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   [5165A]In the matter of Anderson County Bank, Clinton, Tennessee, Docket No. FDIC-89-235a(5-21-91).).

   FDIC orders termination of institution's insured status because its continued operation in an unsafe and unsound condition, without realistic prospects for significant improvement in its capital condition, poses an undue risk to the insurance fund. (This order was terminated by order of the FDIC, dated 8-30-91; see ¶9002.)

   [.1] Practice and Procedure"—"Exceptions to Recommended Decision"—" Oral Argument
   The grant of a request for oral argument is discretionary with the board, granted only if it will aid the board in its determination or if a party would be prejudiced by the lack of oral argument.

   [.2] Loans"—"Classification"—"Examiner's Opinion
   An examiner's loan classification is due great deference and must be accepted unless it falls "outside the zone of reasonableness."

   [.3] Practice and Procedure"—"Evidence"—"Examiner's Opinion
   An examiner need not be an expert in litigation, bankruptcy or appraisal of specialized government surplus property in order to evaluate the risk of nonpayment of a loan. Objectively verifiable facts in evidence"—"the existence of litigation, questions concerning title to and salability of collateral, the current net worth and paying capacity of obligors"—"provide a basis for the examiner's classification of a loan as doubtful.

   [.4] Officers and Directors"—"Guaranty"—"Value
   A Guaranty by bank directors that converts to an unsecured promissory note, with conditions relieving guarantors of liability in the event that the bank undergoes a change in control or goes into receivership, has no value.

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   [.5] Practice and Procedure"—"Post-Hearing Evidence
   The board may on its own motion request post-hearing submissions from the parties. It is appropriate when both parties agree, and the record contains information that pending litigation may soon resolve some questions of concern in the FDIC proceeding.

In the Matter of

ANDERSON COUNTY BANK
CLINTON,
TENNESSEE
(Insured State Nonmember Bank)
DECISION AND ORDER
TO TERMINATE FEDERAL
DEPOSIT INSURANCE

FDIC-89-235a

INTRODUCTION

   This is a proceeding initiated by the Federal Deposit Insurance Corporation ("FDIC") to terminate the insured status of Anderson County Bank, Clinton, Tennessee (the "Respondent," the "Bank," or the "Insured Institution") pursuant to section 8(a) of the Federal Deposit Insurance Act (the "FDI Act"), 18 U.S.C. 1818(a). Following examination of the Respondent as of July 24, 1989 ("Examination I"), the FDIC made findings of unsafe and unsound practices and/ or condition and on March 29, 1990, issued its notice of Intention to Terminate Insured Status, Findings, and Order Setting Hearing ("Notice"). Thereafter, the FDIC and the Commissioner of Financial Institutions for the State of Tennessee examined the Respondent as of the close of business July 27, 1990 ("Examination II").
   A hearing was held in this matter before Administrative Law Judge James L. Rose ("ALJ") between September 10–12, 1990. The ALJ issued his Recommended Decision on January 28, 1991, recommending that the Respondent's insured status be continued, awaiting what he determined to be an imminent infusion of necessary capital.1 The parties submitted briefs, reply briefs, exceptions to the ALJ's Recommended Decision, a Motion to Reopen the Record, an Opposition to the Motion, a Request for Oral Argument, and an Opposition to that Request.2 In accordance with 12 C.F.R. § 308.05, the Board of Directors (the "Board") of the FDIC requested both parties to submit a status report on litigation related to the condition of the Bank's capital. This matter is now before the Board for final decision.
   For the reasons set forth below, the Board adopts certain of the Findings of Fact and Conclusions of Law made by the ALJ, but concludes that termination of the insured status of the Respondent is appropriate.

REQUEST TO REOPEN RECORD

   On February 15, 1991, FDIC Enforcement Counsel filed a Request to Reopen Record, to which Respondent filed a Response on February 27, 1991. FDIC Enforcement Counsel requests that the Board include in the record in this case FDIC Exhibits Nos. 16 and 17.
   Respondent's submission indicates that "Respondent does not oppose the FDIC's Request to Reopen Record for the express and limited purposes contained in the FDIC's motion." However, Respondent also requests that Respondent's Exhibit No. 207, an affidavit of Donald W. Conrad, President of Respondent, be made part of the record in this case.
   As the requests of the parties are essentially unopposed, the Board will grant the FDIC's Request to Reopen Record. Accordingly, FDIC Exhibits Nos. 16 and 17 as well as Respondent's Exhibit No. 207 have been included in the record before the Board.

REQUEST FOR ORAL ARGUMENT

   Respondent submitted a Motion for Post-


1 Citations to the record of this proceeding shall be as follows:
ALJ's Recommended Decision, "R. D. at _____."
Hearing Transcript, "Tr. at _____."
Exhibits, "FDIC Ex. No. _____" or "Resp. Ex. No. _____."
Exceptions, "FDIC Ex. at _____" or "Resp. Exc. at _____."
Briefs, "FDIC Br. at _____" or "Resp. Br. at _____."

2 The Board has not adopted the Recommended Decision. However, the Board's Decision adopts several findings of fact made by the ALJ and sets forth the remaining findings of fact and conclusions of law made by the Board to support its Decision. Because the Decision rejects the conclusions of the ALJ, the Board generally adopts the Exceptions filed by FDIC enforcement counsel and rejects the Exceptions filed by Respondent. Any Exceptions not specifically adopted were deemed to be unnecessary to reach the Board's conclusion.
{{10-31-91 p.A-1734.1}}Hearing Oral Argument Before the Board, which was opposed by FDIC Counsel. In its Motion, Respondent contends that oral argument is necessary "because of the uniqueness of the situation involving Respondent, and the Administrative Law Judge's Recommended Decision in favor of Respondent that the termination of deposit insurance action be dismissed."

   [.1] The grant of a request for post-hearing oral argument is an extraordinary matter within the discretion of the Board. 12 C.F.R. § 308.17. The Board has previously discussed those circumstances in which it would grant such a request. See, In the Matter of Harold Hoffman, 1 P-H FDIC Enf. Dec.¶ 5140; FDIC Docket No. FDIC-85-42b, 2 P-H FDIC Enf. Dec. ¶5062. After considering the Respondent's request and the opposition of the FDIC, the Board finds that none of those circumstances arises in the instant case. The factual and legal arguments are fully set forth in the parties' submissions. Thus, oral argument will not aid the Board in this matter, and the Respondent will not be prejudiced by the lack of oral argument. Accordingly, the Board denies Respondent's request for oral argument.

THE ALJ'S RECOMMENDED DECISION

   The ALJ recommends that the Notice be dismissed and that the Board "exercise its discretion and not order termination of federal deposit insurance . . . ." R. D. at 23. He reaches this recommendation in spite of his findings that "the Bank is in an unsafe and unsound condition within the meaning of 12 C.F.R. § 325.3,. . .given its material and significant financial weaknesses." Id. The ALJ is apparently able to reconcile the contradiction between this finding and his ultimate conclusion by finding that there is a sufficient probability that the Bank's capital will increase to an acceptable level, [in the near future], so as not to pose an undue threat to the insurance fund. R. D. at 16, 23.
   The Board finds that the record before it does not support the ALJ's optimism with respect to the financial future of this Insured Institution. Eight months have passed since the close of the hearing and the good "prospects of the Bank returning to viability in the near future" have not materialized. R. D. at 16. Indeed, the prospects have become more remote. The Board finds that the insurance fund can not remain at risk for an undetermined period of time awaiting an infusion of capital which is contingent upon the outcome of litigation. Therefore, because this Insured Institution is operating in an unsafe and unsound condition without realistic prospects for significant improvement in its capital condition within a finite time period, termination of insurance is appropriate.

