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   [5155] In the Matter of Boundary Waters State Bank, Ely, Minnesota, Docket No. FDIC-89-161j (8-28-90).

   FDIC denied application for acquisition of control under the Change in Bank Control Act. The FDIC ruled that (1) applicants and proposed management lacked competence, experience, and integrity necessary for the change to be in the interest of the Bank's depositors or the public; and (2) application contained conditions which if accepted would restrict the FDIC's regulatory responsibilities.

   [.1] Change in Bank Control Act—Application Evaluation—Factors Considered
   The size, condition, and nature and complexity of the Bank's operations when the application was filed will be considered in evaluating the application.

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   [.2] Change in Bank Control Act—Application Evaluation—Factors Considered
   The FDIC could disapprove an application where approval would impede exercise of its regulatory authority. Therefore, the FDIC has the authority to deny CBCA applications on grounds other than those specified in section 1817(j)(7)(A)-(E).

   [.3] FDIC—Authority—Change in Bank Control Act
   FDIC's incidental powers and the CBCA authorize it to consider, as bases for denial of a CBCA application, factors other than those specifically enumerated in CBCA statute.

   [.4] Change In Bank Control Act—Application Evaluation—Factors Considered—Impairment of Regulatory Authority
   The conditions set forth in the application which would restrict the FDIC's regulatory authority may be the bases for denial of a CBCA application.

   [.5] Practice and Procedure—Burden of Proof—Change in Control Proceedings
   In an administrative challenge to FDIC's denial of an application under the Change in Bank Control Act, FDIC has initial burden of going forward with evidence demonstrating that the application should be denied. The burden then shifts to the Applicants to prove that the application should be granted.

   [.6] Practice and Procedure—Right to Hearing
   The CBCA requires formal administrative hearings upon request of the applicant after agency disapproval of an application. FDIC disapproval which is grounded on the terms of the conditions set forth in the application is subject to administrative review.

   [.7] Practice and Procedure—Burden of Proof—Change in Control Proceedings
   The FDIC has the burden of presenting a prima facie case, based on its investigation, that the change of control should be denied. Then the burden shifts to the Applicants to demonstrate that the FDIC's case is not supported by the evidence.

   [.8] Evidence—Criminal Proceeding—Change In Bank Control Act
   Failure to prosecute indicates only that there was thought to be insulficient evidence to support a criminal prosecution. It does not exonerate applicant's actions and does not establish that he exhibited competent banking judgment.

   [.9] Change In Bank Control Act—Applicant Evaluation—Qualifications
   The lack of banking experience on the part of an acquirer does not, in and of itself, compel the conclusion that a CBCA application should be denied. In evaluating a CBCA application, an individual's lack of banking experience must be considered along with other factors, including applicant's other experience and financial condition.

   [.10] Change In Bank Control Act Application—Removal Action— Distinguished
   Disapproval of an CBCA application does not have the effect of removing the applicant from the Bank or the banking industry.

   [.11] Federal Deposit Insurance Corporation—Supervisory Functions— Impairment of Regulatory Authority
   Condition requiring FDIC to refrain from imposing additional capital requirements would significantly impair FDIC's ability to supervise the Bank.

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   [.12] Federal Deposit Insurance Corporation—Supervisory Functions— Impairment of Regulatory Authority
   Condition requiring FDIC to permit to the Bank to transfer funds from the loan loss reserve upon reevaluation of individual loans would interfere with FDIC's supervisory responsibilities since the allocation of funds to a bank's loan loss reserve cannot be determined on an individual credit basis, but instead on the condition of the entire portfolio.

(Next page is A- 1543.)

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   [.13] Federal Deposit Insurance Corporation—Supervisory Functions—Impairment of Regulatory Authority
   Condition attached to application which required FDIC to reevaluate loan classifications upon the Bank's request would impose impermissible constraints on the allocation of the FDIC's personnel.

   [.14] Federal Deposit Insurance Corporation—Supervisory Functions—Impairment of Regulatory Authority
   Condition attached to application which required FDIC to eliminate charge-off 50% of that portion of the loans classified Doubtful at prior examinations should result in the misstatement of the Bank's capital.

In the Matter of
BOUNDARY WATERS STATE BANK
ELY, MINNESOTA
(Insured State Nonmember Bank)
DECISION AND ORDER
FDIC-89-161j

   This proceeding concerns an application under the Change in Bank Control Act ("CBCA"), 12 U.S.C. §1817(j), submitted by Paul E. Oberstar and James A. Peterson (applicants or acquiring parties) to acquire Boundary Waters State Bank, Ely, Minnesota ("Bank"). The Federal Deposit Insurance Corporation ("FDIC") issued a Notice of Disapproval of Acquisition of Control and Notice of Hearing on August 11, 1989, and the applicants appealed. The Administrative Law Judge ("ALJ") recommended that this application be denied, finding that applicant Paul E. Oberstar and Gary Ellefson1lack the requisite competence and integrity. FDIC Enforcement Counsel filed exceptions to the Recommended Decision relating to the issue of whether deference should be accorded an FDIC examiner's opinions as to the competence, integrity, and experience of the CBCA applicants. The Bank filed no exceptions.
   The Board of Directors ("Board") of the FDIC adopts the ALJ's Recommended Decision, with the modifications set forth herein, and denies the applicants' change of control application.

I. BACKGROUND

   The applicants, Paul E. Oberstar (Oberstar), a founder and former director of the Bank, and James A. Peterson (Peterson), a businessman with limited banking experience, filed an application for change of control of Boundary Waters State Bank, to acquire more than 80% of the voting shares of the Bank. The Bank, which had total assets of $13 million as of March 1989, had been the subject of various supervisory proceedings. ALJ's Recommended Decision (R.D.) at 6–8.
   The FDIC considered the application for change of control and denied it for the following reasons: (1) the applicants had not demonstrated the requisite competency, experience, and integrity under section 1817(j)(7)(D);2and (2) the notice of acquisition contained conditions, the acceptance of which would unduly restrict the FDIC's ability to fulfill its regulatory responsibilities.
   A hearing was held before Administrative Law Judge James L. Rose on December 18 through 21, 1989, in Minneapolis, Minnesota. The ALJ heard the testimony of a number of witnesses including Peterson, Oberstar, and Gary Ellefson (Ellefson), the current president of the Bank who would continue in that capacity if the CBCA application were approved.
   Four issues were raised by the parties relating to the CBCA application: 1) whether the FDIC's denial of the CBCA applica-


1 Gary Ellefson is the current president of the Bank. Although not a CBCA applicant, he would continue as president under the terms of the application.

2 Regarding applicant Oberstar, the FDIC objected to his lack of competency and integrity based upon his prior conduct as a senior loan officer at a Minnesota bank. Regarding applicant Peterson, the FDIC objected to his lack of banking experience and to his signing of the CBCA application with knowledge that it contained errors. R.D. at 38. The ALJ found that Peterson met the competence, integrity, and experience requirements of the CBCA. R.D. at 40. FDIC enforcement counsel did not take exception to this finding.
{{12-31-90 p.A-1544}}tion based upon the fact that it contained unacceptable conditions was reviewable;3(2) whether the precarious financial condition of the Bank was relevant to analysis of the experience, competency, and integrity of the applicants;4(3) the applicants' contention that the FDIC did not conduct the investigation required by 12 U.S.C. §1817(j)(2)(B);5and (4) FDIC enforcement counsel's contention that the examiner's opinion of the applicants' competence, experience, and integrity was entitled to deference under Sunshine State Bank v. FDIC, 783 F.2d 1580 (11th Cir. 1986).6

II. THE ALJ'S RECOMMENDED
DECISION

   FDIC enforcement counsel introduced evidence of deficient business conduct and judgment to demonstrate Oberstar's lack of competence and integrity. Specifically, evidence was introduced that Oberstar, a former senior lending officer of *** Bank, had been asked to resign by that bank's board of directors as a result of his handling of a number of problem loans. For example, Oberstar administered a $400,000 loan to *** on which no principal or interest payments were received, R.D. at 23–26; Oberstar had allowed unauthorized, unsecured overdraft advances to this bank client, R.D. at 31; he had represented to a bank "discount committee" that a second *** loan was guaranteed by the Farmers Home Administration when, in fact, it was not. R.D. at 25 and 33. The *** Bank experienced significant losses on these problem loans as a result of Oberstar's management, particularly his handling of the *** loans. Following Oberstar's resignation from the *** Bank, an "employee dishonesty" claim was filed by the bank with its fidelity bond insurer for reimbursement of losses on the *** loans.
   Although not an applicant, Ellefson, the current bank president who would continue in that capacity under the terms of the CBCA application, was also alleged to lack the requisite competency and integrity for his proposed management position. The evidence FDIC Enforcement Counsel introduced concerning Ellefson included a violation of Regulation O of the Board of Governors of the Federal Reserve System in connection with a loan from the Bank,7and a failure to fully disclose his debts on a loan application with another bank. The Bank approved a loan to Ellefson for $65,000 representing ten percent of the Bank's capital and surplus, which Ellefson acknowledged was in violation of the lending limit of Regulation O, R.D. at 46; Transcript (T.R.) at 499–500.8In addition, Ellefson seriously understated his debts in a loan application to *** Bank of ***. R.D. at 48–49. He misrepresented his net worth as $100,000 when, in fact, it was a negative $154,000. T.R. 503.
   The applicants asserted that, notwithstanding the largely uncontested facts, that they do possess the requisite competency, experience, and integrity to acquire control of the institution. Following the hearing and submission of briefs, the ALJ rendered a 71-page Recommended Decision which analyzes the evidence and recommends denial of the change in bank control application.
   The ALJ found, and the Board agrees, that the record establishes that Paul Oberstar and Gary Ellefson lack the requisite competence and integrity.9The evidence


3 The ALJ held, and the Board agrees, that the conditions set forth in the application are a basis for denial of the CBCA application. Accordingly, the Board need not reach the issue of whether or not the Bank's proposed condition in the CBCA application regarding capital should be deemed a request for capital forbearance, and therefore, unreviewable. Thus, the Board modifies its Decision by declining to adopt the ALJ's discussion of this issue which begins on page 17 and includes the first two paragraphs on page 18 of his Recommended Decision.

4 The ALJ found and we agree that the condition of the Bank is relevant to analysis of a CBCA application, reasoning that the size, nature, and complexity of bank operations must be considered. R.D. at 6.

5 The ALJ found and we agree that the FDIC did conduct the required investigation. R.D. at 20.

6 The ALJ found that these opinions are not entitled to deference. R.D. at 4–5. As set forth infra at page 8, the Board specifically declines to adopt the ALJ's analysis and conclusions with respect to the deference issue. The Board need not reach this issue since the evidence of record establishes that applicant Oberstar does not meet the statutory requirement of competence and experience.

7 Regulation O sets rules for insider transactions. This provision is applicable to State nonmember banks pursuant to 12 U.S.C. §1828(j)(2). The specific provision Ellefson violated, 12 C.F.R. §215.4(b), requires that a bank not make loans to an executive officer in excess of five percent of the bank's capital and surplus without following certain procedures. R.D. at 46.

8 While Ellefson had sought and received prior approval from the Bank's board, he failed to fully disclose certain facts including the bona fide purpose, type of credit, and down-payment for the loan, which invalidates that approval. R.D. at 46.

