, the agency shall find that any violation or unsafe or unsound practice specified in the notice of charges has been established. . .." Of course, in any litigation there must be a point of departure for determining the facts. To require proof of continuing acts would result in a paralysis of fact finding. Furthermore, enforcement action based on prior conduct is clearly contemplated by Section 8(b) which also provides that an order may be issued "[i]f. . .any insured bank. . .is engaging or has engaged. . .in an unsafe or unsound practice. . .." Thus, Section 8(b) encompasses both unsafe and unsound practices which are ongoing at the time of the issuance of the order to cease and desist and those that have already occurred, clearly indicating that there need not necessarily be an unsafe or unsound practice actually occurring at the moment of issuance of a cease-and-desist order by the FDIC. Thus, in a very recent unreported decision by the Fifth Circuit Court of Appeals2 the Respondent contended that the FDIC Board of Directors erred by not considering evidence of improvements made by Respondent in its operating procedures. The court disagreed, holding that determination of whether the offensive practices have actually been abandoned is appropriately made


1 Liquidity is the ability of the Bank to convert assets into cash for the purpose of funding both expected and unexpected deposit withdrawals. The percentage represents the ratio of net cash plus short-term and marketable assets to net deposits and short-term liabilities.

2 Bank of Dixie v. FDIC, No. 84–4737, March 12, 1985.
{{4-1-90 p.A-426}}through subsequent enforcement proceedings. Without a cease and desist order, the court said, the FDIC has no assurances that the bank would not continue its former unsafe practices. Administrative and judicial interpretation of the cease-and-desist powers of the NLRB and the FTC is in accord with this conclusion.3
   Based on the foregoing case law and the express statutory language of Section 8(b) of the Federal Deposit Insurance Act, it is clear that the FDIC may issue a cease-and-desist order based on prior practices even if the practices were later modified, particularly where, as in this case, the Bank's problems remain very substantial and serious. The purpose of an order to cease and desist in this case is to help restore the Bank to sound financial condition; to assure that its weak financial condition is rectified; to assure that the unsafe or unsound practices which caused its problems are halted and do not recur; and to assure that the violations of laws and regulations are fully corrected and do not recur. Under the circumstances of this matter, the Board concludes that a formal order is not only justified by the record but is necessary to ensure that the proper corrective actions by the Bank are carried out in the future to restore it to a sound condition. Therefore, the Board adopts and issues the order set forth herein.

ORDER

   IT IS HEREBY ORDERED, that * * * Bank of * * *, its directors, officers, employees, agents, successors, assigns, and other persons participating in the conduct of the affairs of the Bank, CEASE AND DESIST from the following unsafe or unsound banking practices and violations of laws and regulations:
   A. engaging in hazardous lending and lax collection practices;
   B. operating with an inadequate level of equity capital protection for the kind and quality of assets held;
   C. operating with an inadequate provision for liquidity;
   D. operating with an inadequate level of loan loss reserves for the volume, kind, and quality of assets held;
   E. operating in violation of laws and regulations as more fully set out on pages 6-2 through 6-2-e of the Report of Examination of the Bank as of June 24, 1983;
   F. engaging in speculative securities trading; and
   G. operating with management whose policies and practices are detrimental to the Bank.
   IT IS FURTHER ORDERED, that the Bank, its directors, officers, employees, agents, successors, assigns, and other persons participating in the conduct of the affairs of the Bank, carry out the following affirmative actions:
   1. (a) Not later than 30 days from the effective date of this ORDER, the Bank shall provide, and thereafter continue to retain, management acceptable to the Regional Director of the FDIC's * * * Regional Office ("Regional Director") and the State Bank Commissioner for the State of * * * ("Commissioner"). Such management shall include a qualified chief executive officer who shall be given authority in writing by the board of directors of the Bank, including the responsibility for implementing and maintaining lending and investment policies in accordance with sound banking practices.
   (b) Not later than 30 days from the effective date of this ORDER, the Bank shall submit to the Regional Director and to the Commissioner a management plan acceptable to the Regional Director and Commissioner. The plan shall require that the board of directors of the Bank periodically review the lending and investment authority restrictions for the Bank's loan officers. The plan shall also include the requirement that the board of directors of the Bank, or a committee thereof consisting of not less than two outside directors, provide supervision over lending and investment authority and other affairs of the Bank sufficient to reasonably ensure that the Bank complies with the provisions of this ORDER.
   (c) As used herein, the term "outside director" is defined as an individual not in the employ of the Bank, or any affiliate thereof, who owns not more than 5 percent of the outstanding voting stock of either the Bank or the Holding Company; who shall not be related by consanguinity, marriage, or significant business relationship to any stockholder owning more than 5 percent of