FACTUAL SUMMARY

   The Respondent is a community bank founded in 1987. It has approximately $25.5 million in assets. With one exception, it has never had positive earnings.3 Tr. at 49–50. As a result of Examination I, Respondent was found to have serious capital problems. Its primary capital to Part 325 total assets was a negative 1.44 percent and its adjusted primary capital to adjusted Part 325 total assets was a negative 1.82 percent. R. D. at 2; Tr. at 13–16; FDIC Ex. No. 1. The examination also found significant problems concerning the high level of classified assets, liquidity, and management. Id. These findings led to issuance of the Notice.
   A year later, Examination II was conducted concurrently by State and Federal examiners and provided an updated view of the Insured Institution's condition at the time of the hearing.
A. The * * * Credit.4
   Much of the record in this proceeding is devoted to argument over the classification of the * * * credit, which requires some detailed explanation. * * * is an acronym for * * *, an Oakridge, Tennessee, based company formed in 1986 to manufacture and sell radioactive isotopes for medical, industrial, and research purposes. The equipment and technology which * * * planned to use for this venture was to come from a defunct gas centrifuge uranium facility in Ohio owned by the Department of Energy ("DOE"). * * * entered into a transfer of


3 Although 1988 earnings were positive, it is noteworthy that these figures were distorted by a one time sale of securities. In 1989, the Bank lost $1,669,000. Through June 30, 1990, the Bank lost $130,000, and the Bank's budget projections showed a total loss of $299,081 for 1990. FDIC Exs. Nos. 1 at 1-a-1 and 2 at 1-a; Resp. Br. at 22.

4 Six loans totalling $2,463,000 are collectively referred to as the * * * credit. The Bank loaned $213,000 to directly, and $450,000 to each of the five principals of
{{10-31-91 p.A-1734.2}}technology contract with DOE on November 20, 1987. Resp. Ex. No. 18. * * * obtained the "exclusive contractual right to acquire ownership" of surplus classified and unclassified gas centrifuge equipment, and access to centrifuge technology in exchange for removal from its present location, decontamination and disposal, as applicable, by * * * of classified or contaminated equipment. * * * was required to obtain all applicable permits or licenses and comply with all applicable laws, regulations, etc. Thus, in order to acquire either classified or unclassified equipment, * * * had to remove it from its present location. * * * also was to deposit $2 million in an escrow account to be used "to additionally compensate DOE for the unclassified equipment should * * * not obtain ownership of the classified equipment. If * * * obtained title to the classified equipment, * * * would be entitled to the escrow account. However, should * * * not obtain ownership of the classified equipment, the funds were to become the property of DOE. Resp. Exs. Nos. 18, 19, 21.5
   * * * was to acquire ownership of the classified equipment when (1) the Nuclear Regulatory Commission ("NRC") issued it a construction license authorizing it to possess gas centrifuge machines and the uranium contamination contained in certain of the machines, (2) the NRC and DOE approved of its security plan for the transportation and protection of the classified equipment and technology, (3) DOE approved of its machine disposal plan, (4) DOE approved of its approach for assuring adequate funds for decontamination and disposal of classified or contaminated equipment should * * * fail to do so, (5) DOE received and approved a required insurance policy, (6) DOE approved * * *'s schedule for removal of the equipment, and (7) DOE received an opinion from the United States Attorney General that the transfer of the equipment is not inconsistent with antitrust laws. Should any of those events not occur by November 20, 1988, the agreement was to terminate. Id. As collateral for the $450,000 borrowed and used by each of the five principals of * * * to fund the $2 million escrow account, Respondent took an hypothecation agreement, including first liens on the unclassified equipment up to $4 million and * * *'s contract rights with DOE. Resp. Ex. 23.
   * * * and the individual borrowers defaulted on their loans, and on July 5, 1989, just prior to Examination I, filed a Chapter 11 bankruptcy, which was subsequently converted to Chapter 7. At Examination I, the FDIC classified the aggregate credit to * * * a "Loss". This was based primarily on the examiner's conclusion that the principals of * * * had not provided current financial information, and the information which was available from the Bank showed that none had sufficient net worth or income to service the debt, that no payment had been made in the preceding eight months, the credit was in nonaccrual status, * * * was insolvent, * * *'s right to the collateral for the credit were in question, and the Bank's board of directors had been unable to collect the debt. Further, there was no viable secondary source of repayment, since liquidation of the collateral equipment was tied up in bankruptcy litigation. Tr. at 27–32.
   Following Examination I, Respondent took a loss on the * * * credit of $763,000; $700,000 of the * * * credit was purchased as a participation by five of Respondent's directors or their family members, who also entered into a "conditional limited guaranty" (the "Guaranty") of the remaining $1 million debt.6 On September 30, 1990, the Guaranty was converted to an unsecured promissory note in the amount of $1 million.
   At Examination II, the FDIC examiner classified the outstanding * * * credit of $1 million as "Doubtful". The Respondent contests this classification and argues that the classification should have been "Substandard". The difference in classification, according to Respondent, would raise its capital-to-asset ratio above the level deemed by regulation to be unsafe or unsound, and would thus eliminate the basis for this enforcement action. 12 C.F.R. § 325.4(c). R. D. at 9.

B. The FDIC's Contentions

   The FDIC argues that although certain im-


5 It appears that this deal was structured so that the real price for the equipment paid by * * * to DOE included the $2 million escrow fund. Acquiring title to the classified equipment (which triggered release of the funds to * * *) was fraught with contingencies, the satisfaction of most of which was not in the control of * * *. Thus, since the likelihood of * * * obtaining title to the classified equipment was slim, the real price of the unclassified equipment included the escrow fund.

6 No tangible capital was added to the Bank.
{{10-31-91 p.A-1734.3}}provements had been made in the condition of the Insured Institution during the period between Examination I and II, the overall condition of Respondent remains unsafe or unsound and presents an undue risk to the insurance fund. Specifically, the FDIC Enforcement Counsel asserts that Respondent is in dire need of a significant capital infusion and has no immediate prospects for obtaining additional capital.7 FDIC Enforcement Counsel claims, that based on the evidence in the record, the * * * credit was properly classified, and that resolution of the bankruptcy proceeding and the right to the $2 million escrow fund, as well as resolution of litigation over the right to liquidate the equipment, is too remote to provide the capital needed to protect the Insured Institution's depositors. Further, according to FDIC Enforcement Counsel, Respondent continues to have an extremely high percentage of classified assets, negative earnings, inadequate loan loss reserves, and poor liquidity, which, regardless of the improvements, are sufficient to warrant termination of the Insured Institution's insured status. Tr. at 154–160, 170–173, 303.

C. The Respondent's Contentions

   Respondent recognizes that at the time of Examination I "there were a number of serious problems with the bank." Resp. Br. at 2. However, it argues that by Examination II, "the Bank had shown such willingness to address its problems and such a dramatic improvement in its management and financial condition, that a termination of its insured status is not warranted." Id. at 3. The Bank asserts that the equipment collateral and Guaranty provide a sufficient reduction in the risk of repayment of the * * * credit to warrant the classification of "Substandard" as opposed to "Doubtful." It contends that it is now a viable institution which does not present a risk to the insurance fund.

DISCUSSION

   There is little disagreement between the parties regarding the condition of the Bank at the time of Examination I. The Board adopts the ALJ's Findings of Fact Nos. 4, 5, 7, 9, 11, 13, and 15, related to the 1989 Examination. The parties agree that improvement in the condition of the Bank was made during the year between examinations. They diverge, however, over the extent of the improvement and the ultimate issue of whether the Insured Institution is presently viable.
   As previously noted, both the record and the Recommended Decision place a great deal of emphasis on the classification of the * * * credit and related issues. Ultimately, however, the ALJ notes that "the classification of the * * * credit . . . is not so important as the Bank's prospects of having a large capital infusion as a result of success in the litigation and/or sale of the equipment." R. D. at 14. The Board agrees with this statement, and notes that the actual classification of the * * * credit is a relatively minor matter. However, because the only prospect of a capital improvement is related to the analysis of the credit classification and because the Board disagrees with the ALJ's conclusion regarding the extent to which he is obliged to defer to the FDIC bank examiner's classification, some discussion of the * * * classification is necessary.

