Valley State Bank Relying on Merger to Reverse Fortunes

Valley State Bank, trying to rebound from two years of losses, is counting heavily on a merger to turn itself into a consistently profitable regional bank.

The Encino-based institution, the fifth-largest bank based in the San Fernando Valley, disclosed Sunday that it is working on plans to combine with Olympic National Bancorp, a Westside bank-holding company.

Even if that proposed deal collapses--some problems may have emerged Monday when the signing of a letter of intent to merge was postponed--Valley State is likely to team up with another partner before long.

Jules Huppert, the Cuban-born president and chief executive of Valley State, said that deregulation of the financial services industry simply makes it too difficult for modest-sized banks such as his to compete against large institutions.

Regional-Bank Goal

“We’re going to emerge from the pack of little community banks and become a regional bank,” said Huppert, who would continue as president and chief executive in a combined Olympic-Valley State organization.

The proposed merger, he said, “is a first step.”

Both Valley State and Huppert are considered somewhat unconventional in their industry.

Valley State flouts convention by making loans to people who invest in gold and other precious metals. Most banks avoid that kind of lending because they consider it too esoteric or risky.

Huppert stands out because he had relatively scant banking experience upon becoming Valley State’s chief executive in December, 1983. Huppert, a former car stereo distributor, considers himself more of a hard-charging entrepreneur than a blue-blooded banker.

Legal Disputes

“A lot of people tell me, ‘You’re not like a banker.’ I take that as a compliment,” Huppert said.

Huppert’s style also may have created some some enemies. He is involved in a legal dispute with Panasonic over the breakup of their car stereo distribution agreement in 1980. Also pending is a suit by Huppert and Valley State alleging that the bank’s previous chief executive, Mark de Gorter, falsely accused Huppert of banking improprieties.

After opening in a trailer in Van Nuys in 1979, Valley State got off to a relatively good start, making small profits in each of its first four years. The last 2 1/2 years have been mixed, however, with Valley State losing $976,035 in 1983 and 1984 and coming back with earnings of $618,270 during the first six months of 1985.

Huppert blamed the two years of losses on high overhead from the bank’s five branch offices around the Valley and the competitive pressure unleashed by deregulation.

But a lawyer representing de Gorter, Michael Worthington, countered that Valley State experienced problems after Huppert took control.

In any case, the bank’s capital, a financial institution’s ultimate cushion against losses, dropped to the point where federal regulators insisted that more capital had to be raised, Huppert said. Valley State satisfied regulators’ concerns by raising $1.3 million in February, including $600,000 out of Huppert’s own pocket, he said.

Huppert, 45, also has put Valley State on a new course since he became chief executive.

Convinced that small banks could not compete with giant financial institutions for consumer business, he began de-emphasizing retail trade and cutting costs in that area. Instead, he recruited young loan officers from other banks to pursue business customers.

Before he became president and chief executive, Huppert said, more than 90% of Valley State’s loan portfolio consisted of loans to individuals. Now, he said, those loans, also called retail loans, make up about 60% of the bank’s loan portfolio.

Huppert added that most of the bank’s retail loans have been converted from fixed-rate to floating-rate debt, making the bank less vulnerable to swings in market interest rates.

Precious-Metals Loans

Perhaps the most daring move Huppert made, however, was bringing Valley State into the business of financing investors’ precious-metals transactions. He opened the department by hiring two executives from the numismatics department of Encino-based West Coast Bank.

The bullion business--the bank makes few loans for rare-coin transactions--has been a tonic for Valley State. Huppert said it already accounts for 20% of the bank’s loan portfolio and is one of the main reasons it reported a profit for the first six months of 1985.

Valley State has developed that business by dealing with a network of precious-metals brokers who refer their clients to the bank for financing.

Practice Called Treacherous

Many banking experts maintain that precious-metals lending is treacherous. They say that since so few lenders are familiar with the idiosyncrasies of the precious-metals market, they can become dangerously dependent on the judgment of a handful of employees when they enter the business.

In fact, David C. Pierson, chairman of Olympic, said he isn’t positive he would want the merged company to keep the precious-metals department.

“It’s a very complicated business. . . . You have to make sure you can comprehend it,” said Pierson, who would be chairman of the combined company.

Huppert maintains that precious-metals lending is relatively safe because the metals’ prices are relatively stable.

Short-Term Loan Protection

Huppert said Valley State also protects itself by making short-term loans, taking possession of the metals used as collateral--not at the bank itself, but at other institutions--and by using options contracts to hedge against price swings in the metals.

Furthermore, Huppert plans to expand the bank’s precious-metals department to include precious-metals trading and a currency trading operation later this year.

The main wild card in Valley State’s future is its merger prospects. The plans to combine with Olympic, which owns a mortgage brokerage and a Westside bank with one branch, must overcome numerous hurdles.

In addition to the possible differences over precious-metals lending, Valley State Chairman John Bedrosian said that his board wants to review a plan for Olympic to provide five members and for Valley State to provide four members to the board that would direct the new holding company.

Branch Closures Possible

And although Valley State officials say they want to keep all five of their branches, Pierson said, the new company might not need them all.

Even if those issues are resolved, it would take six to eight months for merger plans to receive the necessary approval from shareholders and state and federal regulators.

Most banking experts familiar with both parties endorse the idea of a merger for Valley State, and the proposed Valley State-Olympic combination in particular.

Company officials and industry observers alike said the Valley State-Olympic combination would enable the companies to cut costs by consolidating operations.

They said such a transaction, which would team two fast-growing concerns into an institution with more than $220 million in assets, also would bring together organizations with complementary strengths and market areas.

Consolidation Urged

“It’s too darn expensive to have two CEO’s and two administrations for banks with just $100 million to $200 million,” said Jim Alexander, president of J. Alexander Securities, which specializes in bank stocks.

He said the banks would save $1 million to $2.5 million annually by consolidating activities such as advertising and accounting.

By merging such operations, Alexander said, “two marginal banks can become profitable ones.”

Olympic, founded two years ago, lost $1.55 million in 1983 and 1984 but earned about $400,000 in the first half of 1985.

One of the few concerns about a possible Valley State-Olympic merger was raised by Gary Findley, part-owner of the Findley Reports banking consulting firm. He said it usually takes three years for a bank’s problems to emerge and that because Olympic is only 2 years old, it may have some hidden troubles.

Even so, Findley said, “it appears to be something that would be a good fit.”

VALLEY STATE BANK AT A GLANCE Encino-based Valley State Bank has five branches in the San Fernando Valley. Founded in 1979, it employs about 120 people and has 1,057,233 shares of common stock outstanding. For fiscal years ended Dec. 31 / In millions of dollars Net Income (loss)

1984 (0.3) 1983 (0.7) 1982 0.3 1981 0.3

Assets

1984 113.9 1983 78.0 1982 47.9 1981 33.6

Total Deposits

1984 98.3 1983 58.4 1982 41.9 1981 27.0