9 Under the CBCA, an application may be disapproved if:
{{5-31-92 p.A-1545}}concerning11aOberstar's handling of *** and other loans at the *** Bank is uncontested. Oberstar allowed *** additional large unsecured overdraft loans, despite the fact that no principal or interest payments were made on its $400,000 loan. Oberstar acknowledged that this conduct evidenced poor banking practices, but asserted that responsibility did not rest with him alone.10The participation of others in the approval process does not render Oberstar's actions competent or his judgments prudent or reasonable. R.D. at 34–35. Oberstar also asserts that, because he was not criminally prosecuted following an FBI investigation of his conduct at *** Bank, he is a competent banker. The ALJ found (R.D. at 36), and the Board agrees, that the failure to prosecute does not exonerate Oberstar's actions or establish that he possesses the integrity or competence required for an approvable CBCA application.11The uncontested facts fully support the finding that Oberstar lacks the competence and integrity to acquire the Bank.
   The Board agrees with the ALJ's finding that serious concerns about Ellefson's competence and integrity are raised by his insider transactions and failure to accurately disclose his debts.12Ellefson was cited for violating Regulation O in connection with the Bank's approval of a $65,000 loan to him, and for failing to disclose the bona fide purpose for the loan and the correct amount of his down payment. More serious yet was Ellefson's failure to accurately report his net worth on a loan application of August 31, 1988 on the *** Bank of ***. R.D. at 48; T.R. 183–184; Exhibit 22. Ellefson's omission of four debts resulted in his net worth being reported as a positive $100,000 when, in fact, it was a negative $154,000.13R.D. at 49; T.R. 503.
   The ALJ concluded (R.D. at 50–51), and the Board agrees, that Ellefson's failure to list the four debts on his loan application is a very serious matter. It demonstrates a lack of competency and integrity that raises substantial questions as to his ability to manage Boundary Waters State Bank in the best interest of the depositors and the public.
   The ALJ properly considered all the relevant facts and issues surrounding this CBCA application, which was necessary to a determination of whether approval of the application would "prejudice the interest of the depositors of the bank." 12 U.S.C. §1817(j)(7)(C). The Board agrees with his analysis and conclusions, except as set forth infra. Therefore, the Board adopts and incorporates herein by reference, except as set forth infra, the ALJ's Recommended Decision.

III. EXAMINER DEFERENCE ISSUE

   FDIC Enforcement Counsel asserts in its exceptions that FDIC examiner judgments as to the competency, integrity, and experience are entitled to deference under Sunshine State Bank v. FDIC, 783 F.2d 1580 (11th Cir. 1986). The ALJ found (R.D. at 5) that these opinions are not entitled to deference. The ALJ reasons that examiner assessments of CBCA applications are not sufficiently "predictive." R.D. at 5. The Board does not agree with the ALJ's analysis and reasoning with respect to this issue. However, in view of the ALJ's conclusion that the facts establish that applicant Oberstar and Ellefson do not have the requisite competence and integrity, with which the Board fully agrees, the Board concludes that it need not reach the issue of deference to be afforded to examiners in this context. Therefore, the Board declines to adopt the final three paragraphs on page five of the ALJ's Recommended Decision.

IV. CONCLUSION

   Accordingly, the Board agrees with the ALJ's analysis of the primary issue and his factual and legal conclusions that the applicants' Change in Bank Control Act applica-


11a (d) the competence, experience, or integrity of any acquiring person or of any of the proposed management personnel indicates that it would not be in the interest of the depositors of the bank, or in the interest of the public to permit such person to control to bank;
12 U.S.C. §1817(j)(7)(D).

10 He admitted that it was poor practice to permit overdrafts, a loan concentration in excess of twenty-five percent of the bank's capital, and an extension of credit in excess of the bank's lending limits. R.D. at 31.

11 The FBI report merely concluded that it would be impossible to criminally prove that there had been any misapplications of funds by Oberstar.

12 In 1988 when Ellefson became president and CEO of the Bank, it was under a Cease and Desist Order and had serious problems created by the prior owner which were "overwhelming." R.D. at 43. While Ellefson has reduced the level of delinquent loans and improved loan documentation, severe problems remained uncorrected.

13 These debts were owed to various family members and another bank.
{{5-31-92 p.A-1546}}tion should be denied. The Board, therefore, adopts with modifications14and incorporates by reference the ALJ's Recommended Decision.

ORDER

   IT IS HEREBY ORDERED, pursuant to 12 U.S.C. §1817(j) and the FDIC Rules of Practice and Procedures, 12 C.F.R. Part 308, that the proposed Notice of Acquisition of Control by Paul E. Oberstar and James H. Peterson be, and it hereby is, DISAPPROVED.
   By direction of the Board of Directors.
   Dated at Washington, D.C. this 28th day of August, 1990.

_______________________________________
RECOMMENDED DECISION

In the Matter of

Boundary Waters State Bank
Ely, Minnesota
(Insured State Nonmember Bank)



James L. Rose, Administrative Law
Judge:

   This matter involves a Notice of Disapproval of Acquisition of Control issued by the Federal Deposit Insurance Corporation (FDIC), on August 11, 1989, pursuant to its authority under the Change in Bank Control Act (CBCA), 12 U.S.C. §1817(j). Inasmuch as the application for change in control was filed before August 9, 1989, the effective date of the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 (FIRREA), Pub.L.No. 101-73, 103 Stat. 183 (1989), the standards for disapproval are those existing prior to the enactment of FIRREA.
   On April 28, 1989, Paul E. Oberstar and James A. Peterson (Applicants or Acquiring Parties) filed a Notice of Acquisition of Control of Boundary Waters State Bank, Ely, Minnesota (Bank), with the Regional Director of the FDIC in Kansas City. The Notice was supplemented with additional written submissions and through telephone conferences. On May 17, 1989, the Notice was accepted by the FDIC as complete, i.e., containing all the information required by section 7(j)(6) of the CBCA. See 12 C.F.R. §303.4(b).
   The Notice stated, inter alia, that the Applicants proposed to acquire more than 80 percent of the voting shares of the Bank, with the majority to be held by Peterson. The Notice also provided that the Applicants proposed to retain the Bank's current President, Gary L. Ellefson. X 10.
   The FDIC filed a timely notice to the Applicants that it was extending the period during which a disapproval could be filed for an additional 30 days. On August 11, 1989, the FDIC filed a Notice of Disapproval of Acquisition of Control. See Joint Stipulation Nos. 9 and 10. Pursuant to 12 U.S.C. §1817(j)(4), the Applicants filed a timely request for a hearing, and on December 18–21, 1989, a hearing was held before the undersigned Administrative Law Judge at Minneapolis, Minnesota. The FDIC and the Applicants were represented by counsel.
   On the record as a whole, including my observation of the witnesses and the briefs and arguments of counsel, I make the following findings, conclusions, and recommended order:

I. INTRODUCTION

   In the Notice of Disapproval, the FDIC specified two reasons for its disapproval: 1) the competence, experience, or integrity of the Applicants and proposed management were such that the change in control was not in the interest of the Bank's depositors or the public, 12 U.S.C. §1817(j)(7)(D); and 2) the notice of Acquisition contained conditions, acceptance of which would unduly restrict the FDIC's ability to fulfill its regulatory responsibilities.
   Four preliminary issues have been raised by the parties: the FDIC contends that 1) the judgment of its examiners concerning the competence, experience and integrity of the Applicants and proposed management is entitled to deference under the standards of Sunshine State Bank v. FDIC, 783 F.2d 1580 (11th Cir. 1986); 2) the facts concerning the experience, competence, and integrity of the Applicants and proposed management must be evaluated based on the condition of the Bank; 3) its denial of the application because of unacceptable conditions is not reviewable in this proceeding—that the agency has unlimited and unreviewable discretion to deny an application for change in control except where the basis is specifically


14 The Board modifies this Decision by declining to adopt: 1) the final three paragraphs on page five (examiner deference issue) and; 2) page 17 and the first two paragraphs on page 18 (reviewability issue).
{{12-31-90 p.A-1547}}set out in section 1817(j)(7); and 4) the Applicants contend that the FDIC did not conduct an investigation required by, and within the meaning of, 12 U.S.C. 1817(j)(2)(B), and is therefore estopped from disapproving the application.

A. DEFERENCE TO EXAMINERS'
JUDGMENT

   In Sunshine, a principal issue was the appropriate classification of a large number of credits. The administrative law judge undertook to make his own determination of the classifications, and in many cases rejected the conclusion of the examiner. With approval of the Court, the FDIC Board rejected this approach, holding that the opinions of bank examiners in matters involving their predictive judgment is entitled to deference. The judge may make de novo findings as to the underlying facts of the examiner's opinion and can test the opinion for rationality. But if the facts supporting the examiner's conclusion are accurate and if the opinion is not arbitrary or capricious, then it must be accepted.
   Bank examiners have special training and experience in analyzing facts within the parameters of the applicable statute and regulations. They are more than expert witnesses, whose opinions can be weighed against those of other experts based on their education, training and experience. Bank examiners also bring to their analysis regulatory concerns and the public interest.
   Therefore, when the issue involves a matter of predictive judgment based on a given set of facts, if the examiner's judgment is not arbitrary or capricious, it must be accepted, even though another expert may credibly reach a different conclusion. Matters of predictive judgment include the risk inherent in particular loans, the loan portfolio in general and the amount which should be reserved for possible loan losses.
   However, on matters which do not involve a predictive judgment relating to the safety and soundness of a bank, the opinions of examiners do not deserve deferential consideration. Nevertheless, opinions of examiners based on their education, training and experience are admissible as expert testimony.
   The substantive issues here—the experience, competence and integrity of certain individuals—do not involve predictive judgments. Whether one is experienced, competent or has integrity are conclusions concerning a current condition, not predictions of future events. While there is an element of predictive judgment in such conclusions, fundamentally they concern analysis of the past.
   An examiner can certainly give his considered opinion as to the banking experience and competency of individuals. Such opinions are relevant but not entitled to deferential weight.

B. CONDITION OF THE BANK

   The FDIC contends that the CBCA application must be evaluated in light of the Bank's condition. Specifically, the competence, experience, and integrity of the applicants and proposed management in a CBCA application are to be evaluated in terms of their effect on the interests of the depositors or of the public in the "the bank," i.e., bank to be acquired. See 12 U.S.C. §1817(j)(7)(D). FDIC Brief, 47–48. Without disputing this point, the Applicants appear to contend that the financial condition of the Bank in this instance should be considered, not only in terms of its current status but also what it would be if the CBCA application were approved. Applicants' Brief, 9.
   I concur that the current condition of the Bank as well as the size, nature, and complexity of its operations must be considered in evaluating a CBCA application. The language of section 1817(j)(7)(D) and the other provisions of section 1817(j) clearly reflect an intention that CBCA applications be evaluated in terms of the actual condition of the Bank.
   The legislative history of the Act also supports this conclusion. The Acting Chairman of the FDIC in a letter placed into the Congressional Record by the Chairman of the House Banking Committee during the congressional debate on the CBCA, cited fourteen examples of how change in bank control authority would be used by federal regulators. 124 Cong. Rec. H11190-93 (daily ed. September 29, 1978). In each of these examples, the asset size and condition of the institution undergoing a change in bank control, including its status as a problem bank, were considered material.
   On the other hand, nothing in the statute suggests that a bank's putative future condi {{12-31-90 p.A-1548}}tion be considered. While it is necessary to evaluate the impact which an application has on the individual institution, that evaluation must be based on evidentiary facts and not on speculative assessments about future performance.

