Regulators FLEX their muscles

Regulators FLEX their muscles

If regulators are taking a hard line with a successful financial

institution like Orion Bank, then most Florida banks risk tougher sanctions. Will regulators be overzealous this time around?

banking by Jean Gruss | Editor/Lee-Collier

A banker at an industry conference quipped recently that regulators shoot the injured once the battle is over.

On the Gulf Coast, the battle has begun, and it appears the guns are being loaded.

Federal Reserve Bank regulators surprised Florida's banking community last month when it issued an "enforcement action" against Orion Bank, second-largest Gulf Coast-based bank with $2.9 billion in assets and heretofore one of the region's most successful and profitable financial institutions.

The Fed's move raised the obvious question: If Naples-based Orion is publicly cited, what about the 58 other Gulf Coast-based banks that have reported losses so far this year? After all, Orion remains profitable.

Regulators won't discuss their enforcement action with Orion. And Jerry Williams, the bank's chairman, chief executive officer and president, sounds conciliatory, insisting the regulators aren't out of line and that his bank has taken all of the necessary steps to comply.

"It's like any other bureaucracy," says Stephens Woodrough, a St. Petersburg-based banking attorney who was a former regional counsel for the Federal Deposit Insurance Corp. in Atlanta. "It's reactive. No question that the agencies are pushing for more intensive underwriting by examiners."

Adds Woodrough: "The agencies are trying to get [bank] managements' attention. They're banging them with two-by-fours."

Regulators began increasing their scrutiny of banks' balance sheets and operations 18 months ago, says Ronald Weaver, a Tampa attorney and former chair of the American Bar Association's real-estate finance committee. "Two of the last three recessions, the regulators have overdone it," he says.

The most high-profile case during the last severe downturn was that of Miami-based Southeast Bank, which was one of the largest Florida-based bank when federal regulators seized it in 1991. Despite its problems, most agreed later that Southeast never should have been shut down because its assets weren't as impaired as regulators believed.

"The regulators do take the environment into consideration," says Sebastian Hindman, a financial-institution analyst with SNL Financial in Charlottesville, Va. "It's going to be a bumpy road for the next year or so."

A written agreement

Orion Bank and its holding company, Orion Bancorp, entered into what's called a "written agreement" with the Federal Reserve Bank of Atlanta and Florida's Office of Financial Regulation on Aug. 25.

The 15-page agreement reads like a laundry list of banking must-dos, from submitting a capital plan to mitigating the bank's concentration in commercial real estate lending (see box). "The agreement speaks for itself," says Jean Tate, a spokeswoman for the Federal Reserve.

Tate did not respond to questions seeking details, so depositors, borrowers and others are left to guess what it really means.

For example, does the agreement mean that the bank hasn't complied with banking rules and regulations? If so, which ones? Linda Charity, the director of Florida's Office of Financial Regulation, couldn't be reached either.

"There's nothing I disagree with," says Williams, a banker whose recent success made him American Banker magazine's 2006 Community Banker of the Year and vice chair of the $160-billion Federal Home Loan Bank of Atlanta in 2007.

Williams says the issues that regulators cited in their agreement have all been addressed. What's more, a "written agreement" is the weakest of all forms of enforcement actions. Stricter actions include "cease and desist" orders, removal and prohibition orders and orders assessing civil money penalties. "There's nothing punitive," Williams says of the agreement.

Woodrough, the St. Petersburg banking attorney, says that the severity of the enforcement action usually depends on the management of the bank. The fact that regulators imposed a written agreement instead of a harsher cease and desist order means "there's a good level of confidence in the management to get it right." Williams, the former chairman of the Florida Bankers Association, is known as one of the shrewdest and most politically well-connected bankers in the state.

Still, says SNL's Hindman: "It's definitely not a good thing."

Regulators and banks usually try to work things out before it comes to public enforcement actions such as written agreements. Weaker forms of enforcement actions that don't require public disclosure include a memorandum of understanding or a board resolution.

"The bank will try anything in its power to avoid formal action that requires disclosure," says Woodrough. But, he adds: "When we're in this particular environment, it's going to get tipped against him."

Williams says regulators never sought a harsher cease and desist order against the bank. Neither did they require a review or replacement of management nor did they demand an injection of capital. Expansion plans aren't on hold, either: "We're about to open our 23rd office in North Palm Beach," he says.

Financial clues

Nonetheless, Orion's ratio of noncurrent loans (loans 90 days or more past due plus nonaccrual loans) as a percentage of gross loans is 5.25%. That's more than double the 2.13% ratio at peer banks with assets between $1 billion and $5 billion, according to an analysis of FDIC data by the Review.

