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   [5092] FDIC Docket No. FDIC-86-41b (8-4-87)
   An insured state nonmember bank was ordered to cease and desist from the following unsafe or unsound banking practices: operating with insufficient capital; failing to property reflect a sale and leaseback transaction on the bank's Call Reports; extending loans without adequate sources of repayment, with insufficient collateral, with inadequate documentation, and without adequate credit analyses; having an excessive volume of adversely classified assets, a large volume of overdue loans, and inadequate loan loss reserves; and extending credit to directors and principal shareholders of the bank in excess of the legal lending limit. (For further proceedings in this case, see [¶5096]).

   [.1] Capital—Adequacy—Unsafe or Unsound Practices
   Adjusted capital of 3.56% of adjusted assets is inadequate for a bank with significant loan or other problems when the minimum required capital for a bank that has no significant loan or other problems is 5.5% primary capital and 6.0% total capital.

   [.2] Call Reports—Amending Required
   A bank reported a $504,000 profit on the sale of a building in its March 31, 1985, Call Report. However, applicable accounting principles require that the profit from a sale and leaseback be spread over time. Consequently, the bank's Call Reports from March 31, 1985, forward should reflect recognition of only a limited portion of the $504,000 reported profit. The bank must amend its Call Reports from March 31, 1985 forward to accurately reflect this transaction.

   [.3] Lending and Collection Policy and Procedures—Unsafe or Unsound Practices
   Hazardous lending practices include extending credit without prior adequate credit analysis, without first obtaining proper documentation, and without determining that there were adequate sources of repayment or that loans were adequately secured.

   [.4] Assets—Unsafe or Unsound Practices
   A bank was operating in an unsafe or unsound manner when adversely classified assets were 225.2% of a bank's adjusted capital and reserves, 9.3% of a bank's loans were overdue, and the loan loss reserve totaled $220,000, while assets classified "Loss" plus half of "Doubtful" totaled $617,000.

   [.5] Management—Adequacy
   Management is inadequate when a bank made loans to directors prior to approval by the board of directors, extended credit in amounts that exceeded the legal lending limit, made a low quality and inadequately secured extension of credit involving affiliates of the bank, and failed to maintain on the bank's records required information concerning related interests of the bank's executive officers, directors, and principal shareholders, and of the bank's loans thereto.

   [.6] Cease and Desist Orders—Cessation of Violation No Defense
   Assuming that a bank had effected all needed corrective measures during the pendency of a proceeding, that would not eliminate the need for a corrective order. Without a cease and desist order, the FDIC has no valid assurance that if the bank were free of the FDIC's restraint, it would not continue its former course.

{{4-1-90 p.A-1132}}
In the Matter of * * * Bank (INSURED
STATE NONMEMBER BANK)


DECISION
FDIC-86-41b

I. STATEMENT OF THE CASE

   This proceeding arises under Section 8(b) of the Federal Deposit Insurance Act (the "Act") (12 U.S.C. § 1818(b)). On February 12, 1986, the Board of Review of the Federal Deposit Insurance Corporation (the "FDIC") issued a written Notice of Charges and of Hearing ("Notice") against * * * ("Bank"), pursuant to Section 8(b) of the Act and the FDIC's Rules of Practice and Procedures (12 CFR Part 308). The Notice charged the Bank with having engaged in unsafe or unsound banking practices and violating laws, rules and regulations. The Notice alleged that as of a June 21, 1985, Examination: (A) the Bank was operating with insufficient capital in that the Bank's adjusted equity capital and reserves equaled only 3.56 percent of the Bank's adjusted total assets; (B) the Bank had failed to properly reflect a sale and leaseback transaction involving the Bank's * * * Branch building as of the Bank's March 31, 1985, Consolidated Report of Condition and Income; (C) hazardous lending practices were present in that the Bank had extended loans without adequate sources of repayment, with insufficient collateral, with inadequate documentation and without adequate credit analysis; and (D) the Bank had an excessive volume of adversely classified assets, had a large volume of overdue loans and had inadequate loan valuation reserves. The Notice also charged that (E) the Bank had extended credit to certain directors and principal shareholders of the Bank in excess of lending limits imposed by section 23A of the Federal Reserve Act (12 U.S.C. §371c) and Regulation O (12 CFR 215.4(a) and 215.4(b)), and the Bank had violated certain other laws.
   The Notice sought an order under Section 8(b)(1) of the Act requiring the Bank to cease and desist from these unsafe or unsound banking practices, to take certain corrective actions and to institute controls to prevent future recurrences.
   Prior to the hearing, the Bank sought permission to bring two interlocutory appeals to the FDIC's Board of Directors ("Board"). The first petition sought immediate review of the administrative law judge's ("ALJ") ruling that the evidence at trial would be restricted to events occuring on or before the June 21, 1985, examination date. Interlocutory appeals are generally disfavored, and the Board declined to hear the appeal.1
   The Bank's second request for permission to bring an interlocutory appeal requested that the hearing be postponed. In support of this request for postponement, the Bank argued that there was an impending merger. The Board, again, declined to hear the Bank's interlocutory appeal.
   The matter was tried before Administrative Law Judge William L. Shraberg on December 2-5, 1986. The parties' proposed findings of fact and related papers were filed in February of 1987. On April 6, 1987, the Bank made a third attempt to bring this matter before the Board prior to a decision on the merits. This third interlocutory filing requested judgment in the Bank's favor on the ground that the ALJ's recommended decision had not been filed within 45 days after counsel for the parties filed their proposed findings.2 This third petition was procedurally deficient and was denied on those grounds. The ALJ's Recommended Decision was filed on April 10, 1987.
   On April 30, 1987, the Bank filed what it styled as a memorandum of appeal to the Board ("Exceptions"). We treat this memorandum as the Bank's exceptions under 12 CFR 308.14, and the Bank's material exceptions are discussed below. The Bank's Exceptions, without further explanation, requested oral argument before the Board (Exceptions at cover page). Oral argument is rarely granted, and the Board finds no reason to conclude that oral argument is needed or required in this case. Consequently, the request for oral argument is hereby denied (See 12 CFR 308.17).
   Based upon its own review of the record, the Board concludes that the ALJ's Recommended Decision was correct in all material respects. However, rather than adopting the ALJ's Recommended Decision with the required, limited modifications, and dealing separately with the Bank's Exceptions, the Board has written its own brief Decision


1 This question, as such, was not pressed in the Bank's exceptions. In any event, the subject evidentiary cutoff was appropriate. See Bank of Dixie v. FDIC, 776 F.2d 175 (5th Cir. 1985).

2 The FDIC's Deputy Executive Secretary, acting under the provisions of 12 CFR 308.13(b), subsequently granted an extension of time for the ALJ's filing of his recommended decision. That extension mooted this question.
{{4-1-90 p.A-1133}}and adopts the detailed Findings of Fact and Conclusions of Law ("Findings") that are attached as Appendix A to this Decision.

II. DECISION

   The Bank's Exceptions concede that

       [w]ith the exception of some relatively minor errors of fact, the Directors agree with all of the facts which are alleged in the complaint and upon which facts is sought the Cease and Desist Order.
Exceptions at 1. Using the five general topics noted above, we capsulize here the Board's conclusions based on the largely undisputed facts of this case. As will appear, the evidence in the record establishes that the * * * , was being operated in an unsafe or unsound manner as of the FDIC's June 21, 1985, Examination of the Bank.

A. The Bank Was Inadequately
Capitalized

   [.1] The evidence shows that the Bank's adjusted capital was an inadequate 3.56% of adjusted assets (Findings 17-18) while the minimum required capital for a bank which—unlike this Bank—has no significant loan or other problems is 5.5% primary capital and 6.0% total capital. 12 CFR 325.3(b). Further, a bank with the asset quality, and other problems found here needs far more than that minimum level of capital. This greater need for capital provides the basis for the capital requirements found in the accompanying Order.

B. The Bank Improperly Accounted for the
Sale and Leaseback of the * * * Branch
Building

   [.2] Prior to March 1, 1985, the Bank's book value of its Branch building was $96,000. On that date the Bank sold the building to a limited partnership controlled by the Bank's two principal stockholders,3 both of whom are also directors of the Bank. Several other Bank directors are limited partners in this venture. When the partnership bought the building, it paid $60,000 down and borrowed the remainder of the $600,000 sale price under a non-recourse mortgage from a wholly-owned subsidiary of the Bank. The partnership then leased the building back to the Bank on a net lease that required a rental payment sufficient to cover the monthly payments due to the Bank's subsidiary on the $540,000 loan. The Bank reported a $504,000 profit on that sale in its March 31, 1985, Consolidated Report of Condition and Income. This had the effect of sharply increasing Bank's reported capital. However, applicable accounting principles require that the profit from a sale and leaseback of this type be spread over time.4 Consequently, the Bank's Consolidated Reports of Condition and Income from March 31, 1985, forward should reflect recognition of only a limited portion of the $504,000 reported profit. Accordingly, the Order requires the Bank to amend its call reports from March 31, 1985, forward to accurately reflect this transaction.

C. The Bank Engaged in Hazardous
Lending Practices

   [.3] As set forth in Findings 65–66, the Bank engaged in hazardous lending practices including extending credit without prior adequate credit analysis, without first obtaining proper documentation, and without determining that there were adequate sources of repayment and/or that loans were adequately secured.5 For example, the Bank extended credit totaling $144,137 to * * * without having current financial information on file when the credit was extended. Available information now indicates that the business has a negative net worth, has overdrawn bank accounts, and made a profit of only $10,000 on sales of almost $1 million. Finally, most of the security for this credit consists of third and fourth mortgages on the guarantor's home. These unsafe or unsound banking practices require correction.


3 These two directors' ownership of the Bank is indirect in that they own 72% of the stock of the holding company that owns 100% of the Bank's stocks (Finding 34).

4 Findings of Fact 19-64 set this matter forth in detail.

5 The Bank takes exception to the conclusion that there was not adequate financial information present when the Bank purchased a loan participation in * * * from the Bank of * * *. Based on the evidence in the record, we conclude that this exception is not well founded, and that adequate financial information concerning the borrower was not obtained by the Bank prior to its purchase of this loan participation. See Finding 65(a)(i).
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D. The Bank Had Excessive Adversely
Classified Assets and Inadequate Reserves

   [.4] The Bank's adversely classified assets were 225.2% of Bank's adjusted capital and reserves. An excessive 9.3% of the Bank's loans were overdue. The Bank's loan valuation reserve as of June 21, 1985, was $220,000, while assets classified "Loss" plus half of "Doubtful" totaled $617,000. Those adversely classified assets, which should be written off, were greatly in excess of the Bank's reserves. These facts, including the facts set forth in Findings 67-73, demonstrate that the Bank was operating in an unsafe or unsound manner that requires correction.6

E. There Were Violations of Law

   The Bank argues that the directors had not violated Regulation O because, according to the Bank, prior approval was given by the board of directors of the Bank for certain loans and because certain loan guarantees executed by directors of the Bank were not extensions of credit within the meaning of Regulation O.

