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FDIC Enforcement Decisions and Orders |
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FDIC issues cease and desist order upon finding that Bank engaged in numerous unsafe or unsound banking practices. (This order was terminated by order of the FDIC dated 2-25-93; see ¶9014.)
[.1] Practice and ProcedureExceptions to Recommended Decision Oral Argument
[.2] EvidenceExpert OpinionWeight
[.3] LoansClassificationExaminer's Opinion
[.4] LoansClassificationPost-Examination Evidence
[.5] Directors and OfficersUnauthorized CompensationFiduciary Duty
[.6] Cease and Desist OrdersNotice of ChargesSpecificity
[.7] Cease and Desist OrdersCessation of Violation
In the Matter of
This proceeding was brought pursuant to section 8(b)(1) of the Federal Deposit Insurance Act ("FDI Act"), 12 U.S.C. §1818(b)(1), against The Stephens Security Bank, Stephens, Arkansas ("Insured Institution" or "Respondent").
The FDIC Division of Supervision completed an examination of the Insured Institution as of July 21, 1989, determining that its overall condition had substantially deteriorated since the prior FDIC examination as of October 10, 1986. The examination found that adversely classified assets (loans and other real estate) had increased 424 percent since the prior examination to $3,432,000, of which $2,815,000 consisted of loans classified "Substandard," $143,000 "Doubtful," and $98,000 classified "Loss." Total adversely classified assets represented 14.41 percent of the Insured Institution's total assets and equalled 153.08 percent of total equity capital and reserves, or more than one and a half times the Insured Institution's capital. FDIC Ex. No. 1 at 13.3
The Recommended Decision relies almost entirely on the ALJ's determination that the opinions of the Insured Institution's expert witness, a former FDIC examiner currently a law student and previously employed by Respondent's counsel as a summer law clerk, are entitled to deference and that Enforcement Counsel's proposed conclusions of law were "not supported by any citation of legal authority." R.D. at 4, n. 10. The ALJ also rejected the classification of 15 loans and reduced one loan classification made by the FDIC in the July 21, 1989 Report of Examination, on the basis of testimony by Respondent's expert. R.D. at 56.
[.1] Respondent submitted a Motion for Oral Argument before the Board with its Exceptions to the Recommended Decision. Pursuant to 12 C.F.R. §308.43, the grant of a request for post-hearing oral argument is an extraordinary matter within the sole discretion of the Board.
This proceeding involves an insured financial institution whose most recent FDIC examination indicates a disturbing increase in problem assets during the three years since the prior FDIC examination. The Board is now required to determine whether some remedial relief in the form of a cease-and-desist order is necessary and appropriate to halt certain alleged unsafe or unsound practices and violations of laws and regulation. As the Board has held on many prior occasions, such an order is not a punitive measure but is remedial and intended to focus the Insured Institution's attentions on actions necessary to end unsafe or unsound practices, to bring about correction of its financial problems and to implement procedures that will prevent their reoccurrence. The Board has carefully reviewed the entire record of this proceeding. For the reasons set forth below, the Board agrees in part with the ALJ's findings and conclusions but disagrees with certain of the ALJ's findings and conclusions, and disagrees with certain aspects of the ALJ's proposed relief. Accordingly, the Board adopts the ALJ's Recommended Decision only in part8and modifies the cease-and-desist order to reflect the discussion herein.
A. Deference to FDIC Examiners' Classification.
[.1] The Recommended Decision is premised upon deference given by the ALJ to opinion testimony of Respondent's expert9regarding the classification of loans and other assets. The ALJ notes that:
Id. at 1582, citing Missouri-Kansas-Texas Railroad Co. v. United States, 632 F.2d 392, 406 (5th Cir. 1980) (emphasis added) (citations omitted). This judgment is exercised by FDIC examiners as part of the statutory responsibilities of the agency to safeguard the insurance fund. These examiners are not only trained initially but are required to participate in periodic refresher courses to keep abreast of the most current developments and techniques. In addition, the continuous performance of examinations by these commissioned FDIC examiners provides not only continuous on-the-job training, but also provides a constant comparative basis for the exercise of the examiner's judgment in classifying loans. Finally, agency examiners do not work alone but with other experienced commissioned examiners in performing examinations and their work and conclusions are subject to supervision and review by review examiners and other experienced supervisory officials in the regional offices who are also highly experienced commissioned bank examiners before an examination report is put into final form.
[.2] In this case, Respondent's expert is a former FDIC examiner who left the agency in 1986 and has not had the benefit of current developments or recent training in FDIC examination policy or procedures. That the banking industry has changed substantially since Respondent's expert last examined a bank cannot be contested. It is the former examiner's lack of experience and training as to current FDIC examination practices and policies, the fact that he did not actually conduct an examination of the Insured Institution, his lack of recent examination experience which would provide a basis for comparison of loan classifications in a cross section of banks, and the absence of a comparative basis for his judgment, that leads the Board to conclude that he is not entitled to the deference accorded to current FDIC examiners under Sunshine. The ALJ's finding10to the contrary is inappropriate.
