Banking On Better Times

Industry leaders believe they are seeing small signs of hope.

Maybe there’s a way out of this mess. Maybe the worst is behind us. Maybe Georgia will eventually overcome its reputation as a poster child for banking failure.

In the meantime, there’s enough anxiety over new and developing regulations, over persistent economic uncertainty, to prolong the suspense and to keep Georgia bankers guessing.

But these people are in the business of money, the business of risk. Optimism, even the wary kind, is a job requirement. Accordingly, Georgia’s banking industry leaders say they have reason to believe their listing ship is gradually correcting itself.

“We’re feeling better about the health of the industry,” says Joe Brannen, president and CEO of the Georgia Bankers Association (GBA). “We’re in a period of stabilization. I wouldn’t have said that a year ago. What’s happened in the last 12 months, and I think will happen going forward is, the focus for most banks has shifted from dealing with problems to finding new growth opportunities.

“We’re seeing banks making loans to qualified borrowers, and the competition for that business is fierce.”

Brannen has a point, and it might be a temporary positive blip or might not, but more Georgia banks are profitable (79 percent in the first quarter of this year, versus 62 percent over the same period last year). Net income among Georgia banks has undergone a $600-million upgrade, from a first quarter loss in 2011 to $400 million in the black this year.

And while there are still enough problem assets on the books to make us cringe over the dark potential, the value of loans that banks don’t expect to collect on (the charge-off) has gone down, from more than $1 billion to $657 million.

“Those stats tell us that we’re in a healing stage,” Brannen says. “I think we may be past the worst of the worst.”

But there is still a lot of stress in real estate, and Georgia is a dirt market, after all. Georgia leads the nation in bank closures. (About 80 of them have failed since the beginning of 2008.) It’s because pretty much everyone was binging on housing-related finance, and you know what happens to a goldfish when it overeats.

“The housing bubble burst and our state has gone through a serious real estate crisis, and most banks were concentrated there,” says Kessel Stelling, chairman, president and CEO of Columbus-based Synovus Financial Corp., the second-largest banking company in Georgia.

Then there is the stubbornly high unemployment rate, a key driver in the high number of foreclosures – you can’t pay your mortgage when you don’t have an income, especially your expandable adjustable rate mortgage (a very popular product during the housing frenzy that preceded the bust).

“And if you want to talk inside baseball, there is still a lot of uncertainty in trying to get our arms around the whole new world of regulatory issues,” says Brannen, referring to the Dodd-Frank Wall Street Reform and Consumer Protection Act, signed into law two years ago by President Obama.

When it comes to Dodd-Frank, bankers like Stelling have a “love the sinner, hate the sin” perspective: In other words, regulators didn’t make the rules. Stelling says, “I think we are an overregulated industry,” which is something you would expect him, or any banker, to say.

“Regulators didn’t create the problems. They are professional people trying to regulate banks according to the laws passed by Congress,” Stelling adds.

You’d be hard-pressed to find a soul who has committed the 900 pages or so of Dodd-Frank to memory, and that includes the people charged with upholding the rules that apply to banks of all sizes.

“In some cases, the rules and regulations aren’t even clear to the regulators yet. It’ll be years before everything is in place,” says Carolyn Brown, president and CEO of the Community Bankers Association of Georgia (CBAG). “But it’s already costing our banks a lot of money.”

She asks the question, how much is it going to cost in the future to run a bank? She got an idea from one CBAG member: They were spending three to five percent of their time on regulations and compliance; they are now spending 15 percent of their time on regulations and compliance.

“Smaller institutions had compliance officers who wore other hats. Maybe it was the human resources person or the training director,” Brown says. “Now that person is a full-time compliance officer. Compliance departments are growing, but that isn’t an income-producing department.”

Griffin-based United Bank, which has grown to just over $1 billion (a $400-million increase since 2007, partly through FDIC-assisted acquisitions of failed banks), has “probably tripled the amount of staff in our compliance area,” according to CEO Jim Edwards.

“It’s painful, and we’ve been able to handle it and grow at the same time; but community banks are paying for some of the sins of Wall Street,” says Edwards, whose bank received TARP assistance to help get through the crisis. “It’s the smaller community banks that I’m worried about.

“Every extra dollar you spend on compliance means, at some level, that you cut back on the amount of loans you can make in your community. And that’s how community banks keep their lights on, by making loans.”

Ready For Relief

Dodd-Frank was the response to the worst financial crisis since the Great Depression, designed to address the global, greed-driven toxicity emanating from large banks (“too big to fail”). Supporters of the law argue, basically, that financial institutions were playing fast and loose while dancing on the brink, without enough security, under capitalized, and were thrown into the abyss when the losses started piling up.