A. Deference Due FDIC Examiners

   [.2] The ALJ recognized that, under Sunshine State Bank v. FDIC, 783 F.2d 1580 (11th Cir. 1986), an ALJ "may not substitute his own subjective judgment for that of the examiner, but may set aside the classification if it is without objective factual basis or is shown to be arbitrary and capricious." R. D. at 10, citing 783 F.2d at 1583. He also notes that the examiner's classifications are "predictive judgments ... which should be dispositive of the issue which is at the core of a bank's viability—the strength or weakness of its assets." R. D. at 11. Additionally, he states that while "the facts upon which an examiner bases his judgment can be tested for accuracy," the loan classification "stands or falls on whether it is `outside the zone of reasonableness.'" Id. However, the ALJ fails to follow his own description of the requirements of Sunshine.
   In analyzing the * * * credit classification, the ALJ finds that the examiner's classification was based in part upon the examiner's assessment of the probable outcome of the bankruptcy litigation involving the Bank, the trustee in bankruptcy for * * *, and DOE, and the related issues of whether the Bank might reasonably expect to recover some or all of the escrow account and/or the equipment collateral. These issues, he finds,


7 Despite alleged efforts, Respondent has not been able to obtain additional capital. Tr. at 502–505.
{{10-31-91 p.A-1734.4}} "are not typically within the expertise of bank examiners" and thus are not "matters subject to deference" under Sunshine. R.D. at 12. He therefore concludes that he "may evaluate all of the evidence concerning the litigation and sale of the equipment and reach an independent conclusion concerning whether, when and to what extent the Bank may expect recovery." Id. The Board finds that ALJ's application of Sunshine to be erroneous.
   Loan classification are a short-hand to describe the risk of non-payment of a loan. The ultimate judgment made by a bank examiner is whether and to what extent risk of non-payment of a loan exists. In making that judgment, the examiner must look at the underlying facts, evaluate those facts and, then, based on those facts, make a predictive judgment concerning the likelihood of repayment. If that predictive judgment is based on facts in evidence (which are subject to an ALJ's review), and if the predictive judgment is not arbitrary or capricious, or outside the zone of reasonableness, it may not be displaced by the ALJ. This is the conclusion of the Sunshine decision. 783 F.2d 1583-4.
   It is significant that the underlying facts related to this loan classification are not really in dispute. The parties agree that there is a possibility of recovering some amount, through the bankruptcy proceedings, from the sale of the uncontaminated and unclassified collateral equipment. They agree that there is a possibility of the Bank prevailing in the litigation over the $2 million escrow fund. The parties also agree that there is some possibility that the guarantors will pay under the Guaranty. They disagree, however, over the quantification of the possibility. The Bank places more value on its possibility of prevailing in the litigation concerning the underlying collateral equipment and escrow account and on the guarantors' willingness and ability to pay according to the terms of the Guaranty, than do the examiners. It is precisely the inference and judgments based on facts made by FDIC examiners which are due great deference under Sunshine.8 Unless the ALJ determines that the facts underlying these judgments are erroneous, or that the judgments are arbitrary or capricious (which he did not in this case), he is not free to substitute his own judgment, and the classification of the FDIC examiners must be upheld.

   [.3] In order to correctly classify the * * * credits, the examiners had to determine whether there was a risk of nonpayment, and where, on the relative scale of classification nomenclature, that risk fell. Contrary to the opinion of the ALJ, expertise in litigation, bankruptcy, or appraisal of specialized government surplus property is not necessary.9 The examiners did not have to assess whether there was a 20%, a 50%, or a 90% chance of success in the litigation over the collateral or over the escrow fund. It is sufficient that experience and common sense have shown that litigation is risky, no matter how strong the litigant's claim. Another component of the risk of nonpayment is the likelihood of sale of the collateral. In evaluating this element, the examiners had to consider whether the collateral was readily available for sale, whether a sale had special problems, e.g. contamination, and whether there is a general or a limited market for the collateral, etc. The examiners did not have to determine if the collateral had a value of $500,000, $750,000 or $1 million, or whether litigation over title to the collateral would be resolved in 3 years, 4 years, or 5 years. It is enough to determine risk of nonpayment to know that it is not now available, that availability is contingent upon resolution of litigation, that sale of the property has special problems, and that the market for such property has special problems, and that the market for such property is limited. All of these are facts found in the record. Finally, in assessing the risk of nonpayment, the examiners had to evaluate the availability of repayment from another source. In making this evaluation they had to deter-


8 The Eleventh Circuit quoted with approval the Board's Decision in Sunshine which found that: "It is with respect to this second step, where certain expert inferences and judgments are made, that the ALJ is required to defer to the examiner's expertise in reviewing the examiner's classification conclusions." 783 F.2d 1583.

9 The Board notes that, contrary to the ALJ's view, these are precisely the types of judgments bank examiners are regularly required to make. Recently, the fact that a bank's creditor is involved in bankruptcy litigation has become anything but unusual. Examiners throughout the country have had to make judgments regarding the likelihood of success of such lawsuits. Similarly, bank examiners have become all too familiar with assessing the likelihood of the sale of collateral in connection with the assessment of bank credits. There is no longer anything unique about such assessments. That the collateral equipment is surplus government property, some of which may be contaminated, or that liquidation is bogged down in litigation, does not take this evaluation out of the realm of the ordinary for today's bank examiners.
{{10-31-91 p.A-1734.5}} mine whether the Guaranty provides the protection to the Bank which it purports to provide. This determination also must be based on facts in evidence, such as the financial statements of the guarantors, and the terms of the Guaranty itself.10 As discussed below, the inferences drawn by the examiners on these factual issues were wholly appropriate, supported by the record, and entitled to deference.
   It is significant too, that by arguing that the * * * loans should be classified "Substandard," the Bank admits that the * * * credits "have well defined weakness[es] which jeopardize the liquidation of the debt and are inadequately protected by the current sound worth and paying capacity of the obligor or the collateral pledged." FDIC Manual of Examination Policies, Section A (IV). The disagreement comes down to the issue of whether the FDIC examiners were arbitrary or capricious, or outside the zone of reasonableness in concluding that "the risk involved in liquidation was significant in relation to the dollar amount of the credit." Id. This distinguishes a "Substandard" from a "Doubtful" credit. Because the Board finds that the classification of the FDIC examiners was based upon objectively verifiable facts in evidence, and because the judgments made from those facts were reasonable in light of all the evidence, the Board finds the classification of the credit as "Doubtful" to be appropriate.

B. The Guaranty

   Under the pressure of a capital call from the State of Tennessee, on December 12, 1989, a group of the Bank's directors and their relatives entered into the Guaranty with the Bank to guarantee receipt by the Bank of $1,000,000 in payments on the * * * debt by September 30, 1990. The express purpose for the Guaranty was the guarantors' "desire to prevent failure of the Bank and any personal liability on their part attendant to such failure." In the event the $1,000,000 was not paid by September 30, 1990, the obligation of the guarantors converts to an unsecured term promissory note with the principal payable in ten yearly installments commencing September 30, 1991. The unsecured promissory note incorporates by reference all of the terms and conditions of the Guaranty. Both the Guaranty and the promissory note contain conditions whereby the guarantors would be released from liability if:

       (1) a change in control of the Bank is approved by the Federal or State banking regulators, or (2) in the event that the Commissioner shall take possession of the Bank pursuant to Tennessee Code Annotated § 45-2-1502, or other applicable law, unless the acquiring party in the change of control or the Commissioner or Federal Deposit Insurance Corporation, in its capacity as receiver of the Bank and general corporate capacity, as appropriate, shall have executed a covenant not to sue the guarantors outside this Agreement, individually, jointly or severally, for any acts or omissions as directors, officers or agents of the Bank occurring prior to the date of this Agreement. FDIC Ex. No. 15a.
FDIC Enforcement Counsel contend that this Guaranty is not a binding obligation and does not provide the Bank with much security. The ALJ concludes that "the guarantee is not as iffy as [FDIC] counsel suggest." R. D. at 13. Upon analysis of the Guaranty and the record, the Board agrees with FDIC Enforcement Counsel.