   [.1] Therefore, the size, condition, and nature and complexity of the Bank's operations when the application was filed will be considered in evaluating the application.
   As of the March 1989 examination, the Bank had total assets of $13 million. The Bank was not considered an agricultural bank; a number of its credits were commercial loans, including those made to local seasonal tourist-related businesses. X 6.
   The FDIC presented testimony and documentary evidence demonstrating that the Bank has been in a distressed condition for several years. On the date of the hearing, the Bank was operating under a cease and desist order issued on September 25, 1987, as a result of serious asset problems and numerous violations of law. TR 216-18; X 5. At the June 24, 1988, examination, the Bank continued to be confronted by serious asset problems as well as noncompliance with the cease and desist order. TR 219-20.
   On December 23, 1988, the FDIC issued an Order of Correction, proposing the termination of the Bank's insurance, citing as a basis for this action the Bank's violation of the cease and desist order as well as unsafe and unsound banking practices. TR 220-21; X 7.
   At the March 3, 1989, examination, the FDIC found that the Bank had severe capital problems, severe asset problems, deficiencies in management, violations of law, and unsafe and unsound practices in violation of the outstanding cease and desist order. TR 174-84, 220-21; X 6.
   Kirchoff testified that the Bank was basically in an insolvent condition as of the date of this examination and recommended that the termination of insurance action against the Bank continue to be processed. His recommendation was accepted by the FDIC, and a Notice of Intention to Terminate Insured Status was issued on October 31, 1989. TR 225-26; X 34. The Notice was still outstanding as of the date of the hearing. TR 226.

C. UNREVIEWABLE AUTHORITY OF
THE FDIC

   In the Notice of Disapproval, the FDIC determined that the CBCA application was inadequate because it contained unacceptable "conditions:"

    WHEREAS, in addition to the foregoing, the FDIC has determined that the Notice of Acquisition of Control contains conditions which are unacceptable to the Corporation, inasmuch as these conditions unduly restrict the FDIC's ability to fulfill its responsibilities for regulating and ensuring the safety and soundness of the Bank.
   The three provisions of the Application criticized by the FDIC concerned the Applicants' capital plan, their proposal for handling the classified assets and the loan loss reserve, and their provision concerning the chargeoff of previously classified doubtful loans. FDIC's Brief, 30; X 2, p. 3.
   The FDIC contends that its approval of the application implies acceptance of the conditions, which would inhibit performance of its supervisory duties. Therefore, an application having these conditions warrants disapproval. Id. at 25–34.
   The FDIC further contends that its disapproval of the Application on this basis is not subject to review in a formal adjudication under the Administrative Procedure Act (5 U.S.C. §§554–557). First, the FDIC argues that only those bases set forth in 1817(j)(7) are reviewable; and, second, the capital plan in effect was an application for capital forbearance which is not subject to administrative review. Consequently, disapproval based on the conditions in the application cannot be considered in this proceeding. FDIC's Brief, 34–36.
   The Applicants contend the FDIC lacks authority to disapprove the CBCA application on the basis of the conditions in the application, and further, the conditions do not impose any inappropriate burdens on the FDIC. Applicants' Brief, 12–20.
   At the hearing, I heard argument on these issues, but reserved ruling. TR 20–35.
   The pre-FIRREA statute did not contain a catchall basis for denying change of control applications. Thus, the first issue is whether the FDIC could deny an application on some basis other than those listed in section 1817(j)(7), which was specific and did not include unacceptable conditions.

{{12-31-90 p.A-1549}}

   [.2] I conclude that even before FIRREA, the FDIC necessarily had the power to protect the integrity of its regulatory authority. The FDIC could disapprove an application where approval would impede that authority. Therefore, the FDIC has the authority to deny CBCA applications on grounds other than those specified in section 1817(j)(7)(A)-(E) and is not estopped from asserting the conditions as a basis for denying the applications in the Notice of Disapproval.
   Though subparagraphs (A)-(E) of section 1817(j)(7) specify bases for disapproval of a proposed acquisition, there is no language suggesting these bases are exclusive. I do not believe that the doctrine of enumeratio unius est exclusio alterius applies.
   The CBCA was enacted in 1978 as part of a broader grant of supervisory authority to federal financial institutions regulatory agencies intended to provide the agencies with increased flexibility to supervise the banks under their jurisdiction. H. Rep. No. 1383, 95th Cong., 2d Sess. 17, reprinted in 1978 U.S. Code Cong. and Ad. News 9273 ff. The CBCA provides federal banking regulators discretion to disapprove the transfer of control of an existing bank similar to the discretion which regulators possess in chartering a new bank. The Safe Banking Act of 1977: Hearings on H.R. 9086 Before the Subcommittee on Financial Institutions Supervision, Regulation and Insurance of the House Committee on Banking, Finance and Urban Affairs, 95th Cong., 1st Sess. 2647-57 (testimony of Robert Carswell, Deputy Secretary of the Treasury).
   In addition to the authority under the CBCA, the FDIC also has inherent authority implied as incident to the enumerated powers expressly granted. Thus, the corporate powers provision of Section 9 of the FDI Act provides, in relevant part:

    . . . the Corporation . . . shall have power—. . . Seventh. To exercise . . . all powers specifically granted by the provisions of this Act, and such incidental powers as shall be necessary to carry out the powers so granted.
12 U.S.C. §1819.
   The courts have broadly construed the incidental powers of administrative agencies. American Trucking Association v. U.S., 344 U.S. 298 (1953); GTE Service Corp. v. FCC, 474 F.2d 724 (2d Cir. 1973). The courts have also broadly construed a similarly drafted provision regarding the incidental corporate powers of national banks ("to exercise . . . all such incidental powers as shall be necessary to carry on the business of banking . . . ." 12 U.S.C. 24 Seventh): Wyman v. Wallace, 201 U.S. 230, 243 (1906); Miller v. King, 223 U.S. 505, 511 (1912); Franklin National Bank of Franklin Square v. New York, 347 U.S. 373, 377 (1954); First National Bank of Hartford v. City of Hartford, 273 U.S. 548, 559-60 (1927).

   [.3],[.4] Thus, the FDIC's authority is, and must be, sufficiently broad, under the CBCA and its inherent powers, to consider other bases for denial of a CBCA application in addition to those specifically enumerated. To conclude otherwise would result in the anomalous situation of an agency compelled to approve an application for acquisition which contains provisions totally inconsistent with the fulfillment of its duties but which is otherwise acceptable.
   Yet the Applicants appear to make precisely this argument, namely that the FDIC has no discretion to consider factors other than those specifically set out in the statute after it has accepted the application for processing. Applicants' Brief, 18–20. This argument is based on a provision in the FDIC's regulations:

    [T]he FDIC will not accept a notice unless the information provided is responsive to every item specified in paragraph 6 of the Change in Bank Control Act of 1978 (12 U.S.C. §1817(j)(6) and every item prescribed in the appropriate FDIC forms.
12 C.F.R. §303.4(b)(5). The Applicants contend that the FDIC has the authority pursuant to this regulation to reject CBCA applications for various reasons, but, having failed to exercise this authority to and having accepted the application for processing, the agency lacks authority to consider any basis for disapproval other than those specifically set forth in the statute.
   The focus of this decision is not on the FDIC's authority to refuse to process CBCA applications. Suffice it to say that such unlimited authority could subvert the rights of banks and individuals. Further, the FDIC's regulation does not contemplate such unlimited discretion. The agency can reject {{12-31-90 p.A-1550}}applications which are not responsive to the prescribed items on the forms. While the agency can refuse to accept an application, the grounds for rejection must be specifically related to nonresponsiveness in the application form.
   In any event, there is no indication from the FDIC's regulations or from the CBCA that by the simple act of accepting an application the FDIC is bound to approve it absent a reason set forth in subparagraphs (A)-(E). Such a conclusion would turn the application review process on its head, requiring the regulatory agency to devote intense scrutiny to each application before accepting it. Such is not the process contemplated by the CBCA.

   [.5] Thus, the conditions set forth in the application can be a basis for denial of a CBCA application. The FDIC bears the burden of coming forward with evidence demonstrating that the application should be denied because of the conditions. The burden then shifts to the Applicants to prove the application should be granted.
   This process is consistent with the statute and is fair to both parties. The issue of the conditions was initially raised in the Notice and has been actively contested throughout this proceeding. As provided in the CBCA, this is an issue which should be decided on the basis of the evidence of record, in accordance with the procedures of the Administrative Procedure Act.
   The Applicants do not contend that the FDIC could have stricken the unacceptable conditions and considered the application without them. The Applicants have always contended that approval of the applications includes acceptance of the conditions.
   The second issue is whether the FDIC's disapproval on the basis of the conditions is subject to the administrative review under the CBCA. I conclude that all the reasons for disapproval of the proposed acquisition cited in the FDIC's Notice, including the conditions, are subject to the provisions of section 1817(j).
   The Administrative Procedure Act requires a formal agency hearing only when such a hearing is required by some other statute. 5 U.S.C. §554(a). There is no question that the CBCA is one of the statutes which requires the conduct of a formal administrative hearing. The statute provides for a hearing upon the request of the applicant after an agency disapproval of an application. The statute further provides that the hearing is to be conducted on the record in accordance with the Administrative Procedure Act:

    (3) Within three days after its decision to disapprove any proposed acquisition, the appropriate Federal banking agency shall notify the acquiring party in writing of the disapproval. Such notice shall provide a statement of the basis for the disapproval.
    (4) Within ten days of receipt of such notice of disapproval, the acquiring party may request an agency hearing on the proposed acquisition. In such hearing all issues shall be determined on the record pursuant to section 554 of Title 5. The length of the hearing shall be determined by the appropriate Federal banking agency. At the conclusion thereof, the appropriate Federal banking agency shall by order approve or disapprove the proposed acquisition on the basis of the record made at such hearing.
    (5) Any person whose proposed acquisition is disapproved after agency hearings under this subsection may obtain review by the United States court of appeals . . . .
12 U.S.C. §1817(j)(3)-(5). The FDIC's implementing regulations indicate that hearings conducted pursuant to this section are formal adjudications subject to the Administrative Procedure Act. See 12 C.F.R. §308.04(a).

   [.6] Section 1817(j)(3)-(5) is clear on its face. The agency is to issue a notice which states the basis for its disapproval of the application. The acquiring party then has the statutory right to request a hearing "on the proposed acquisition." The issues to be determined on-the-record at the hearing are to include all issues about the proposed acquisition. The statute does not indicate that there are some bases for disapproval which are not subject to review in on-the-record proceedings.
   The FDIC contends that the consideration of the conditions amounts to a consideration of a request for capital forbearance which is a matter of administrative discretion not subject to review. FDIC's Brief, 34–36.
   The criticized conditions in the CBCA application are not tantamount to a request for capital forbearance. Some are only peripherally related to capital forbearance, {{12-31-90 p.A-1551}}such as the provision requiring the FDIC to review new or additional information on loan classifications and the provision eliminating the requirement that Bank management charge off 50 percent of previously classified doubtful loans.
   More importantly, however, it is not the Bank which is making the proposal but the CBCA Applicants. The criteria for evaluating CBCA applicants are set forth in the CBCA. These statutory criteria differ markedly from the criteria for capital forbearance. For example, the fact that the Bank's weakened capital results from ownership abuse might result in the denial of a request for capital forbearance but would serve to emphasize the need for a change in bank control.
   In any event, the procedures for review of CBCA disapprovals provide the opportunity for an administrative hearing for those whose applications have been denied. To hold the FDIC can deny an application and applicants have no right to a hearing on the issues raised by the denial would subvert the CBCA by leaving the applicants without the procedural rights and remedies which the statute affords them.
   Consequently, I conclude that the FDIC could consider conditions in the application in determining to deny the application, as well as the other factors cited; but all the reasons for denial are subject to review in this proceeding.