   [.5] Based on the evidence in the record, we find that the Bank violated Regulation O in that certain loans to Directors * * * , * * * , * * * and * * * were made prior to the board of directors approval required by 12 CFR 215.4(b). The Bank also extended credit, including the guarantees by members of the board of directors of certain loans, in amounts that exceeded the applicable State lending limit (* * * Revised Statutes Section 6.415A). Findings 76-83 set these matters out in more detail. Additionally, the Bank made a low quality and inadequately secured extension of credit involving affiliates of the Bank in violation of 12 U.S.C. 371c(b)(10)(A), (c)(1)(6) (Findings 84-85), and failed to maintain on the Bank's records required information concerning related interests of the Bank's executive officers, directors and principal shareholders, and of the Bank's loans thereto, in violation of the requirements of 12 U.S.C. 375(b) and 12 CFR 215.7 (Finding 86).
   On the question of whether certain directors' guarantees of the Bank's loan to a third-party were extensions of credit to those directors within the meaning of Regulation O, the ALJ reasoned as follows:

       The respondent has contended that certain extensions of credit to certain of its directors and major shareholders should not be considered for purposes of computing the extensions of credit to such persons as of the date of the afore-mentioned examination. The applicable regulation dealing with this issue can be found at 12 CFR Section 215.3(b)(4). This provision, inter alia, exempts from the computation of "extensions of credit" "any indebtedness to a bank for the purpose of protecting the bank against loss or of giving financial assistance to it." The petitioner construes this portion of this provision narrowly, arguing in substance that directors such as Messrs. * * * , * * * , * * * and * * * would not have extended their guaranties unless they believed that the loan in question was substandard or unsound. It is true that the directors' belief as to the soundness of the loan does have a bearing on the credibility of the directors' contention that the guaranty was intended to protect the lending institution as opposed to influencing the institution to grant the credit extension. The petitioner has aptly shown that Mr. * * * never believed that the loan was doubtful. These are not, however, the sole criteria to be considered in evaluating Mr. * * *'s credibility. The Administrative Law Judge concludes that the four individuals in question executed the guaranties in substance to benefit the [Bank] as opposed to benefiting themselves. It thus follows that these individuals were not extended credit in excess of the prescribed amounts. This rationale, however, would not apply to the charged violations under state law.
   ALJ's Recommended Decision at 2-3. We view this as a close question. We accept the ALJ's view on the credibility of the witnesses on this matter. Consequently, we find as a matter of fact that the guarantees in question were to benefit the Bank, and, therefore, were not extensions of credit within the meaning of 12 CFR 215.3(b)(4). This conclusion in no way dilutes the seriousness of the violations of law discussed above and in Findings 76-86.
   Based largely, but not wholly, on the foregoing unsafe or unsound practices and violations, we conclude that the Bank's management was inadequate (see also Findings

6 The Bank also operated without an adequate liquidity policy (Findings 74-75).
{{4-1-90 p.A-1135}}9-13). This problem, if not already corrected, requires immediate correction.
   Finally, much of the Bank's Exceptions is devoted to arguments that no order to cease and desist should be issued because (1) in the Bank's view, it has ended the practices that caused the Bank's problems, and (2) the Bank hopes to consummate a merger (for which the Exceptions state an application was filed on October 3, 1986) or propose a "capital forbearance" plan as an alternative to merging.7

   [.6] Assuming arguendo that the Bank had effected all needed corrective measures during the pendency of this proceeding, that would still not eliminate the need for a corrective order. Without a cease and desist order, the FDIC has "no valid assurance that if the Bank were free of the FDIC's restraint it would not continue its former course." Bank of Dixie v. FDIC, 766 F.2d 175, 178 (5th Cir. 1985) citing Zale Corp. v. FTC, 473 F.2d 1317, 1320 (5th Cir. 1973); see also First National Bank v. Comptroller, 697 F.2d 674, 683 (5th Cir. 1983). Further, in this case the Bank concedes that its capital problem has not been solved. Indeed, according to the Exceptions, the Bank's capital deficiency has worsened since June, 1985. In short, a corrective Order is both appropriate and necessary.8
   The Bank's hopes or plans for a merger do not change the reality that the Bank has serious problems that require immediate correction.9 Similarly, if the Bank qualifies for, and makes an appropriate application for inclusion in, the capital forbearance program, that application can be considered on its merits.10 That the Bank might seek inclusion in the capital forbearance program in no way alters the fact that the Bank's capital is grossly inadequate, and that this problem requires immediate correction.

III. CONCLUSION

   The Bank has engaged in numerous unsafe or unsound banking practices and violations of law. The overall condition of the Bank placed the depositors and the FDIC at substantial risk. To address these problems the Board issues the accompanying Order. That Order generally tracks the order recommended by the ALJ, but incorporates a limited number of changes, the bulk of which are technical or clarifying in nature.
   By direction of the Board of Directors.
   Dated at Washington, D.C., this 4th day of August, 1987.
/s/ Hoyle L. Robinson
Executive Secretary

APPENDIX A
FINDINGS OF FACT AND
CONCLUSIONS OF LAW
1
   1. * * * ("Bank"), a corporation existing and doing business under the laws of the State of * * * and having its principal place of business at * * * is and has been, at all time pertinent to this proceeding, an insured State nonmember bank. The Bank is subject to the Federal Deposit Insurance Act (the "Act") (12 U.S.C. § 1811-1831d), the FDIC Rules and Regulations (12 CFR Chapter III), and the laws of the State of * * *. The FDIC has jurisdiction over the Bank, persons participating in the conduct of the affairs of the Bank, and the subject matter of this proceeding. (Admitted in Answer.)
   2. * * * was examined by the FDIC as of the close of business June 21, 1985, by a group of six FDIC examiners under the direction of Examiner-in-Charge ("EIC") * * * (Tr. at 54; FDIC Ex. 1 at 52.)
   3. EIC * * * was recognized by the ALJ as an expert witness. (Tr. at 74).
   4. The examination of * * * was conducted in accordance with published exami-


7 The Bank's Exceptions also argue that an order to cease and desist should not be entered because if the Bank fails to comply with the order, a proceeding might be brought to impose civil money penalties on the directors under 12 U.S.C. § 1818(i). Exceptions at 3. This argument, that a cease and desist order should not be entered because action might be taken if the order is not obeyed, is specious.

8 To the extent that corrective measures called for in the Order have already been accomplished, compliance with the Order will impose little or no burden (see, e.g., the provisions of pars. 6 and 9 of the Order).

9 In this regard, we note that the FDIC has discretion to modify, or terminate, the Order if a merger meeting applicable standards, including providing adequate capital and controls, is consummated.

10 Under the FDIC's Amended Capital Forbearance Guidelines (BL-24-87, July 9, 1987,) existing administrative actions against banks generally remain in effect; however, banks that apply for capital forbearance may request a modification or termination of administrative proceedings.

1 In order to make clear the connection between the findings of fact and related conclusions of law, this Appendix A integrates the findings and conclusions.
{{4-1-90 p.A-1136}}nation instructions, guidelines, standards and criteria. (Tr. at 55-56.)
   5. As a routine part of their examination duties, FDIC bank examiners necessarily are called upon to identify and report unsafe and unsound banking practices, assess risks to the FDIC insurance fund, and recommend corrective action. (Tr. at 53.)
   6. On August 14, 1985, a meeting between the * * * board of directors, FDIC officials and a representative of the Office of Financial Institutions of the State of * * * was held at the Bank to discuss the June 21, 1985, Report of Examination. (Tr. at 212-213; FDIC Ex. 1 at 5.)
   7. On February 12, 1986, the FDIC issued a Notice of Charges and of Hearing pursuant to 12 U.S.C. § 1818(b) against * * *.
   8. At all times pertinent to the charges herein, * * * , * * * , * * * , * * * , * * * , * * * , * * * , * * * and * * * have been members of the Bank's board of directors. (Admitted in Answer except as to former Director * * *.)
   9. The board of directors of the Bank has the responsibility to supervise the active officers of the Bank. (Tr. at 119–120; FDIC Ex. 1 at 1.)
   10. As of June 21, 1985, the board of directors of the Bank failed to adequately supervise and direct the active officers of the Bank, particularly the activities of former President and Chief Executive Officer * * *. (Tr. at 539-542.)
   11. As of June 21, 1985, the Bank was being operated with management whose policies and practices were detrimental to the Bank's shareholders and depositors. (Tr. at 119–121; FDIC Ex. 1 at 1, 53-54.)
   12. The evaluation of a Bank's Management is predicated, in part, upon the conclusions reached with respect to the four other principal areas of a bank examination —Capital, Assets, Earnings and Liquidity. (Tr. at 118.)
   13. The Management of this Bank was considered unsatisfactory in part because the other four CAMEL factors were considered unsatisfactory. (Tr. at 118–121; FDIC Ex. 1.)

A. Bank's Capital

   14. As of June 21, 1985:

       (a) The Bank's total equity capital and reserves equaled $1,750,000;
       (b) The Bank's adjusted equity capital and reserves equaled $1,015,000;
       (c) The Bank's adjusted total assets equaled $28,499,000;
       (d) The Bank's total deposits equaled $26,610,000;
       (e) The Bank's total loans equaled $17,396,000; and
       (f) The Bank's gross loans equaled $18,216,000.
       (Subparagraphs (b) through (f) admitted in Answer.)
   15. The Bank has been operated with excessive loan losses, high overhead expenses and an excessive volume of nonearning assets. For example, overhead expenses to average assets for 1984 was an excessive 6.79 percent. (FDIC Ex. 1 at 8.)
   16. The Bank paid a cash dividend of $253,000 in 1984 although its reported net income was only $195,000. (Tr. at 116-117; FDIC Ex. 1 at 8-9.) This resulted in a $153,000 decrease in the Bank's reported equity capital during 1984.
   17. The Bank has engaged in unsafe or unsound banking practices in that the Bank is being operated with insufficient capital in relation to the kind and quality of assets held by the Bank. As of June 21, 1985, adjusted equity capital and reserves of $1,015,000 equaled 3.56 percent of adjusted total assets of $28,499,000. (Tr. at 232-233; FDIC, Ex. 1 at 7.)
   18. The Bank operated with less than the minimum required capital by maintaining an adjusted equity capital and reserves ratio to adjusted total assets of 3.56% as of June 21, 1985, in violation of Section 325.3(b) of the FDIC Rules & Regulations, 12 CFR 325.3(b). The minimum requirement is a 6% ratio of total capital to total assets. (Tr. at 155; FDIC Ex. 1 at 14.) Further, more than minimum capital is needed when, as here, the Bank has asset quality, and other, problems.