   [.4] Several factors dilute the effectiveness of this Guaranty. First, by the admission of the guarantors, it was entered into with the intent to protect themselves, rather than the Bank. Second, the guarantors quite candidly admit they do not expect to pay the Bank pursuant to the Guaranty, but rather from the proceeds of the sale of the collateral. Third, because the guarantors control the Bank's board of directors, the guarantors are able to change its terms, essentially at will. Fourth, and most significant, the conditions quoted above are designed to provide the guarantors with an insurance policy against directors and officers liability in the event they lose control of the Bank, by placing federal regulators in the untenable position of having to choose between having the Bank paid off on the credit, or relinquishing as yet unknown claims against the guarantors. The Board will not allow a respondent


10 It appears from the record that several guarantors did not provide financial statements, or updated financial statements when requested to do so by FDIC Enforcement Counsel. Tr. at 604–609. The Board has previously noted that, where financial information at issue is uniquely within the control of a party and such party fails to produce that information upon request, an inference adverse to the recalcitrant party will be drawn by the Board. See, In the Matter of Joseph Dazzio, 2 P-H FDIC Enf. Dec. ¶ 5062 (1990).
{{10-31-91 p.A-1734.6}} to hold the FDIC hostage either at the time the FDIC is appointed receiver of a bank, or at the time the Board must evaluate whether the terms of a conditional guaranty protect a bank, and, ultimately, the insurance fund. In evaluating this Guaranty therefore, the Board must assume that it will proceed to the full extent of the law against directors and officers against whom it has claims. Thus, since the terms of the Guaranty relieve the guarantors of the obligation to pay under the Guaranty in such a situation, the Board finds this Guaranty has no value.
   The Board has considered that at least three of the guarantors are financially capable of meeting the demands of the Guaranty, and that since the * * * loan was paid off, the assets of several guarantors are significantly less encumbered than they were at the time of Examination I and II.11 However, on September 12, 1990, the Guaranty was converted into an unsecured promissory note under which no payment is required until September, 1991. No security for the promissory note has been offered by the guarantors and no effort to pay either principal or interest has been made by the guarantors, although the underlying loans are, of course, in serious default. These facts support the conclusion reached by the bank examiners that the guarantors' willingness to pay over a protracted period of time was doubtful. Tr. at 159–162.
   In sum, the Board recognized the improved status of the * * * credit as a result of the reduction of the amount of the debt (albeit by charge-off and participation, rather than payment of the debt), and the pay-off of other debt (the * * * credit) held by the * * * guarantors, thus improving their ability to pay on the Guaranty. On this basis, the change in classification from "Loss" to "Doubtful" was justified. However, the Board finds that classification of the * * * credit as "Doubtful" is appropriate in light of the record which shows (1) this credit contains well defined weaknesses which jeopardize its liquidity, (2) the credit is inadequately protected by the current net worth and paying capacity of the obligors and the value of the collateral pledged, and (3) the risk involved in liquidation of the debt is significant in relation to the dollar amount of the credit.

POST-HEARING EVIDENCE

   [.5] Ordinarily, the Board determines whether to terminate the insured status of an institution based upon evidence presented up to and including a hearing. Such determination is, of necessity, based upon a "snapshot" in time. Any other way of proceeding would be administratively unfeasible. The Board finds that the evidence presented at the hearing in this matter is sufficient to conclude that termination of the Bank's insured status is appropriate. As discussed above, however, the parties agreed to the submission of additional exhibits following the hearing, which the Board has taken into consideration. In addition, because the record contained information notifying the Board that a hearing related to resolution of ownership of the escrow account was to be held during the Board's deliberation, and because of the nature of the ALJ's recommendation, the Board on its own motion requested and received in evidence post-hearing submissions of both parties. 12 C.F.R. § 308.05. This evidence provides additional support for the Board's conclusion.
   The thrust of the ALJ's recommendation was that he believed that an infusion of capital as a result of the resolution of the bankruptcy litigation or the sale of the collateral equipment was sufficiently likely in a short period of time to warrant continuing the insured status of the Bank.
   The basis of the ALJ's conclusions is eroded by information contained in the post-hearing submissions.12 Most significant are development in the acquisition of the collateral. In a letter dated January 18, 1991, Bank President, Donald Conrad, informs the regulators that:

    The Department of Energy would not allow access to the facility for removal [of the collateral equipment]. In order to gain access for equipment removal . . . [the Bank's attorney] felt the best legal course to take for immediate access was to file for a "Temporary Restraining Order". That hearing was held on January 10, 1991 and the judge would not rule on the issue,

11 The "Clintonians credit" is a $1,720,000 credit to four of the individuals who are guarantors of the * * * credit. This credit was for the purchase of the building in which the Bank is located. Following the hearing, on October 17, 1990, the building was sold to Anderson County Bank and notes in the amount of $1,726,303.40 were paid in full.

12 Based solely on the evidence up to and including the hearing, the Board finds that the likelihood of an infusion of capital is remote, and would not have reached the conclusion reached by the ALJ.
{{5-31-91 p.A-1734.7}}
    [but] he moved the complete matter to the United States Court of Claims. Counsel now feels any immediate recovery on the sale of the equipment is remote. DOE for the first time denied that Anderson County Bank had clear title to the equipment. As a result,. . .the Bank must defend title of the equipment. . . . (Emphasis added.) FDIC Ex. No. 16.
   Thus, by the Bank's admission, an infusion of capital from the sale of the collateral is now substantially more remote than it was previously.
   Similarly, the record does not support the ALJ's conclusion that a favorable outcome in the * * * escrow litigation is sufficiently close to provide a significant infusion of capital in the near future. The ALJ credited the testimony of the Bank's bankruptcy counsel that the Bank was the litigant with the best likelihood of overall success on the merits. R. D. at 13. From this statement the ALJ makes an enormous leap of logic to the conclusion that such success is imminent. In so doing, he fails to consider additional relevant statements by the Bank's counsel, as well as the realities of litigation. Bankruptcy counsel opined that the Bank had a 30 to 50 percent chance of not being successful in the litigation. He also noted that the litigation was in its early stages, and at the time of the hearing one of the defendants, DOE, had not yet even answered the Complaint. R. D. at 14; Tr. at 572. Based on this record, the Board concurs with FDIC Enforcement Counsel that there is no evidence to justify the conclusion that a substantial capital infusion resulting from the Bank's success in the escrow account litigation is probable in the near future.
   Moreover, each party was asked by the Board to submit an update regarding the current status of the escrow account litigation involving the Trustee in Bankruptcy for * * * Inc., DOE, and the Bank. By letter dated April 5, 1991, the Board was informed by FDIC Enforcement Counsel that the bankruptcy adversary proceeding was heard in the United States Bankruptcy Court on March 20, 1991.13 The post-trial briefing schedule was set to commence the third week in April, 1991. Counsel for the * * * Trustee and DOE each indicated an intention to appeal any adverse decision of the bankruptcy judge. Of note is the fact that bankruptcy proceedings have a two-level appellate procedure, 28 U.S.C. § 158, adding weight to the testimony of the Bank's counsel that the escrow account litigation will ultimately take three to five years to resolve. Tr. at 572.
   By letter dated April 15, 1991, counsel for Respondent informed the Board that it is "[his] opinion that the Judge will rule against the Department of Energy in this Bankruptcy Adversary Proceeding. The Department of Energy will appeal the decision when it does not prevail."14 For the purposes of this Decision and Order, the significance of this statement is that both parties are in agreement that any decision in the bankruptcy proceeding will be appealed, resulting in further delay in the disposition of the escrow funds.

CONCLUSION

   Thus, the most current evidence obviates the premise of the ALJ's recommendation. The insurance fund can not be at risk for three to five years awaiting the outcome of this complex litigation. The evidence supports the ALJ's findings that the Bank's capital to asset ratio at 3.29 is still too low for the Insured Institution; the Bank has negative earnings; the classified assets are too high; the Bank still suffers from significant problems; and the Bank has material and significant financial weakness.15 R. D. at 15 and 16. The Board adopts these findings. The Board also concurs with the conclusion of the ALJ that the Bank is in an unsafe or unsound condition within the meaning of 12 C.F.R. § 325.3. R. D. at 15, 23. Further, the Board concurs with the ALJ's conclu-


13 Adversary Proceeding No. 90–3147, United States Bankruptcy Court for the Eastern District of Tennessee, Northern Division.

14 This letter also informs the Board that the Bank and the trustee for * * * have entered into a settlement agreement which provides that if they prevail over the claims of DOE, the Bank will receive $1,650,000 of the $2 million account. While this agreement may eliminate a second battle between these two parties to divide the account, as long as DOE continues to assert its claim to the funds, this agreement does nothing to improve the time frame relevant to the Board's decision.

15 FDIC Ex. No. 16 indicates that the Bank maintains that its capital to asset position as of December 31, 1990, was 3.21 percent. The Bank's Statement of Condition as of December 31, 1990, indicates that the ratio of primary capital to total assets was 3.11 percent. Either of these figures represents a deterioration from the 3.29 percent found by the ALJ to be too low.
{{5-31-92 p.A-1734.8}}sion that absent an infusion of capital, the deposit insurance of the Bank can and should be terminated. R. D. at 16. Because the Board finds that an infusion of capital is not likely to occur in the near future, it will enter an order terminating the insured status of the Bank.