3 See Lakeland Bus Lines, Inc. v. NLRB, 278 F. 2d 888 (3d Cir. 1960); NLRB v. Globe-Wernicke Systems Co., 336 F. 2d 589 (6th Cir. 1964); J.M. Sanders Jewelry Co., 85 F.T.C. 250 (1975); Zale Corp. v. FTC, 473 F. 2d 1317 (5th Cir. 1973); Beneficial Corp. v. F.T.C. 542 F. 2d 611 (3rd Cir. 1976), cert. denied, 430 U.S. 983 (1977).
{{4-1-90 p.A-427}} the outstanding voting stock of either the Bank or the Holding Company; who shall not be indebted to the Bank, or any affiliate thereof, in an amount exceeding 5 percent of the capital and surplus of the Bank or affiliate; and who shall be a representative of the Bank's trade area.
   2. (a) Not later than 60 days from the effective date of this ORDER, the Bank shall increase its total equity capital and reserves by not less than $750,000 above the total equity capital and reserves existing as of the June 24, 1984 examination. Such increase in equity capital and reserves may be accomplished by:
   (i) the sale of common stock; or
   (ii) the sale of a perpetual preferred stock; or
   (iii) the direct contribution of cash by the shareholders and/or directors of the Bank; or
   (iv) the collection in cash of assets previously charged-off; or
   (v) the reduction of all or part of the assets classified "Loss" and 50 percent of the assets classified "Doubtful" as of June 24, 1983, without loss or liability to the Bank; or
   (vi) any combination of the above means; or
   (vii) any other means acceptable to the FDIC.
   (b) If the sale of new equity capital required by the Bank under paragraph 2(a) of this ORDER involves a public distribution of the Bank's securities (including a distribution limited only to the Bank's existing shareholders), the Bank shall prepare detailed offering materials fully describing the securities being offered, including an accurate description of the financial condition of the Bank and the circumstances giving rise to the offering, and any other material disclosures necessary to comply with the Federal and state securities laws. Prior to the sale of such capital and, in any event not less than 20 days prior to the dissemination of such materials, the materials used in the sale of the securities shall be submitted to the FDIC at Washington, D.C., for its review. Any changes requested to be made in the materials by the FDIC shall be made prior to their dissemination. If the increase in equity capital is from the sale of preferred stock, then all terms of the issue, including but not limited to those terms and conditions relative to interest rate and any convertibility factor, shall be approved by the Regional Director before any sale is consummated.
   (c) In complying with the provisions of paragraph 2(b) of this ORDER, the Bank shall provide to any subscriber and/or purchaser of the Bank stock, written notice of any planned or existing development or other change which is materially different from the information reflected in any offering materials used in connection with the sale of Bank stock. The written notice required by this paragraph shall be furnished within ten (10) calendar days from the date such material development or change was planned or occurred, whichever is earlier, and shall be furnished to every purchaser and/or subscriber of Bank stock who received or was tendered the information contained in the Bank's original offering circular.
   (d) As used in paragraph 2(a)(v) of this ORDER, the work "reduction" means (1) collection or (2) improvement of the quality of assets adversely classified so as to warrant removing any adverse classification as determined by the FDIC.
   (e) During the period this ORDER is in effect, the Bank shall take all steps necessary to ensure that its equity capital and loan valuation reserve shall be equal to or exceed 8.0 percent of the Bank's average assets as of December 31 and June 30 of each year beginning with the first such month after the effective date of this ORDER. Average assets for the month under calculation shall mean the average of the Bank's total assets as shown on its daily statements for such month, and equity capital and reserves and total asset amounts utilized in the average shall be calculated as those terms are defined in prevailing instructions for the preparation of Reports of Condition. If such ratio is less than 8.0 percent as of the date of calculation, the Bank shall, within 30 days, present to the Regional Director and the Commissioner, a plan to increase the capital accounts of the Bank or to take other measures to bring the ratio to 8.0 percent. Within 60 days after the plan is reviewed and no exception is taken by the Regional Director or Commissioner, restoration of the capital ration to 8.0 percent shall be completed.

