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What Keeps You Up at Night?
My colleague, Elizabeth Wilee Sims, is fond of asking our clients and their constituents, “What keeps you up at night?” It’s a good conversation starter and a way to find out what’s uppermost on clients’ minds. We are rarely surprised by the answers but fascinated by perspectives.
Bankers remain worried about the economy and how the European Union’s debt crises will affect them. They know as much about Greece and Spain as they do about McMinnville and Union City.
CEOs of strong banks lose sleep over how to leverage their capital, understanding that being a $250,000 bank in this regulatory environment is a slow death. Conventional wisdom is that a bank needs to be at least a billion dollars in total assets to operate efficiently. To give perspective to that number, in Tennessee, the following local banks top a billion dollars in assets as of March 31, 2012, out of 186 institutions on that date:
- First Tennessee Bank, National Association, Memphis
- Pinnacle National Bank, Nashville
- FirstBank, Lexington
- Home Federal Bank of Tennessee, Knoxville
- First State Bank, Union City
- Wilson Bank and Trust, Lebanon
- FSGBANK, National Association, Chattanooga
- First Citizens National Bank, Dyersburg
- First Farmers and Merchants Bank, Columbia.
Regardless of the condition of their banks, bankers almost universally complain about the hyper-viligence of bank regulators. We saw it in the 1980s after the failure of 35 or so banks in Tennessee — a justifiable rush to correct some of the shortcomings in regulation that may have contributed to those bank failures. Bankers fear that the emphasis on consumer protection will continue to increase their cost of doing business while not providing any meaningful protections for bank customers. Bankers in Upper East Tennessee who depend on the hospitality industry and lending on commercial real estate collateral worry about regulatory constraints on having concentrations in CRE. You can hear the pacing late at night
Once upon a time, the title of “bank director” was a coveted position. Bank boards were populated with the most successful businessmen in town, with an occasional preacher or educator thrown in for credibility. You didn’t see many women on boards unless it was to fill the seat vacated by a deceased spouse who had owned a lot of stock in the bank. Banks paid nice fees for attending meetings, nodding heads, and being good-will ambassadors. Today, directors are expected to actually direct, to understand how banks operate, how they make money, and how they can fail if not properly managed. Directors today want to know what liability they have just by serving on a bank board, what I mean by “micro-management,” and why regulators don’t seem to understand how business is done in their county.
Some directors don’t understand the difference between “directin’ and meddlin’.” They struggle with how much meddling with management is too much and how much is too little. It’s a fine line, and when bank examiners tell directors that it’s their job to oversee management, directors wonder if that means that they should hire and fire loan officers, worry about expense reports, and truly understand asset/liability management. I tell them that their job is to make policy and set general direction and hire the best senior management they can afford, ask probing questions, and, at least outside the board room, support management to the death.
I have likened this confusion and hesitancy to serve on the board of a bank to the reluctance many lawyers have for elected public service. Who needs the headache, they wonder.
Bank Shareholders and Investors
Capital is king, and the investors who provide it are skittish. Just like the old saw that suggests that a bank is a place where you can only borrow money if you don’t need it, banks that really need additional capital to keep the doors open have a very difficult time raising it. Banks that need capital for expansion frequently have investors beating down the doors to the vault.
For many community banks, the only capital sources are sitting around the board table unless they want to give the bank away to white knights. Institutional investors aren’t interested in the stock of a troubled or even a modestly underperforming company. Capital markets advisors tell most community banks that “the time isn’t right,” or “we don’t want to take your money when we know we can’t raise capital.” That leaves existing shareholders.
Shareholders of well-performing banking companies are frequently eager to increase their position because they know that these banks are raising capital, not because they have to for regulatory purposes, but because there are growth opportunities through acquisitions of other companies. These investors might lose sleep counting their blessings.
Shareholders of troubled banks, however, especially if the stock they own in the company is their principal asset, are torn between trying to sell out at a huge discount or investing more money into the damaged institution, hoping that more capital will save the bank. More often than not, the principal shareholders of a troubled bank have been called upon more than once to recapitalize the company, and those individuals are simply unable to do so again. When a bank fails, the depositors generally just wake up on Monday morning with their money in a different bank. Shareholders lose everything — not just sleep.
I have many friends and colleagues in the various bank regulatory agencies. If we think bankers and bank directors are under stress, regulators see their role in keeping the banking system healthy and vibrant as a calling. If a bank fails, it’s an indictment of their oversight. Lessons learned at one troubled bank are catalogued and superimposed on every other bank an examiner supervises. In some respects, this is a fine system — if an examiner sees systemic problems at one institution and then sees the faint beginnings of those same issues at another bank, she is likely to be aggressive in her insistence that a policy, practice or flaw must be addressed immediately so the next bank doesn’t suffer the same fate as a more troubled institution. Bank regulators go sleepless over whether they have been tough enough; whether they have seen the warning signs early enough; whether they have become such good friends with the banker that they give him the benefit of the doubt. Regulators try to practice “forward-looking supervision.” Bankers keep asking to see their crystal balls. Just because Banker Jones two towns over doesn’t know how to manage his interest rate risk, that doesn’t mean that we don’t. Examiners are certain. Bankers are certain. Like death and taxes.
Depositors who have been used to keeping their liquid assets in bank accounts worry that a bank will fail and they will lose their deposits. With new legislation that increased the insurable ceiling to $250,000 per depositor per bank, the likelihood that a depositor would lose any money is certainly less likely than it might have been back in the 1980s. Still, the media often frightens depositors into moving their money into separate banks. This may give depositors peace of mind, but it has the effect of negatively impacting the liquidity of the bank that once held those deposits. But a bank’s liquidity management doesn’t keep a bank’s depositors up at night — add that to the banker’s Ambien list.
Borrowers who have been used to interest-only loans — or as we used to call them, “evergreens” — are frustrated because banks are being pressured by regulators to curtail the practice of never getting repaid principal. Borrowers, who once were able to get a loan with little more than a short, unaudited financial statement, a hand shake, and because his granddaddy used to be on the bank’s board, now have to submit to global cash flow analyses, provide the last three years’ tax returns, present a business plan for how the loan will be repaid according to its terms, and other similar indignities. After all, their families have been customers of the bank for decades and have always been “good for it.”
Borrowers whose credit has been damaged because of rising health costs, divorce, the downturn in the economy, lay-offs, and other matters outside their control are sleepless over whether they can restructure their home mortgage loan, get a loan to buy a used car so they can get to work, get money to send kids to college — the list and the tossing and turning seem to be endless.
Recently, we have seen evidence of frustration in the halls of local government when banks are unable to lend more money to developers to complete projects that would benefit the community, bring new jobs, and increase the tax base. Developers whose projects have stalled because of financial problems and who need additional capital to complete malls and subdivisions cannot seem to get bridge loans from their original lenders either because the bank has already loaned up to their legal lending limit to the stalled developer or because they are pressured by regulators not to throw good money after bad. County commissioners don’t see the problem — all the bank has to do is loan the developer enough money to complete the project — it’s a win/win: the development is finished; the county gets the benefit of the new jobs; the bank gets repaid once the development starts to make money. How could that not be the best outcome?
So what keeps us bank lawyers up at night? All of the above. And then some.
KATHRYN REED EDGE is a member in the Nashville office of Butler, Snow, O’Mara, Stevens & Cannada PLLC, with offices in Tennessee, Mississippi, Alabama, Pennsylvania, and Louisiana. She is co-chair of the firm’s Banking Subgroup and concentrates her practice in representing regulated financial services companies. She is a past president of the Tennessee Bar Association and a former member of the editorial board for the Tennessee Bar Journal.