Nearly 1,200 banks have been hit with an enforcement action made public by federal regulators since the start of 2008, and that number is expected to climb at an accelerated rate.
"By the end of this year, there will be in excess of 2,000 banks under an order," said Michael Ross, the president and chief executive of Dearborn Bancorp Inc. in Michigan, which has a written agreement with the Federal Reserve Bank of Chicago.
Enforcement actions are on pace to increase 64% this year, making bankers increasingly wary of further obstacles to their recovery.
"Everybody's very cautious, and the very scary part is, they're reluctant to lend" because of the heightened enforcement actions, "which impedes economic recovery," said Don Mann, a former Michigan state bank regulator and now an independent bank consultant.
The stigma of an enforcement order can make it harder to raise capital, but some bankers said the actions have become so common that investors are getting desensitized. Bank orders don't carry that "scarlet letter 'A' anymore. They're losing their sticker shock," Ross said. Now, "it's honk if you've got an order."
Federal regulators took enforcement actions against 462 banks in the first six months of 2010, according to data compiled by Foresight Analytics LLC. Orders publicly announced by regulators have more than doubled since a year earlier and are 100 shy from reaching the total for all of 2009.
The increases are partly because of the lag time between examinations and an orders' announcement. But analysts and bankers said the bigger reason is regulators want to leave a paper trail in the event a bank fails, in case they need to defend themselves from second-guessing by inspectors general. Furthermore, the paper trail could aid the Federal Deposit Insurance Corp. in any lawsuits against the officers and directors of failed banks.
The regulators "can't look asleep at the switch like the old forbearance days," said Tony Plath, a finance professor at the University of North Carolina at Charlotte. "It's becoming increasingly apparent that the recovery that is going to inflate banks' balance sheets is just not going to come."
This means more informal and formal actions will be taken by federal regulators, even on the well-capitalized banks if their loans appear to be at risk of lower valuations in the future.
There are banks "that may still be reporting adequate or well-capitalized figures, but the regulators may be determining the banks are not reserving enough for future losses," said Matt Anderson, managing director at Foresight Analytics.
FDIC officials did not respond to questions about why the numbers are climbing so rapidly. Regulators in California and Florida, who have participated in some of the actions taken by federal regulators, said only that the number of orders in their states have risen in conjunction with tough economic conditions.
In one recent case, Pilot Bank in Tampa entered into a written agreement with the Federal Reserve of Atlanta and its state regulator largely to strengthen its credit risk management practices. The bank was well capitalized with a 10.34% total risk-based capital ratio and had significantly low nonaccruing assets at roughly 1% of its total assets, considering it's based in one of the hardest-hit states. But its loan portfolio still gave regulators enough reason to take the action, which was announced in July. Bank officials did not return phone calls seeking comment.
The number of new actions stayed flat at 78 orders in May and June, but observers said it's not a sign of an easing back. Federal regulators are expected to become even more proactive in the third and fourth quarters because a majority of the orders so far have been based on exams of bank results from last year.
"This is sort of the calm before the storm," Plath said.
The next wave of enforcement actions is expected to follow banks' lowering of valuations on commercial real estate loans that come due later this year and in 2011. Those writedowns have just begun, observers said.
Plath said that trend is largely going to affect the banks with $1 billion to $10 billion of assets since they tend to do heavy amounts of CRE lending.
The majority of enforcement actions have mostly targeted banks with less than $10 billion of assets. This asset class made up 98.5% of the 462 orders during the first half of the year. With a majority of the banks in the nation under $10 billion of assets, that trend is expected to continue.
"This is going to take several years to come out of," said Chip MacDonald, a partner at Jones Day in Atlanta.
In addition to becoming more widespread, the orders are also becoming more detailed and going beyond asset quality and capital concerns to targeting the bank's management and board.
Lately, the FDIC has been asking for management studies of banks, said Mann, who questioned their usefulness. "In most cases, it's not the management, but it's the economy," he said.
These management studies are costly for banks, typically ranging from $5,000 to $100,000, Mann said.
What the management assessment reports do provide is a record for regulators in case they choose to sue an officer or director of a bank in the event the bank does fail.
The orders "have been getting more critical of management and the board," Plath said. "This tells me [the regulators] are coming back to sue management and the board in a year or two and they need to start an audit trail now."
MacDonald said it will be harder for banks to survive the recession as more capital and liquidity requirements placed on a bank creates management and board "fatigue."
"That creates consolidation," he said.
As more banks are being required to raise capital because of the increase in regulatory orders, the odds of successful offerings decrease. This is expected to make many banks target takeovers for private-equity groups after these banks have charged off bad assets and try to tap the market for more capital, analysts said.
Register or login for access to this item and much more
All Bank Investment Consultant content is archived after seven days.
Community members receive:
- All recent and archived articles
- Conference offers and updates
- A full menu of enewsletter options
- Web seminars, white papers, ebooks
Already have an account? Log In
Don't have an account? Register for Free Unlimited Access