B. Accounting for the Sale and Leaseback

   19. Instructions (and glossary updates) for Preparation of Reports of Condition and Income ("call reports"), published by the Federal Financial Institutions Examination Council ("FFIEC"), are forwarded periodically to each insured state nonmember bank regulated by the FDIC, including this Bank. (Tr. at 304-305, 314-315.)
   20. The call report glossary instructions effective March 31, 1984, provided all in- {{4-1-90 p.A-1137}}sured state nonmember banks with guidance on the proper treatment for accounting purposes of any gain resulting from a sale and leaseback transaction. (Tr. at 314-316; FDIC Ex. 16.)
   21. Generally Accepted Accounting Principles ("GAAP") are relied upon as authoritative by the accounting profession. (Tr. at 278-279.)
   22. The Financial Accounting Standards Board ("FASB") is the private sector's rule-setting body for the accounting profession (Tr. at 279), and FASB's mission is to issue pronouncements and interpretations of what are generally accepted accounting principles. (Tr. at 279.)2
   23. The following statements adopted by FASB bear upon the proper treatment for accounting purposes of sale and leaseback transactions of the type involved in this case—FASB Statement No. 13 (FASB 13), adopted in 1976; FASB Statement No. 28 (FASB 28), adopted in 1979; and FASB Statement No. 66 (FASB 66), adopted in 1982. (Tr. at 280; FDIC Exs. 17A-17E.)
   24. FASB 13 concerns accounting for leases, FASB 28 addresses accounting for sale and leaseback transactions, and FASB 66 addresses when profit on a real estate transaction should be recognized. (Tr. at 296; FDIC Exs. 17A-17E.)
   25. The FDIC issued Bank Letter 19 dealing with sale and leaseback transactions to all state insured nonmember banks on May 23, 1985. (Tr. at 301-302; FDIC Ex. 15.)
   26. The concerns delineated in the May 23, 1985, Bank Letter did not change or modify an existing rule or regulation, nor was the May 23, 1985, Bank Letter a new rule, regulation or guideline.
   27. With respect to the general subject of accounting for sale and leaseback transactions, the March 31, 1984, call report glossary instructions did not change or modify an existing rule or regulation, nor did such instructions constitute a new rule, regulation or guideline. (Tr. at 315-316; FDIC Ex. 16.)
   28. The * * * , a * * * Partnership in Commendam, was formed solely to consummate the sale and leaseback of the Bank's * * * branch. (Tr. at 325, 453.)
   29. The Articles of Partnership of * * * Partnership, a * * * Partnership in Commendam, were executed and notarized on January 31, 1985. (FDIC Ex. 8.)
   30. Partnerships in Commendam, or Limited Partnerships, are governed by the provisions of * * * Civil Code, Title XI, Chapter 7, Articles 2836-2850. (* * *.-C.C. Art. 2836-2850.)
   31. Articles 2839, 2842 & 2846 of the * * * Civil Code indicate that a partner in Commendam is liable for the obligations of the partnership only to the extent of the agreed contribution, and that the partnership agreement must describe the contribution. (* * *.-C.C. Articles 2839, 2842 & 2846.)
   32. Article 2844 of the * * * Civil Code indicates that a partner in Commendam does not have the authority of a general partner to bind the partnership, to participate in the management or administration of the partnership, or to conduct any business with third parties on behalf of the partnership. (* * *.-C.C. Art. 2844.)
   33. The General Partners of the * * * Partnership are Messrs. * * * and * * *. The Limited Partners, or Partners in Commendam, of the * * * Partnership are Messrs. * * * , * * * , * * * , * * * , * * * , * * * , * * * , * * * , * * * , * * *, * * * and * * *. (Tr. at 162-163; FDIC Ex. 8.)
   34. Messrs. * * * and * * * own seventy-two percent (72%) of the outstanding stock of * * * , a one-bank holding company which owns 100% of the Bank's stock. (FDIC Ex. 1 at 52.)
   35. * * * executed a credit deed conveying the Bank's * * * branch building to * * * Partnership on March 1, 1985. This deed was filed March 15, 1985, with the Deputy Clerk and Ex-Officio Recorder of * * *. (Tr. at 156-158; FDIC Exs. 1 at 53, 7.)
   36. * * * financed the entirety of the note receivable which called for $540,000 repayable by the Partnership in 240 monthly installments of $5,211.12 each, after a $60,000 down payment, for a total purchase price of $600,000. As a wholly-owned subsidiary of the Bank, the financial statement of * * * is consolidated into the Bank's


2 See Financial Accounting Standards Board, Accounting Standards—Original Pronouncements, July 1973-June 1, 1984 (1984-85 ed.).
{{4-1-90 p.A-1138}}financial statement. (Tr. at 159-161; FDIC Exs. 1 at 53.)
   37. At the time of the sale, the book value of the Bank's * * * branch building was $96,000. (Tr. at 159; FDIC Ex. 1 at 53.)
   38. On June 26, 1985, * * * executed and filed a notarized Act of Correction with the Deputy Clerk and Ex-Officio Recorder of * * * , which changed the terms and order of repayment of the credit deed to $540,000 made payable in 12 monthly installments of $5,211.12 each with the first installment due April 1, 1985, and with the entire balance coming due on March 1, 1986. (FDIC Ex. 7.)
   39. On March 1, 1985, the * * * leased the * * * branch building back to the Bank for a period of one (1) year, until February 28, 1986. This lease was filed with the Deputy Clerk and Ex-Officio Recorder of * * * on March 15, 1985. According to the terms of the lease, the Bank was to pay a monthly rental of $6,200 and was to have the option of purchasing the property within 30 days of the expiration of the lease for a price of $600,000. (Tr. at 164-166; FDIC Ex. 9.)
   40. Messrs. * * * and * * * , the principal shareholders of the Bank, also control the management and administration of * * * , as general partners. (Tr. at 162-163; FDIC Ex. 8.)
   41. Messrs. * * * and * * * , general partners, and Messrs. * * * , * * * , * * * , * * * and * * * , as partners in Commendam of the * * * , are all members of the Bank's board of directors. (Tr. at 162-163; FDIC Exs. 1 at 5, 8.)
   42. The credit deed executed by * * * of * * * to the * * * conveying the * * * branch building purports to indemnify all general partners and partners in Commendam from any personal liability on the note. (FDIC Ex. 7.)
   43. The lease agreement between the Bank and * * * is a net lease whereby all incidental expenses, taxes, insurance, utilities and maintenance costs are to be paid by the lessee, the Bank. (FDIC Ex. 9.)
   44. * * * conveyed the entirety of the branch property to the * * * and the entirety of said property was leased back to the Bank for continued use as a branch. (Tr. at 319; FDIC Exs. 7, 9.)
   45. The Bank made no definite plans for moving from the * * * branch building at the end of the twelve month lease term. (Tr. at 265-266, 167-169, 461-462.)
   46. The down payment made by the * * * on the purchase of the * * * branch was $60,000 or ten percent (10%) of the purchase price of $600,000. (Tr. at 160, 318; FDIC Ex. 7.)
   47. FASB 13, ¶5, states that where two or more entities are subject to the significant influence of a parent, owner company, investor (including a natural person), or common officers or directors, those entities shall be considered related parties with respect to each other. (FDIC Ex. 17.)
   48. FASB 13, ¶29, states that leases between related parties should be accounted for in the same manner as would be the case in leases between unrelated parties, except where it is clear that the terms of the transaction have been significantly affected by the fact that the lessor and lessee are related. In such cases, this paragraph states that the classification and/or accounting shall be modified as necessary to recognize economic substance rather than legal form. (Tr. at 324.)
   49. FASB 13, ¶7 recites that if a lease meets one or more of the four criteria described therein, the lease shall be classified as a capital lease by the lessee. Otherwise, this paragraph states that the lease shall be classified as an operating lease. (Tr. at 323-324; FDIC Exs. 17A—17E.)
   50. FASB 13, ¶33 recites that in sale and leaseback transactions, if a capital lease, any profit or loss on the sale shall be deferred and amortized in proportion to the amortization of the leased asset. (FDIC Exs. 17A—17E.)
   51. FASB 28 was adopted to clarify questions concerning the accounting for sale and leaseback transactions, and provisions of this Statement operate to supersede paragraphs 32 and 33 of FASB 13. (FDIC Exs. 17A—17E.)
   52. According to FASB 28, ¶3, which supersedes ¶33 of FASB 13, if a capital lease, any profit or loss on the sale shall be deferred and amortized in proportion to the amortization of the leased asset, unless certain criteria are met. (FDIC Exs. 17A— 17E.)
   53. FASB 66, ¶5 states that profit on real estate sales transactions shall not be recognized by the full accrual method until all of four criteria contained therein are met. The fourth criterion which must be met is that {{4-1-90 p.A-1139}}the seller must have transferred to the buyer the usual risks and rewards of ownership in a transaction that is in substance a sale, and the seller must not have a substantial continuing involvement with the property. (FDIC Exs. 17A—17E.)
   54. FASB 66, ¶¶25-42 list forms of continuing involvement that result in retention of substantial risks or rewards by the seller. (FDIC Exs. 17A—17E.)
   55. FASB 66, ¶40 states that where the sale of property is accompanied by a leaseback to the seller of all or any part of the property for all or part of its remaining economic life, the transaction should be accounted for in accordance with the provisions of FASB 13 and FASB 28. (FDIC Exs. 17A—17E.)
   56. FASB 66, ¶¶53 and 54 establish minimum initial investment requirements for sales of different types of property. (FDIC Exs. 17A - 17E.)
   57. According to the table of minimum initial investments contained in FASB 66, ¶54, for single tenancy commercial or industrial property subject to a short-term lease sold to a buyer with a satisfactory credit rating, a minimum initial investment of fifteen percent (15%) of the sales value is required.3 (Tr. at 333-334; FDIC Exs. 17A —17E.)
   58. The relationship between the * * * , as lessor, and the Bank, as lessee, significantly affected the terms of the sale and leaseback transaction. (Tr. at 325-327; FDIC Exs. 7, 8, 9.)
   59. The lease agreement between the Bank and * * * was not considered a longterm lease at the date of its inception. (Tr. at 334; FDIC Exs. 9, 17A—17E.)
   60. The Bank could not properly account for the lease as an operating lease. (Tr. 323-324.)
   61. The lease was one between related parties (Tr. 324); the Partnership was formed solely to consummate this transaction and the relationship between the parties to the lease significantly affected the terms thereof (Tr. 325); the lease was not for a long-term rental (Tr. 334), and was a net lease wherein the seller-lessee retained substantial risks and rewards of continuing involvement (Tr. 328-329); and, inter alia, a minimum initial investment of at least 15% was required in order for the Bank to immediately capitalize the entirety of the reported profit resulting from the sale and leaseback. (Tr. 333.)
   62. Any profit resulting from the sale should be deferred and amortized in proportion to the amortization of the leased asset according to FASB 13 and FASB 28. (Tr. 323-326.)
   63. The Bank failed to properly reflect the branch building sale and leaseback transaction in the Bank's March 31, 1985, call report. (Tr. at 300-334; FDIC Exs. 1, 14, 15, 16, 17A-17E.)
   64. The Bank overstated its capital as of March 31, 1985, by immediately recognizing as profit the $504,000 difference between the book value of the * * * Branch office and the $600,000 price in the contract of sale. (FDIC Ex. 1.)

