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From Banking and Finance Law Daily, August 17, 2015

OIG loss review says Illinois bank failed due to board, CEO failures

By Colleen M. Svelnis, J.D.

After a material loss review of Valley Bank, located in Moline, Ill., the Office of Inspector General for the Federal Deposit Insurance Corporation has determined the bank failed primarily because of “lax oversight by its board and a dominant CEO that implemented a risky business strategy.” Audit Report 15-005 additionally found that the CEO served in positions of high trust and responsibility at Valley Bank and its affiliates despite having a criminal conviction and a troubled career history, which was a violation of section 19 of the Federal Deposit Insurance Act.

Valley Bank was a state-chartered nonmember bank that was established on Jan. 31, 2002, when the State Bank of Latham in Latham, Ill., merged with the Valley State Bank of Eldridge, Iowa. The combined institution adopted the name Valley Bank. The Illinois Department of Financial and Professional Regulation closed Valley Bank on June 20, 2014, and the FDIC was appointed receiver. The loss to the Deposit Insurance Fund (DIF) was estimated at $51.4 million.

The objectives of the material loss review were:

  • determining the causes of Valley Bank’s failure and resulting material loss to the DIF; and

  • evaluating the FDIC’s supervision of the bank, including the FDIC’s implementation of the Prompt Corrective Action provisions of section 38 of the Federal Deposit Insurance Act.

Reasons for bank failure. Under the leadership of the CEO, Valley Bank pursued an aggressive growth strategy centered in commercial real estate (CRE) loans. For example:

  1. In 2008, the bank acquired a failing thrift institution that had a considerable amount of distressed CRE loans.

  2. As losses associated with the bank’s loans increased, Valley Bank’s CEO made a number of poor business decisions in an attempt to return the bank to profitability.

  3. The bank continued to extend credit to certain business customers after they were unable to repay their existing obligations, which had the effect of masking the true financial condition of Valley Bank’s loan portfolio, and ultimately increased the losses incurred by the bank.

FDIC actions. The audit, conducted by KPMG LLP, also reviewed the FDIC’s supervisory efforts in responding to the bank’s management. The review concluded that the FDIC should have taken stronger supervisory action at its examinations in February 2011 and April 2012 “when it was apparent that prior supervisory efforts to address the CEO’s risky business decisions and the bank’s deteriorating financial condition were unsuccessful.” According to the review, this could have “instilled urgency” in the board of directors of Valley Bank to address management’s poor performance, and could have mitigated the losses incurred by the bank and the DIF. However, the review determined that the FDIC implemented supervisory actions that were generally consistent with relevant provisions of section 38 of the Federal Deposit Insurance Act.

Recommendations after review. OIG made three specific recommendations:

  1. Revise the Officer's Questionnaire to require that institutions reference any prior notification to the FDIC and/or any other regulatory agency involving a director, officer, or employee who has been convicted of, or who is under indictment for, a criminal offense involving dishonesty or breach of trust.

  2. Review the FDIC's supervisory policy and approach for addressing risks associated with dominant bank officials to ensure that: a) examination coverage of and reporting on the Board's composition and involvement in overseeing the policies and activities of the bank is sufficiently emphasized and/or required; and b) expectations are clear when prior supervisory actions do not have the intended effect.

  3. Reinforce to Case Managers and other Regional Office staff the importance of recording and retaining information regarding the basis for key supervisory decisions, including when supervisory actions are considered or recommended, but ultimately not taken.

FDIC response. Doreen R. Eberley, Director of the Division of Risk Management Supervision (RMS) responded to the recommendations by stating that the RMS will update the Officer's Questionnaire by March 31, 2016. With regard to the second recommendation, Eberley responded that RMS is presently drafting expanded examiner guidance related to examinations of banks with dominant officials. RMS will ensure the expanded guidance addresses the concerns identified in the report. RMS anticipates that this action will be complete by Dec. 31, 2015. As for the third recommendation, Eberley stated that a national case manager training initiative was conducted, concluding in January 2015, which “reinforced policy requirements for enforcement actions, including identifying best practices to address and correct common errors associated with [the Formal and Information Action Tracking system]”. She further said RMS will update the case manager procedures manual by Dec. 31, 2015.

Companies: KPMG LLP; Valley Bank

MainStory: TopStory BankingOperations DepositInsurance IllinoisNews

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