ORDER TERMINATING FEDERAL
DEPOSIT INSURANCE

   IT IS HEREBY ORDERED, that the insured status of Anderson County Bank, Clinton, Tennessee, is terminated effective as of the close of business sixty days from the date of this Order.
   IT IS FURTHER ORDERED, that, pursuant to 12 C.F.R. § 308.62, the Bank, not later than thirty days from the date of this Order, shall give notice to its depositors of the termination of its status as an insured bank. Such notice shall be mailed to each depositor at the depositor's last address of record as shown upon the books of the Bank. The Bank shall furnish the FDIC with a copy of the notice mailed, together with an affidavit executed by the person who mailed the same. The affidavit shall state that said notice has been mailed to each depositor of the Bank at the depositor's last address of record as shown upon the books of the Bank and the date thereof. Such notice shall meet the requirements of section 308.62 of the FDIC Rules of Practice and Procedures, 12 C.F.R. § 308.62, as follows:

NOTICE

   _____, 1991
   1. The status of Anderson County Bank, Clinton, Tennessee, as an insured bank under the provisions of the Federal Deposit Insurance Act, will terminate as of the close of business on the _____ day of _____, 1991.
   2. Any deposits made by you after the date, either new deposits or additions to existing deposits, will not be insured by the Federal Deposit Insurance Corporation.
   3. Insured deposits in the Bank on the _____ day of _____, 1991, will continue to be insured, as provided by the Federal Deposit Insurance Act, for two years after the close of business, provided, however, that any withdrawals after the close of business on the _____ day of _____, 1991, will reduce the insurance coverage by the amount of such withdrawals.

Anderson County Bank
Clinton, Tennessee

   There may be included in such notice, with the written approval of the FDIC, any additional information or advice the Bank may deem desirable.
   IT IS FURTHER ORDERED, that the Bank, not later than thirty days from the date of this Order, shall publish in no fewer than two issues of a local newspaper of general circulation in Clinton, Tennessee, the said notice and shall furnish the FDIC with proof of publication of such notice in the form of a certification from the publisher and a tear sheet or clipping evidencing each such publication.
   IT IS FURTHER ORDERED, that if the Bank is closed for liquidation prior to the time of the opening for business thirty days from the date of this Order, the notices described herein shall not be given to depositors.
   The Board retains full jurisdiction over these proceedings during the interim between the date hereof and the effective termination date, as fixed above, with full power and authority to amend, modify, alter, or rescind this order of termination of the insured status of the Bank. The provisions of this Order shall remain effective and enforceable except to the extent that, and until such time as, any provision of the Order shall be modified, terminated, suspended, or set aside by the FDIC.
   By direction of the Board of Directors.
   Dated at Washington, D.C., this 21st day of May, 1991.
   /s/ Hoyle L. Robinson
   Executive Secretary

_______________________________________
RECOMMENDED DECISION

In the Matter of
Anderson County Bank,
Clinton, Tennessee
Insured State Nonmember Bank
FDIC-89-235a

Statement of the Case

James L. Rose, Administrative Law Judge:
   This matter was tried before me at Knoxville, Tennessee, on September 10, 11, and 12, 1990, upon the FDIC's Notice of Intention to Terminate Insured Status of the Anderson County State Bank, Clinton, Tennessee (herein the Respondent or the Bank), dated March 29, 1990.
{{10-31-91 p.A-1734.9}}
   The FDIC and the Bank each appeared by counsel and following the close of the hearing, submitted extensive briefs, reply briefs, proposed findings of fact and conclusions of law, and exceptions to the proposed findings and conclusions submitted by the other party.
   Upon the record as a whole, including briefs and arguments of counsel, I hereby issue the following Decision, recommended Findings of Fact, Conclusions of Law, and Order.

I. The Facts

   The Respondent is a community bank (about $25.5 million in assets) located in a small town northwest of Knoxville, Tennessee. The Bank was formed in 1987.
   At an examination as of July 24, 1989, the FDIC found that the Bank's primary capital to Part 325 total assets was a negative 1.44 percent and its adjusted primary capital to adjusted Part 325 total assets was a negative 1.82 percent. At that examination other problems were discovered concerning the high level of classified assets, problems with liquidity and management. As a result of the 1989 examination, the FDIC made findings of unsafe or unsound practices and/or condition and filed the Notice in this case.
   Thereafter, as of July 27, 1990, the FDIC, concurrently with the State of Tennessee, conducted another examination of the Bank. While the 1989 examination forms the basis of the FDIC's Notice, the 1990 examination given the most recent view of the Bank's condition. From both the FDIC contends the Bank's insurance ought to be terminated.
   David L. Bowen was the FDIC examiner in charge of the 1990 examination. He testified, in general, that as a result of his examination he concluded that the Bank's capital was too low (primary capital to Part 325 total assets of 3.29 percent and adjusted primary capital to adjusted Part 325 total assets of 1.33 percent after deducting half of the $1 million credit to * * * classified as doubtful, infra) (Tr. 143); that there was a high ratio of classified assets to capital at 460.74 percent (Tr. 147); that 18 percent of the assets were classified which is unusually high (Tr. 150); that "capital was low even without consideration to the extremely poor asset condition" (Tr. 151); that almost 30 percent of the Bank's total loan portfolio was adversely classified (Tr. 154); and that the Bank's earnings were "horrendous" in 1989, from a huge loss in the * * * credit, and still unacceptable due to a poor net interest margin (Tr. 169). In short, Bowen testified that the Bank is in a hazardous and unsafe and unsound condition (Tr. 173).
   However, he did testify that new management is capable (Tr. 172) and that the Bank is not now being operated in an unsafe and unsound manner, but it is in need of a substantial capital infusion (Tr. 173).
   Bowen's conclusions were generally supported by Patrick McDonough, a review examiner for the FDIC. Based upon his review of the 1989 and 1990 examination reports, he concluded that current management had made positive changes and that with "sufficient tools", meaning additional capital "this Bank could be brought back to viability" (Tr. 298). He put the necessary capital infusion at approximately $1.8 million, which would take the primary capital to 10.43 percent of Part 325 total assets.
   There is no real dispute concerning the material facts in this matter or even the conclusions the FDIC examiners draw from the facts surrounding the Bank's condition. The Respondent agrees that a capital infusion is necessary (though not of the magnitude suggested by McDonough) and the FDIC agrees that the Bank has made substantial improvement following the 1989 examination through the efforts of its new management. The dispute concerns treatment of the * * * credit.
   * * * stands for * * *, an Oakridge, Tennessee, based company which was formed in 1986 to manufacture and sell radioactive isotopes for medical, industrial and research purposes. The equipment and technology which * * * planned to use for this venture was to come from a defunct gas centrifuge uranium facility in Ohio owned by the Department of Energy. * * * entered into a transfer of technology contract with DOE on November 20, 1987 (R. Ex. 18). DOE conveyed the equipment, both classified and unclassified, with certain contingencies, including that * * * was to remove all the equipment. * * * was to deposit $2 million in an escrow account to be used to compensate DOE for the unclassified equipment in the event * * * was unsuccessful in gaining title to the classified equipment. Upon obtaining title to the classified equipment, * * * would have the account.
{{10-31-91 p.A-1734.10}}
   To fund the $2 million escrow account, five principals of * * * each borrowed $450,000 from the Bank. As collateral, the Bank took a hypothecation agreement, including first liens on the unclassified equipment up to $4 million and * * * contract rights with DOE (R. Ex. 23).
   According to Michael Hampton, the FDIC examiner at the 1989 examination, a large part of the Bank's problems were a direct result of the * * * credit. The Bank's liquidity was down primarily because the five borrowers were refusing or failing to pay on their notes. The failure of performance on this large credit affected every other aspect of the Bank's condition. For instance, the ratio of overdue loans to total loans was 18.75 percent; but without the * * * credit, the ratio would have been 7.5 percent (Tr. 106).
   At the 1989 examination the aggregate credit to * * * of $2,463,000 was declared a loss. This was based primarily on the examiner's conclusion that the principals of * * * had not given current financial information and none had shown sufficient worth to service the debt. Further, there was no viable secondary source of repayment, since collateral liquidation of the equipment was at a standstill. * * * had filed a Chapter 11 bankruptcy on July 5, 1989 (which was subsequently converted to Chapter 7).
   On the * * * credit, the Bank took a $763,000 loss. Of the remainder, five of the directors together bought $700,0001 worth of participation and they executed a conditional limited guarantee agreement covering $1 million.2 On September 30, 1990, the guarantee was converted to a promissory note in the amount of $1 million pursuant to the agreement.
   As noted above, the * * * credit was collateralized by the equipment in the Ohio plant which has been appraised at $78 million (having been built for $500 million) (FDIC Ex. 1). The Bank has a first lien on this which has been perfected by the filing of UCC-1 notices in both Tennessee and Ohio, and about which apparently there is not dispute. The Bankruptcy court has rules that the equipment can be sold by the Bank.
   Richard Urban testified on behalf of the Respondent as an expert in the disposal of unique government property. He appraised the equipment at the Ohio plant and concluded that the salvage value of the loose unclassified and uncontaminated equipment would be between $300,000 and $500,000. He further testified that the sale value of the "bolted down" unclassified equipment (without calculating any repair cost) would be between $500,000 and $750,000. Thus, the Bank could reasonably expect to realize between about $800,000 and $1,200,000 on its lien. Urban further testified that it would take between 90 days and 6 months to sell the equipment.
   In the bankruptcy action, competing for the $2 million escrow account are the Bank, the trustee in bankruptcy, and the Department of Energy. The Bank contends that the escrow account is collateral for the loans which were made in order for * * * to make the $2 million deposit and under the hypothecation agreement it is the beneficial owner. The trustee in bankruptcy maintains that account is not the Bank's security but is part of the estate in bankruptcy. DOE is also asserting an interest in the account, apparently contending that * * * never acquired ownership of the classified equipment.
   The attorney representing the Bank's interest in the * * * bankruptcy proceeding is Michael Fitzpatrick. He testified in some detail concerning various aspects of the bankruptcy litigation and gave his opinion that the Bank's chances of success in acquiring the entire $2 million escrow account is between 60 and 70 percent. The trustee's chances he calculated to be 25 or so percent, and the Department of Energy's nill. (Though * * * apparently breached its contract to remove the equipment, it did, apparently, get ownership of the classified.) He further testified that in the event the Bank loses and the account goes into the bankruptcy estate, as the largest unsecured creditor, the Bank would stand an essentially 100 percent chance of collecting some of the $2 million. This would be in addition to whatever the Bank is able to realize from the sale of the equipment.
   To recapitulate, following the 1989 examination the Bank took a loss on the * * * credit of $763,000; $700,000 was added to capital by five individuals who also guaran-


