A Silver Lining? : Failures Aside, Orange County Banking Is Alive, Well

After two bank collapses in as many weeks and five in the past 13 months, the future of Orange County’s banking industry remains clouded by the threat of more failures.

The shadows of gloom may be larger than the problems themselves, however, some analysts and regulators say.

In 1984, three banks in the county failed, and 50% of the survivors lost money. According to a Times study of the Orange County-based banks’ 1984 financial statements, six of the losers reported that their capital-to-assets ratios--a critical measure of a bank’s financial health--had shrunk below the 6% minimum required by federal regulators.

The losses rung up by 22 independent banks eclipsed by more than $11 million the gains that the 22 profitable institutions posted. The average loss was $1.05 million, up 61.5% from the average loss of $650,000 reported by the 15 Orange County banks that ended 1983 in the red.

Those grim facts don’t tell the entire story, however, according to local and national banking consultants and regulatory sources.

The recent troubles, in fact, are obscuring a number of promising trends:

- Although three banks failed, four new ones opened in the county last year to take their places. That, analysts said, is an indication that the marketplace is not saturated, and that there is still some investor confidence in banks.

- Although six banks had sub-par capital ratios, 38 banks ended the year with acceptable amounts of capital, and a dozen of those had especially strong ratios of 9% or more.

- Although average bank losses climbed 61.5%, profits at those banks that made gains also were up sharply--to an average of 58%.

In addition, the banks that had problems at the end of 1984--and still have problems--are the same banks that had problems in 1983 and earlier.

The two banks in the county that failed this month--in the first back-to-back collapses since the Depression--got into trouble with real estate lending in 1980 and 1981, according to industry analysts and regulators.

Capistrano National Bank of Santa Ana, which was closed by the U.S. Comptroller of the Currency on April 5, and South Coast Bank of Costa Mesa, closed Friday by the state Banking Department, had both been losing money steadily since 1982.

These problems are said to be closing chapters, however, and do not signal the opening of a new and bloodier episode in banking history, according to analysts and regulators.

Few serious new troubles arose during the past year, according to industry analysts, and a number of banks managed to solve some of the problems that had been plaguing them. “Most of the banks in Orange County spent 1984 kind of hitchin’ up their britches,” said consultant Gerry Findley.

Few Added to Trouble List

“The thing that strikes me,” said Findley, the Brea-based publisher of the respected Findley Reports California Banking Newsletter, “is that when we look at our list of problem banks (in Orange County) we have only a very few additions to those that were on the list in 1983. We are not seeing many new problems, just the public acknowledgement of old ones. It takes about three years for a bank’s loan losses to ripen to the point that the bank has to, as we say, eat them.”

One bank regulator, while conceding that his agency is “very concerned about the banks in Orange County,” said most of the losses and erosions of capital stemmed from old problems, rather than new ones. Orange County banks have been heavily involved in real estate, both in loans to builders and buyers and by using property to secure business, commercial and consumer loans.

Findley, who has been analyzing and consulting with California independent banks for more than three decades, said he believes the Orange County independents in 1984 “made progress, in terms of improving the quality of their operations. We have some sick ones” that are carrying their illnesses into 1985, he said.

Because it operates in a pressure-cooker environment of fast growth, fast deals, big profits and big losses, banking in Orange County is a caricature; it reflects an exaggerated picture of independent banking throughout the United States.

The experiences of many banks in the county during the past year could provide a preview of what troubled banks in the Midwestern farm states face during the next few years, as they dig out from their problem loans--most of them secured by over-appraised farmland that has fallen 20% or more in value, just as Orange County real estate values plummeted in 1981 and 1982.

Real Estate Fallout

Most of the troubled banks in Orange County, according to regulatory sources and industry consultants, got into trouble during the real estate boom of the late 1970s and early ‘80s because they believed the real estate myth--that you can’t go wrong with real estate loans because you always have the property as security, and land values in this area just keep going up.

When the real estate boom ended in 1982 and the bottom fell out of the market, many of the same bankers found their loan portfolios bloated with over-appraised properties, slowly souring loans to undercapitalized builders and buyers and, ultimately, with huge stocks of foreclosed real estate on their banks’ books--real estate that was unsaleable at its appraised value.

That precipitated a rash of loan losses and write-downs that helped push Newport Harbour National Bank into collapse in March, 1983, and fueled the failures of Heritage Bank of Anaheim, Bank of Irvine and Garden Grove Community Bank in March, April and May of 1984.