B. Loan and Asset Quality.
The ALJ, relying on the testimony of Respondent's expert, substituted his own judgment regarding the classification of certain assets, completely ignoring the FDIC examiner's classifications. R.D. at 56. Under Sunshine, the FDIC examiner's classification is entitled to deference and is not to be over-turned unless shown to be based on incorrect facts or "shown to be arbitrary and capricious or outside a zone of reasonableness." Sunshine, 783 F.2d at 1581.
[.3] Respondent's expert's testimony11is based on his assertion that the FDIC examiner classified "16 loans without considering the full range of material and determinative facts then extant concerning those loans." R.D. at 5. The FDIC examiner amply testified regarding the omission of documents and other evidence from the loan files at the time of the examination. Tr. at 158-60; FDIC Ex. No. 1, p. 2-e-2. The opportunity was afforded to the Insured Institution's management and board of directors to provide missing documentation during the examination process to support the appropriate classification of the assets. Tr. at 247-48, 324-28, 334-38, 360-61, and 702-06. This action is based on the findings
C. Lending and Collection Practices.
Enforcement Counsel asserts that each of the FDIC's adversely classified extensions of credit involved one or more of the following unsafe or unsound practices: a) the capitalization of interest12in violation of a written loan policy, (b) the pledging of unlisted securities13in violation of a written loan policy, (c) loans in excess of 75 percent of the value of collateral in violation of a written loan policy,14(d) second liens on commercial real estate in violation of a written loan policy, (e) loans which involve a conflict of interest15in violation of a written loan policy, (f) making loans without adequate collateral,16without adequate documentation,17and without adequate credit analysis,18(g) making loans without adequate repayment agreements,19and (h) failing to enforce repayment agreements.20R.D. at 2.
[.3] Once testimony and documentary evidence was provided in support of the adverse classification, "the ALJ should have deferred to the training, experience, and expertise of the examiners and the exercise of their judgment regarding the classification of individual loans. Therefore, the Board finds that classifications assigned by the FDIC examiners are to be accorded deference unless it is shown they are without factual basis or are unreasonable in light of the factual basis." 1 FDIC Enf. Dec. ¶5061.1. (1986). Here, the Board finds ample factual support in the record for the determinations as to loan classifications made by the FDIC examiner. Where, as here, there is an excessively high volume of adversely classified loans and evidence that Respondent consistently has not established repayment schedules or plans and consistently has not required borrowers to adhere to existing repayment plans, the Board finds that there has necessarily been hazardous lending and lax collection practices which are unsafe or unsound practices.21As the United States Court of Appeals for the Eight Circuit has stated "[t]he inference of a causal connection between the unsafe lending practices and the poor state of the loan portfolio is quite logical." See e.g. Northwest Nat'l Bank v. Department of the Treasury, 917 F.2d 1111, 1115 (8th Cir. 1990) (finding a causal connection between unsafe practices and high level of classified loans).
D. Loan Reserves and Earnings.
Respondent asserted that the classification of the extension of credit to * * * was incorrect citing the testimony of its expert and a subsequent Arkansas State Bank Department Examination.22The ALJ, relying on the testimony of Respondent's expert (who in turn relied upon post-examination documentationsee supra, n.11 at 13) coupled with the fact that the * * * Loan was less adversely classified by the Arkansas State Bank Department in a subsequent examination,23found that "the extension of credit to * * * was erroneously classified as `doubtful.'" R.D. at 7. The ALJ then concluded that $71,500 (one-half of doubtful classification would not be charged against capital and loan loss reserves. From this deduction, he concluded that there was no evidence that loan loss reserves were inadequate.
[.4] First, the FDIC examiners classified the * * * Loan as "Doubtful," on the basis of the information found in the loan file during the examination. The ALJ's conclusion that the loan should be classified only as "Substandard" relied on after-acquired documentation. As discussed above, evidence that a loan comes into compliance after the close of the examination does not establish that the classification was incorrect and is not a basis for reversing that classification. In the Board's view, the record adequately supports the "Doubtful" classification at the close of the examination and the Board is unwilling to second guess the examiner based on later acquired information.24Second, even assuming arguendo that the * * * Loan
E. Self-Dealing by Chairman Smith.
[.5] This Board adopts the ALJ's findings of fact and conclusions of law relating to the receipt of loan origination fees26by Chairman Smith. R.D. at 1314. As the ALJ stated:
In the Matter of Bank of Salem, FDIC-89-229b, 2 FDIC Enf. Dec. ¶5164 (February 28, 1991).