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   (f) The formal capital ratio analysis as provided for in paragraph 2(e) of this ORDER, shall not negate the responsibility of the Bank and its board of directors for maintaining an adequate level of capital protection for the kind, quality, and degree of market depreciation of assets held by the Bank.
   3. (a) Not later than 30 days from the effective date of this ORDER, the Bank shall eliminate from its books, by charge-off or collection, all assets or portions of assets classified "Loss" and 50 percent of the assets classified "Doubtful" as of June 24, 1983, that have not been previously collected or charged-off. Reductions of these assets through proceeds of loans made by the Bank shall not be considered collection for the purpose of this paragraph.
   (b) Not later than 90 days from the effective date of this ORDER, the Bank shall cause the total of the remaining assets classified "Doubtful" and "Substandard" as of June 24, 1983, to be reduced to not more than $1,500,000.
   (c) Not later than 120 days from the effective date of this ORDER, the Bank shall cause the total of the remaining assets classified "Doubtful" and "Substandard" as of June 24, 1983, to be reduced to not more than $1,250,000.
   (d) Not later than 240 days from the effective date of this ORDER, the Bank shall cause the total of the remaining assets classified "Doubtful" and "Substandard" as of June 24, 1983, to be reduced to not more than $600,000.
   These requirements shall not to be construed as standards for future operations and, in addition to the foregoing, the Bank shall eventually reduce all adversely classified assets. As used in this ORDER, the word "reduce" means (1) to collect, or (2) to improve the quality of assets adversely classified so as to warrant removing any adverse classification.
   4. (a) Not later than 30 days from the effective date of this ORDER, the Bank shall establish and thereafter continue to maintain an adequate reserve for loan losses and such reserve shall be established and maintained by charges to current operating income. In complying with provisions of this paragraph, the board of directors of the Bank shall review the adequacy of the Bank's reserve for loan losses prior to the end of each calendar quarter. The minutes of the board meeting at which review is undertaken shall indicate the results of the review, the amount of any increase in the reserve recommended, and the basis for determination of the amount of reserve provided.
   (b) Reports of Condition and Income requested by the FDIC or the Commissioner and filed by the Bank prior to the effective date of this ORDER and subsequent to June 24, 1983, shall reflect a provision for loan losses which is adequate in light of the condition of the Bank's loan portfolio and shall reflect, at a minimum, the adjustment required by paragraph 4(a) of this ORDER. If necessary to comply with this paragraph 4(b) of this ORDER, the Bank shall file amended Reports of Condition and Income.
   5. Not later than 30 days from the effective date of this ORDER, the Bank shall take all steps necessary, consistent with sound banking practices, to eliminate and/or correct all violations of laws, rules, or regulations existing in the Bank as of June 24, 1983. In addition, the Bank shall take all steps necessary, consistent with sound banking practices, to ensure future compliance with all applicable laws, rules and regulations.
   6. Not later than 30 days from the effective date of this ORDER, the board of directors of the Bank shall conduct a review of the liquidity position of the Bank. Following the review, the board shall formulate a plan to provide the Bank with adequate provisions for liquidity and include the plan in the minutes of the board meeting. Thereafter, the board shall review each month the liquidity position of the Bank to ensure that its plan is effective and fully implemented and shall record the results of the review in the minutes of the board meeting. The plan should include arrangements for contingency borrowings as well as an ongoing review of the loan account to determine specific loans or group of loans which would be available for cash conversion as required under the circumstances.
   7. (a) Upon the effective date of this ORDER, the Bank shall take all steps necessary, consistent with sound banking practices, to discontinue speculative trading in mortgage participation certificates issued by such entities as the Government National Mortgage Association, Federal National {{4-1-90 p.A-429}} Mortgage Association, and Federal Home Loan Mortgage Corporation.
   (b) Not later than 90 days from the effective date of this ORDER, the Bank shall take all steps necessary, consistent with sound banking practices, to liquidate any trading position held in mortgage participation certificates issued by such entities as the Government National Mortgage Association, Federal National Mortgage Association, and Federal Home Loan Mortgage Corporation.
   8. The Bank shall, on request of either the Regional Director or the Commissioner, furnish written progress reports to the Regional Director and the Commissioner setting forth in detail the form and manner of any action taken to secure compliance with this ORDER and the results thereof. All progress reports and other written responses to this ORDER shall be reviewed by the board of directors of the Bank and made a part of the minutes of the board meeting.
   9. While this ORDER is in effect, the Bank shall give written notice to the Regional Director at such time as five percent of the Bank's total deposits are funded by third party agents or nominees for depositors, including deposits managed by a trustee or custodian when each individual beneficial interest is entitled to or asserts a right to Federal deposit insurance ("brokered deposits"). The notification should indicate how the brokered deposits are to be utilized with specific reference to credit quality of investments/loans and the effect on the Bank's funds position and asset/liability matching. The Regional Director shall have the right to object to the Bank's plans for utilizing brokered deposits. So long as the level of brokered deposits equals or exceeds five percent of the Bank's total deposits, the Bank shall provide on the first Monday of each month a written report to the Regional Director detailing the level, source, and use of brokered deposits.
   10. This ORDER shall become effective thirty (30) days from the date of its issuance.
   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.
   The provisions of this ORDER shall remain effective and enforceable except to the extend that, and until such time as, any provisions of this ORDER shall have been modified, terminated, suspended, or set aside by the FDIC.
   By direction of the Board of Directors of the Federal Deposit Insurance Corporation.
   Dated this 6th day of May, 1985, at Washington, D.C.
/s/ Hoyle L. Robinson
Executive Secretary
FDIC NO. 83-254(b)

RECOMMENDED DECISION, FINDINGS OF FACT AND CONCLUSIONS OF LAW

   On December 5, 1983, the Federal Deposit Insurance Corporation, hereinafter referred to as "FDIC," issued a Notice of Charges and Hearing against the respondent, * * * Bank of * * *, hereinafter referred to as "Bank." The Notice of Charges and Hearing sought an order under the provisions of 8(b)(1) of the Federal Deposit Insurance Act, 12 U.S.C. Sec. 1818(b)(1). This Notice was issued under the provisions of the above Act, 12 U.S.C. Sec. 1811-1831(d), and the FDIC's Rules of Practice and Procedure, 12 C.F.R., Part 308.
   The Bank, a corporation existing and doing business under the laws of the State of * * * and having its principal place of business in * * *, is and has been, at all times pertinent hereto, an insured State nonmember bank. The Bank is subject to the Act, the Rules and Regulations of the FDIC and the Laws of the State of * * *. The FDIC has jurisdiction over the Bank and the subject matter of this proceeding.
   The Notice charged that the Bank and its Board of Directors engaged in specified unsafe or unsound practices within the meaning of Section 8(b)(1) of the Act in conducting the business of the Bank. The Notice also called for a hearing to take evidence on the charges alleged and to determine whether an order to cease and desist should be issued requiring the Bank to cease and desist from the specified unsafe or unsound practices and requiring the Bank to take affirmative action to correct the conditions resulting from such practices. The Bank, rather than consent to the issuances of such an order, filed its answer on December 28, {{4-1-90 p.A-430}}1983, admitting certain allegations in the Notice; denying others; and alleging that certain allegations, though admitted, had been or were being corrected. The Bank prays that the relief sought by the FDIC be denied and that no cease and desist order be entered. A hearing began on July 10, 1984, in * * *, before the undersigned Administrative Law Judge. The hearing was concluded on July 16, 1984, in * * *. The record remained opened at the request of the Bank for the purpose of obtaining a deposition. The deposition was received on October 10, 1984, at which time the record was ordered closed subject to the filing of briefs by both sides. Briefs were filed by both the FDIC and the Bank. The FDIC also submitted a reply brief which was received on December 6, 1984. The Administrative Law Judge hereby files, together with the entire record, his recommended decision, findings of fact and conclusions of law.