D. ADEQUACY OF INVESTIGATION

   The Applicants contest the adequacy of the investigation conducted by the FDIC, pursuant to 12 U.S.C. §1817(j)(2)(B) concerning their competence, experience and integrity. The statute provides in relevant part:

    (B) Investigation of principals required
    Upon receiving any notice under this subsection, the appropriate Federal banking agency shall-
    (i) conduct an investigation of the competence, experience, integrity, and financial ability of each person named in a notice of a proposed acquisition as a person by whom or for whom such acquisition is to be made . . .
    (C) Report
    The appropriate Federal banking agency shall prepare a written report of any investigation under subparagraph (B) which shall contain, at a minimum, a summary of the results of such investigation.
   The statute provides no definition of an "investigation," nor do FDIC regulations or policy statements define the nature or the scope of investigations conducted pursuant to this statute. See TR 365-66; 12 C.F.R. §303.4 and 303.6(b); X 11. In this case, the investigation was carried out by FDIC review examiner, Kermit Kirchoff, with assistance from other FDIC examiners. TR 244-45.
   Counsel for the Applicants contend that, by its failure to promulgate regulations governing such investigations, the FDIC should be held to a "very high standard of fairness and impartiality," Resp. Reply Brief, 9. Thus, the investigator is required to present all facts concerning the applicants, both favorable and unfavorable. Further, the investigation should include direct inquiry of the applicants concerning matters reflecting adversely on them. Id.
   However, Applicants' counsel do not cite any statutes or cases requiring that an administrative investigation contain these particular elements. See Applicants' Reply Brief, 6–7. In this case, although the statute requires an investigation, it does not specify how that investigation must be conducted. Generally speaking, an administrative "investigation" contemplates procedures which are less formal and more flexible than an administrative hearing. 2 Am Jur 2d Administrative Law §257. The course of a particular investigation and the witnesses to be interviewed will usually come within the discretion of the administrative agency. Id., 259; FDIC Brief, 39.

   [.7] However, as noted by the Applicants, the FDIC has an obligation to conduct an accurate and careful inquiry. Applicants' Reply Brief, 6–7. And, the FDIC has the burden of presenting a prima facie case, based on its investigation, that the change of control should be denied. Then the burden shifts to the Applicants to demonstrate that the FDIC's case is not supported by the evidence. FDIC Decision (FDIC-89-40j), March 27, 1990, Slip Op. p. 3. Thus, the Applicants can certainly introduce evidence indicating that the facts presented by the FDIC are distorted or incomplete. Such will {{12-31-90 p.A-1552}}be taken into consideration in deciding whether the application should be granted.
   The Applicants seem to contend that the CBCA requires some specific standards constituting an "investigation," the absence of which means that the application should have been passed. However, nothing in the statute either defines an investigation or indicates that failure to conduct an investigation means that an application for change in control cannot be denied. Investigation is an administrative directive to the FDIC by Congress. It is not substantive. Therefore, I will not consider, or rule on, whether the investigation was adequate. Of concern here are the facts. Certainly if the FDIC had not conducted an investigation it would have no facts to support its prima facie case. Further, the Applicants are entitled to have access to the results of the investigation. Beyond that the scope of the investigation is not relevant to any issue in this matter.

II. COMPETENCE, EXPERIENCE, AND
INTEGRITY

   In the Notice of Disapproval, the FDIC stated that:

    competence, experience, or integrity of the Acquiring Persons and proposed management, and in particular Paul E. Oberstar and Gary Ellefson, is such that the proposed acquisition is not in the interest of the Bank's depositors or in the interest of the public to permit such persons to control the Bank . . . .
   By letter dated November 30, 1989, FDIC counsel indicated that the FDIC intended also to present evidence concerning the competence, experience, or integrity of James A. Peterson, to which the Applicants filed an opposition on December 6, 1989. In view of the fact that the Applicants' counsel had reasonable notice prior to the hearing concerning the FDIC's proposed introduction of evidence concerning Peterson, and that Peterson's competence, experience and integrity are fairly within the notice of disapproval, evidence concerning Peterson was received and is considered.

A. PAUL E. OBERSTAR

   Oberstar is a successful businessman who owns and operates two auto repair shops and engages in real estate development. TR 642. He has a background in banking, including three and a half years as an assistant national bank examiner with the Office of the Comptroller of the Currency, one and a half years as a credit analyst for *** Bank, and six years at *** Bank, where he rose to the position of Senior Vice President in charge of commercial lending. He was also one of the original founders of Boundary Waters State Bank which opened for business in 1978, and he served as a director of the Bank until 1982. TR 252, 598–600.

1. THE 1982 FEDERAL RESERVE
BOARD REPORT OF EXAMINATION

   The primary basis for the FDIC's criticism of Oberstar's competence, experience, and integrity relates to his handling of certain loans as a lending officer at *** Bank, as reflected in the July 9, 1982, Report of Examination of the Federal Reserve Board. X 35: FDIC Brief 50–52.
   The examiner-in-charge of the Federal Reserve Board's July 1982 examination, R.V. Groe, appeared and testified at the hearing. Groe concluded that the bank's major problem at the time of the examination was its large volume of loans which were either uncollectible or of doubtful collectibility, citing in particular the *** and *** credits. The bank was directed to charge off these losses.1X 35, p. 1. Groe testified that Oberstar had been the senior lending officer at the *** Bank until approximately two months prior to the examination when he was asked to resign by the Board of Directors. Until his resignation, Oberstar had been primarily responsible for the *** loan, the *** loan, and all other loans classified in the examination. TR 135-38.

a. *** LOAN

   Groe testified that the *** loan was classified as loss ($874,970). The loss portion of the loan included a $400,000 note which had been represented, apparently by Oberstar, to the bank Discount Committee as supported by an FmHA guarantee, but which in fact lacked the documentation to support such a guarantee. TR 129; X 35, p. 5(a). No interest or principal had been received on the $400,000 note since the FRB's August 1980 examination and the collateral for the loan was extremely deficient. Nonetheless, the borrower was permitted to build up an overdraft in excess of $400,000 during the latter part of 1980 and 1981. X 35, p. 5(a); TR 128-29. Groe stated


1 A loss classification means that the collection of the loan is so much in doubt that the asset is considered currently unbankable. TR 126.
{{12-31-90 p.A-1553}}that it was a poor banking practice to permit an overdraft of this size and was also in violation of the bank's legal lending limit. TR 130; X 35, p. 5(f). He noted that the file lacked a current financial statement which was a hazardous lending practice. TR 161.
   Oberstar testified that he co-supervised this loan with the bank's president and a junior loan officer. TR 696. He indicated that he was on the bank's Discount Committee which approved the overdrafts on this account and that he had, in fact, approved the overdrafts as a member of the committee. TR 697. He stated that the Bank took blank promissory notes from *** for the overdrafts, but these were not entered on the Bank's books. TR 611; 703. He acknowledged that it is not prudent banking practice to permit overdrafts to accrue when the customer was making no principal or interest payments. Id. He stated that the loan represented a concentration of credit in excess of 25 percent of the bank's capital structure and that such a concentration is generally considered not in accordance with prudent banking practices. TR 705-06. He also acknowledged that his supervision of the loan was not in accordance with prudent banking practices. TR 697. He expressed no knowledge about the lack of an FmHA guarantee on the $400,000 note and believed there was such a guarantee. TR 692-93. He indicated that there are procedures by which a loan officer can verify in the first instance whether such an FmHA guarantee exists. Id.
   Oberstar testified that he was asked by the bank's Board of Directors to submit his resignation because of his handling of the *** loan and did so, effective May 15, 1982. TR 708-09; X 10, pp. 4–6.
   The minutes of the meeting of the bank's Board of Directors for May 13, 1982, state:
    *** and *** explained at length how the exposure the bank now faces in the *** situation came about. It was noted that Mr. Oberstar had made unauthorized overdraft advances and had failed to present any of the loans discussed (with the exception of the first *** loan and $150,000 of the *** loan) to the Discount Committee. In addition, subsequent *** loans were represented as being Farm Home Administration guaranteed when in fact they were not. Mr. Oberstar (who was present) when asked to comment on or correct any of the preceding discussion said he had no comment to make.
X 10, p. 9. Oberstar testified that he disagreed with the correctness of the statements concerning his handling of the *** loan, although he acknowledged that he had been present at the meeting and had offered no comment on these statements. TR 709-11. He acknowledged that it would be an imprudent banking practice to misrepresent loans to the Discount Committee or to fail to present loans for approval to the committee. TR 711-12.
   The evidence further indicates that the bank filed an "employees dishonesty" claim with its insurance company to obtain reimbursement on its loss on the *** loan. X 10; TR 254-60.

b. ***—RELATED LOANS

   Examiner Groe testified that four other loans were for the benefit of *** in that the proceeds, directly or indirectly, went to the *** business. TR 131-33.
   Oberstar testified that he knew the proceeds of these loans were going to *** at the time when the loans were made. TR 702-03. These loans included loans to ***, ***, ***, and ***.
   Groe classified the *** loan as loss ($45,000) because it was seriously past due, was totally uncollateralized, and was not supported by an adequate financial statement. TR 131; X 35, p. 5(a)(1).
   Oberstar testified that he approved this loan as a member of the Discount Committee and that the making of the loan was not in accordance with prudent banking practices. TR 698.
   Groe classified the *** loan as doubtful ($92,500).2The proceeds went to *** for the purpose of issuing debentures. There was a factual dispute about whether the debentures had ever been issued, and the loan remained unpaid with litigation probable. TR 131; X 36, p. 5(a)(1).
   Oberstar testified that he supervised and signed off on this loan and also approved the loan as a member of the Discount Committee. TR 698-99. He considered his supervision of the loan to have been in


2 A doubtful loan is one which contains definite elements which could develop into a loss. TR 126.

{{12-31-90 p.A-1554}}accordance with prudent banking practices. Id.
   Groe classified the *** loan as doubtful ($250,000) because the loan was delinquent (no interest or principal paid), collateral was pledged but not perfected, and the proceeds went to ***. TR 132; X 35, p. 5(a)(1).
   Oberstar testified that he was one of the loan officers who signed off on the loan and that he approved the loan as a member of the Discount Committee. TR 699–700. He indicated that he considered the loan to have been made in accordance with prudent banking practices. Id.
   Groe classified the *** loan as doubtful ($59,396). The loan was delinquent, and there appeared to be some uncertainty as to whether *** or *** was expected to repay the loan. As a result, litigation was likely. TR 132.
   Oberstar testified that he supervised the loan and approved it as a loan officer and again as a member of the Discount Committee. TR 700-01. He indicated that he considered the loan to have been made in accordance with prudent banking practices. Id.

c. *** LOANS

   Groe classified the loans to *** and related interests as substandard ($120,000), doubtful ($126,342), and loss ($100,000).3The collateral was deficient, with invalid liens and other unperfected collateral. Oberstar was the lending officer who handled the credit until his departure from the bank. Groe was of the opinion that the credit had been "sloppily handled." It was difficult to determine what funds had gone to what project, and additional funds kept being provided to different projects, despite the delinquent nature of the loans. TR 133-34.
   Oberstar testified that he was the lending officer on the *** loans and that he approved the loans as a loan officer and as a member of the Discount Committee. He did not consider his supervision of the *** loans to have been in accordance with prudent banking practices. TR 704-05.