C. Lending Practices

   65. The Bank has engaged in unsafe or unsound practices in that the Bank has engaged in hazardous lending and lax collection practices as evidenced by the following:

       (a) The Bank has extended loans with inadequate sources of repayment:
         (i) The Bank extended credit to * * * by purchasing a $275,000 participation in a $1,860,000 note originated by the Bank of * * *. This note has been overdue since January 5, 1983, and all collateral has been liquidated. As of June 21, 1985, this debt was unsecured and the primary guarantor, * * * , has filed for protection under Chapter 11 of the Bankruptcy Code. This line was classified "Doubtful", $218,000 (Tr. at 75-76; FDIC Ex. 1 at 25);    (ii) The Bank extended credit to * * * , doing business as * * * , in a total amount of $291,000. This line consists of one note with the Bank's only collateral consisting of a mortgage on the mini-storage building, various machinery and equipment and a certificate of deposit totaling $19,265. The Bank extended this credit without having any financial information on file regarding this borrower, and this borrower's cash flow generated by the storage business is insufficient to liquidate the debt. This line was
      3 We need not reach the question of whether the * * * would qualify as a satisfactory credit risk under this provision, nor whether the fact that the seller (Bank's subsidiary) purports to indemnify the partners from any liability on the mortgage would affect the conclusion on that question.
      {{4-1-90 p.A-1140}}classified "Substandard" $250,000, and "Doubtful", $22,000 (FDIC Ex. 1 at 26);    (iii) The Bank extended credit to * * * in a total amount of $70,000, consisting of two lines with payments in arrears since April 23, 1985. The Bank's collateral consists of a junior lien on a duplex appraised at $50,000, a certificate of deposit totaling $11,000 and various machinery and equipment. This line was extended without the Bank having any current financial information on file, and the borrower's outdated financial statement of January 31, 1983, showed a highly leveraged financial position with a debt-to-worth ratio of 5 to 1. This line was classified "Substandard", $59,000 (Tr. at 81–82; FDIC Ex. 1 at 26); and    (iv) The Bank extended credit to * * * in a total amount of $144,137. The Bank's collateral consisted of a third and fourth lien on the guarantor's home and a 2.5 carat diamond valued at $26,000. The latest financial statement available was dated April 31, 1985 and reflected a deficit net worth of $50,900 and the latest operating statement from the company showed a net income of only $10,500 on net sales of $994,400. The business account, payroll account, and personal account of the guarantor were all overdrawn on the date of examination. This line was classified "Substandard", $134,000. (Tr. at 82; FDIC Ex. 1 at 26.)
       (b) The Bank has extended loans with insufficient collateral:
         (i) The * * * line as more fully set out in paragraph 65(a)(i) above was insufficiently collateralized;    (ii) The * * * line as more fully set out in paragraph 65(a)(ii) above was insufficiently collateralized;    (iii) The Bank extended credit to * * *, Jr., in a total amount of $370,000. Of that, $273,768 originated in 1980 with an original line of credit of $195,000 issued to build a mini-warehouse. This line was renewed several times since inception, and the Bank's only collateral consists of two mortgages totaling $230,000, which are not sufficient to cover the debt, leaving an exposure of $43,768 plus accrued interest of $28,350. The second line consists of a note in the amount of $66,896 which is secured by a junior lien on the borrower's home. This line was classified "Doubtful", $230,000, and "Loss", $111,000 (Tr. at 76, 497-507; FDIC Ex. 1 at 25); and    (iv) The Bank extended credit to * * * in a total amount of $97,000 for interim funds for construction of a house and the funds were diverted to * * * , Inc., an interest of * * * , Jr. A mortgage note was executed on August 2, 1984 for $104,000 in the name of * * * , Jr. The Bank, as of June 21, 1985, was in the process of foreclosing on the property and an appraisal of the property prepared for the Sheriff's sale indicated a value of $30,000 for the lot and $5,000 for the concrete slab. The amount of the appraised value was classified "Substandard", $35,000, and the remainder of the note was classified "Loss", $63,000. (Tr. at 85-87; FDIC Ex. 1 at 27.)
       (c) The Bank has extended loans with inadequate documentation and without adequate credit analysis:
         (i) The * * * line as more fully set out in paragraph 65(a)(iii) above was extended without the Bank having any current financial information on file; and    (ii) The * * * line as more fully set out in paragraph 65(a)(iv) above was extended without the Bank having any current financial information on file.
   66. The Bank engaged in an unsafe or unsound practice by renewing extensions of credit to * * * , * * * , * * * and * * * without the full collection of interest thereon, a condition which indicates the borrowers' inability to repay the loans. (Tr. at 85-87; FDIC Ex. 1 at 15.)

   D. Excessive Poor Quality Loans and Inadequate Reserves

   67. In the course of an examination of a bank, examines review and classify loans or other assets of the bank and assign loan classifications of "Substandard," "Doubtful" and "Loss." In general terms, "Substandard" loans are inadequately protected by current sound worth and paying capacity of the obligor or of the collateral pledged. Loans classified "Doubtful" have all of the weaknesses inherent in those classified "Substandard" with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently known facts, conditions and values, highly questionable and improbable. (Tr. at 61-62; FDIC Ex. 1 at 5.) Loans classified "Loss" are considered uncollectable and of such little value that their continuance as bankable assets is not warranted. This classification does not mean that the loan has absolutely no recovery or salvage value {{4-1-90 p.A-1141}}
but, rather, that it is not practical or desirable to defer writing off this basically worthless asset even though partial recovery may be effected in the future. (Tr. at 62.)
   68. As a result of the Bank's hazardous lending and lax collection practices, the Bank has an excessive volume of poor quality loans and other assets in relation to its total assets and in relation to its equity capital and reserves, as evidenced by the following:

       (a) The Bank has an excessive volume of overdue loans. As of June 21, 1985, 173 loans in the total amount of $1,686,000 and representing 9.3 percent of the Bank's gross loans were overdue. (Admitted in paragraph 4 of Answer; Tr. at 92; FDIC Ex. 1 at 2.) Of those, 84 loans totaling $1,069,000 were overdue more than 90 days (FDIC Ex. 1 at 2);
       (b) As of the date of examination, there were 67 loans on the Bank's books which were not accruing interest. Those loans total $847,000 (Tr. at 92; FDIC Ex. 1 at 2);
       (c) The Bank has an excessive volume of adversely classified loans and other assets. As of June 21, 1985, adversely classified loans totaling $1,818,000 were 10.45 percent of total loans. (Tr. at 87-89; FDIC Ex. 1 at 6.) The classified loans and leases were classified as follows:

    Substandard: $1,049,000
    Doubtful: $305,000
    Loss: $464,000
    TOTAL: $1,818,000

    (Admitted in paragraph 4 of Answer; Tr. at 87-88; FDIC Ex. 1); and
       (d) In addition to the classified loans, other assets adversely classified as of June 21, 1985, totaled $905,000 "Substandard" and $118,000 "Loss". (Tr. at 108; FDIC Ex. 1 at 6.)

   69. As of June 21, 1985, the total of adversely classified assets was $2,841,000, which equaled 162.3 percent of total (unadjusted) equity capital and reserves. (Admitted in Answer; FDIC Ex. 1 at 7; see Tr. 99–100.)
   70. The percent of adversely classified assets to total (adjusted) equity capital and reserves increased from 1.9% in the October 8, 1982, FDIC Report of Examination to 225.2% as of June 21, 1985. (FDIC Ex. 1 at 7.)
   71. The Bank has engaged in unsafe or unsound banking practices in that the Bank has been operated with an inadequate loan valuation reserve. As of June 21, 1985, the loan valuation reserve was $220,000. As of the same date, loans classified "Loss" and one-half of the loans classified "Doubtful" totaled $617,000, which is $397,000 in excess of the Bank's reserve for loan losses, without provision for future losses for loans classified "Substandard" and for unclassified loans. (Admitted in paragraph 7 of Answer; Tr. at 94-96; FDIC Ex. 1 at 7-8.)
   72. Between ten and twenty-five percent (10-25%) of loans classified "Substandard" usually result in a loss. (Tr. at 104-105.)
   73. Additionally, the Bank has engaged in unsafe or unsound practices by failing to adequately diversify its risks in that the Bank has concentrations of credit4 in five assets totaling $6,040,000, which equaled 345% of the Bank's total equity capital and reserves as of June 21, 1985. (Tr. at 172; FDIC Ex. 1 at 32.)
   74. The Bank is being operated with marginally adequate liquidity as evidenced by the following:
       (a) As of June 21, 1985, the Bank had net cash, short-term and marketable assets equal to only 28.9 percent of its net deposits and short-term liabilities (Tr. at 110–114; FDIC Ex. 1 at 10); and
       (b) As of June 21, 1985, the Bank had 30.6 percent of its long-term assets funded with short-term volatile liabilities. (FDIC Ex. 1 at 10.)
   75. The Bank engaged in an unsafe or unsound practice in that the Bank did not have on file a written liquidity and funds management policy at the time of the June 21, 1985, Examination. Such a policy was necessary in order for the Bank to know what percentage of funds to keep invested in assets which could be readily converted to cash in a short period of time to meet depositors' withdrawals. (Tr. at 115-116; FDIC Ex. 1 at 10.)