F. Violations of Law.
1. Violations of Section 23A of the Federal Reserve Act.
[.6] However, the ALJ found that:
[.7] The record in this proceeding indicates that most of these violations or law were corrected by the Insured Institution during or shortly after the examination period. However, the fact of correction does not excuse or eliminate the fact that the violations of law occurred. Nor does correction necessarily eliminate the need for appropriate relief in the form of an order not to commit such violations in the future. A cease-and-desist order is intended to be remedial in nature, to half unsafe or unsound practices or violations of law. To the extent that correction of the violation has occurred, evidence of that fact goes to compliance with the relief ordered in the proceeding.
Enforcement Counsel's exceptions have been duly noted and addressed in this Decision where appropriate. Respondent's two exceptions have been reviewed and found to be without merit. It is the responsibility of the board of directors of an Insured Institution to provide adequate oversight of the institution and to ensure compliance with applicable laws and regulations by management and members of its board. The purpose for the issuance of a cease-and-desist order is remedial and to give the FDIC assurance that if the Insured Institution " `were free of the [FDIC's] restraint it would not continue its former course.'" Bank of Dixie v. FDIC, supra., quoting Zale Corp. v. FTC, supra.
The Board has carefully reviewed the entire record in this proceeding, including the ALJ's Recommended Decision, the transcripts, briefs, and exceptions. Having determined that the Insured Institution has engaged in unsafe or unsound practices and violations of law and regulations as set forth above, the Board finds that the issuance of the order to cease-and-desist accompanying this decision to halt and remedy those prac-
In the Matter of
The Board of Directors ("Board") of the Federal Deposit Insurance Corporation ("FDIC"), having considered the record and the applicable law, finds and concludes that The Stephens Security Bank, Stephens, Arkansas ("Insured Institution"), as set forth in the Decision, has engaged in unsafe or unsound practices and has committed violations of law and regulation within the meaning of section 8(b)(1) of the Federal Deposit Insurance Act ("Act"), 12 U.S.C. § 1818(b)(1):
In the Matter of
Steven M. Charno, Administrative Law Judge:
As is apparent from the following discussion, this Decision turns largely on (a) Petitioner's failure to offer evidence in rebuttal of significant elements of Respondent's case and (b) Petitioner's waiver, pursuant to the posthearing briefing order issued February 1, 1991, of its right to assert certain factual positions and legal arguments in this proceeding. Cases involving significant public interest issues should not be decided on such bases.
A. Lending and Collection Practices
Petitioner has requested findings of fact that Respondent made extensions of credit: (a) involving the capitalization of interest in violation of a written loan policy, (b) secured by unlisted securities in violation of a written loan policy, (c) for amounts in excess of 75 percent of the value of collateral in violation of a written loan policy, (d) secured by a second lien on commercial real estate in violation of a written loan policy, (e) which involve a conflict of interest in violation of a written loan policy, (f) without adequate collateral, (g) without adequate documentation, (h) without adequate credit analysis, (i) involving the capitalization of interest and (j) without adequate repayment agreements or without enforcing repayment agreements. Respondent correctly notes that Petitioner bears the burden of proof and argues that the only evidence of these alleged acts was Petitioner's July 21, 1989 examination report. I find that the relevant portions of the examination report establish the facts in question on a prima facie basis3 and further find that Respondent did not meet the shifted burden of proof by proffering probative evidence sufficient to rebut Petitioner's showing.
C. Loan and Asset Quality
Petitioner has requested findings of fact that Respondent has excessive volumes of (a) adversely classified loans, (b) adversely classified assets other than loans and (c) loans with technical exceptions. Petitioner has also requested conclusions of law that each of the requested findings, as well as Respondent's alleged operation with excessive poor quality loans and assets, are unsafe or unsound practices. In support of these proposed findings, Petitioner offered the evidence of its expert witness who gave his reasons for adversely classifying a number of Respondent's loans and assets and for assigning technical exceptions to certain loans.13 That is, Petitioner made a prima facie showing that, as of July 21, 1989, Respondent had (a) adversely classified loans in the amount of $3,056,000, which represented 136 percent of Respondent's total equity and reserves, (b) adversely classified loans and assets other than loans in the amount of $3,432,000, which represented 153.08 percent of Respondent's total equity and reserves and (c) loans in the amount of $5,260,000 cited for technical exceptions, which equaled 35.78 percent of total loans.
1. At all time pertinent to this proceeding, Respondent has been a corporation existing and doing business under the laws of Arkansas with its principal place of business at Stephens, Arkansas.
1. Petitioner has jurisdiction over Respondent and the subject matter of this proceeding.
IT IS ORDERED that Respondent, The Stephens Security Bank, Stephens, Arkansas, its directors, officers, employees, agents, successors, assigns and other institution-affiliated parties, cease and desist from the following unsafe or unsound banking practice and violation of law: |
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Last Updated 6/6/2003 | legal@fdic.gov |