2. FDIC INVESTIGATION

   The FDIC investigation was conducted by Kirchoff. TR 250-51. He reviewed reports of examination, minutes of board meetings, and other information from the *** Bank concerning Oberstar's performance. He reviewed Oberstar's past bankrelated employment, and he reviewed a recent Boundary Waters State Bank examination report. From his review, he concluded that the *** Bank had experienced significant losses as a result of Oberstar's unsafe and unsound banking practices, particularly his handling of the *** loan.
   Kirchoff's written report, recommending the denial of the CBCA application, concluded that Oberstar's performance at the *** Bank raised questions concerning his integrity, and reflected adversely on his competence to acquire a bank with severe problems. X 2; TR 270-72.
   Kirchoff also criticized Oberstar (and Peterson) because of discrepancy in the CBCA application. These included: 1) a reference in the application to attached exhibits which in fact did not exist, TR 236, 262; 2) a reference to a severance contract, which in fact did not exist, TR 236-38, 262; 3) a discrepancy with respect to the Board of Directors, as to whether the Applicants would replace one or two individuals on the current Board, TR 235, 262; and 4) a discrepancy on funding, as to whether the transaction would be funded through existing lines of credit or by asset conversion, TR 262. Kirchoff testified that these discrepancy raised concerns about the diligence of both Oberstar and Peterson in adhering to rules and regulations, in view of their submission of a signed application with significant inaccuracies. TR 262-63.

3. APPLICANTS' EVIDENCE

   Although Applicants' counsel questioned the accuracy and completeness of the FDIC's investigation of Oberstar, basically they argue that additional factors should be considered. For instance, they contend that the FDIC failed to interview Oberstar with respect to his performance at the *** Bank and failed to consider numerous facts demonstrating Oberstar's positive competence, experience, and integrity. Applicants' Brief, 8–12; Applicants' Reply Brief, 8–13.
   Further, they argue, the FDIC investigation ignored the fact that Oberstar had over ten years experience in banking. Applicants' Reply Brief, 9. And, Oberstar had been


3 A substandard loan is one which contains weaknesses in either the borrower's financial ability to pay or the collateral which indicate that there is more than the normal amount of risk for eventual collection. It usually means that greater efforts need to be taken to strengthen the Bank's condition. TR 125-26.
{{12-31-90 p.A-1555}}instrumental in the startup and early operations of the Bank. Id. at 10; TR 417-21; 600.
   As a loan officer at the *** Bank, Oberstar had problems with only two major loans and he did not have sole responsibility for erroneous loan decisions. Finally, the FBI report of investigation on the *** loan was more favorable to Oberstar than the Report of Investigation indicated. Applicants' Brief, 10–11; Applicants' Reply Brief, 9–11.

4. ANALYSIS

   The evidence concerning the *** and *** credits is uncontradicted. Oberstar handled these loans in a fashion which reflects poorly on his ability and judgment as a loan officer. On this matter the FDIC's investigation was accurate and thorough.
   Oberstar permitted *** to build up a large unsecured overdraft, despite the fact that no principal or interest payments were being made on the loan. Oberstar acknowledged that this involved several poor banking practices: permitting the overdraft, permitting a loan concentration in excess of twenty-five percent of the Bank's capital, and permitting an extension of credit in excess of the Bank's legal lending limit.
   Oberstar denied responsibility for the lack of an FmHA guarantee on the second *** note, but the evidence indicates that the responsibility for this rested with him. According to his testimony, he was responsible for this loan, discussed the existence of the FmHA guarantee with the FmHA loan officer, and presented the information concerning the guarantee to the Discount Committee and the Board. TR 715-16. He also acknowledged that there are procedures by which a loan officer can verify initially whether such a guarantee exists. Yet the testimony and examination report of the Federal Reserve Board examiner and the minutes of the Board meeting indicate that no such guarantee existed.
   Oberstar was also responsible for the loans to four related *** borrowers: ***, ***, ***, and ***. He acknowledged making several of the loans and approved all of them as a member of the Bank's Discount Committee.
   The *** loan was unsecured with no current financial statement. Oberstar acknowledged that the loan was not in accordance with prudent banking practices.
   He considered his supervision of the other loans (***, ***, and ***) to have been in accordance with prudent banking practices. However, the evidence is to the contrary. The Board minutes indicate that Oberstar did not present any of these loans, except for the initial *** loan, to the Discount Committee. Furthermore, although he knew that the proceeds of the loans were going to *** and despite the lack of payment on that loan, he extended the loans to these individual borrowers. The result was delinquencies on all of these loans and, because of the confusion as to which party was actually responsible for repayment, there was a probability of litigation to enforce the Bank's claims.
   As a result of his handling of these loans, Oberstar was asked to resign from the Bank. The Board minutes indicate that he was criticized for making unauthorized overdrafts, for failing to present the loans to the Discount Committee, and for incorrectly representing the second *** loan as guaranteed by the FmHA. Although Oberstar contended at the hearing that these assertions were incorrect, he was present at the meeting and failed to contest any of these statements. The Board accepted his resignation at that same meeting.
   Oberstar also acknowledged his poor handling of the *** loans which contained invalid liens and other unperfected collateral. The loans were, in the words of the Federal Reserve Board examiner, "sloppily handled," and as a result additional payments continued to be made on delinquent loans because of confusion as to which loans were delinquent and which were current.
   These facts demonstrate serious lapses in Oberstar's banking competence. Counsel for the Applicants contend that Oberstar's failures with respect to these loans should be regarded in the same way as a lawyer who has lost two cases. Applicants' Reply Brief, 9–10. This analogy is not compelling. A lawyer does not make the facts. He deals with what he is given. Here Oberstar undeniably was a principal in creating situations involving serious unsafe and unsound banking practices. The Board found that he had violated the Bank's procedures, had misrepresented the existence of an appropriate federal guarantee, and had lost the confi- {{12-31-90 p.A-1556}}dence of the Board to such an extent that his resignation was requested. The loans in question involved excessive concentrations and violations of the legal lending limit. They were significantly large to raise concerns about the bank's liquidity. X 35.
   The Applicants further contend that responsibility for any improper handling of these loans did not rest with Oberstar alone. The loans were approved by the Board and the Discount Committee. Applicants' Reply Brief, 11. However, the Board minutes raise substantial doubts as to whether Oberstar did in fact present these loans to the Discount Committee and the Board. Furthermore, Oberstar has acknowledged that he participated in the approval of these loans as a member of the Discount Committee. Finally, the participation of others in the approval of the loans does not render Oberstar's actions any more competent or make his judgments concerning the handling of these loans any more prudent or reasonable.
   Counsel also argue that a more complete explanation of the FBI report concerning the *** loan should have been, or should be, considered. Applicants' Brief, 10–11; Applicants' Reply Brief, 11.
   On October 18, 1985, the FBI issued a report concerning Oberstar and his handling of the *** loan. Applicants' X 1. The Report stated that Oberstar granted numerous loans to *** from 1979 to 1982, that he represented that the second note was secured by an FmHA guarantee, that the checking account of *** was overdrawn constantly from 1980 to 1982, and that third party loans were created with the proceeds going to ***. The report also indicated that the lack of an FmHA guarantee was not discovered until 1982, that the Board approved all overdrafts on the ***, and the loan committee was aware of the loans but took no action to stop the outflow of bank funds. The FBI report concluded:

    Assistant United States Attorney Thorwald H. Anderson, Minneapolis, Minnesota declined any prosecution of Oberstar due to the fact that the evidence of the approval of the actions and conduct of Oberstar by the management and Board of Directors of the bank was so pervasive that it would be impossible to criminally prove that there had been any misapplication of funds.
Applicants' X 1.
   The factual basis for the assertions in the FBI report is unclear; however, accepting these statements as true, they basically confirm the uncontested facts concerning Oberstar's imprudent handling of the *** loans over a period of several years. That the overdrafts may have had Discount Committee approval scarcely vindicates Oberstar, who was a member of that committee. Thus he was doubly responsible for the mishandling of the overdrafts—as the loan officer and as a Discount Committee reviewer.

   [.8] The failure to prosecute indicates only that there was thought to be insufficient evidence to support a criminal prosecution. It does not exonerate Oberstar's actions. Nor does it establish that he exhibited competent banking judgment.
   In summary, the FDIC's investigation of Oberstar was adequate, and the evidence of record supports the following conclusions.
   Oberstar's actions as a senior vice-president in charge of commercial lending at the *** Bank raise significant concerns about his competence. Despite his clearly relevant experience as a former examiner and as a banker, including experience with Boundary Waters State Bank, his mishandling of ***, ***, and related loans reveal a repeated absence of sound judgment and a failure to make appropriate assessments of the risk involved in certain credits.
   Oberstar's actions also raise concerns about his integrity. The Board considered Oberstar's activity to be a serious breach of his duties as a senior lending officer. He was accused of failing to adhere to bank loan approval procedures. He misrepresented that a loan was supported by a federal guarantee. His resignation was requested and submitted without contest.
   The concerns about Oberstar's competence and integrity are the more serious in the context of the Bank's distressed condition. The Bank will require especially strong management and directorial supervision to overcome its loan deficiencies and to establish effective procedures for future asset management.
   The FDIC also noted errors in the application, but these appear inadvertent and relatively trivial. These errors provide some slight additional corroboration of Oberstar's lack of competence; however, in view of their inadvertent nature, I do not find that they impugn his integrity.
{{12-31-90 p.A-1557}}
   Though sufficiently experienced, Oberstar's record as a banker suggests that he lacks the competence and integrity to have a controlling voice in a troubled bank. Oberstar's competence and integrity will be considered in determining whether the application should be granted.

B. JAMES H. PETERSON

   Peterson is a successful businessman involved in entertainment, personnel, and real estate. TR 585. In the course of his business ventures, he has had frequent dealings with banks. TR 586.
   The FDIC raised two objections to Peterson's acquisition of the Bank: his lack of banking experience and his signing of the CBCA application containing errors.
   Peterson acknowledged that his banking experience was exclusively as a customer. TR 591. Thus, the issue is whether, and to what extent, the lack of banking experience means he does not have competence or experience to be an acquirer and proposed director of the Bank. The FDIC contends that Peterson cannot provide the necessary expertise which is required for a bank which has severe loan problems and very poor management. FDIC's Brief, 49–50.