The same problems pushed Capistrano National Bank and South Coast Bank into collapse this month.

In addition, said Los Angeles financial consultant Edward Carpenter, chairman of The Carpenter Group, a majority of Orange County’s banks were financed with venture capital, and the investors have always exerted pressure on bank managers to produce early profits.

Venture-Capital Rush

“This drive for early profits so the venture capital investors could sell out early,” Carpenter said, “has caused a lot of bank managements to take undue risks in hopes of showing a good yield to investors.”

Many of the problems began developing three and four years ago but went unnoticed until recently, partly because many banks tried to hide or ignore them, and partly because many of the relatively new banks in the county did not have their first state or federal examination until late 1983 or 1984.

Only after those examinations did regulators require many of the banks to write down the value of real estate-secured loans made in earlier years, so last year was the first in which they reported their problem loans.

Carpenter and Findley believe 1984 wasn’t as bad a year as the raw figures appear to show, however.

The failures and the large number of banks with year-end losses, Carpenter said, simply “signal that banks are among the last companies to respond to an improving economy, because their losses are written off over a longer period than other companies’.”

Carpenter said the impact of the last recession will continue to be felt by the banks through 1985. That is a consultant’s way of predicting more bank failures and continuing losses for some banks.

At the same time, he said, it is not as if every bank in the county were in trouble:

Some Banks Did Well

“Even through this cycle, there have been some banks that consistently performed very well,” he said.

And, said Findley, “We don’t have banks taking the same type of risks they were taking in 1982 and 1983” with real estate investments. “The banking industry generally has become much more conservative. The borrowers are screaming about that, because it’s harder to get loans, but that’s good, because it shows that bankers are coming back to fundamentals,” which Findley believes will show up in the form of more profits and fewer problems in the annual reports for this year.

Using net profit as the indicator, the best-performing full-service bank in 1984 was CommerceBank of Newport Beach. The 6-year-old business bank, which earned only $157,000 in 1983 after a year of loan losses and heavy expansion costs, boosted its earnings to $1.02 million--the largest dollar figure in the county.

Clyde Gossert, the bank’s president, said in a recent interview that CommerceBank profited from the re-emergence of a healthy commercial loan market, sign of an increasingly good local economy. Avco National Bank and International Bank & Trust Co. both had higher earnings, but they are limited-service banks.

The fastest-growing bank in the county was Avco National, a subsidiary of Avco Financial Corp., Newport Beach. It had assets of only $21.2 million at the end of 1983, grew to have nearly $214 million in assets at the end of last year, and its 1983 loss of $220,000 was wiped out by a $2.5-million profit.

Consumer Loans Added

Avco National’s phenomenal growth and profits, however, came not from conventional banking enterprises, but from its parent corporation’s decision to infuse the bank with Avco Financial’s huge consumer-loans portfolio--which had been developed by the parent’s network of finance companies.

Other good performers in the county included Liberty National Bank of Huntington Beach, which has made Small Business Administration lending its forte and has never lost money; El Camino Bank of Anaheim, which recovered from a $983,000 loss in 1982 with two consecutive years of profits, and Landmark Bank of La Habra, which marked its fifth consecutive year of profit, approaching the $1-million mark.

Although 22 of the 44 banks in Orange County lost money in 1984, it must be noted that four of the losers were new banks, which are expected to lose money in their first year of operation as they recover pre-opening expenses that can easily eat up $500,000 or more.

Of the 44 independent banks operating in the county at the end of the year, only 15 existed before 1980, and none was around before 1970. That, in itself, helped to cause problems for the local industry, said Findley.

“When you create that many new banks in such a short time,” he said, “you are bound to create some that shouldn’t have been.”

GRIM DAYS FOR ORANGE COUNTY INDEPENDENT BANKS

The number of Orange County banks has blossomed in the last few years--29 new banks alone were formed in the last five years. The county now has 42 independent banks with total assets of about $2 billion. In 1984, only 22 banks made a profit, while an equal number posted losses, two of which have now been closed by banking authorities.

Two Banks Have Closed in Just Two Weeks Capistrano National Bank Lost $4.1 million in 1984 Closed by U.S. bank officials April 5 South Coast Bank Lost $981,000 in 1984 Closed by state bank officials April 12 How County Stacks Up Statewide California: 286 state-chartered banks 84 reported losses; 29% of total Orange County: 26 state-chartered banks 15 reported losses; 57.7% of total.