GENERAL

   The Administrative Law Judge feels that in order to put this matter and the issues in a proper perspective that a resume of the facts leading up to the filing of the Notice of Charges by the FDIC against the Bank is necessary. The evidence supports the following findings: * * *, is a small town of approximately 11,000 inhabitants located just north of * * *. The Bank has been doing business in * * * since June 20, 1899. The Bank is one of three banks located in the City of * * *. Sometime in 1980, a cease and desist order was issued against the Bank by the State Banking Commission of * * *. The basis for that order was not before this court. In December of 1981, a group headed by Mr. * * * acquired control of the Bank's parent holding company, * * *, hereinafter referred to as "Holding Company." The Holding Company owned over 90% of the Bank and as a result the * * * group took control of the Bank. * * * was made Chairman of the Bank's Board of Directors. Within a short time thereafter, the * * * Banking Commission lifted its cease and desist order. At this point in time, the Bank was in decent shape and was not considered a problem bank. Under the leadership of * * *, problems began to develop in 1982. Unsafe and unsound banking practices were being engaged in by * * * who dominated the entire operation of the Bank, its officers, employees, and Board of Directors. Among other things, * * * expended bank funds on unauthorized entertainment; ordered payment to himself of a substantial bonus without approval of the Bank's board; and made bank loans or ordered them made to individuals without adequate collateral or in some cases without any security or based on falsified financial statements and without any consideration or approval of the loan committee. The Bank's President, * * *, and the Board of Directors were unable to control Mr. * * *. The Bank was examined in May of 1982 by the * * * Banking Commission. The examination revealed, among other things, losses in excess of $350,000 which seriously affected the Bank's earnings and capital adequacy. This report was reviewed by Mr. * * *, Chief Bank Examiner for the FDIC. As a result, Mr. * * * was directed by the Regional Office of the FDIC to visit the Bank which he did in August of 1982. The results of that visitation by * * * are contained in Exhibit R-4. Differences between * * * and the other members of the Board of Directors had become so great that they could not be resolved. The board threatened to remove * * * who refused to resign and in turn threatened to sue the other board members. * * * offered to but them out and entered into a contract for that purpose in July of 1982. Examiner * * * met with the Board of Directors on August 20, 1982, to discuss possible criminal violations by * * *. Mr. * * * received no cooperation at the time from the board members since they were apparently more interested in being bought out by * * * and did not want to do anything which might jeopardize that buy-out. On September 23, 1982, the President, * * *, notified Mr. * * * that approximately $1,500,000 in loans would be processed out of the Bank to effectuate the buy-out by * * *. Mr. * * * wrote to the FDIC Regional Director, * * *, advising him of these facts on September 27, 1982. No action was taken by the FDIC at that time; however, an FDIC examination of the Bank was done on October 12, 1982. At that time, instead of $1,500,000 in loans being booked out of the Bank to effectuate * * * buy-out, it was determined that on September 22 and 23 of 1982 $2,500,000 had actually been taken out for that purpose. The problem caused by these insider loans was their lack of credit quality. In effect the Bank, through these unauthorized loans, had bought itself. According to Mr.

{{4-1-90 p.A-431}}
   * * *, this was the worst condition he had ever seen in a bank. In a November 1982 memorandum, the Regional Director of the FDIC pointed out among other things that the condition of the Bank was unsatisfactory and that * * * was responsible for the majority of the asset problems of the Bank and that there was little hope for improvement under his leadership. Also, at this time, it was found that * * * was overdrawn on his personal account with the Bank in the sum of $96,066.98. The director indicated that a Section 8(e) action would be initiated against * * *. A composite rating of 4 was assigned to the Bank at that time. On the basis of threatened FDIC action, * * * resigned as Chairman of the Board and as a Director of the Bank on December 16, 1982. On January 21, 1983, a full examination was conducted on the Bank by the FDIC. Mr. * * * was the chief examiner. He found that the abusive insider loans in September of 1982 had brought the Bank to the brink of insolvency due to their lack of credit quality. Violations of laws and regulations were also involved due to the extension of credit to the insiders. Mr. * * * considered the Bank's Board of Directors to be weak and ineffective. Loans classified loss at this examination totaled $1,662,000. A composite rating of 5 was assigned. This category is assigned to those banks with extremely high immediate or near-term probability of failure, which will likely require liquidation or some form of emergency assistance. A meeting was held in * * *, on February 22, 1983, at the request of * * * who continued to hold his interest in and position with the Holding Company. Mr. * * * made a proposed solution to the Bank's problems which was unacceptable to the FDIC. Termination of insurance under Section 8(a) was recommended to the FDIC's Board of Directors. On April 18, 1983 the FDIC found that the Bank was engaging in unsafe or unsound practices and was in an unsafe or unsound condition which condition unduly jeopardized the insurance risk of the FDIC. An order of correction was issued by the FDIC requiring the Bank to take certain corrective action within 60 days or lose its status as an insured bank pursuant to the provisions of Section 8(a) of the Act (Exhibit R-18). The order required the Bank to provide management acceptable to the FDIC including a qualified executive officer with the written authority and responsibility to implement and maintain lending, investment, and operating policies in accordance with sound banking practices; to increase the capital and reserves by $2,500,000; and to eliminate from its books all assets classified "loss" and 50% of those assets classified "doubtful" as shown in the January 21, 1983, examination.
   Discovering the serious financial condition of the Bank, the * * * Bank of * * *, which held a Holding Company loan in the amount of $1,600,000, called in its loan and began foreclosure proceedings on the Bank's stock which the Holding Company had put up as collateral. By agreement, this loan was taken over by Mr. * * *, a former owner of the Holding Company, by paying off the $1,600,000 loan to * * * Bank and taking over as collateral the Bank's stock. In addition, * * * loaned approximately $2,000,000 to the insiders in order that they pay off the $1,750,000 of loans classified as loss. In return, he secured their Holding Company stock as collateral. On June 24, 1983, a full examination of the Bank was conducted by the FDIC. Mr. * * * was again the chief examiner. The report of that examination is contained in Exhibit P-1. At this time the condition of the Bank had improved due to the removal of most of the insider loans and the sale of $240,000 in new capital. However, the Bank continued to have serious problems with an excessive volume of weak loans, insufficient capital, poor liquidity, reduced earnings and weak and ineffective management. Most of the law and regulation violations noted in the January 1983 examination had not been corrected. The Bank had also failed to increase its capital of $2,500,000 (had only been increased to $1,750,000) as required by the April 1983 corrective order. It had also violated that order by rebooking the insider loans which it had previously charged off in March 1983. It is noted that all of those insider loans were rebooked, with the exception of the * * * loan, were paid off prior to the completion of the June 1983 examination. Mr. * * * assigned the Bank a composite rating of 4 which indicated that the Bank had a high potential for failure though not imminent and was in need of close supervision together with a need for a definite plan for corrective action. It was recommended