   [.9] The lack of banking experience on the part of an acquirer does not, in and of itself, compel the conclusion that a CBCA application should be denied. The expertise which a nonbanker brings to a bank can be of special value in broadening the bank's exposure to the business community and the general business environment. For example, in the Office of the Comptroller of the Currency's Director's Book (August 1987), p. 11, it is stated:

    Some board members will likely also be officers, managers, or controlling shareholders of the bank, but substantial active participation by outside directors is essential if the board is to be effective. Outside directors provide important perspective and objectivity in evaluating management recommendations and day-to-day operations.
    Candidates for board positions do not need expert knowledge of the financial services industry. People successful in other endeavors offer knowledge, skills, and important perspectives to a board. Moreover, a board that includes directors from different segments of the community and local economy can better understand local community and business needs, evaluate local economic trends, and contribute to marketing efforts.
   Thus, a lack of banking experience does not necessarily detract from the qualifications of an individual seeking to participate in the affairs of a bank as board member, so long as the individual possesses other business experience which is of value to the bank. In evaluating a CBCA application, an individual's lack of banking experience must be considered along with other factors, including his other experience and his financial condition.
   For example, in one of the cases cited by the Acting Chairman of the FDIC and entered into the legislative history on CBCA (No. 8), a businessman with a lack of banking experience, who was apparently the only acquirer, was criticized for acquiring three small rural banks. 124 Cong. Rec. H11192 (daily ed. September 29, 1978). In addition, however, he engaged in heavy borrowings to purchase control of the banks.
   While Peterson has no banking experience, he presents a strong financial position with a history of successful business operations over a period of almost thirty years in a variety of enterprises. He would bring to the Bank, and the Board, knowledge, skills, and perspectives which might be of considerable assistance in assessing the current economic environment.
   I conclude that Peterson's absence of banking experience is not a significant factor, and would not justify the FDIC's denial of the change of control.
   The errors in the application appear inadvertent and relatively trivial. They provide some slight criticism of Peterson's competence. However, in view of their inadvertent nature, I do not find that they impugn his integrity.

C. GARY ELLEFSON

   Ellefson has been the president and chief executive officer at the Bank since April 1988. He has over 16 years in banking, including experience in installment lending, real estate lending, and commercial lending. TR 427. He also has extensive experience with handling problem loans. TR 428-29. The Applicants propose to continue to employ Ellefson in a management capacity as {{12-31-90 p.A-1558}}chief executive officer after their acquisition of control. X 1.
   Section 1817(j)(7)(D) provides that a CBCA application can be disapproved because of the lack of competence, experience, or integrity of proposed management personnel. The FDIC has challenged Ellefson's competence, experience, and integrity on three grounds: (1) his management of the Bank, (2) loans from ***, and (3) failure to furnish complete information on a loan application.
   Before considering the specifics, a preliminary issue must be addressed. The Applicants contend that the FDIC's disapproval of Ellefson as the proposed chief executive officer of the Bank is, in effect, a removal from office without complying with 12 U.S.C. §1818(e). Applicants' Prehearing Brief, 3, 8–9. The FDIC argues that consideration of a CBCA application is entirely different from a removal. FDIC's Brief, 60–63. I concur.
   The FDIC has the statutory authority under the CBCA to consider the competence, experience, and integrity of proposed management, taking into consideration the size, condition, and nature of the operations of the subject bank. The assessment is made considering the interests of depositors and of the public.
    [.10] By contrast, a removal action under section 1818(e) focuses on the wrongdoing of the individual. For an individual to be removed it must be proven that he engaged in some proscribed act, which had a particular effect and which involved culpability of a certain degree.
   Where an individual is removed, he is not only prohibited from participating in the affairs of the bank, and from exercising shareholder voting rights, he is prohibited from participating in the affairs of any other insured financial institution or credit union, absent written consent from the appropriate federal regulatory agency. See 12 U.S.C. §1818(e)(7).
   Disapproval of the present CBCA application would not preclude Ellefson from remaining in the Bank as president, exercising voting rights, or seeking employment with any other financial institution. Thus, if the application is disapproved, such would not have the effect of removing Ellefson from the Bank or the banking industry.
   In any event, Congress wrote section 1817(j)(7)(D) specifically authorizing the FDIC to consider the competence, experience, and integrity of proposed management and to disapprove the acquisition if those factors are found wanting. To the extent such is a back-door removal, it is what Congress had in mind.

1. MANAGEMENT OF THE BANK

   The evidence concerning Ellefson's management of the Bank is mixed. The FDIC produced some evidence and testimony indicating that his efforts to manage the Bank were not entirely successful. On the other hand, there is evidence indicating that Ellefson had made some improvements.
   When Ellefson took over as president and CEO in April 1988, the condition of the Bank was poor. At that time the Bank was under a cease and desist order and had serious asset problems, largely as a result of events which occurred prior to Ellefson's joining the Bank. TR 182; 549-50. The FDIC examiner acknowledged that the problems created by the prior owner were "overwhelming" and that Ellefson and the other senior management had reduced the level of problems. TR 195-96.
   Ellefson testified credibly that he initiated various procedures to reduce delinquent loans and improve loan documentation. TR 433-37. At the time of the March 1989 examination, the examiner acknowledged that bank management had made an effort to correct a substantial portion of the repeat loan documentation exceptions, and there was some decline in the volume of technical exceptions. X 6, p. 1-a; TR 187-93. In addition, the volume of classified assets as a percentage of total assets declined slightly. X 6, p. 1-a.
   Despite these actions, the Bank continued to have serious weaknesses at the time of the March 1989 examination. The examiner gave the Bank an overall rating of "5," the lowest possible, indicating critical problems and an extremely high near term probability of failure. X 21; TR 175. The examiner also gave bank management a "5" rating and expressed concern that it had failed to agree with him on a number of loan classifications. TR 198-99. The FDIC review examiner testified that the Bank's continuing severe problems, including poor asset quality and a continuing high level of technical deficiencies in the loan portfolio, were largely attributable to Ellefson as the chief executive officer. TR 266. He indicated that the lack of improvement in the {{12-31-90 p.A-1559}}Bank's condition led him to the conclusion that Ellefson lacked the ability to resolve the problems at the Bank. TR 268.
   The FDIC's criticism of Ellefson's management of the Bank raises concerns about his competence to deal with the Bank's future problems if the CBCA application were approved. However, these concerns are tempered by the other facts discussed above and acknowledged by the FDIC: namely, that the problems confronting Ellefson when he took over as president and CEO were "overwhelming," and that Ellefson had made improvements in loan documentation, loan review procedures, and percentage of classified assets. Though these improvements were not all that the FDIC would have liked, they demonstrated Ellefson's willingness and ability to address the Bank's problems in a relatively short period. He had been with the Bank less than 11 months when it was examined.
   Consequently, in the final evaluation of the CBCA application, I will consider Ellefson's limited progress in correcting the problems at the Bank as an adverse reflection on his competence, but I will not give this great weight in view of the severe problems with which he was confronted and the progress he made.

2. LOANS TO ELLEFSON AND ***

   In the March 1989 Report of Examination, the FDIC criticized the Bank's approval of a $65,000 loan to Ellefson for the purchase of a property containing a homestead and various rental units as a violation of Regulation O, 12 C.F.R. §215.4X 6, p. 6-2; TR 268. Specifically, Ellefson was cited for violating 12 C.F.R. §215.4(b) which requires that a bank not make a loan to an executive officer in excess of 5 percent of the bank's capital and surplus without following certain procedures, including obtaining prior approval of the loan from the Board. Ellefson's loan represented ten percent of the Bank's capital and surplus and thus required Board approval.
   Although Ellefson did obtain prior approval from the Board for the loan, he failed to present certain information to the Board, including the bona fide purpose and type of credit, the correct amount of the down payment, and the amortization schedule of the loan. Id.
   Ellefson testified that he had told the Board he was interested in buying a property with which they were all familiar. He stated that he did not indicate to the Board the amount of the down payment and that he did not even think of the requirements of Regulation O when presenting the loan to the Board. He acknowledged that the loan as extended was in violation of Regulation O. TR 499–500.
   Ellefson's handling of this loan reflects adversely on his competence in various respects. First, it is a violation of an insider loan regulation, which is a serious matter in itself. Second, Ellefson's testimony indicates that he did not even consider Regulation O when presenting this loan to the Board, despite his many years in banking and despite the fact that this Bank had a history of serious insider abuse, including violations of Regulation O. See X 6, pp. 6-2 and 6-3. Notwithstanding that this was only one loan and Ellefson did in fact bring it to the Board's attention prior to the approval, the failure to comply completely with the requirements of Regulation O raises some concern as to Ellefson's competence and integrity.
   Ellefson was also criticized with respect to a loan granted to ***. TR 188-89; 268. As indicated in the March 1989 Report of Examination, this credit of $90,000 was classified as $13,000 substandard and was criticized as an out-of-territory loan with poor loan documentation. X 6, p. 2-a-38.
   Ellefson testified that he disputed the classification at the time of the examination, but he did not recall whether the file contained a current financial statement. TR 500-01. ***, an assistant vice-president at the Bank, testified that he had previously handled the *** loan (which was at that time a participation purchased from *** Bank) while he was employed as an assistant vice-president at *** Bank from May 1985 to September 1988. TR 536-37. According to ***, the borrower was always current and made several payments of $10,000 to $20,000 on the loan. TR 540. The loan participation was subsequently sold to the Bank on a short-term basis until permanent financing could be arranged with another institution because *** Bank was liquidating its loan participation portfolio. TR 539-40


4 These provisions are applicable to State nonmember banks pursuant to 12 U.S.C. §1828(j)(2).

{{12-31-90 p.A-1560}}
   The Bank's handling of the *** loan is at most a minor incident, involving a substandard classification of $13,000 on a single loan. The chief problem with this credit appears to have been poor loan documentation, which the Applicants have not disputed. At most this matter is some corroboration of the FDIC's criticism of Ellefson's competence.

3. INCOMPLETE FINANCIAL
INFORMATION

   During the March 1989 examination, Ellefson was requested to provide personal financial information in support of his loan at the Bank. In response to this request, Ellefson submitted a loan application dated August 31, 1988, which he had previously submitted in support of a loan at the *** Bank. TR 183-84; X 22. The FDIC examiner noted that some of Ellefson's known debts were not listed on the financial statement. TR 184. This omission was cited in the FDIC's Report of Investigation. X 2.
   Ellefson testified that he had omitted four debts from the *** Bank loan application: $111,000 to ***, $45,000 to ***, $40,000 to ***, and $58,000 to the *** Bank. TR 466; 482. If the loan application had shown these debts, Ellefson's net worth would have dropped from approximately $100,000 to a negative $154,000. TR 503.
   Ellefson testified that he orally explained these debts to ***, the owner of *** Bank, and to ***, the real estate loan officer at ***. TR 465, 480-82. However, Ellefson stated that he did not discuss with *** whether to disclose the four debts on his loan application. TR 482. *** testified that, although Ellefson had mentioned his various debts when discussing the possibility of a loan from *** Bank, Ellefson did not discuss whether the financial information should be entered on the loan application. *** assumed that Ellefson would submit a correct financial statement. TR 377-79.
   When questioned as to why he failed to include the four debts on his application, Ellefson testified that he was trying to make a fresh start and that he would have to reach a settlement or file bankruptcy. TR 482; 527. On further questioning, he admitted that he should have listed the debts. TR 528.
   The facts are undisputed. Ellefson filed a grossly inaccurate loan application after discussing his debts orally with bank personnel. The undisclosed debts were substantial ($254,000) and would have converted his net worth from a positive figure ($100,000) to a negative figure ($154,000).
   Whatever discussion Ellefson may have had with bank personnel, such did not justify the submission of an incomplete and inaccurate financial statement. His explanation was to the effect that he was trying to hide debt of about $254,000 to avoid filing bankruptcy. His desire to make a "fresh start" is not a sufficient justification for submitting an incomplete, and grossly inaccurate, loan application. In view of his position as a bank president and chief executive officer and his 16 years in banking, Ellefson's filing of a false loan application cannot be regarded as an inadvertent or negligent error.
   At a minimum, this represents a significant lapse in judgment which reflects adversely not only on his ability to manage the Bank but on his honesty and forthrightness in the conduct of his duties. It could also be in violation of 18 U.S.C. §1001 which provides criminal penalties for knowingly and wilfully making false statements.
   Ellefson's failure to list the four debts on his loan application at the *** Bank is a very serious matter and demonstrates a lack of competence and integrity which would substantially impair his ability to manage Boundary Waters State Bank in the best interests of the depositors and the public.

