Banking Law

As a good friend of mine is fond of saying, "Everybody has an opinion and most of them should be left undiscovered."

I thought of that observation today while listening to a teleseminar on distressed commercial real estate loan workouts. One of the speakers, a partner in a large, East Coast-based law firm, was moaning about the recent regulatory guidance that advises banks (and bank examiners) that they should not classify a loan solely because the value of the real estate collateral has fallen. The speaker thought that this was a terrible policy, because there was all this money sitting on the sidelines that would like to come into the real estate market and invest in commercial real estate, but until the banks took massive hits on their CRE loans, they weren't incentivized to sell their loans or the collateral they take from borrowers through foreclosure or deeds-in-lieu of foreclosure at "realistic" prices (in other words, at such substantial mark downs from book value that the investors can make a killing). I sobbed hysterically at the thought that vultures (many of them current or ex-Wall Street investment bankers) aren't able to feed on the carcasses of my clients and their borrowers, but I soon recovered.

The teleseminar was directed at lawyers. If community bankers had been listening, they would have howled in derisive laughter or maybe tracked down the lawyer and hooked up his sensitive parts to a car battery.

A contrary view of the current situation was offered by Edward H. Sibbold, the BB&T executive in residence in banking, College of Business Administration, Georgia Southern University and director of the college's Center for Excellence in Financial Services (that title is quite a mouthful), who recently opined in the Savannah Morning News that undue leniency by bank examiners with respect to commercial real estate is not an experience community banks have encountered.

During this period of stress, bank regulators have been increasingly proactive in their reviews, raising the bar in terms of classifying loans as substandard, as well as increasing capital and liquidity requirements.

As a result, the Georgia Bankers Association estimated about 100 banks in Georgia - and that number's growing - are under some form of administrative action by their regulators.

Some analysts and bankers believe the local regulators are taking their marching orders from Washington to "thin the herd" under the theory that the large number of small banks in Georgia and excessive competition are key contributors to the banks' problems.

Others believe the market has changed dramatically in the past 18 months and current regulatory reviews and actions reflect the deterioration in banks' loan portfolios.

Whatever the motives or reasons, regulators have taken more aggressive postures with weak banks and otherwise healthy banks with large real estate loan concentrations. While most Georgia bankers understand the increased level of scrutiny, many believe certain regulatory practices need to provide greater flexibility and time for banks to address current issues.

While the government is publicly pressuring banks to make more loans, new or tighter regulatory guidelines are restricting community banks' ability to lend as well as their deposit activities.

Banks are being pressured to reduce the amount of real estate loans, which typically represent 50 percent to 70 percent of a community bank's loan portfolio. In some cases, new real estate loans with quality borrowers are being denied as banks seek to comply with regulatory requirements.

Good customers often are unable to refinance their loans with local banks due to collateral deficiencies related to depressed real estate prices or when the loan balance exceeds the lending limit of a bank whose capital has shrunk due to operating losses.

As usual, your opinion varies depending on whose pockets are being lined (or not lined) and whose ox is being gored. From my admittedly biased view from inside the whirlwind, I'd have to agree with Mr. Sibbold that community banks have stepped through the looking glass.

Community bankers are facing pressures from all directions. The ceiling is descending, and the walls are closing in. There is no single Mad Hatter in this story - it's a "perfect storm" of economic conditions, regulatory restrictions and a negative public.

Banks are faced with contradictory pressures from different government agencies, accounting rules that artificially magnify losses and regulatory guidelines that limit the recognition of capital and may restrict normal prudent lending and deposit activities.

It is a Wonderland world where right is wrong and wrong is right.

Many people are clamoring for financial regulatory reform and almost everyone wants to eliminate the concept of "too-big-to-fail" for the largest banks.

Community bankers, however, are more concerned the Queen of Hearts and her knaves will appear and scream "off with their heads," and a new policy of "too-small-to-survive" will become the operating principle in government and regulatory policy.