{{4-1-90 p.A-432}}by the examiner that a cease and desist order under Section 8(b) was needed to expedite improvement. Regional Director of the FDIC, Mr. * * *, reported on August 29, 1983, that since the Bank's asset condition had improved sufficiently to remove any immediate risk of insolvency and to protect the depositors that a cease and desist order should be instituted in lieu of termination of insurance under Section 8(a). On September 16, 1983, the * * * State Banking Department requested the Bank to immediately inject capital in the amount of approximately $750,000 in order to bring its capital up to the $2,500,000 required by the FDIC correction order of April 1983. This was not done due to the continuing ownership dispute between * * * and the * * * group. Until that dispute was resolved, there was understandably no willingness to inject further capital. The ownership dispute was resolved in October 1983 when * * * gained control of the Holding Company and the Bank.
   On September 19, 1983, a visitation of the Bank was made by Mr. * * *. It was reported that the Bank had made some progress in improving its condition but that it still remained weak. Ownership and management was unstable and uncertain which continued to have a negative impact on the Bank. It was also noted that since the June 1983 examination the then President of the Bank, * * *, had, without approval of the investment committee or Board of Directors, speculated in certain mortgage participation certificates. This was considered too risky by Mr. * * * considering the condition of the Bank.
   Considering the above background of events, we arrive at the point where, on December 5, 1983, the FDIC issued its Notice of Charges and of Hearing against the Bank, based on its June 24, 1983, examination and September 16, 1983, visitation. Looking at the allegations contained in the Notice of Charges and the answer filed by the Bank, it appears that the Bank has admitted most of the charges made but, by way of defense, claims that since the examination of June 24, 1983, it has rectified or is in the process of rectifying those conditions under its new ownership and management. Because of these changes, the Bank claims that the issuance of a formal cease and desist order, at this time, would not only be inappropriate and unnecessary but would in fact be detrimental to the continued improvements in the Bank's condition and could very possibly be devastating to its continued existence. This would be penal in nature says the Bank. The FDIC takes the position that events subsequent to the June 1983 examination and September 1983 visitation are not relevant to these proceedings.

FINDINGS OF FACT

   Before addressing the issue of improvements, the court will first consider the Bank's claim that, in spite of those subsequent improvements, the results of the June 1983 examination and the September 1983 visitation do not justify the issuance of a cease and desist order.
   The Bank claims that the adequacy of capital depends upon the validity of the asset (loan) classification and that if the classifications assigned by bank examiners are erroneous it would affect the amount of capital which is considered adequate. The inference being that the classifications made by the examiner on June 24, 1983, are either erroneous or inaccurate because they were based on the subjective opinions of the examiners who have never worked for banks and have had no experience in making or collecting loans. It is further alleged that those subjective opinions may be clouded by knowledge of past data on the Bank. These can be no question that the process of loan classification is to a great extent subjective; however, it also depends on the experience and expertise of the examiner as well as the information or lack of information available to him at the time of the classification. Without going into the particular loans classified in the June 1983 examination, suffice it to say that as long as the evidence does not reveal an obvious mistake in error in those classifications, the court will not substitute its opinion for that of the examiners who, by their training and experience, are qualified to make such judgments. The Bank noted, and it is true, that most the classifications here are in the substandard category which the FDIC does not estimate any risk of loss to the Bank. However, such loans do have potential for some degree of loss and must therefore be considered in determining the adequacy of capital especially in a case involving a bank having lending and collection problems.
   The Bank also pointed out that, according to the testimony of the examiner, Mr. * * *, it is not uncommon to find some {{4-1-90 p.A-433}} unsafe or unsound lending practices in other banks being examined, such as loans without repayment plans, loans undersecured, and loans based on insufficient credit information. While this may be true, it does not mean that such practices are not unsafe or unsound. One must look at the overall condition of the bank in question and how it is being operated. Here we have a bank which, only five months previously, was found to be insolvent due in part to these types of practices. We also have a bank which had weak and ineffective management. Certainly, these practices in such a bank would be more serious than in a well-run bank.
   The Bank admitted that there had been violations of the regulatory laws by the then management but again pointed out that this was not an uncommon condition to find. Whether common or not, they are still violations which are serious and tend to further reflect on the quality of management or the lack thereof.
   In regard to liquidity, the Bank claims that because it has had a history of handling large amounts of public funds (volatile liabilities) that the high dependency ratio (22.67%) as reflected by the June 1983 examination would not be an unsafe or unsound practice for this Bank. It is true that the liquidity of a bank is not a problem except when there is a demand for monies occasioned by a deposit outflow. However, we have a bank here which, at the time, was in fact experiencing a large loss of core deposits which made its liquidity rates too low (26.61%) and would constitute an unsafe or unsound practice.
   The evidence, together with certain admissions by the Bank, supports the following findings of fact as they existed on June 24, 1983, and September 19, 1983.
   1. The Bank's total equity capital equaled $2,231,000. Its total capital and reserves equaled $2,234,000. The adjusted capital and reserves equaled $1,904,000. Adjusted total assets equaled $32,375.00. Total deposits equaled $29,047,000, and its total loans net of unearned income and loan loss reserve equaled $17,141,000.
   2. The Bank was engaging in banking practices that were unsafe or unsound within the meaning of Section 8(b)(1) of the Act in that it was operating with an excessive volume of poor quality assets in relation to its total equity capital and reserves.
   3. The Bank's management had engaged in hazardous lending and lax collection practices by extending credit without adequate security, by failing to enforce or establish programs for the repayment of loans, and by failing to require complete or current credit information.
   4. The Bank failed to provide adequate reserves for loan losses which resulted in an overstatement of the Bank's earnings and equity capital.
   5. The Bank was operating with an inadequate provision for liquidity and without due regard to its liquidity situation had improperly speculated on interest rates by trading in mortgage participation certificates insured by the Government National Mortgage Association and Federal Home Loan Mortgage Corporation.
   6. The Bank was being operated with an inadequate level of capital protection for the kind and quality of assets being held.
   7. The Bank had violated certain Federal and * * * laws and regulations in the following respects:
   (a) Extending credit to a business interest of the Chairman of the Board of the Bank in excess of 5% of the Bank's capital and unimpaired surplus without obtaining prior approval of the board as required by Section 337.3(b) of the FDIC's Rules and Regulations;
   (b) Extending credit to the principal stockholder of the Bank in excess of 5% of the Bank's capital and unimpaired surplus without obtaining the prior approval of the Board as required by Section 337.3(b) of the FDIC's Rules and Regulations;
   (c) Extending credit to a related interest of the Chairman of the Board of the Bank which involved more than the normal risk of repayment or presented other unfavorable features within the meaning of Section 215.4(2) of Regulation O of the Board of Governors of the Federal Reserve System;
   (d) Extending credit to the principal stockholder of the Bank which involved more than the normal risk of repayment or presented other unfavorable features within the meaning of Section 215.4(a) of Regulation O of the Board of Governors of the Federal Reserve System;