1 The original participation was $600,000. Subsequently these individuals added another $100,000 to capital. The parties agree that the total capital infusion in response to the * * * loss was $700,000.

2 FDIC counsel suggest that this guarantee somehow is a Regulation O violation (12 C.F.R. § 215.1, et seq.). Such is not an issue here and was not litigated.
{{10-31-91 p.A-1734.11}}teed payment of the remaining $1 million. Thus, as of the 1990 examination, the outstanding credit was $1 million which the FDIC examiner classified as doubtful. The Respondent contests this classification given the high probability of selling the equipment, recovering the entirety of the escrow account and/or the guarantee.
   The other credit in issue is the * * * a $1,720,000 credit to four individuals, who are also on the $1 million * * * guarantee. This credit was for the purchase of the building in which the Bank is located. Following the close of the hearing, on October 17, 1990, the building was sold to Anderson County and notes in the amount of $1,726,303.40 were paid in full. Since this loan was classified as substandard at the 1990 examination, the substandard classifications have thereby been reduced from $3,259,000 to $1,539,000.
   II. Analysis and Concluding Findings
   The Bank's condition is dynamic. The facts changes after the Notice, after the 1990 examination, and after the hearing. And they will change again. Therefore, to determine whether the Bank's insurance ought to be terminated requires the FDIC Board to shoot at a moving target. My recommendation is based on the most recent available information and a prognosis of the Bank's probable condition in the near future.
   Under 12 U.S.C. § 1818(a)(3), if after an administrative hearing the Board finds that the Bank is in an unsafe or unsound condition, it "may issue an order terminating the insured status" of the Bank. The statutory authority is broad and permissive. The Regulations are more definitive. Pertinent here is 12 C.F.R. § 325.2 which requires banks "whose overall financial condition is fundamentally sound, which are well-managed and which have no material or significant financial weaknesses", to maintain a primary capital to total assets ratio of at least 5.5 percent. This is followed by 12 C.F.R. § 325.4 which states that any bank whose "ratio of primary capital to total assets that is less than three percent is deemed to be operating in an unsafe or unsound condition. . ."
   Thus, a primary capital to asset ratio of 3 percent conclusively presumes the bank to be operating in an unsafe or unsound condition. Between 3 and 5.5 percent the Board may find a bank to be in an unsafe or unsound condition. If its capital ratio is above 5.5 percent, then presumably there is a presumption in favor of the bank with regard to the capital ratio, though the Board could find a capital ratio of more than 5.5 percent to be inadequate if the bank has significant financial weaknesses.

A. Burden of Proof

   Counsel for the FDIC argues that "in challenging the authority of the FDIC to terminate the insurance of a financial institution for purposes of protecting the insurance fund, the burden of proof lies with the challenging party when the validity of the action is questioned." (FDIC Brief 31) They further state that "the burden (of proof) is on the Bank to show that the FDIC's action is arbitrary and capricious, and that the FDIC is without a reasonable basis for finding the Bank is engaged in unsafe or unsound conduct." (Ibid.)
   I reject this argument. Pursuant to the Administrative Procedure Act, 5 U.S.C. § 554, et seq., which controls this matter, the burden of proof is on the FDIC as the proponent for an order to terminate insurance. Steadman v. SEC, 450 U.S. 91 (1981).
   In effect, counsel for the FDIC argue that Notice of Intention to Terminate Insured Status, Findings, and Order Setting Hearing is a final decision of the agency, making this proceeding tantamount to an appellate review. This is an understandably confusing procedure since the same body which makes the Findings and issues the Notice also, after an administrative hearing, issues the final Order. Nevertheless, once the hearing is commenced the FDIC division in charge of the litigation is simply a party. The administrative law judge makes a recommended decision, which becomes part of the record and is reviewable by the FDIC Board. At the hearing stage, as the Board has said, "The burden of proof is initially on the FDIC to prove the allegations in its Notice by substantial evidence." Case FDIC-87-120a, slip op. 2, n. 1 (1989).

B. Contentions of the Parties

   This case principally concerns how to treat the various aspects of the * * * credit, the first of which is its classification as doubtful. A second, but related, question concerns the likelihood that the credit will be paid, including recovery of previously taken losses. Accepting the doubtful classification
{{10-31-91 p.A-1734.12}}not only affects calculation of the adjusted primary capital, but implies that recovery on the credit is so weak as to be discounted in considering whether the Bank's insurance ought to be terminated. At the 1990 examination the remaining * * * credit of $1 million was classified as doubtful which had the effect of reducing the Bank's primary capital from 3.29 percent of total assets to an adjusted primary capital of 1.33 percent. The Respondent argues that had this credit been classified substandard rather than doubtful, its adjusted primary capital would exceed the 3 percent minimum set forth in part 325, and it would not be deemed to be in an unsafe and unsound condition. Therefore, according to the Respondent, its insurance should not be terminated. In addition, should the Bank be successful in its litigation for the escrow account and/or the successful sale of the equipment, then the Bank would have an infusion of capital of the magnitude suggested as necessary by Review Examiner McDonough.