E. Violations of Law and Regulations

   76. As of the March 31, 1985 call date, the Bank's reported total capital, surplus


4 A concentration of credit exists if an asset of the bank, or loans to one borrower, represents 25% or more of the bank's total equity capital and reserves. (Tr. at 170-172; FDIC Ex. 1.)
{{4-1-90 p.A-1142}}and reserves totaled $2,136,000. (Tr. at 149; FDIC Ex. 1 at 12.) At the same time, the Bank's reported capital and surplus totaled $897,000. (FDIC Ex. 6 at 9.)
   77. The Bank extended credit to * * * , chairman of the board and principal shareholder, in a total amount of $490,500 as of June 21, 1985. This line consisted of a partnership debt of * * * Partnership of $190,000, a continuing guaranty of $268,000 which guarantees a debt owed the Bank by * * * , Inc., and a continuing guaranty of $32,500 which guarantees a debt owed the Bank by * * *. (Tr. at 149153; FDIC Ex. 1 at 12.)
   78. The Bank extended credit to * * * , director and principal shareholder, in a total amount of $486,162 as of June 21, 1985. This line consisted of a partnership debt of * * * Partnership of $190,000, a continuing guaranty of $268,000 which guarantees a debt owed the Bank by * * * , and a personal debt of $28,200. (Tr. at 149-153; FDIC Ex. 1 at 12.)
   79. The Bank extended credit to * * * , director, in a total amount of $464,349 as of June 21, 1985. This line consisted of a personal debt of $5,900, a continuing guaranty of $268,000 which guarantees a debt owed the Bank by * * * , a personal interest in * * * of $8,923, extensions of credit to the * * * of $53,000, a continuing guaranty of $85,000 which guarantees a debt owed the Bank by * * * , a continuing guaranty of $11,026 which guarantees a debt owed the Bank by * * * and a continuing guaranty of $32,500 which guarantees a debt owed the Bank by * * *. (Tr. at 151-152; FDIC Ex. 1 at 13.)
   80. The Bank extended credit to * * * , Director, in a total amount of $380,500 as of June 21, 1985. This line consisted of a joint debt with * * * of $30,000, a personal debt of $50,000, a continuing guaranty of $268,000 which guarantees a debt owed the Bank by * * * , and a continuing guaranty of $32,500 which guarantees a debt owed the Bank by * * *. (Tr. at 151; FDIC Ex. 1 at 12.)
   81. The Bank violated Section 215.4(b) of Regulation O by extending credit to the following directors where there was no record of prior board approval. The Bank violated this section in the following manner:
       (a) The Bank extended $222,500 to * * * as of June 21, 1985, with no record of sufficient prior approval for any credit extended. The computation of this amount excludes the guaranty pertaining to * * * (Tr. at 150-51; FDIC Ex. 1 at 12);
       (b) The Bank extended $202,054 to * * * as of June 21, 1985, with no record of sufficient prior approval for any credit extended. The computation of this amount excludes the guaranty pertaining to * * * (Tr. at 150-51; FDIC Ex. 1 at 12);
       (c) The Bank extended $112,500 to * * * as of June 21, 1985, with no record of sufficient prior approval for any credit extended. The computation of this amount excludes the guaranty pertaining to * * * (Tr. at 151; FDIC Ex. 1 at 12); and
       (d) The Bank extended $196,349 to * * * as of June 21, 1985, with no record of sufficient prior approval for any credit extended. The computation of this amount excludes the guaranty pertaining to * * * (Tr. at 151-152; FDIC Ex. 1 at 13.) As of the applicable call report date of March 31, 1985, the Bank was legally empowered to extend credit in the amount of $106,800 to the above-indicated persons in the absence of prior approval by the Bank's board of directors, as set forth more fully in Section 215.4(b) of Regulation O. (12 CFR 215.4(b).) The amounts set forth in each of the foregoing subparagraphs exceeded that amount.
   82. The Bank extended credit in violation of * * * Revised Statutes Section 1:415A, which prohibits a state bank from lending even on a secured basis to any one borrower, directly or indirectly, an amount in excess of one-half the sum of its capital and surplus accounts. That one-half figure, with respect to the Bank as of June 21, 1985, was the amount of $448,500. The Bank extended credit to * * * as of June 21, 1985, in the amount of $490,500.00, an amount which exceeds the legal limit of $448,500. The Bank extended credit to * * * as of June 21, 1985, in the amount of $486,162.00, an amount which exceeds the legal limit of $448,500. The Bank extended credit to * * * as of June 21, 1985, in the amount of $536,167.00, an amount which exceeds the legal limit of $448,500.
   83. The Bank purchased a $190,000 participation loan in a line of credit totaling {{4-1-90 p.A-1143}}$3,909,000 originated by the Bank of * * * , * * * , an affiliate5 of this Bank. (FDIC Ex. 1 at 13.) This debt by * * * is secured by real estate consisting of a four story office building located in * * *. Part of the building is leased to the Bank of * * * , another affiliate of this Bank. On January 24, 1983, the building was appraised for $4,400,000. (Tr. at 153-154, 446-447; FDIC Ex. 1 at 13–14.)
   84. This participation loan to * * * , an affiliate of the Bank and an interest of Messrs. * * * and * * * , was held in violation of Section 23A of the Federal Reserve Act, because the debt did not have a 130 percent collateral margin as is required by 12 U.S.C. §371c(C)(1)(6) where loans to affiliates are secured by real property. (Tr. at 446-447, FDIC Ex. 1 at 14.)
   85. This participation loan was purchased in violation of Section 23A of the Federal Reserve Act in that the loan to * * * constituted a "low quality asset" within the meaning of 12 U.S.C. §371c(b)(10)(A) purchased from an affiliate. (Tr. at 154; FDIC Ex. 1 at 14.)
   86. The Bank failed to maintain records identifying all officers, directors and principal shareholders of the Bank and their respective related interests specifying the amount and terms of each extension of credit by the Bank to any of them and/or their respective related interests, in violation of section 215.7 of Regulation O. (12 CFR 215.7; Tr. at 154; FDIC Ex. 1 at 14.)

ORDER TO CEASE AND DESIST

FDIC-86-41b

ORDER

   IT IS HEREBY ORDERED that the * * * ("Bank"), 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 law:
   (a) following hazardous lending and lax collection practices;
   (b) operating with inadequate equity capital and reserves;
   (c) operating with a large volume of poor quality loans;
   (d) operating with an inadequate loan valuation reserve;
   (e) operating in violation of the laws, as more fully set forth below:
   (i) Extending credit to an affiliate secured by real estate having a market value of less than 130 percentum of the amount of such loan and purchasing low quality assets from such affiliate, all in violation of Section 23A of the Federal Reserve Act (12 U.S.C. §371c), made applicable by Section 18(j)(1) of the Federal Deposit Insurance Act (12 U.S.C. §1828(j)(1)).
   (ii) Extending credit to the Bank's executive officers, directors, or principal shareholders or to any related interest of such persons in an amount that, when aggregated with the amount of all other extensions of credit, exceeds the higher of $25,000 or 5 percent of the Bank's capital and unimpaired surplus without the prior approval of a majority of the entire board and the interested party having abstained from participating in the vote in violation of Section 22(h) of the Federal Reserve Act, as amended (12 U.S.C. 375b) and Section 215.4(b) of Regulation O of the Board of Governors of the Federal Reserve System (12 CFR 215.4(b)).
   (iii) Failing to disclose upon the Bank's records the identity of all executive officers, directors and principal shareholders of the Bank and the related interests of these persons and specify the amount and terms of each extension of credit by the Bank to these persons and their related interests in violation of Section 22(h) of the Federal Reserve Act, as amended (12 U.S.C. 375b) and Section 215.7 of Regulation O of the Board of Governors of the Federal Reserve System (12 CFR 215.7);
   (iv) Failing to maintain a ratio of total capital to total assets of not less than 6 percent and a ratio of primary capital to total assets of not less than 5.5 percent in violation of Sections 325.3(a), 325.3(b) and 325.3(c) of the FDIC Rules and Regulations (12 CFR 325.3(a), 325.3(b) and 325.3(c); and


5 Section 23A(b)(1)(C)(i) of the Federal Reserve Act (12 U.S.C. § 371c(b)(1)(C)(i)), defines the term affiliate as any company "that is controlled directly or indirectly, but a trust or otherwise, by or for the benefit of shareholders who beneficially or otherwise control, directly or indirectly, by trust or otherwise, the member bank or any company that controls the member bank".
{{4-1-90 p.A-1144}}
   (v) Extending credit to any one borrower, directly or indirectly, in an amount in excess of one-half the sum of the Bank's capital and surplus account in violation of Section 415A, Title 6, of the * * * Revised Statutes (* * * 6:415A).
   IT IS FURTHER ORDERED, that the Bank take affirmative action as follows:
   1. During the life of this ORDER, the Bank shall retain management acceptable to the Regional Director of the FDIC * * * Regional Office ("Regional Director") and the Commissioner of Financial Institutions for the State of * * * ("Commissioner"). Such management shall include a chief executive officer qualified to restore the Bank to a sound condition. In addition, the Bank shall retain a qualified lending officer who shall be responsible for supervising the Bank's overall lending function. Present management will be evaluated on the basis of standard FDIC policies, including, but not limited to, management's performance in restoring the Bank to a sound condition. On the basis of that evaluation, present management of the Bank may or may not be deemed acceptable.
   2. (a) Within 90 days from the effective date of this ORDER, the Bank shall increase equity capital and reserves by no less than $1,300,000. Such increase in equity capital and reserves may be accomplished by any or all of the following mechanisms:
       (i) the sale of common stock;
       (ii) the direct contribution of cash by the shareholders and/or directors of the Bank;
       (iii) the collection of assets previously charged off; and
       (iv) any other manner which is approved by the Regional Director and the Commissioner.
   (b) If all or part of the increase in total equity capital and reserves required by Paragraph 2(a) of this ORDER is accomplished by the sale of new securities, the board of directors of the Bank shall forthwith take all steps necessary to adopt and implement a plan for the sale of such additional securities, including the voting of any shares owned or proxies held or controlled by them in favor of the plan. Should the implementation of the plan involve a public distribution of the Bank's securities (including a distribution limited only to the Bank's existing shareholders), the Bank shall prepare 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 state and federal securities laws. Prior to the implementation of the plan and, in any event, not less than fifteen (15) days prior to the dissemination of such materials, the plan and any materials used in the sale of the securities shall be submitted to the FDIC in Washington, D.C. Any changes requested to be made in the plan or materials by the FDIC shall be made prior to their dissemination. If the increase in equity capital is provided by the sale of preferred stock, then all terms and conditions of the issue, including but not limited to those terms and conditions relative to dividend rate and convertibility factor, shall be presented to the Regional Director for prior approval.
   (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's securities written notice of any planned or existing development or other changes which are materially different from the information reflected in any offering materials used in connection with the sale of Bank securities. The written notice required by this paragraph shall be furnished within ten (10) calendar days from the date of the planning or occurrence of such material development or change, whichever is earlier, and shall be furnished to every subscriber and/or purchaser of the Bank's securities who received or was tendered the information contained in the Bank's original offering materials.
   (d) After compliance with Paragraph 2(a) of this ORDER and during the life of this ORDER, the Bank shall maintain adjusted equity capital and reserves at no less than seven and one-half (7.5) percent of its adjusted total assets.
   3. 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" and one-half of the assets classified "Doubtful" as of June 21, 1985, that have not been previously collected or charged off. Reduction of these assets through proceeds of other loans made by the Bank is not considered collection for the purpose of this paragraph. No such assets shall be reduced or eliminated by sale or transfer to any affiliate bank.
{{4-1-90 p.A-1145}}
   4. While this ORDER is in effect, the Bank shall not pay any cash dividends to any stockholder or any management or other fees to Bank's holding company without the prior written approval of the Regional Director and the Commissioner. Further, income tax remittance to the Bank's holding company shall be in accord with the FDIC Statement of Policy.
   5. Beginning with the effective date of this ORDER, the Bank shall not extend, directly or indirectly, any additional credit to, or for the benefit of, any borrower who has a loan or other extension of credit with the Bank that has been charged off or classified, in whole or in part, "Loss" or "Doubtful" and is uncollected. The requirements of this paragraph shall not prohibit the Bank from renewing (after collection in cash of interest due from the borrower) any credit already extended.
   6. The Bank is required by this ORDER to implement written lending and collection policies to provide effective guidance and control over the Bank's lending function. If the Bank contends that it has already adopted or revised such policies and that it is now implementing such policies, then the Bank, within 10 days after the effective date of this ORDER, shall submit such policies to the Regional Director and the Commissioner for their approval or disapproval. If the applicable approving official should disapprove such policies, then the Bank, within 60 days from such disapproval, shall adopt, revise and implement such policies in a form and manner acceptable to the Regional Director and the Commissioner as determined at subsequent examinations and/or visitations. If the Bank has not adopted or revised such policies and has not implemented such policies, then, within 60 days after the effective date of this ORDER, the Bank shall adopt or revise and implement such policies in a form and manner acceptable to the Regional Director and the Commissioner as determined at subsequent examinations and/or visitations.
   7. Within 60 days from the effective date of this ORDER, the Bank shall establish and thereafter maintain an adequate reserve for loan losses. Such reserve shall be established by charges to current operating income, together with collection of assets previously charged off. In complying with the 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 such review is undertaken shall indicate the results of the review, the amount of any increase in the reserve, and the basis for determination of the amount of the reserve provided.
   8. Within 60 days after the effective date of this ORDER, the Bank shall eliminate and/or correct all violations of law cited in the Findings of Fact and Conclusions of Law and the Decision. In addition, the Bank shall take all necessary steps to ensure future compliance with all applicable laws and regulations.
   9. The Bank is required by this ORDER to implement a written liquidity and funds management policy. If the Bank contends that it has already adopted or revised such a policy and that it is now implementing such a policy, then the Bank, within 10 days after the effective date of this ORDER, shall submit such policy to the Regional Director and the Commissioner for their approval or disapproval. If the applicable approving official should disapprove such policy, then the Bank within 60 days from such disapproval, shall adopt, revise and implement such a policy in a form and manner acceptable to the Regional Director and the Commissioner as determined at subsequent examinations and/or visitations. If the Bank has not adopted or revised such policies and has not implemented such policies, then, within 60 days after the effective date of this ORDER, the Bank shall adopt or revise and implement such policies in a form and manner acceptable to the Regional Director and the Commissioner as determined at subsequent examinations and/or visitations.
   10. Within 10 days after the effective date 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 from March 31, 1985, forward. During the life of this ORDER, the Bank shall file with the FDIC current consolidated reports of condition and income which accurately reflect the financial conditions 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 appro-
{{4-1-90 p.A-1146}}priate as a consequence of any state or FDIC examination of the Bank during the reporting period.
   11. Following the effective date of this ORDER, the Bank shall send to its shareholders or otherwise furnish a description of this ORDER in conjunction with the Bank's next shareholder communication and also in conjunction with its notice or proxy statement preceding the Bank's next shareholder meeting. The description shall fully describe the ORDER in all material respects. The description and any accompanying communication, statement, or notice shall be sent to the FDIC in Washington, D.C., at least fifteen (15) days prior to dissemination to shareholders. Any changes requested to be made by the FDIC shall be made prior to dissemination of the description, communication, notice or statement.
   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 thirty (30) 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.
   By direction of the Board of Directors.
   Dated at Washington, D.C., this 4th day of August, 1987.