D. CONCLUSIONS

   Upon the foregoing analysis, and the record as a whole, I conclude that the FDIC established prima facie that Oberstar and Ellefson lacked the competence and integrity to support an application for change in control of the Bank with Oberstar as an acquiring party and Ellefson as proposed president and chief executive officer.
   Oberstar's activity as the senior lending officer at the *** Bank casts sufficient doubt on his competence and integrity to support the FDIC's denial of his application. Oberstar did not rebut the facts presented by the FDIC. Though his activity occurred eight to eleven years ago, there is no indication that time has absolved the seriousness of this matter.
   Similarly, the facts presented concerning Ellefson demonstrate a lack of competence to be the chief executive officer of a problem bank.
{{12-31-90 p.A-1561}}
   But more important to this matter is Ellefson's failure to state the precise nature of his financial condition when applying for a loan from the *** Bank. He acknowledged withholding this information because he was trying to make a fresh start but implied in his testimony that he made a full disclosure to ***. This I do not credit. But even if he did, I conclude he knowingly failed to include this debt on his financial statement. This is a sufficiently serious reflection on his integrity to justify denying an application for change in bank control where he is proposed to be the chief executive officer.
   The other factors submitted by the FDIC, including Peterson's lack of banking experience, are insignificant and do not contribute to my conclusion. The application for change in control of the Bank was appropriately denied by the FDIC based on the lack of competence and integrity of Oberstar and Ellefson.

III. CONDITIONS IN THE
APPLICATION

   As noted, the application set forth conditions purporting to bind the FDIC if it approved the change in control. Because the conditions were considered unacceptable, the application was denied. The issue is whether such was an appropriate basis for denial. There is no contention by the Applicants that the FDIC could have approved the application without the conditions.

A. PROHIBITION ON REQUIRING
ADDITIONAL CAPITAL

   The CBCA application states that the Applicants would provide additional capital of $550,000, which would initially increase the Bank's equity capital to 1.98 percent of total assets. The proposed capital plan projects that equity capital would increase to 7.58 percent by the sixth year. Total capital (plus reserves) is shown at 6.23 percent of assets initially, drops to 5.82 and 5.88 in years 2 and 3 and then increases to 8.30 percent by year 6. X 1, pp. 3, 11.
   In light of the Applicants' capital commitment, the application provides that the FDIC would not require additional capital to be injected into the Bank. X 1, p. 3:

    The proposed commitment to provide the new capital funds as described in this notice, is made with the understanding that the Federal Deposit Insurance Corporation (FDIC), by its approval of or non-objection to this notice, agrees that so long as the BANK is achieving the equity capital relationship as set forth in the forecast contained in the Plan for Capital Enhancement within this notice, and is maintaining a reserve for loss balance, which is fully funded in consideration of the assessment of the loan portfolio at all times, action will not be taken by the FDIC to require additional capital to be injected into BANK, to meet regulatory guidelines or otherwise.
   The FDIC has objected to this provision as an unacceptable "condition" which would prevent the FDIC from fulfilling its statutory responsibility for ensuring that banks under its supervision achieve and maintain adequate capital. FDIC's Brief, 32.
   George Muraco, Assistant Regional Director for the FDIC in Kansas City, Missouri, who participated in the decision to disapprove the application, testified that this provision would impair the FDIC's supervisory efforts because it would prevent the FDIC from requiring more capital, even if the Bank were to engage in additional activities which would require additional capitalization, such as credit card operations or extending letters of credit. TR 771-72. According to Muraco, the Bank's entrance into these areas or other areas in which the Bank had limited expertise might require additional capital. TR 772.
   The Applicants contended that they have not indicated any intention to engage in the activities mentioned by Muraco. Applicants' Brief, 14. They further argued that the commitment of the FDIC to refrain from requiring additional capital must be viewed in the context of the entire agreement which requires not only that the Applicants would infuse capital but they would increase the level of the reserve for losses in response to additional risks. Id.
   [.11] The capital condition, if accepted, would significantly impair the FDIC's ability to supervise the Bank. The FDIC has both the authority and the responsibility to ensure that banks under its supervision conduct their affairs in a safe and sound manner and maintain adequate capital. See 12 U.S.C. §§1817, 1818 and 3907. Accepting the proposed condition would prevent the FDIC from requiring additional capital, even if {{12-31-90 p.A-1562}}the Bank were to engage in a wide variety of highly risky activities. Although the Applicants have not indicated an intention to move into the areas cited by Muraco, they have not stated that their future activities would remain static. Furthermore, although the application provides some assurance that the loss reserve would remain fully funded, this does not provide the FDIC the flexibility it needs to require additional provisions to the loss reserve or other capital infusions as the Bank's future situation might dictate.
   In short, the capital condition proposed by the Applicants would substantially affect the FDIC's supervisory authority over the Bank. Therefore, the FDIC could appropriately refuse to agree to such a condition by denying the application.

B. REQUIRED REVIEW OF LOAN
CLASSIFICATIONS

   The Applicants agreed to allocate an additional $170,000 to the Bank's loan loss reserve, as required by the FDIC in the most recent examination of the Bank, despite the Applicants' opinion that such was not required by the state of the Bank's loan portfolio. X 1, p. 4. In consideration for adding to the reserve, the Applicants would require the FDIC to reevaluate the loan classification upon the submission of additional documentation:

    Further it is understood, and the ACQUIRING PARTIES are so relying, that should, subsequent to a classification, BANK management obtain documentation or additional information, which in management's judgment would remove the basis for the classification, that the FDIC will have no objection and will permit the BANK to transfer excess amounts in the Reserve for Loss account provided for that loan to the BANK's Undivided Profits account. Should BANK management dispute any loan classification, or should subsequent to a classification, BANK management obtain information or documentation which in management's judgment would alter the classified status of the loan, that upon submission of such dispute supported by management's information, or information supporting an amended classification status to the FDIC, the FDIC will agree to promptly review the new or additional information, and prior to the next examination of the BANK, if satisfied that the loan need no longer be classified, or classified in a more severe category, the FDIC will so inform the BANK.
   The FDIC has objected to this provision as imposing various impermissible constraints on the FDIC's supervision of the Bank. FDIC's Brief, 32–34.
   Muraco testified that authorization for the Bank to transfer the amount reserved for a loan from the allowance for loan and lease losses (ALLL) to the undivided profits account would interfere with the FDIC's ability to regulate the Bank's ALLL. According to Muraco, assessment of a bank's loan loss reserve is based on the entire loan portfolio and requires more than the evaluation of one loan. Therefore, adjustments to the reserve cannot be made solely on the reevaluation of a single loan. TR 761-62.
   Muraco testified that requiring the FDIC to reevaluate loan classifications upon the Bank's request would impose significant operational constraints on the FDIC. TR 761. If the FDIC agreed to review each line of credit at the request of Bank management, such might reasonably require sending an examiner to the Bank—the review of a given loan might require the evaluation of the entire credit file as well as the documentation forwarded by Bank management. TR 762; FDIC's Brief, 33. The FDIC contended that such a requirement would place an impermissible burden on the FDIC's personnel resources and could interfere with the FDIC's ability to allocate its personnel.
   The Applicants argue that the loan review requirement would not impose significant restrictions on the FDIC because it would require no more than reviewing and responding to information provided by Bank management. Applicants' Brief, 16. They also contend that the Bank's activities were limited in nature and would not impose any substantial constraints on an organization as large as the FDIC.
   [.12] If accepted, these provisions would interfere with the FDIC's ability to fulfill its supervisory responsibilities. The allocation of funds to a bank's loan loss reserve cannot be determined on an individual credit basis. The condition of the entire portfolio must be considered. Consequently, permitting the Bank to transfer funds from the loan loss reserve upon the reevaluation of individual loans is not consistent with sound banking practices or regulatory supervision.
{{12-31-90 p.A-1563}}
   [.13] In addition, contrary to Applicants' contention, the requirement for the FDIC to reevaluate loans at the request of the Bank would impose impermissible constraints on the allocation of the FDIC's personnel. As FDIC counsel argued, such a review is meaningful only in the context of a review of the Bank's entire loan portfolio. Such a large-scale review would require substantial examiner resources. If, on the other hand, single loans are reevaluated without reviewing the entire loan portfolio, the burden on the examination staff would be less severe, but no useful purpose would be served because the loan loss reserve could not be adjusted absent a review of the entire portfolio. FDIC's Brief, 34.
   Therefore, the FDIC appropriately declined the Applicants' proposal concerning the required review of loan classifications by denying the application.

C. CHARGE-OFF OF DOUBTFUL
LOANS

    The application provides:
    Additionally, the ACQUIRING PARTIES are relying on representation by the FDIC that upon consummation to [sic] the acquisition and capital infusion proposed herein, that the FDIC will no longer require that BANK management charge-off 50% of that portion of loans classified Doubtful at prior examinations.
X 1, p. 4. The FDIC objected to this provision because it would interfere with the FDIC's authority to establish and enforce minimum levels of capital. FDIC's Brief, 34.
   Muraco testified that the Bank had been ordered by the FDIC Board to charge off half of the amount of loans classified as doubtful, but that the Bank had failed to do so. The Bank's failure to remove a portion of these loans from the Bank's books caused an overstatement of the Bank's capital. TR 763.
   The Applicants contended that they were simply addressing loans classified as doubtful in the FDIC's Order of Correction (X 7). They stated that the FDIC cited no authority to require the Bank to charge off 50 percent of loans classified as doubtful. Applicants' Brief, 15&150;16.
   [.14] Examiner determinations of the appropriate amount to be charged off for classified loans is a predictive assessment deserving deference. See discussion in I.A. supra. The Applicants offered no evidence or argument contesting the FDIC's loan classifications or the appropriate amount to be charged off. Therefore, the Applicants' proposal does not take into consideration the continuing risk inherent in these loans, and elimination of the charge off requirement for these loans would result in the misstatement of the Bank's capital. The chargeoff provision is an appropriate basis for denying the application.