{{4-1-90 p.A-434}}
   (e) Extending credit to the principal stockholder of the Bank which exceeded the lending limits of Section 215.4(c) of Regulation O;
   (f) Extending credit to one * * * which exceeded the lending limits of Section 9-1104 of the * * * statutes.
   8. The Bank's Board of Directors failed to provide adequate supervision over the Bank's officials to prevent the above-described unsafe or unsound practices and violations of laws and regulations which was detrimental to the Bank and jeopardizes the safety of its depositors.
   Based upon the above findings, the court is of the opinion that the issuance of a cease and desist order under Section 8(b) of the Act would be appropriate based on the situation as it existed in June and September of 1983. However, the Bank, by its answer to the charges, has injected an additional defense which is that, subsequent to the examination of June 1983 and the September 1983 visit, the Holding Company was acquired by Mr. * * *, a creditor of the former shareholder of the Holding Company, and that as a result a substantial number of the practices charged have been rectified while the others are being corrected under new management. The Bank concludes that the issuance of a cease and desist order would not at this time be appropriate or necessary and would be penal in nature. The FDIC takes the position that cessation of the unsafe and unsound practices is not a defense to these proceedings and is irrelevant to the issues. At the hearing, the FDIC objected to the introduction by the Bank of evidence concerning matters occurring subsequent to June and September of 1983. The court deferred its ruling on the objection at the time of the hearing and allowed the Bank to go forward with that evidence.

CONCLUSION OF LAW

   The court agrees with the FDIC that a cease and desist order may be issued against a bank which "is engaging or has engaged" in unsafe or unsound practices and that Section 8(b) encompasses both unsafe and unsound practices which are going on at the time of the issuance of the order and those that have already occurred which indicates that the unsafe or unsound practices need not be occurring at the time such an order is issued. It is also true that the FDIC has broad discretion to determine if a cease and desist order is needed to prevent resumption of continuation of such practices. However, that discretion should be confined within the bounds of reasonableness. See Fairyfoot Products Company v. F.T.C., 80 Fed. 2d 684. Also, in Eugene Dietzen Company v. F.T.C., 142 Fed. 2d 321, the court stated:

       "...that the propriety of an order to cease and desist must depend on all the facts which include the attitude of respondent towards the proceedings, the sincerity of its practices and professions of desire to respect the law in the future and all other facts." (emphasis added)
   In Marlene's, Inc. v. F.T.C., 214 Fed. 2d 556, page 559, the Federal Trade Commission in its opinion said:
       "Whether or not the Commission will enter an order in a proceeding where the complained of practices have been discontinued is a matter within the discretion of the Commission and in the exercise of that discretion the Commission must necessarily consider, among other things, whether there is a likelihood that the practice may be resumed..."

   [.3] The court finds that evidence of events and conditions subsequent to September 1983, the intent of the Bank for the future, and the likelihood of resumption of unsafe or unsound practices are matters which are relevant to the issue of reasonableness and are therefore admissible. The FDIC's objection to such evidence is overruled and the same will be considered by the court.