/s/Hoyle L. Robinson
Executive Secretary

RECOMMENDED DECISION,
RECOMMENDED FINDINGS OF
FACT, RECOMMENDED
CONCLUSIONS OF LAW AND
PROPOSED ORDER

FDIC-86-41b

I. RECOMMENDED DECISION

   The Administrative Law Judge has considered the proposed findings of fact, conclusions of law, proposed orders and memoranda submitted by the parties in this case, including the reply briefs of the parties and the tender of proof submitted by the respondent under cover of the letter of March 18, 1987 signed by the respondent's representative. The petitioner's opposition submitted in response to this tender has also been considered. The Administrative Law Judge, having considered these and being otherwise advised in the premises, having carefully considered the testimony adduced at the oral hearing held in the case, and having further carefully considered the exhibits admitted into the evidence in the case, concludes that the petitioner has established a prima facie case that the respondent, as of the examination conducted by the petitioner on June 21, 1985, was engaging in unsafe and unsound practices (as described more fully below) within the meaning of Section 8 of the Federal Deposit Insurance Act (hereinafter referred to as the Act) (12 U.S.C., Section 1818(b)(1)). Further, the petitioner has satisfied its burden of going forward to prove the existence of such unsafe and unsound practices as of the date of the aforementioned examination and has further sustained its burden of persuading the Administrative Law Judge as to existence of such practices. The respondent has failed to show that it was not in fact engaged in most of the specific practices for which it was cited. It has interposed the defense that its actions and capital structure subsequent to the aforementioned examination should have a significant bearing on the decision in this case. The Administrative Law Judge has carefully considered this argument and the applicable cases and agrees with the petitioner that this case surrounds not developments subsequent to the examination but the status of the respondent as of the date of that examination. Bank of Dixie v. FDIC, 776 F.2d 175 (5th Cir., 1985) and cases cited. Events subsequent to the examination might well have a bearing on the specific relief to be accorded the petitioner and the same have been considered by the Administrative Law Judge in formulating the proposed order in this case. But such events, it is clear, are not proximately material to the resolution of the basic issue of whether the petitioner is entitled to the entry of the order that is seeks.
   The respondent has further prominently interposed argument relative to its treatment of proceeds derived from its sale of a property generally referred to in this case as the * * *. This issue assumes great significance in this case since the treatment accorded the sales proceeds of necessity affects the computation of the respondent's capital. The computation of the respondent's capital as of the aforementioned examination date, in turn, has a bearing on {{4-1-90 p.A-1147}}whether the respondent committed certain of the charged unsound and unsafe banking practices. One such charged practice is whether the respondent's capital-to-assets ratios comported with the requirements of applicable provisions of the Federal Reserve Act and implementing regulations. On careful review of the applicable authorities and the arguments, the Administrative Law Judge concludes that the petitioner is correct in its view of this issue. It follows from this that the respondent has committed the relevant unsafe and unsound banking practices, except as indicated otherwise below.
   The Administrative Law Judge does not conclude, however, that all of the charged actions were unsafe and unsound banking practices. The petitioner has classified as substandard the extension of credit to * * * Bank, * * *. Although the petitioner's examiners were correct in this classification, neither the applicable statute nor the implementing regulations could have intended that such extensions of credit would constitute "unsound and unsafe banking practices." The testimony in the case revealed that such extensions of credit are routinely granted on a day-to-day basis by banking institutions such as the respondent without securing credit information from the debtor-bank. Transcr., pp. 430-38. The respondent could reasonably presume that a banking institution doing business in the banking community and subject to the same federal laws and regulations to which it was subject was a solvent and creditworthy institution. The respondent showed at the oral hearing that an institution such as itself could not reasonably be expected to take the time and trouble to secure current credit information on each occasion that it extended credit to an institution such as the * * * institution. In fact, the respondent showed, if this were required, it is probable that the practice of such credit extensions would grind to a halt. Given these facts, the Administrative Law Judge concludes that the respondent did not consummate an unsafe or unsound banking practice in its extension of credit to the * * * institution in the absence of current credit information pertaining to that institution.
   The respondent has contended that certain extensions of credit to certain of its directors and major shareholders should not be considered for purposes of computing the extensions of credit to such persons as of the date of the aforementioned examination. The applicable regulation dealing with this issue can be found at 12 CFR Section 215.3(b)(4). This provision, inter alia, exempts from the computation of "extensions of credit" "any indebtedness to a bank for the purpose of protecting the bank against loss or of giving financial assistance to it." The petitioner construes this portion of this provision narrowly, arguing in substance that directors such as Messrs. * * *, * * *, * * * and * * * would not have extended their guaranties unless they believed that the loan in question was substandard or unsound. It is true that the directors' belief as to the soundness of the loan does have a bearing on the credibility of the directors' contention that the guaranty was intended to protect the lending institution as opposed to influencing the institution to grant the credit extension. The petitioner has aptly shown that Mr. * * * never believed that the loan was doubtful. These are not, however, the sole criteria to be considered in evaluating Mr. * * *'s credibility. The Administrative Law Judge concludes that the four individuals in question executed the guaranties in substance to benefit the respondent as opposed to benefiting themselves. It thus follows that these individuals were not extended credit in excess of the prescribed amounts. This rationale, however, would not apply to the charged violations under state law.