But, says Brown, “there is a huge distinction between Main Street and Wall Street.” Smaller banks, she argues, can’t afford some of the requirements of the massive law, so community banks are supporting another massive piece of legislation, the Communities First Act, introduced in the U.S. House of Representatives last year, which would supposedly provide regulatory and tax relief to community banks.

“It probably won’t pass entirely, but certain portions of it probably will, and there will be some relief for community banks, which will, in turn, benefit the consumer,” Brown says.

If passed, she says, the law would let community banks absorb real estate losses over a longer period of time than currently allowed, bolstering required capital levels and ratios, so they could “work with borrowers without being pressured to foreclose, resume lending in the communities and reclaim their historical role as an important element of our country’s economic engine,” which is what Brown wrote in a recent American Banker Magazine article.

Whether it is pressure to foreclose or a desire to acquire and sell real estate, Georgia banks have, or are moving, a large inventory of repossessed property, and it’s helping to keep real estate markets in a perpetual tizzy. But the rules encourage this kind of thing, according to Marc Greene, president and CEO of Mountain Valley Bancshares Inc., a $150-million bank holding company based in Cleveland, with three banking offices in Northeast Georgia.

“The FDIC is resolving most bank failures through loss-share agreements,” he says.

The FDIC uses loss-share agreements to encourage banks to buy a failed bank’s loan portfolios at significant discounts, with generous loss protection.

“Most bank failures have been smaller community banks,” says Greene, who helped start his small community bank in 2004.

“Let’s say a $100-million bank fails. The FDIC comes in and takes over the bank and sells it to another bank at a discount. So, the acquiring bank pays about $60 million for that $100 million, and the FDIC says, ‘Anything you lose in addition to that, we will guarantee.’”

FDIC loss protection guarantees can exceed 90 percent – and losses are based on the original value of the loan, not the discounted price paid by the acquiring bank.

So, for example, say the FDIC transfers a $200,000 home loan to the hypothetical acquiring bank at 65 percent, or $130,000, with a guaranteed loss-share of 90 percent. If the bank sells it at foreclosure for $110,000, the bank’s loss, according to the FDIC, is $90,000 (the original value, or $200,000, minus $110,000 equals $90,000). The bank gets an FDIC-issued check for $81,000 to cover 90 percent of the so-called loss.

The hypothetical bank, which acquired the loan for $130,000, made a low-frills profit of $61,000 ($110,000 on the sale, plus $81,000 in loss reimbursement) by foreclosing on a homeowner.

In the above scenario, says Greene, “There is no incentive for the acquiring bank to work with the borrower.”

Sometimes, says United Bank’s Edwards, there really isn’t much choice for an acquiring bank.

“We set up a dedicated lending staff and work with customers – just because it’s a problem loan doesn’t mean it always will be, and we want to keep our customers,” he says. “The first process is to sit down, try to come up with a game plan to rehabilitate the loan.

“But the recession has been extremely hard on so much of our customer base, and ultimately – sadly – many loans can’t be rehabilitated. If it was easy, the former bank would have done it.”

Rules Of The Game

The alternative to FDIC-assisted acquisitions is to close the failed institution and liquidate the loans, an unsettling prospect for customers and communities, not to mention a drain on the federal deposit insurance fund.

An institution like United Bank has remained profitable through the recession, due in large part to timely acquisitions of failed banks. The system is working the way it’s supposed to, says Edwards.

“I think our regulators have done a good job of maintaining confidence. Throughout the financial crisis, the FDIC has done what it was created to do,” he says. “Yes, the FDIC is a federal agency, but not everyone understands that it’s insurance premiums paid by banks that support the deposit insurance fund, and the premiums have gone up.”

Loss-sharing, introduced in 1991 during the Savings and Loan crisis, was designed to encourage healthy banks to bid on failing banks’ loans, and it has been popular, especially in Georgia, which leads the nation in bank closures but is also home to the top-performing bank in the nation, State Bank Financial Corp., as judged by Bank Director magazine in its 2011 rankings.

State Bank’s growth and reputation has been built through FDIC-assisted acquisitions (loss-share agreements), and the astute leadership of chairman and CEO Joe Evans and his partners, who were specifically looking for FDIC-backed opportunities, trolling for banks on the brink of failure (Georgia Trend, Sept. 2011) before they even had a bank charter. It was brilliant business planning and proof that it pays to be close to your food source.

“They were formed specifically to take over failed banks. They’re just following the rules,” says Greene, who serves on the CBAG board of directors.