ADDITIONAL FINDINGS OF FACT

   The FDIC, in order to rebut the Bank's evidence of improvements subsequent to the June 1983 examination, introduced into evidence a report of an examination of the Bank by the State Banking Department on May 18, 1984 (Exhibit P-15). This examination was done by state banking examiner * * *. Improvements were noted in certain areas such as loans and management; however, the composite rating assigned to the Bank by Mr. * * * remained a 4 indicating a need for formal supervision. In this regard, it is interesting to note that the minutes of a meeting held on June 1, 1984, between Mr. * * * and the Bank's Board of Directors reflects Mr. * * * advised the board that due to the improved condition of the Bank that he was going to assign a composite rating of 3 (Exhibit R-49). In his {{4-1-90 p.A-435}}deposition, Mr. * * * testified that there had been some improvement made but he could not recall telling the board that he was going to give them a 3 rating. He further stated that he didn't think that the Secretary of the Board, Mr. * * * would have signed these minutes if they were not correct.
   In order to affect Mr. * * * credibility, it was brought out in his deposition that he had used his influence as a bank examiner back in 1982 to assist his present girlfriend in obtaining a $2,000 loan at the Bank which was obviously a bad loan that should not have been made. On default of that loan, suit was brought, a judgment obtained, and execution issued against the lady. This was certainly improper conduct on the part of Mr. * * * and presented a definite conflict of interest. Even though he denied that this had any affect on his examination of the Bank it does, in the court's opinion, tend to taint not only his testimony but the examination itself. It is obvious from reading his deposition that he was evasive in answering questions and there was an underlying sense of animosity on his part against * * *. This was apparent in reading Mr. * * * 's remarks in the confidential section of the examination report where he stated that * * * is known to have financial problems and has recently been denied credit by several institutions. When confronted with these remarks, he was unable to provide facts to substantiate them and in effect admitted that they were based on his assumptions and feelings. All in all, the court is unable to give much weight if any to either Mr. * * * testimony or his examination of the Bank in May of 1984.
   The court finds from the evidence that the following facts and circumstances have occurred since the June 1983 examination and September 1983 visit by the FDIC:
   1. Ownership of the Holding Company and the Bank was acquired by * * * in October 1983 and that he continues to retain such ownership.
   2. The management of the Bank also changed in October 1983 with the employment of Mr. * * * as Chief Executive Officer and Chairman and Mr. * * * as Chief Operating Officer and President of the Bank.
   3. Even prior to the June 1983 examination, the condition of the Bank had improved to the point that the FDIC had recommended that a cease and desist order be substituted for the Section 8(a) proceeding to terminate the Bank's insured status. This improvement came about as a result of action taken by the present owner, * * *. That action was the taking over of the $1,600,000 loan of the * * * Bank and injecting approximately $2,000,000 to reduce certain insider loan losses. As a result, capital was increased approximately $1,750,000 which was $750,000 short of the $2,500,000 order by the FDIC in April 1983.
   4. On December 28, 1983, following his acquisition of the Bank, * * * injected an additional capital amount of $240,000 which further improved the condition of the Bank. He has also agreed to increase the capital, in installments, by another $480,000 in order to reach the $2,500,000 called for by the FDIC.
   5. Assets have been improved through an improvement in the Bank's classified assets (loans). All classifications have, according to the Bank's evidence, been reduced from $2,413,000 in June of 1983 to $1,306,000 as of July 1984. During the same period, loans classified "loss" were reduced from $324,000 to $16,000. "Doubtful" loans did increase from $72,000 to $156,000 mainly due to the reclassification of the * * * loan. Substandard loans were reduced from $2,017,000 to $1,134,000. Further improvement in assets has resulted because of a declining loan-to-deposit ratio, an increase in the reserve for loan losses and a low delinquency rate on installment loans.
   6. There has been improvement of the Bank's lending and collection practices due to a more efficient and independent loan committee.
   7. Earnings have improved by some 27% for the first five (5) months of 1984 over the same period in 1983. A further benefit to earnings will result because of the Bank's tax loss carryover.
   8. Liquidity has improved since June 1983 when it was 26% and as of June 1984 it was 39%. This appears to be the result of improved management efforts in establishing an investment committee and investment policy. The Bank's public image and customer confidence has improved through management effort which accounts in part for the regaining of core deposits of about {{4-1-90 p.A-436}}$2,000,000. Liquidity has further been improved due to a lowering of the loan-to-deposit ratio.
   9. Also, there have been no further violations of the laws or regulations under the present ownership and management.
   10. There has been improvement under the new management of the Bank but whether or not that management will be acceptable to the FDIC depends on whether the condition of the Bank improves sufficiently under its guidance. This necessarily can only be determined by a further examination. Both Mr. * * *, the new Chief Executive Officer, and Mr. * * *, the Chief Operating Officer and President, have considerable banking experience and appear to be well qualified for their respective positions with the Bank. Both are motivated to make the Bank a well-run and profitable institution.
   The court does not intend to infer from the above findings that all of the Bank's problems have been corrected and that there is no further need for some type of supervision. The question is in what manner should the Bank's operations and practices be supervised. Should it be done by formal action by way of a cease and desist order or would it be more appropriate and reasonable to do so in an informal way by entering into a memorandum of. understanding or an agreement as previously proposed by the Bank. In deciding this question, all facts must be considered and weighed in light of the purpose of these procedings. The ultimate purpose of course is to protect the FDIC Fund and the public. The purpose of the cease and desist order itself is to correct unsafe and unsound banking practices in institutions with serious financial problems which are not being satisfactorily addressed or resolved.