IV. FINDINGS OF FACT

   1. Boundary Waters State Bank, Ely, Minnesota (Bank) is an "insured depository institution," as that term is defined in 12 U.S.C. §1813(c)(2). TR 36; Joint X 1.
   2. The FDIC is the "appropriate Federal banking agency," as that term is defined in 12 U.S.C. §1813(q), to issue a notice disapproving a proposed acquisition of the Bank, pursuant to section 7(j)(1) of the Change in Bank Control Act (CBCA), 12 U.S.C. §1817(j)(1). TR 38; Joint X 1.
   3. Paul E. Oberstar (Oberstar) is an "acquiring person" within the meaning of 12 U.S.C. §1817(j)(1). TR 36; Joint X 1.
   4. James A. Peterson (Peterson) is an "acquiring person" within the meaning of 12 U.S.C. §1817(j)(1). TR 36; Joint X 1.
   5. The transaction proposed by Peterson and Oberstar (Acquiring Parties or Applicants) is a purchase of the majority of the Bank's voting stock within the meaning of 12 U.S.C. §1817(j)(1). TR 36–37; Joint X 1.
   6. In April and May 1989, the Acquiring Parties filed with the FDIC documents in support of their Notice of Acquisition of Control (or CBCA application). TR 228; FDIC X 1; 16.
   7. The Acquiring Parties gave timely notice of their intention to acquire control of the Bank, as required by 12 U.S.C. §1817(j)(1). TR 37; Joint X 1.
   8. The Acquiring Parties' Notice was accepted as substantially complete by the FDIC on May 17, 1989, in accordance with section 303.4(b) of the FDIC Rules, 12 C.F.R. §303.4(b), and the Acquiring Parties were notified of the acceptance by letter dated May 18, 1989. TR 242; X 16.
{{12-31-90 p.A-1564}}
   9. The FDIC filed a timely request for an additional 30-day period within which to determine whether to approve or disapprove the Notice of Acquisition of Control, pursuant to 12 U.S.C. §1817(j)(1). TR 37; Joint X 1.
   10. The FDIC conducted an investigation of the competence, experience, and integrity of each person named in the CBCA application as a person by whom or for whom the proposed acquisition is to be made, as required by 12 U.S.C. §1817(j)(2)(B). TR 244-45.
   11. The FDIC prepared a written report of its investigation, as required by 12 U.S.C. §1817(j)(2)(C). TR 270-71; X 2.
   12. The FDIC issued a timely Notice of Disapproval of Acquisition of Control and Notice of Hearing (Notice of Disapproval) on August 11, 1989. TR 37; Joint X 1.
   13. One basis for disapproval was a finding that the competence, experience, and integrity of the Acquiring Parties and of proposed management, specifically Gary Ellefson, president and chief executive officer of the Bank, is such that the proposed change in control is not in the interest of the Bank's depositors or the public. TR 269-70; Notice of Disapproval.
   14. The CBCA application contained "conditions" which would become effective upon approval of the application.
   15. Another basis for disapproval of the application was the finding that approval of the application with such conditions would unduly restrict the FDIC in fulfilling its statutory mandate to supervise the Bank. TR 761-72; Notice of Disapproval.
   16. The "conditions" in the CBCA application cited by the FDIC as a basis for disapproving the application are:

       (a) In light of the Applicants' commitment to inject capital in the amount of $550,000 into the Bank, so long as the Bank was meeting certain specific stated capital and reserve requirements, the FDIC would agree not to require additional capital. X 1.
       (b) In consideration of providing an additional $170,000 to the Bank's reserve, the FDIC would be required to reevaluate its classification of individual Bank loans upon the submission of additional documentation. X 1.
       (c) Upon the consummation of the acquisition, the FDIC would no longer require the Bank to charge off 50 percent of the loans classified doubtful at prior examinations. X 1; TR 758-71.
   17. A bank which experiences moderately serious to severe financial difficulties and for which appropriate corrective action is necessary to restore it to a safe and sound condition may be designated by the FDIC as a "problem bank." TR 215.
   18. The Bank was designated a "problem bank" by the FDIC following the FDIC's January 1987 examination and has been designated a problem bank since that time. TR 215-16.
   19. An Order to Cease and Desist, pursuant to 12 U.S.C. §1818(b), was issued against the Bank by the FDIC on September 25, 1987, and remained outstanding at the time of the hearing. TR 217-19; X 5.
   20. As a result of an FDIC examination as of March 3, 1989, the Bank was assigned a composite supervisory rating of "5." TR 175.
   21. Oberstar has a background in banking, including six years at the *** Bank, ending in May 1982, at which time he was senior vice president in charge of commercial lending. Tr 252; 598–600.
   22. The *** Bank experienced serious asset problems, including adverse classifications centered primarily in commercial loans, as a result of Oberstar's unsafe and unsound lending practices. TR 135-38; 253.
   23. The *** line of credit at the *** Bank was classified loss in the amount of $874,970 at the July 9, 1982 examination of the Bank by the Federal Reserve Board. X 35.
   24. Oberstar co-supervised this loan with the president and a junior loan officer of the *** Bank. TR 696.
   25. The *** line of credit included an overdraft of $434,589. TR 130; X 35.
   26. Oberstar was on the Discount Committee of the *** Bank, and he approved the overdrafts as a member of the committee. TR 697.
   27. Overdraft lending is not a prudent banking practice. TR 137; 697.
   28. The *** loan represented a concentration of credit in excess of 25 percent of the bank's capital structure which is not in accordance with prudent banking practices. TR 705-06.
   29. Contrary to prudent banking practices, the *** Bank held blank promissory {{12-31-90 p.A-1565}}notes signed by the *** Company for its overdrafts, which notes were not entered on the bank's books. TR 611; 703.
   30. Oberstar represented that a $400,000 loan to *** was backed by an FmHA guarantee, but no such guarantee existed. TR 129; X 35,. p. 5(a).
   31. The *** line exceeded the legal lending limit of the *** Bank. TR 130; X 35.
   32. Oberstar was responsible for the handling of four other adversely classified loans which were for the benefit of *** because the proceeds went to the ***: the ***, ***, ***, and *** loans. TR 131-33; 702-03.
   33. Oberstar's handling of the *** line of credit and the related *** loans was contrary to prudent banking practices. TR 130, 161, 697-698.
   34. At the July 9, 1982, examination at the ***, the *** line of credit was classified as substandard ($120,000), doubtful ($126,342), and loss ($100,000). TR 133-34.
   35. The collateral was deficient on the *** line of credit, and there were invalid liens and other unperfected collateral. TR 133-34.
   36. Oberstar was the lending officer responsible for the *** line of credit, and he approved the loans as a member of the bank's Discount Committee. TR 133-34; 704-05.
   37. Oberstar's supervision of the *** line of credit was not in accordance with prudent banking practices. TR 704-05.
   38. Oberstar was asked by the Board of Directors of the *** Bank to submit his resignation because of his handling of the *** loan, and he did in fact submit his resignation, effective May 15, 1982. TR 708-09; X 10.
   39. Ellefson has been president and chief executive officer of the Bank since April 1988, and he has over 16 years of banking experience. TR 427.
   40. The Acquiring Parties propose in the Notice of Acquisition of Control to retain Ellefson as the Bank's president. X 1.
   41. The Bank was assigned the management rating of "5" following the March 3, 1989, examination. TR 174; X 6.
   42. Although some improvement in loan documentation and credit documentation occurred during Ellefson's tenure as president, numerous deficiencies continued to exist as of the March 1989 examination, including poor asset quality and an extremely high 50 percent of the Bank's loan portfolio listed for technical deficiencies. TR 265-66.
   43. These continuing problems in the Bank are attributable, at least in significant part, to Ellefson. TR 266.
   44. Ellefson obtained from the Bank a loan for the purchase of a property containing a homestead and several rental units. X 6; TR 268.
   45. The loan which Ellefson obtained from the Bank was advanced in violation of Regulation O (12 C.F.R. Part 215).
   46. *** obtained a loan from the Bank during Ellefson's tenure as Bank president. TR 500-01; X 6.
   47. The loan to *** was poorly documented and was classified substandard at the March 1989 examination of the Bank. X 6.
   48. Ellefson submitted a personal financial statement to the FDIC bank examiner during the March 3, 1989, examination of the Bank to support the loan he had obtained from the Bank. TR 182-84; X 22.
   49. Ellefson had previously submitted the same personal financial statement to the *** Bank in connection with a loan he received from that bank. TR 60–64; X 22, 23, 24, and 25.
   50. The financial statement submitted by Ellefson to the FDIC examiner and to the *** Bank was false and misleading because it failed to disclose outstanding indebtedness to the *** Bank and to several of his relatives in the approximate amount of $254,000. TR 106–110; 502-03; X 22, 26–30.

V. CONCLUSIONS OF LAW

   1. The proposed acquisition of control of the Boundary Waters State Bank, Ely, Minnesota (Bank) by Paul E. Oberstar and James A. Peterson (Acquiring Parties) is subject to the requirements of the Federal Deposit Insurance Act, 12 U.S.C. §1811 et seq., including the Change in Bank Control Act (CBCA), 12 U.S.C. §1817(j).
   2. The FDIC has jurisdiction over the Acquiring Parties and the subject matter of this proceeding.
   3. The Acquiring Parties are required by 12 U.S.C. §1817(j)(1) to give notice of their {{12-31-90 p.A-1566}}proposed acquisition of the Bank to the FDIC which has the authority to disapprove the proposed acquisition.
   4. The FDIC has broad discretion under the CBCA to disapprove the transfer of control of a bank similar to the discretion that regulatory agencies possess in chartering a new bank.
   5. In addition, the FDIC has such incidental powers as are necessary to carry out its statutory responsibilities to supervise and preserve the safety and soundness of the Bank. 12 U.S.C. §1819 Seventh.
   6. The FDIC has the authority, pursuant to the CBCA and as incident to its express supervisory authority, to disapprove the application based on "conditions" approval of which would unduly restrict its ability to fulfill its statutory responsibilities.
   7. All of the bases for disapproval of the CBCA application cited in the FDIC's Notice of Disapproval are subject to review in the administrative hearing process required by 12 U.S.C. §1817(j)(3)-(4).
   8. The "conditions" contained in the CBCA application unduly restrict the FDIC's ability to fulfill its statutory responsibilities.
   9. The scope of the FDIC's investigation of the competence, experience, and integrity of proposed acquiring parties and proposed management personnel in change in bank control cases is a matter within the discretion of the agency.
   10. The current condition of the institution proposed to be acquired, as well as the size, nature, and complexity of its operations, is a relevant consideration in evaluating the competence, experience, and integrity of the proposed acquiring parties and the proposed management personnel in change in bank control matters.
   11. In administrative hearings conducted pursuant to the CBCA, the FDIC has the initial burden of establishing a prima facie case supporting its disapproval of the application. Thereafter, the applicant bears the burden of non-persuasion, so that, if the applicant fails to convince the trier of fact that the FDIC's reasons are incorrect, the denial of the change in control application must be sustained.
   12. The standard of proof in administrative proceedings conducted pursuant to the CBCA and the Administrative Procedure Act is the preponderance of the evidence standard.
   13. The FDIC may disapprove the proposed acquisition of control by the Acquiring Parties if it determines that the competence, experience, or integrity of Peterson or Oberstar or Ellefson indicates that it would not be in the interest of the Bank's depositors or in the interest of the public to permit the Acquiring Parties to control the Bank. 12 U.S.C. §1817(j)(7)(D).
   14. The FDIC established prima facie that the competence and integrity of Oberstar and Ellefson are such that it would not be in the interest of the Bank's depositors or the public to permit the proposed acquisition to be completed.
   15. The Acquiring Parties have failed to sustain their burden of proving by a preponderance of the evidence that Oberstar and Ellefson possess the required competence and integrity to control and manage, respectively, the Bank in the interest of the Bank's depositors and in the interest of the public.
   16. The FDIC established prima facie that approval of the CBCA application with the conditions would unduly inhibit its statutory supervision of the Bank.
   17. The Acquiring Parties did not prove that the application with the conditions should have been approved.
   Upon the foregoing findings of fact, conclusions of law, and the entire record in this matter, it is recommended that the Board of Directors of the FDIC issue the following order denying the Acquiring Parties' application for a change in control:

ORDER

   IT IS HEREBY ORDERED, pursuant to 12 U.S.C. §1817(j) and the FDIC Rules of Practice and Procedures, 12 C.F.R. Part 308, that the proposed Notice of Acquisition of Control by Paul E. Oberstar and James H. Peterson be, and it hereby is, DISAPPROVED.
   Dated at Washington, D.C. this 20th day of April, 1990.

James L. Rose
Administrative Law Judge

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