Greene is surrounded by new banking neighbors in Northeast Georgia – seven banks in Mountain Valley Community Bank’s market, or contiguous to it, went down, and all were acquired by other banks through loss-share agreements, which are sometimes blamed for prolonging the foreclosure crisis and depressing real-estate values.

“The impact of abandoned homes is tough on communities and banks,” says Brian Oliver, vice president of housing counseling for CredAbility, a nonprofit credit counseling service. “Vacancies bring down property values, and banks, obviously they’re dealing with this head-on, struggling with having a lot of properties on their books.”

Georgia had the highest foreclosure rate in the nation in May (according to RealtyTrac), and Oliver adds, “About a third of all Georgia homes are underwater, so they owe a lot more than the home is actually worth. [Banks] are receptive to working with us, and our clients, in most cases. They don’t want that real estate inventory to keep growing, so I think you’re seeing banks make more of an effort now to work with borrowers.

“But I think there is still a ways to go in getting quicker resolutions.”

In CredAbility’s first quarter 2012 consumer distress index, a measure of the financial condition of the average American household, Georgia was ranked No. 2 in the nation (as in, we are pretty distressed) and No. 1 in the housing category.

Institutions like Dublin-based Morris Bank have deep footprints in their small communities. There is a history between the banks and their customers.

“We make loans to people we know, folks who come into our offices on a daily basis. They’re not computer models. These are people we’ve known for years,” says Spence Mullis, president and CEO of Morris Bank. “If we can stick it out with a borrower who is trying to do the right thing, trying to pay you back, that’s going to be a customer who will stick with you. So the last thing we want to do is sell property on the courthouse steps. We’re not in the real estate business.”

Cautious Optimism

From his office in Griffin, Jim Edwards sees a better, if still slightly muddy future.

“The rebound from the recession is much slower than we would have hoped for, but we see our problem loans as a percentage of our assets continue to fall,” he says. “We wish it was falling at a steeper decline, at a quicker rate, but consistently, quarter over quarter, our problem loan ratio is getting better.”

They’re latching onto whatever good news they can, and for some bankers it’s easier than others.

Synovus, for example, lost money for three straight years, but has turned it around recently with three consecutive profitable quarters.

“We returned to profitability sooner than a lot of people expected, and we expect to be profitable throughout this year,” says CEO Stelling, whose company went from a net loss of $93.7 million in first quarter 2011 to net income of $21.4 million the first quarter this year.

It’s been a tough few years for Synovus all the same, with about 1,000 job cuts to go along with the extended income decline.

“We can dwell on the painful decisions and look at it as cutting a thousand jobs, or we can look at it as preserving five thousand jobs and building a company that can increase its employee count again and make the kind of impact we’ve always had,” Stelling says. “We can’t guarantee anything regarding the future; but we believe we are absolutely sustainable, and we think Georgia is still a great place to do business.”

On that last point, he won’t get any argument from PNC Financial Services Group, the Pittsburgh parent of PNC Bank, which made a multi-billion-dollar push into the Atlanta market over the past year. PNC first acquired 27 metro area branches of Michigan-based Flagstar Bancorp, then bought RBC Bank USA (including its 52 branches in Metro Atlanta) for $3.45 billion.

PNC, the sixth largest bank in the U.S. by total assets ($271 billion), has more than 70 branches in the Atlanta area, “a real growth market with a lot of upside opportunity,” according to Rick Lewis, who heads PNC’s Atlanta retail banking division.

But in Atlanta and Georgia, the big kahuna is still SunTrust, the homegrown entity with a market share of almost 24 percent. A juggernaut with about $180 billion in total assets, SunTrust is about as far as you can get from a Mountain Valley Community Bank while remaining in the same industry in the same state. But leaders of both institutions are dealing with new and developing rules that govern banking.

“They’re still unfolding as we speak; we’re not sure what it will all mean,” says E. Jenner Wood, chairman, president and CEO of SunTrust’s Atlanta/Georgia division. “We know that we’ll be impacted, and we know that we’ll have to find ways to replace lost revenue.”

In other words, the days of free checking likely are numbered.

Mountain Valley’s Marc Greene says he can go on for hours about Dodd-Frank and increased regulation that he thinks is oppressive for a bank like his. He’s been through a wretched spell before, when he was a bank executive in Louisiana in the early 1980s, and the oil patch crash caused a regional banking crisis.

He believes things are getting better, but this crisis with its global reach is the worst thing he’s seen in his career.

“We’re well capitalized, and I feel like we might be a survivor, but it’s not like we’ve been untouched by this mess,” he says. “Someday, all of this will make great history to read. I just wish I was reading it instead of making it.”