C. Deference to the FDIC Examiners

   Counsel for the FDIC argue that the examiners' doubtful classification and their conclusions that any collection from collateral is too problematical to be a factor must be given deferential consideration, citing Sunshine State Bank v. FDIC, 783 F.2d 1580 (11th Cir. 1986).
   In Sunshine, the administrative law judge held that a commissioned examiner of the FDIC was simply an expert witness whose opinion as to loan classifications could be evaluated, weighed against the opinions of other experts, and accepted, modified or rejected. The judge therefore undertook to make this own evaluation of the loan classifications in issue and changed over 70 percent of them, amounting to about $14 million of the $32 million in classifieds.
   The FDIC Board overruled this approach and concluded, with approval of the 11th Circuit:

       After extensive training, lengthy apprenticeship and careful evaluation, FDIC examiners are appointed "commissioned examiners", and thereby vested with authority to make informed predictions about the risk inherent in a bank's assets. This exercise of informed judgment on the part of commissioned examiners is entitled to deference, and should not be disregarded in the absence of compelling evidence that it is without rational basis. * * * The ALJ may not substitute his own subject judgment for that of the examiner, but may set aside the classification if it is without objective factual basis or is shown to be arbitrary and capricious. 783 F.2d at 1583.
   In brief, the Board and the Court concluded that examiners are more than mere expert witnesses, whose opinions can be weighed based upon an evaluation of their education, training, experience, and related factors. FDIC examiners not only have expertise but their position gives them a special understanding of national policy involving bank regulation.
   The testimony of a commissioned examiner goes beyond competency. If it was merely a competency question, then an examiner would stand in no different position than any other expert, and the weight to be given his opinion would be a function of his education, training and experience. Here, for instance, the Respondent contends that its witness Patrick Edwards, a former examiner for the Office of the Comptroller of the Currency, has the same training as the FDIC examiners and even more credentials to give expert testimony. I disagree with the Respondent that Edwards' opinion should be weighed against those of FDIC examiners, or that Edwards' opinion should prevail. The point of Sunshine is that credit evaluation is not to be determined by evaluating the opinions of FDIC examiners against the opinions of others—however "expert" they may be.
   The Board recognized that loan classifications involve an "informed prediction" which is necessarily based on factors in addition to collateral, cash flow and the like. Specifically, the informed prediction of a commissioned examiner includes his understanding of public policy and interest. Therefore, their predictive judgments concerning matters which are material to sound regulatory policy are more than simply expert opinions. They are judgments which should be dispositive of the issue which is at the core of a bank's viability—the strength or weakness of its assets. Such, of course, is not easily susceptible to qualitative analysis, but it can be tested for reasonableness. And the facts on which the examiner's judgment is based can be tested for accuracy. In short, an examiner's loan classification is not weighed against the opinion of another ex- {{10-31-91 p.A-1734.13}}pert. It stands or falls on whether it is "outside the zone of reasonableness."
   In Sunshine, the Board did not hold that an examiner's classifications must always be accepted. Indeed, it rejected about $5.8 million of classifications, amounting to 18 percent of the total classified by the examiner.    Further, as is clear from Sunshine, deference applies only to those opinions which are particularly within the agency's expertise—such as evaluating financial statements, collateral appraisals and economic conditions. These are areas in which examiners receive extensive training and have substantial experience.
   But an examiner's opinion concerning the probable outcome litigation is not something which has been shown to be a matter subject to deference. Lawsuits, particularly complex bankruptcy litigation, are not fungible. Each has special characteristics to be analyzed in determining the likely result. Nor is the salvage and sale of unique government property within an examiner's training or experience.
   The question of whether and to what extent the Bank might reasonably expect to recover some or all of the escrow account and/or the equipment are not matters which are typically within the expertise of bank examiners. Whether, for instance, the Bank will be successful in the escrow account litigation involves a legal judgment based upon an analysis of the bankruptcy code as well as the complex facts of that situation. Similarly, whether and to what extent the Bank might reasonably recover some of the * * * credit by selling equipment involves a judgment concerning the appraisal of that equipment and related matters. Neither of these subjects are normally involved in credit analysis nor was there any showing by the FDIC that the examiners here had special training or experience in these areas. Both of these matters are involved in the * * * credit. In evaluating both, the examiners made predictive judgments and assigned the doubtful classification. The examiners discounted the Bank's likelihood of success in the litigation for the escrow account and sale of the property.
   Under the guidelines of Sunshine, these opinions should be considered, but deserve no special deference. I may evaluate all of the evidence concerning the litigation and sale of the equipment and reach an independent conclusion concerning whether, when and to what extent the Bank may expect recovery.

D. The * * * Credit

   Of particular concern in this matter is the change in facts since the 1990 examination. Specifically, the * * * credit was found doubtful in part because the individuals who had guaranteed it were also on the * * * credit and it was thought that as a result they did not collectively have sufficient cash flow to honor the guarantee. Since the hearing, the building has been sold and the * * * note has been paid in full, which not only takes that credit off of the Bank's books but also relieves the * * * of that additional obligation. Further, since the examination, the guarantee has been converted to a promissory note.
   Counsel for the FDIC argue that because the guarantee is conditional, it does not afford the Bank much security. I conclude that the guarantee is not as iffy as counsel suggest. The guarantors are released only in the event the Bank is sold or seized and then only if the FDIC does not execute a covenant not to sue them for activity occurring prior to their executing the guarantee.
   And finally, Fitzpatrick testified that the Bank's chances of recovering the entire $2 million is about 60 to 70 percent. This is a slight increase based on additional information. Counsel for the FDIC seek to discount this testimony, which I decline to do. I found Fitzpatrick to be forthright and knowledgeable and I credit his testimony. In essence, Fitzpatrick testified that in his judgment, the Bank has by far the most substantial claim and in all likelihood will prevail. He put this in terms of a 60 to 70 percent probability, up somewhat from "better than a 50/50 proposition" in July (R. Ex. 42).
   It is impossible to state the likely outcome of pending litigation in terms of mathematical probability. Any lawsuit is a one time event involving particular circumstances, thus the calculus of flipping pennies does not apply except metaphorically. I accept Fitzpatrick's testimony that the Bank has the strongest claim, without giving much consideration to whether this is said to be 50, 60, or 70 percent.
   But it appears that the FDIC examiners gave little credence to the likelihood of the Bank's success in reaching the doubtful clas- {{10-31-91 p.A-1734.14}}sification. And counsel for the FDIC argues that this is as it should be particularly when Fitzpatrick testified that the litigation could take another 3 to 5 years through the appellate process.
   I conclude that insufficient consideration was given the real possibility of the Bank's success in litigation over the escrow account, the sale of equipment or the guarantee. Though litigation could take some time, such is not necessarily so. And if the Bank wins at the trial level, the chances of it ultimately getting the escrow account are high. It holds the account. Accordingly, I conclude that the doubtful classification for the remaining credit was "outside the zone of reasonableness" and that this credit should be classified as substandard.
   The classification of the * * * credit, however, is not so important as the Bank's prospects of having a large capital infusion as a result of success in the litigation and/or sale of the equipment.
   The only substantive effect of the doubtful classification is in the calculation of adjusted primary capital. However, Part 325 does not have such a category, stating only what is required of total and primary capital. Certainly the level of doubtful classifications must be considered in evaluating the adequacy of primary capital; but Part 325 does not require that primary capital be adjusted by subtracting one-half of the doubtful. Therefore, even accepting the doubtful classification for * * * the Bank's primary capital is 3.29 percent, which is above the unsafe and unsound condition presumption of Section 325.4.
   Since 1989 and with the advent of new management, the Bank has shown improvement in its condition in virtually every category examined. Its capital is still too low as are its earnings. Its classified assets are still too high; however, with the pay off of the * * * loan, classified assets have been reduced by a significant amount.
   Indeed, as McDonough testified, with enough infusion of capital, given new management, the Bank has an excellent chance of once again being a viable institution. Since I find that the prospect of a substantial capital infusion based upon recovery in the * * * line is probable, I concluded that the FDIC Board ought not order termination of the Bank's insurance at this time.
   Even at 3.29 percent the Bank's capital is too low. The regulation require primary capital of 5.5 percent for a "well run bank without significant problems." 12 C.F.R. § 325.3. And this Bank continues to have significant problems. Therefore, it must be considered to be in an unsafe and unsound condition.
   Yet its prospects for a capital infusion are real and its problems are improving. Recovery on sale of the property could begin within 90 days. Although a successful outcome in the bankruptcy litigation could take some years, such is not a foregone conclusion. Further, since the Bank's capital position has improved to the point where it is no longer insolvent, it would seem to be less of a threat to the insurance fund to allow the Bank to continue as an insured institution, at least until such time as it is determined by a court of competent jurisdiction that the Bank is not entitled to the escrow fund and/or sale of the equipment does not yield enough to bring the Bank's capital to a reasonable level. Termination of the Bank's insurance would certainly have a detrimental effect to its viability and almost surely would result in its closure. While such might or might not adversely affect the insurance fund, it would have the effect of taking the Bank out of existence as a community bank in the area it is now servicing.
   If the Bank is unsuccessful in acquiring the $2 million escrow account or sale of the * * * property, and continues to have negative earnings, then its insurance can and should be terminated then. But the prospects of the Bank returning to viability in the near future are sufficiently good that I recommend the Bank be given an opportunity to proceed.
   Accordingly, I recommend that the FDIC Corporation Board exercise its discretion under 12 U.S.C. § 1818(a)(3), and issue an order dismissing the notice to terminate the Bank's insurance, and adopt the following:

FINDINGS OF FACT

   1. The Respondent, Anderson County Bank, Clinton, Tennessee (herein the Respondent or the Bank), is an insured depository institution as the term is defined in Section 3(c) of the Federal Deposit Insurance Act, 12 U.S.C. § 1811, et seq., and is a corporation existing and doing business under the laws of the State of Tennessee (Joint Stipulation).
   2. The Bank has its primary place of busi- {{10-31-91 p.A-1734.15}}ness in Clinton, Tennessee (Joint Stipulation).
   3. The Bank has been, and is, an insured state non-member bank subject to the Act, 12 U.S.C. § 1811, et seq., Rules and Regulations of the FDIC, 12 C.F.R. Chapter 3 and the laws of the State of Tennessee (Joint Stipulation).
   4. The FDIC conducted an examination of the Bank, concurrent with the State of Tennessee, as of the close of business July 24, 1989. As a result of that examination, the FDIC issued its Report of Examination dated July 24, 1989 (herein the 1989 Examination) (FDIC Ex. 1; Joint Stipulation).
   5. The FDIC issued its Notice of Intention to Terminate Insured Status, Findings and Order Setting Hearing on March 29, 1990. That Notice alleged, among other things, that the Bank is in an "unsafe or unsound condition" to continue operations as an insured depository institution and that the insurance risk to the FDIC is unduly jeopardized by reason of that unsafe or unsound condition.
   6. The FDIC conducted a prehearing examination of the Bank, concurrent with the State of Tennessee, as of the close of business July 27, 1990. As a result of that examination, the FDIC issued its Report of Examination (herein the 1990 Examination) (FDIC Ex. 2).
   7. At the 1989 Examination, the Bank's primary capital was a negative $428,000 (Tr. p. 108).
   8. At the time of the 1990 Examination, the Bank's primary capital was $829,000 (FDIC Ex. 2).
   9. At the 1989 Examination the Bank's primary capital ratio was negative 1.44 percent (FDIC Ex. 1).
   10. At the 1990 Examination, the Bank's primary capital ratio was positive 3.29 percent (FDIC Ex. 2).
   11. As a result of the 1989 Examination, the Commissioner of Financial Institutions for the State of Tennessee put the Bank under a capital call on August 30, 1989 (R. Ex. 103).
   12. Based on an agreement with the Commissioner, the following actions took place prior to year end 1989:

       A. A $600,000 capital injection by the Bank's directors in the form of a participation in the * * * credit (Tr. p. 357) (R. Ex. 104).
       B. The Bank's directors executed the Conditional Limited Guaranty Agreement, guaranteeing an additional $1,000,000 of the * * * credit (Tr. p. 357; R. Ex. 104).
       C. Directors William H. Arowood, William M. Arowood and Anna Kay Cooper resigned from the Bank's board of directors (Tr. p. 358; R. Ex. 104).
       D. The Bank hired Don Conrad as a consultant for a ninety-day period, with the approval of the FDIC and the Commissioner (Tr. p. 358; R. Ex. 104).
   13. On December 20, 1989, the Commissioner withdrew the capital call (Tr. p. 366; R. Ex. 117).
   14. An additional $100,000 was injected by the directors on March 15, 1990.
   15. At the 1989 Examination, the FDIC classified the * * * credit as a Loss in the amount of $2,463,000 (FDIC Ex. 1).
   16. Management in place at the Bank at the time of the 1989 Examination was directly responsible for the condition of the Bank (Tr. p. 15, 22 and 249).
   17. The * * * credit is comprised of a series of loans that aggregate approximately $2.5 million dating to May 1988. The first loan was a direct loan to * * * totalling approximately $217,000. The remainder of the credit is represented by five individual notes to the principals of each in the amount of $450,000 (Tr. p. 28; FDIC Ex. 1).
   18. The bulk of the proceeds from the loan to * * * were primarily used to fund a $2 million escrow account as required by the Department of Energy (Tr. p. 30; R. Ex. 19).
   19. * * * had acquired certain contract rights in connection with the disposal of a Department of Energy gas centrifuge program in Portsmouth, Ohio (Tr. p. 73; R. Ex. 18).
   20. * * * filed Chapter 11 bankruptcy on July 5, 1989, prior to the start of the 1989 Examination. That bankruptcy was subsequently converted to a Chapter 7 bankruptcy (Tr. p. 80).
   21. The Bank has obtained the right to liquidate its equipment collateral at the Portsmouth, Ohio, plant. The bankruptcy court
{{10-31-91 p.A-1734.16}}no longer has jurisdiction over the equipment collateral (Tr. p. 553).
   22. The * * * debt is collateralized by a $4 million lien on * * * contract rights with the United States Department of Energy and a perfected first lien in Ohio and Tennessee on the unclassified equipment of * * * as evidenced by appropriate UCC-1's (Tr. p. 75–77, 551 and 554; FDIC Ex. 1; R. Exs. 24, 36, 37, 39, and 40).
   23. The * * * credit is additionally collateralized by virtue of the Hypothecation Agreement executed on May 4, 1988, which granted the Bank a priority interest in $2 million escrow account on deposit at the Bank (Tr. p. 423 and 557; R. Ex. 23).
   24. The * * * loan is a series of four loans to the four principals, * * *, * * *, * * *, and * * *, evidenced by promissory notes and a deed of trust on the Anderson County Bank building (Tr. p. 228).
   25. At the 1990 Examination, the * * * credit was classified $1,720,000 Substandard (Tr. p. 166).
   26. On October 17, 1990, the * * * loan was paid in full (Joint Stipulation).
   27. During the 1990 Examination, the FDIC examiner classified the * * * credit as $1 million "Doubtful" (Tr. p. 191; FDIC Ex. 2).
   28. Between the 1989 and 1990 Examinations, $763,000 of the * * * credit had been charged off, $700,000 of the credit had been purchased for cash significant drop in the total volume of loans criticized and classified and there has been a significant reduction in loss. Also past dues have been significantly reduced (Tr. p. 594–595).
   44. The Bank's current management in adequate (Tr. p. 588–589).
   45. The Bank's earnings in 1989 were negative $1,669,000. Through the first six months of 1990, the Bank's earnings were negative $130,000 (Tr. p. 334–335).
   46. Legal and accounting fees for the Bank, for a bank of comparable size, have been unusually high for the first six months of 1990 (Tr. p. 256).
   47. At the 1989 Examination, the Bank's dependency ratio was 20.19 percent. At the 1990 Examination, the Bank's dependency ratio was 2.86 percent (Tr. p. 261).
   48. At the 1990 Examination, the Bank's loan-to-deposit ratio was 75.89 percent. At the 1990 Examination, the Bank's loan-to-deposit ratio was 60.69 percent (Tr. p. 261).
   49. The future earning prospects of the Bank are good. The Bank has a good franchise and good community support (Tr. p. 593).
   50. At the 1989 Examination, the Bank had a dependency ratio of 20.19 percent. By the 1990 Examination, the Bank's dependency ratio had dropped to 2.86 percent (Tr. p. 261; FDIC Exs. 1 and 2).
   51. At the 1989 Examination, the Bank's loan to deposit ratio was 75.89 percent. By the 1990 Examination, the Bank's loan to deposit ratio was 60.69 percent (Tr. p. 261).

CONCLUSIONS OF LAW
   1. At the July 27, 1990, examination, the * * * credit should have been classified substandard rather than doubtful.
   2. As of July 27, 1990, the Bank's adjusted primary capital was 3.29 percent of total assets.
   3. The Bank is now well-managed, but has material and significant financial weaknesses.
   4. The Bank is in an unsafe and unsound condition within the meaning of 12 C.F.R. §325.3, because its ratio of primary capital to total assets is less 5.5 percent, given its material and significant financial weaknesses.
   5. The Bank's management and financial condition has shown marked improvement in all areas since the 1989 examination.
   6. The FDIC Board may exercise its discretion and not order termination of federal deposit insurance where the prospects of the Bank increasing its capital to an acceptable level is good.
   7. The probability that the Bank's capital will increase to an acceptable level is sufficiently probable that the Bank's continued operation as a federally insured institution does not pose an undue threat to the insurance fund.
   Dated, Washington, D.C. January 28, 1991
   /s/ James L. Rose
   Administrative Law Judge

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