Managing Troubled and Failed Banks for Maximum Advantage

And, we’re back…!

Remember the banking meltdown of the mid-1980s to mid-1990s? Here we are twenty years later, except that this time, the vexing problem is single-family residential financing instead of commercial real estate financing.

Institutional Management Considerations

When a financial institution encounters a high volume of problems with a particular loan type or with their entire portfolio, then the institution has to be managed in a highly specialized way in order to address the unique problems with the portfolio. It is not logical to expect that the management that brought the financial

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institution to its present troubled condition will have the objectivity and the ability to shift gears and properly manage the financial institution and its problems in a manner that will allow it to survive. This is when an experienced interim financial institution manager must be brought in.

Identifying Desirable and Undesirable Assets

From the first day, the interim manager must undertake the matter of getting a handle on the quality of the assets contained in the various segments of the financial institution’s asset portfolio. For example, today many institutions have decent quality loans to consumers, businesses, and perhaps also to commercial real estate owners, but have clearly recognizable problems in their single-family, construction, and acquisition and development loan portfolios. The nature and severity of these problems must be estimated, and a plan established and implemented to capitalize on the institution’s strengths and to mitigate and shore up its weaknesses.

As one small example that often works, it is sometimes desirable to rent out REO and OREO rather than let them sit, incur tax, insurance, and maintenance expenses, and physically deteriorate without producing any financial return at all. And sometimes, the residential renters turn into purchasers down the line. I have successfully implemented the same renting practice for commercial properties as well. It depends on the circumstances.

A realistic net present value analysis is useful in making these decisions.

Identifying Who is a Part of the Problem

Another decision area that has to be addressed beginning the first day on the job is the matter of which personnel stay and which ones have to leave. This can best be accomplished by an interim manager brought in to run the institution since he or she will not have any established relationships with the staff that would affect his or her decisions.

Some employees will have an unreasonable attachment to and expectations for some of the troubled assets, usually those assets that they originated. Some employees will refuse to accept that their institution has hit the wall and expect the entire unpleasant situation – including the new interim manager – to simply go away, therefore viewing you as a nuisance. And some employees simply have poor judgment, poor business skills, a poor attitude, and a poor work ethic.

These employee decisions have to be made regardless of the intended future of the institution. Even if the assets of the institution are to be sold off and the institution closed, people who are a part of the problem will be a hindrance in managing the institution and the assets and getting things cleaned up to the point that the assets can be sold. And if the entire institution is to be sold or merged, stripping out the obvious problem personnel beforehand will help facilitate the sale since a purchaser will certainly bring in its own management team that understands the purchaser’s goals and systems.

“Live or Die” Decision

At some point, a decision has to be made as to whether the institution can be salvaged. While the interim manager may have some input into this decision, the actual decision usually will be made by the governmental regulators.

Keep in mind that in light of the Bear Stearns bailout, Fannie Mae bailout, Freddie Mac bailout, AIG bailout, $700 billion subprime loan bailout, auto industry bailout, and who-knows-what-else-bailouts, it is unlikely that any federal funds will be available to fund a bailout of an institution today. This means that the bank has to be reconstituted into a functioning and workable institution by making prudent adjustments to the present assets and liabilities as well as to assets and liabilities that are added during the reconstitution period.

This does not mean that a new alchemistic accounting trick has to be developed and applied, but rather that Adam Smith-style supply-and-demand and return-on-investment principles need to be reintroduced into the system. How much income will this asset produce over its likely life? What value does this asset’s anticipated income stream and residual value have to a likely purchaser? Where are the funds going to come from to purchase this investment?

Regulatory Interface

In addition to all of the aforementioned mountainous jobs, the financial institution’s interim manager must interact with the various regulators that have an interest in the bank’s welfare. This is no small task since it is common for an institution to be operating under a Cease & Desist Order issued by the banking regulators and specifying various items that the institution must address by certain dates. These items might include an assessment of the bank’s staffing and management, maintenance of Tier I capital, reduction of delinquencies, write-offs, creation of a business plan, creation of a plan to reduce exposure to certain problem loans, creation of an ethics policy, etc.

Summary

Managing a troubled or failed financial institution is a tough and lonely job not recommended for the inexperienced, weak or timid. It requires immense experience, imagination, credibility, a sense of strategy, ethics, and a personality that is oriented toward action.

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ABOUT THE AUTHOR: Don Coker
Mr. Coker provides expert witness and consulting services. Over 400 cases for plaintiffs and defendants nationwide, over 100 testimonies, and 12 courthouse settlements in all areas of banking and finance. Listed in the databases of recommended expert witness consultants of both the DRI and the AAJ. Clients have included numerous individuals, 60 banks, and governmental clients such as the IRS, FDIC.

Employment experience includes Citicorp, Ford Credit, and entities that are now JPMorgan Chase Bank, BofA, Regions Financial, Guaranty Bank, and a 2-year stint as a high-level governmental financial institution regulator.

B.A. degree from the University of Alabama, and postgraduate and executive education work at Alabama, the University of Houston, SMU, Spring Hill College, and the Harvard Business School.

Copyright Don Coker

Disclaimer: While every effort has been made to ensure the accuracy of this publication, it is not intended to provide legal advice as individual situations will differ and should be discussed with an expert and/or lawyer.For specific technical or legal advice on the information provided and related topics, please contact the author.