II. RECOMMENDED FINDINGS OF
FACT

   Consistent with the recommended decision set forth above, the Administrative Law Judge herewith issues the following recommended findings of fact:
   A. Paragraphs 1 through 4 (including the footnotes pertaining to paragraphs 2 and 3) of the petitioner's proposed findings of fact are adopted as written and incorporated herein by reference as though fully set forth herein.
   B. Paragraph 5 of the petitioner's proposed findings of fact is adopted as written and incorporated herein by reference as though fully set forth herein, except that subparagraph (a) of that paragraph is deleted and hence not adopted and subparagraphs (b), (c), (d), and (e) of that paragraph {{4-1-90 p.A-1148}}are redesignated respectively as subparagraphs (a), (b), (c) and (d).
   C. Paragraphs 6 through 18 (including the footnotes pertaining to paragraphs 8 and 10) of the petitioner's proposed findings of fact are adopted as written and incorporated herein by reference as though fully set forth herein.
   D. Paragraph 19 of the petitioner's proposed findings of fact is adopted as written and incorporated herein by reference as though fully set forth herein, except that subparagraph (iii) of subparagraph (c) is deleted and hence not adopted and except that the page number reference to Exhibit 1 contained in the last clause of subparagraph (a)(1) is changed to read 25 rather than 26.
   E. Paragraph 20 through 22 of the petitioner's proposed findings of fact are adopted as written and incorporated herein by reference as though fully set forth herein.
   F. Paragraph 23 of the petitioner's proposed findings of fact is adopted as written and incorporated herein by reference as though fully set forth herein, except that the number, 789%, is substituted for the number, 1,000%, contained in the second line of that paragraph.
   G. Paragraph 24 (including the footnotes pertaining to said paragraph) of the petitioner's proposed findings of fact is adopted as written and incorporated herein by reference as though fully set forth herein, except that, with respect to subparagraph (c) of said paragraph, the numbers $905,000, $2,841,000 and 162.3 percent are substituted respectively for the numbers, $2,005,000, $3,941,000 and 225.20 percent, contained respectively in the second, fifth, and fifth lines of said subparagraph.
   H. Paragraph 25 and 26 (including the footnotes pertaining to said paragraphs) of the petitioner's proposed findings of fact are adopted as written and incorporated herein by reference as though fully set forth herein.
   I. Paragraph 27 of the petitioner's proposed findings of fact is not adopted.
   J. Paragraphs 28 through 58 (including the footnotes pertaining to paragraphs 30, 38, 42, 44, 46, and 55) or the petitioner's proposed findings of fact are adopted as written and incorporated herein by reference as though fully set forth herein, except that the number designation of each such paragraph is redesignated to a number that is one whole number less than the numbers set forth in the petitioner's proposed findings of fact.
   K. Paragraph 58 of the recommended findings of fact is as follows:
   58. Lines 148 and 149 of the lease agreement entered into between the Bank and the * * * state as follows: "[w]herever there is a conflict in this lease between the printed clauses and the specially written or type- written clauses of this lease, the specially written or typewritten clauses shall apply." (FDIC Ex. 9 at lines 148–49).
   L. Paragraph 59 of the recommended findings of fact is as follows:
   59. Line 163 of the lease agreement, which is described in paragraph 57 above, is a specially written or typewritten clause within the purview of the provision described in the preceding paragraph. (FDIC Ex. 9 at line 163).
   M. Paragraphs 60 of the recommended findings of fact is as follows:
   60. Lines 28–44 of the lease (dealing with condition and maintenance), lines 63–69 of the lease (dealing with responsibility for damages), and lines 103-12 of the lease (dealing with insurance) are printed clauses within the purview of the provision described in paragraph 58 above. (FDIC Ex. 9).
   N. Paragraphs 59 through 85 (including the footnotes pertaining to paragraphs 60, 63, and 83) of the petitioner's proposed findings of fact are adopted as written and incorporated herein by reference as though fully set forth herein, except that the number designation of each such paragraph is redesignated to a number that is two whole numbers greater than the numbers set forth in the petitioner's proposed findings of fact.
   O. Paragraph 86 of the petitioners proposed findings of fact is not adopted.
   P. Paragraphs 87 and 88 (including the footnotes pertaining to paragraph 88) of the petitioner's proposed findings of fact are adopted as written and incorporated herein by reference as though fully set forth herein, except that the number designation of each such paragraph is redesignated to a number that is one whole number greater than the numbers set forth in the petitioner's proposed findings of fact.
   Q. Paragraph 89 through 92 of the petitioner's proposed findings of fact are adopted as written and incorporated herein by reference as though fully set forth herein, {{4-1-90 p.A-1149}}except that the number designation of each such paragraph is redesignated to a number that is one whole number more than the numbers set forth in the petitioner's proposed findings of fact and except that the following portions of those paragraphs are deleted and hence not adopted: (1) footnote 23, pertaining to petitioner's numbered paragraph 89, is deleted and hence not adopted; (2) the last narrative sentence of each such numbered paragraph, beginning in each case with the words, "This line of credit," is deleted and hence not adopted.
   R. Paragraph 93 of the petitioner's proposed findings of fact is not adopted. Paragraph 94 of the recommended findings of fact is as follows:
   94. The Bank violated Section 215.4(b) of Regulation O by extending credit to the following directors where no record of prior approval was found in the bank's loan committee minute book, or, if approval was spread on the minutes, there was no description of collateral, interest rate or method of repayment necessary to determine comparable terms. The Bank violated this Section in the following manner:
   (a) The Bank extended $222,500 to * * * as of June 21, 1985 with no record of sufficient prior approval for any credit extended. The computation of this amount excludes the guaranty pertaining to * * * (Tr. at 150-51; FDIC Ex. 1 at 12);
   (b) The bank extended $202,054 to * * * as of June 21, 1985 with no record of sufficient prior approval for any credit extended. The computation of this amount excludes the guaranty pertaining to * * * (Tr. at 150-51; FDIC Ex. 1 at 12);
   (c) The Bank extended $112,500 to * * * as of June 21, 1985 with no record of sufficient prior approval for any credit extended. The computation of this amount excludes the guaranty pertaining to * * * (Tr. at 151; FDIC Ex. 1 at 12);
   (d) The Bank extended $196,349 to * * * as of June 21, 1985 with no record of sufficient prior approval for any credit extended. The computation of this amount excludes the guaranty pertaining to * * * (Tr. at 151–152; FDIC Ex. 1 at 13). As of the last applicable call report date of March 31, 1985, the Bank was legally empowered to extend credit in the amount of $106,800 to the above-indicated persons in the absence of advance approval by the board of directors, as set forth more fully in section 215.4(b) of Regulation O of the Board of Governors of the Federal Reserve System ("Regulation O") (21 C.F.R. §215.4(b)). The amounts set forth in each of the foregoing subparagraphs exceeded that amount.
   S. Paragraph 94 of the petitioner's proposed findings of fact is not adopted. Paragraph 95 of the recommended findings of fact is as follows:
   95. The Bank extended credit in violation of * * * Revised Statutes Section 1:415A, which prohibits a state bank from lending on a secured basis to any one borrower, directly or indirectly, an amount in excess of one-half the sum of its capital and surplus accounts. That one-half figure, with respect to the Bank as of June 21, 1985, was the amount of $448,500. The Bank extended secured credit to * * * as of June 21, 1985 in the amount of $490,500.00, an amount which exceeds the legal limit of $448,500. The Bank extended secured credit to * * * as of June 21, 1985 in the amount of $486,162.00, an amount which exceeds the legal limit of $448,500. The Bank extended secured credit to * * * as of June 21, 1985 in the amount of $536,167.00, an amount which exceeds the legal limit of $448,500.
   T. Paragraphs 95 through 98 (including the footnotes pertaining to paragraphs 95, 96, and 97) of the petitioner's proposed findings of fact are adopted as written and incorporated herein by reference as though fully set forth herein, except that the number designation of each such paragraph is redesignated to a number that is one whole number more than the numbers set forth in the petitioner's proposed findings of fact.

III. RECOMMENDED CONCLUSIONS
OF LAW

   1. The FDIC has jurisdiction over the Bank and the subject matter of this proceeding and has the authority to issue an order to Cease and Desist against the Bank pursuant to Section 8(b)(1) of the Act.
   2. The following practices constituted unsafe or unsound banking practices within the meaning of Section 8(b)(1) of the Act:
   a. the Bank's extensions credit to borrowers where such extensions were not adequately secured and where the borrower's creditworthiness was not adequately docu- {{4-1-90 p.A-1150}}mented in writing, in that the bank did not have on file credit information demonstrating the borrowers' net worth and ability to repay; (Tr. at 73–76; FDIC Ex. 1 at 25–26)
   b. the Bank's extensions of credit to borrowers where information pertaining to such extensions was not adequately documented in the bank's files, in that the following information was lacking: information regarding the purpose of the loan, the repayment schedule, a description of the collateral and the source of repayment; (Tr. at 79–82; FDIC Ex. 1 at 25–28)
   c. the Bank's extension of credit by purchasing the participation loan in the * * * from the Bank of * * * without first obtaining adequate financial information on the borrower; (Tr. at 82; FDIC Ex. 1 at 13–14).
   d. the Bank's renewals of extensions of credit without the collection of accrued interest; (Tr. at 85–87; FDIC Ex. 1 at 15)
   e. the Bank's extensions of credit to individuals without adhering to the provisions of the bank's loan manual in effect at the time and the Bank's extensions of credit to individuals without first obtaining required approvals of the Bank's Board of Directors; (Tr. at 398–403; 485–551; FDIC Exs. 11, 12)
   f. the Bank's operation with an inadequate loan valuation reserve; (Tr. at 94–96; FDIC Ex. 1 at 8)
   g. the Bank's operation with an excessive rate of loans subject to adverse classification compared to the Bank's total equity capital and reserves as of June 21, 1985, in that loans adversely classified equated 103% of total equity capital and reserves ($1,818,000/$1,750,000), so that the amount of such loans posed a threat to the capital account of the Bank; (Tr. at 227; FDIC Ex. 1 at 6–7)
   h. the Bank's operation with an excessive ratio of total assets subject to adverse classification compared to the bank's total equity capital and reserves as of June 21, 1985, in that total assets adversely classified equaled 162.3% of the total equity capital and reserves, so that there was threat of potential loss to the Bank's capital account; (Tr. at 228; FDIC Ex. 1 at 7)
   i. the Bank's operation with an inadequate ratio of adjusted equity capital and reserves to adjusted total assets of 3.56% as of June 21, 1985, in that maintenance of a 3.56 percent ratio of capital to assets provided little protection from additional losses; (Tr. at 233; FDIC Ex. 1 at 7)
   j. the Bank's operation with an excessive ratio of overdue loans and leases to total loans and leases (9.3% as of June 21, 1985); (Tr. at 233–234; FDIC Ex. 1 at 6)
   k. the Bank's operation with an unacceptable ratio of adversely classified loans and leases to total loans and leases (10.4% as of June 21, 1985); (Tr. at 226–227; FDIC Ex. 1 at 6)
   l. the Bank's operation with a high ratio of total classifications to total assets of (9.7% as of June 21, 1985); (Tr. at 229–230; FDIC Ex. 1 at 6)
   m. the Bank's operation with 67 loans on nonaccrual status totaling $847,000 as of June 21, 1985, indicating that the loans were 90 days past due, were not well collateralized, or in the process of collection; (Tr. at 234; FDIC Ex. 1 at 3)
   n. the Bank's failure, by and through its Board of Directors, to fulfill its fiduciary duty of adequately supervising the active management of the Bank; (Tr. at 151–152; FDIC Ex. 1 at 13).
   3. the Bank violated section 215.4(b) of Regulation O, which operates to limit extensions of credit to executive officers, principal shareholders and related interests of such persons where inadequate prior approval was found in the Bank's loan committee minute book. This section was violated in the following manner:
   a. the Bank extended $222,500 to * * * as of June 21, 1985 with no record existing in the loan committee minutes of sufficient prior approval for any credit extended; (Tr. at 150–151; FDIC Ex. 1 at 12)
   b. the Bank extended $202,054 to * * * as of June 21, 1985 with no record existing in the loan committee minutes of sufficient prior approval for any credit extended; (Tr. at 150–151; FDIC Ex. 1 at 12)
   c. the Bank extended $112,500 to * * * as of June 21, 1985 with no record existing in the loan committee minutes of sufficient prior approval for any credit extended; (Tr. at 151, FDIC Ex. 1 at 12)
   d. The Bank extended $196,349 to * * * as of June 21, 1985 with no record existing in the loan committee minutes of sufficient prior approval for any credit extended (Tr. at 151–152; FDIC Ex. 1 at 13)
   4. In addition to the extensions of credit described in the preceding paragraph, the Bank, as of June 21, 1985, had extended further credit to three of the directors de- {{4-1-90 p.A-1151}}scribed in said paragraph, to wit: Messrs. * * *, * * * and * * *. With respect to these three directors, the total amounts of secured credit extended by the Bank as of June 21, 1985 were (respectively) the amounts of $490,500.00, $486,162.00, and $536,167.00. Each such amount exceeds the legal limit set forth in * * * Revised Statutes, Section 1:415A, in that one-half of the sum of the Bank's capital and surplus accounts as of that date was the amount of $448,500. This was a violation of law.
   5. The Bank violated section 23A(c)(1)(D) of the Federal Reserve Act by purchasing a $190,000 participation in a line of credit originated by the Bank of * * * , * * * , an affiliate of this Bank. This loan to * * *, a low-quality asset, did not have a 130% collateral margin as required by this Section where loans to affiliates are secured by real property. (Tr. at 153–154; FDIC Ex. 1 at 13–14).
   6. The Bank violated sections 325.3(a), 325.3(b) and 325.3(c) of the FDIC Rules and Regulations, (12 CFR 325.3(a), 325.3(b), and 325.3(c)) by failing to maintain a ration of total capital to total assets of not less than 6 percent and a ratio of primary capital to total assets of 5.5 percent as of June 21, 1985. (Tr. at 154; FDIC Ex. 1 at 14).
   7. The Bank violated section 215.7 of Regulation O (12 CFR 215.7) by failing to maintain any records identifying all officers, directors, and principal shareholders of the Bank and their respective related interests specifying the amount and terms of each extension of credit by the Bank to any of them and/or their respective related interests. (Tr. at 154; FDIC Ex. 1 at 14).
   8. The Bank and the * * * are considered related parties according to FASB 13, and such relationship significantly affected the terms of the sale-leaseback transaction.
   9. According to FASB 28 and FASB 13, the lease between the Bank and the * * * could not be accounted for as an operating lease.
   10. the Bank erred by utilizing the full accrual method to book into its capital account the $504,000.00 recognized on the sale of the * * * as current period profits.
   11. The profit recognized by the Bank on the sale of its * * * Branch should have been deferred and amortized in proportion to the amortization of the leased asset.
   12. The net lease between the Bank and * * * wherein all incidental expenses, taxes, insurance, utilities and maintenance costs are to be borne by the lessee, contemplated a continuing involvement that would have resulted in the retention of substantial risks or rewards by the seller-lessee in this sale-leaseback transaction.
   13. The Bank violated the spirit, if not the letter, of applicable guidelines and regulations in place prior to the consummation of the sale-leaseback transaction with respect to the proper accounting method to be utilized, by immediately recognizing the profit resulting from the transaction and treating such profit as capital. Further, the lessee, that is, the Bank, retained virtually all indicia of ownership, retained more than a substantial continuing involvement with the property, and did not transfer the usual risks and rewards of property ownership upon selling the property. The economic substance of the transaction, rather than the legal form, governs the proper accounting treatment to be accorded this transaction. The call report glossary instructions which were in effect prior to March 1, 1985, and FASB Statements No. 13, 28, and 66, interpreted as a whole, called for a different conclusion than that provided by the Bank's Certified Public Accountant.
   14. The extensions of credit to * * * , as described in pp. 12–13 of FDIC Ex. 1, did not violate Section 215.4(c) of Regulation O, limiting extensions of credit to executive officers, principal shareholders and related interests, in that, with respect to each such individual cited in such pages of said exhibit, credit was extended for the purpose of protecting the bank against loss. Section 215.4(c) was thus not violated, since the outstanding extensions of credit to the individuals in question, when the aforementioned $268,000 credit extension is omitted, were less than the amount proscribed in section 215.4(c). Notwithstanding, however, section 215.4(c) was violated, as set forth more fully in paragraph 3 above.