Of the $102 million of loans that are no longer accruing any interest, $76 million of those are loans for construction and land development.

Like other Florida community banks, commercial real estate, construction and land-development loans have been Orion's core for years. Orion's skill in that arena is such that Martha Huntenberg, Orion's vice president of commercial banking, just last year was invited by the Federal Reserve to make a presentation about commercial real estate lending to 150 bank examiners in Dallas.

As non-performing loans have increased, Orion's capital level has declined from its peak of near 10% in 2004 and 2005. Currently, the bank is well capitalized, with a Tier 1 capital ratio at 7.63%. "We print capital every day," Williams says. For the year to date, Orion reported $8.3 million in net income, second highest on the Gulf Coast after Raymond James Bank in St. Petersburg.

Compared to its peers, Orion ranks toward the low end with its Tier 1 risk-based capital ratio. The ratio is calculated by adding a bank's reserves and stockholders equity and dividing that by its risk-weighted assets. Orion's ratio is above the 6% that regulators regard as well-capitalized but roughly half the 13.74% ratio reported by its peers, according to FDIC data.

Your neighbor's business

Williams is upset with some of the press coverage Orion has received after the agreement became public, saying recent headlines and articles have been overblown and are unnecessarily worrisome for customers.

Many of the businesses Orion lends to face difficulties in their businesses. The problem loans at the bank are only a reflection of neighbors' hardships, and news stories that unfairly imply bank mismanagement simply aggravate the situation, Williams says.

Bank analysts interviewed by the Review say much of what constitutes the written agreement Orion signed is boilerplate language. Still, the agreement has a chilling effect. It makes other bankers more skittish about lending, a factor that will prolongs the struggling economy along the Gulf Coast.

"We don't know how bad it's going to be and for how long," Williams says of Florida's economy. But he doesn't object to the change in regulators' posture. Adds Williams: "It's better to be safe and more focused and strengthen risk management."

REVIEW SUMMARY

Company. Orion Bancorp

Industry. Banking

Key. If regulators are targeting successful banks such as Orion Bank, weaker banks will likely face harsher scrutiny.

What the agreement says

Orion Bank and its holding company, Orion Bancorp, entered into a "written agreement" with the Federal Reserve Bank of Atlanta and Florida's Office of Financial Regulation Aug. 25. It calls for Orion to:

• Strengthen board oversight of the management and operations of the bank;

• Strengthen the bank's management of commercial real estate, including reducing or mitigating the risks of concentration in light of the current market conditions;

• Revise written loan policies and loan procedures;

• Agree not to extend or renew credit to any borrower whose extension of credit has been charged off, and submit a plan to collect on past-due loans;

• Charge off as losses unspecified loans identified by regulators;

• Submit a capital plan that addresses the bank's problem assets and current economic conditions;

• Improve management of the bank's liquidity position and funds management practices;

• Submit a written budget and business plan every year to regulators;

• Agree not to pay dividends without regulators' approval.

Orion Bank

(Dollars in thousands)

ASSETS AND LIABILITIES 6/30/07 6/30/08 %Change

Total assets 2,556,857 2,889,461 13%

Net loans and leases 1,897,426 2,012,568 6%

Total liabilities 2,362,079 2,730,102 16%

Total deposits 1,690,370 2,209,959 31%

Equity capital 194,778 159,359 ‑18%

Noncurrent loans and leases 5,216 108,932 1,988%

Insider loans 25,783 27,811 8%

Tier 1 (core) capital 198,816 166,208 ‑16%

INCOME AND EXPENSES YTD 6/30/07 6/30/08 %Change

Total interest income 93,655 80,053 ‑15%

Total interest expense 49,283 44,925 ‑9%

Net interest income 44,372 35,128 ‑21%

Provision for loan and lease losses 1,200 3,600 200%

Total noninterest income 3,900 3,112 ‑20%

Total noninterest expense 19,965 21,717 9%

Salaries and employee benefits 11,617 11,995 3%

Pre-tax net operating income 27,107 12,923 ‑52%

Net income 16,904 8,343 ‑51%

PERFORMANCE RATIOS YTD 6/30/07 YTD 6/30/08

Net interest margin 3.76% 2.73%

Return on assets 1.33% 0.59%

Return on equity 17.62% 10.38%

Efficiency ratio 41.36% 56.79%

Noncurrent assets plus other real estate owned to assets 0.89% 4.73%

Core capital (leverage) ratio 7.89% 5.55%

Tier 1 risk-based capital ratio 9.79% 7.63%

Total risk-based capital ratio 11.15% 9.59%

Source: FDIC