FURTHER CONCLUSIONS OF LAW

   Here we have a bank that has undergone considerable difficulties during the period December 1981 to June 1983 brought about by the unlawful acts and unethical conduct of the * * * group. In January of 1983, the Bank was for all practical purposes insolvent and on the verge of going under. Rumors within the community were running rampant, its public image was at an all-time low with a large outpour of deposits, its ownership was in dispute, and management was ineffective. * * *, although no longer on the Board of Directors, was still, by reason of his interests in the Holding Company, exerting considerable influence on the operation of the Bank. The President, * * * , though well meaning, did not have the experience or ability to effectively guide the Bank out of its troubled condition. Morale within the Bank was very low. Again, the only thing that kept the Bank from foreclosure was the efforts of * * *.
   On the other hand, since October of 1983, the Bank has come under the complete ownership of Mr. * * *, new management has been responsible for correcting many of the problems and appears to be moving forward in that direction, morale is good, and the Bank's image has improved also with public confidence.
   Considering these facts, what adverse effects, if any, could the issuance of a formal cease and desist order have at this time? First of all, these proceedings are confidential as is the order to cease and desist if issued. However, it is obvious from the evidence that as a practical matter public knowledge of such an order would become known. Even though the order would be based on events and conditions which existed back in 1982 and 1983 and which resulted under the previous management, it would be very unlikely that the general public would understand that fact, or even care. All they would probably know or care about is that the Bank is in trouble again nearly two years after the * * * Banking Commission had publicly announced that the Bank was in sound financial condition in June of 1983. They would further interpret such an order to mean that the present ownership and management was at fault. There can be no question that such an order would rekindle rumors and create adverse publicity. This, in turn, would undermine depositor confidence and more than likely result in even more of a decline in core deposits than were experienced before. This, of course, would adversely affect earnings and liquidity and further weaken the condition of the Bank. It could also affect the Bank in other respects such as hindering the retention or employment of qualified management personnel, making it more difficult to obtain capital through stock purchase, reducing morale of the officers and employees, and possibly put the Bank in a poor competitive position with the other banks in the community. These factors are even more pronounced and more likely to occur when dealing with a bank in a small rural community {{4-1-90 p.A-437}} such as * * * , than with a bank in a large metropolitan city.
   What benefits would result if a cease and desist order was issued? The obvious concern of the FDIC is not having a legally enforceable order so that money penalties or contempt orders could be instituted against the Bank and its management in the event that unsafe or unsound practices and/or violations of laws and regulations continue or resume under that management. The same is true if the Bank did not take the affirmative action required. Obviously, the mere expression on the part of the Bank to go and sin no more would not be a defense to the issuance of a cease and desist order, especially if it was by the same ownership and management. Here we are dealing with new ownership and new management. Even so, the FDIC has expressed its lack of confidence that the practices and violations will not reoccur in the absence of such an order. In this regard, it appears that one of the major underlying concerns of the FDIC is the present owner of the Bank, Mr. * * *. Mr. * * * had previously owned this bank when it was under a state cease and desist order back in 1980 which was released shortly after the * * * group took over in 1981. The FDIC is apparently afraid that under the ownership of * * * that unsafe and unsound practices and violation of laws and regulations might start up again. The record also contains statements questioning Mr. * * * financial condition, his being denied loans from other institutions, and speculation as to his motives in bailing out the Bank. These items were contained in the confidential portions of the examination reports which are not initially made available to a bank. Comments and observations of this nature, made by examiners, should not be made on suspicion or speculation but should be well supported by substantial evidence especially since the FDIC bears the burden of proof in these proceedings. The court fails to find any evidence, much less substantial evidence, to support these statements or opinions. No one of course can guarantee that such practices will not reoccur but the court fails to find evidence sufficient to convince it that such practices are more likely to reoccur under the ownership of * * * than anyone else other than possibly the * * * group. The FDIC is also concerned about the fact that Mr. * * * has indicated his intent and desire to clean up the Bank and sell it. If this is in fact true, it would seem to the court that that would be further motivation on his part to put the Bank in the best possible posture for such a sale since any reasonable prospective purchaser would be aware of the past problems and would not likely be interested in buying a problem bank. This is also some evidence that would have a positive bearing on the sincerity or desire expressed by Mr. * * * and the present management to continue to improve the Bank's condition and not to revert to unsafe and unsound practices or to violate the rules and regulations. The Bank's offer in January 1984 to enter into an agreement, which substantially contained the same conditions as sought by the FDIC, is considered as further evidence of the Bank's honest intent and purpose to conform. Here the Bank has done more than merely make statements with respect to its intent for the future; it has taken several positive steps to affirmatively show what its intent is.
   Other than having an order which could be enforced by penalties and contempt, the court can find no other benefit that would accrue to either the FDIC fund or the public by not issuing such an order since the Bank is admittedly not in danger of becoming insolvent.
   When one weighs the adverse effects of such an order, which will most likely happen, against the reasons why the FDIC needs and want one issued, sound judgment would dictate against it. The court is of the opinion that the Bank should be given the opportunity to continue with its improvements without the stigma of a formal order. Granted, the FDIC has broad discretion in determining if an order is needed, but that discretion as noted above must be confined within the bounds of reasonableness. Would it not be more reasonable, in light of all the facts, for the FDIC to enter into an informal type of agreement or memorandum of understanding which the Bank has agreed to do? If the Bank is properly monitored and if it fails to live up to such an agreement or reverts to further unsafe or unsound practices or violations of laws or regulations, it would be a simple matter to refile another Section 8(b) proceeding or, in the event of an emergency situation, to file a Section 8(c) action. To issue an order at {{4-1-90 p.A-438}}this time could in the opinion of the Court so adversely affect the Bank's condition that the very purpose of the order would be defeated.
   Therefore, it is the recommended decision of the court that a cease and desist order not be issued.
/s/ Ben F. Pyle
Administrative Law Judge
January 21, 1985

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