IV. PROPOSED ORDER

   IT IS HEREBY ORDERED that the * * * Bank, * * * , its directors, officers, employees, agents, successors, assigns, and other persons participating in the conduct {{4-1-90 p.A-1152}}of affairs of the Bank, cease and desist from the following unsafe, unsound, or unsafe and unsound banking practices and violations:
   (a) following hazardous landing and lax collection practices;
   (b) operating with inadequate equity capital and reserves;
   (c) operating with a large volume of poor quality loans;
   (d) operating with an inadequate loan valuation reserve;
   (e) operating in violation of the laws, as more fully set forth below:
   (i) Extending credit to an affiliate secured by real estate having a market value of less than 130 percentum of the amount of such loan and purchasing low quality assets from such affiliate, all in violation of Section 23A of the Federal Reserve Act (12 U.S.C. section 1818(j)(1))
   (ii) Extending credit to the Bank's executive officers, directors, or principal shareholders or to any related interest of that person in an amount that, when aggregated with the amount of all other extensions of credit, exceeds the higher of $25,000 or 5 percent of the Bank's capital or unimpaired surplus without the prior approval of a majority of the entire board and the interested party having abstained from participating in the vote in violation of Section 22(h) of the Federal Reserve Act, as amended, (12 U.S.C. 375b) and Section 215.4(b) of Regulation O of the Board of Governors of the Federal Reserve System (12 CFR Section 215.4(b)).
   (iii) Failing to disclose upon the Bank's records the identity of all executive officers, directors and principal shareholders of the bank and the related interests of these persons and specify the amount and terms of each extension of credit by the Bank to these persons and their related interests in violation of Section 22(h) of the Federal Reserve Act, as amended, (12 U.S.C. 375b) and section 215.7 of Regulation O of the Board of Governors of the Federal Reserve system (12 CFR section 215.7);
   (iv) Failing to maintain a ratio of total capital to total assets of not less than 6 percent and a ratio of primary capital to total assets of not less than 5.5 percent in violation of sections 325.3(a), 325.3(b) and 325.3(c) of the FDIC Rules and Regulations (12 CFR sections 325.3(a), 325.3(b) and 325.3(c));
   (v) Extending credit on a secured basis to any one borrower, directly or indirectly, in an amount in excess of one-half the sum of the Bank's capital and surplus account in violation of section 415A, Title 6, of the * * * Revised Statutes (* * * 6:415A); and
   (vi) Paying a dividend during any calendar year during the life of this order following any calendar year with respect to which the net change in equity capital account, as computed by the FDIC, is a negative figure.
   IT IS FURTHER ORDERED that the Bank take affirmative action as follows:
   1. During the life of this ORDER, the Bank shall retain management acceptable to the Regional Director of the FDIC * * * Regional Office ("Regional Director") and the Commissioner of Financial Institutions of the State of * * * ("Commissioner"). Such management shall include a chief executive officer qualified to restore the Bank to a sound condition. In addition, the Bank shall retain a qualified lending officer who shall be responsible for supervising the Bank's overall lending function. Present management will be evaluated on the basis of standard FDIC policies, including, but not limited to, management's performance in restoring the Bank to a sound condition. On the basis of that evaluation, present management of the Bank may or may not be deemed acceptable.
   2. (a) Within 90 days from the effective date of this ORDER, the Bank shall increase equity capital and reserves by an amount necessary to meet the minimum capital requirements set forth in 12 CFR section 325.3. Such increase in equity capital and reserves may be accomplished by any or all of the following mechanisms:
   (i) the sale of common stock;
   (ii) the direct contribution of cash by the shareholders and/or directors of the Bank;
   (iii) the collection of assets previously charged off;
   (iv) any other manner which is approved by the Regional Director and the Commissioner.
   (b) If all or part of the increase in total equity capital and reserves required by Paragraph 2 (a) of this ORDER is accomplished by the sale of new securities, the board of directors of the Bank shall forthwith take all steps necessary to adopt and {{4-1-90 p.A-1153}}implement a plan for the sale of such additional securities, including the voting of any shares owned or proxies held or controlled by them in favor of the plan. Should the implementation of the plan involve a public distribution of the Bank's securities (including a distribution limited only to the Bank's existing shareholders), the Bank shall prepare 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 state and federal securities laws. Prior to the implementation of the plan and, in any event, not less than fifteen (15) days prior to the dissemination of such materials, the plan and any materials used in the sale of the securities shall be submitted to the FDIC in Washington, D.C. Any changes requested to be made in the plan or materials by the FDIC shall be made prior to their dissemination. If the increase in equity capital is provided by the sale of preferred stock, then all terms and conditions of the issue, including but not limited to those terms and conditions relative to interest rate and convertibility factor, shall be presented to the Regional Director for prior approval.
   (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's securities written notice of any planned or existing development or other changes which are materially different from the information reflected in any offering materials used in connection with the sale of Bank securities. The written notice required by this paragraph shall be furnished within ten (10) calendar days from the date of the planning or occurrence of such material development or change, whichever is earlier, and shall be furnished to every subscriber and/or purchaser of the Bank's securities who received or was tendered the information contained in the Bank's original offering materials.
   (d) After compliance with Paragraph 2(a) of this ORDER and during the life of this ORDER, the Bank shall maintain adjusted equity capital and reserves at no less than the minimum amount necessary to meet the requirements of 12 CFR section 325.3.
   3. 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" and one-half of the assets classified "doubtful" as of June 21, 1985, that have not been previously collected or charged off. Reduction of these assets through proceeds of other loans made by the bank is not considered collection for the purpose of this paragraph. No such assets shall be reduced or eliminated by sale or transfer to any affiliate bank.
   4. While this ORDER is in effect, the Bank shall not pay any cash dividends or management fees or other remuneration without the prior written approval of the Regional Director and the Commissioner. Further, income tax remittance to the Bank's holding company shall be in accord with the FDIC Statements of Policy.
   5. Beginning with the effective date of this ORDER, the Bank shall not extend, directly or indirectly, any additional credit to, or for the benefit of, any borrower who has a loan or other extension of credit with the Bank that has been charged off or classified, in whole or in part, "loss" or "doubtful" and is uncollected. The requirements of this paragraph shall not prohibit the Bank from renewing (after collection in cash of interest due from the borrower) any credit already extended to any borrower.
   6. The Bank is herewith required, as of the effective date of this ORDER, to implement written lending and collection policies to provide effective guidance and control over the Bank's lending function. If the Bank contends that it has already adopted or revised such policies and that it is now implementing such policies, then the Bank, within 10 days from the effective date of this ORDER, shall submit such policies to the Regional Director and the Commissioner for their approval or disapproval. If the applicable approving official should disapprove such policies, then the Bank, within 60 days from such disapproval, shall adopt, revise and implement such policies in a form and manner acceptable to the Regional Director and the Commissioner as determined at subsequent examinations and/or visitations. If the Bank has not hitherto adopted or revised such policies and has not implemented such policies, then, within 60 days from the effective date of this ORDER, the Bank shall adopt or revise and implement such policies in a form and manner acceptable to the Regional Director and {{4-1-90 p.A-1154}}the Commissioner as determined at subsequent examinations and/or visitations.
   7. Within 60 days from the effective date of this ORDER, the Bank shall establish and thereafter maintain an adequate reserve for loan losses. Such reserve shall be established by charges to current operating income, together with collection of assets previously charged off. In complying with the 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 such review is undertaken shall indicate the results of the review, the amount of any increase in the reserve, and the basis for determination of the amount of the reserve provided.
   8. Within 60 days from the effective date of this ORDER, the Bank shall eliminate and/or correct all violations of law cited in these findings of fact and conclusions of law. In addition, the Bank shall take all necessary steps to ensure future compliance with all applicable laws and regulations.
   9. The Bank is herewith required, as of the effective date of this ORDER, to implement a written liquidity and funds management policy. If the Bank contends that it has already adopted or revised such a policy and that it is now implementing such a policy, then the Bank, within 10 days from the effective date of this ORDER, shall submit such policy to the Regional Director and the Commissioner for their approval or disapproval. If the applicable approving official should disapprove such policy, then the Bank, within 60 days from such disapproval, shall adopt, revise and implement such a policy in a form and manner acceptable to the Regional Director and the Commissioner as determined at subsequent examinations and/or visitations.
   10. Within 10 days from the effective date 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 30, 1985. 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 conditions 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 or FDIC examination of the Bank during that reporting period.
   11. While this ORDER is in effect, the Bank shall give written notice to the Regional Director at such time as the Bank intends to make use of 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 reject the Bank's plans for utilizing brokered deposits. For purposes of this ORDER, brokered deposits are defined to include any deposits 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.
   12. Following the effective date of this ORDER, the Bank shall send to its shareholders or otherwise furnish a description of this ORDER in conjunction with the Bank's next shareholder communication and also in conjunction with its notice or proxy statement preceding the Bank's next shareholder meeting. The description shall fully describe the ORDER in all material respects. The description and any accompanying communication, statement, or notice shall be sent to the FDIC in Washington, D.C. at least fifteen (15) days prior to dissemination to shareholders. Any changes requested to be made by the FDIC shall be made prior to dissemination of description, communication, notice, or statement.
   The provisions of this ORDER shall be binding upon 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 or other jurisdictional authority.
   Pursuant to delegated authority.
   Dated: APRIL 10, 1987

{{4-1-90 p.A-1155}}
/s/ WILLIAM L. SHRABERG
Administrative Law Judge
Office of Hearing and Appeals
Social Security Administration
U.S. Department of Health and Human
Services
1661 Canal Street
New Orleans, Louisiana 70112

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