Agency Illegally Seized S&L;, Court Rules

In a major defeat for the government’s thrift bailout agency, a federal judge ruled Wednesday that the Office of Thrift Supervision illegally seized Franklin Savings Assn. and its $9.75 billion in assets.

U.S. District Judge Dale Saffels ordered that the Kansas thrift, taken over in February in one of the biggest bailout efforts on record, be returned to its owners this morning.

Under the ruling, the OTS will not be allowed to appoint a conservator or receiver for Franklin for at least 90 days.

Lawyers said the surprise ruling would be a blow to the new agency’s image, although it was not expected to immediately affect other bailouts.

“It’s obviously a setback for the OTS,” said Dan Stolzer of Cadwalader, Wickersham & Taft, a lawyer who has been involved with the thrift industry.

But analysts said it was unlikely to inhibit federal regulators from proceeding with the takeover of troubled savings and loans.

“I don’t think it will affect their ability to close the vast number of insolvent thrifts that were not like Franklin,” said Robert Litan of the Brookings Institution. “Franklin was a unique institution.”

Under the ruling, any new OTS action on Franklin would have to be approved by the court, Judge Saffels said in an interview after the decision was released.

He said Franklin Savings deserves 90 days to put the thrift back under management’s control without interference.

Saffels said the thrift apparently never fell below federal capital requirements. He said the two waves of writedowns in the value of Franklin’s capital base that were ordered by the OTS were invalid.

Franklin Chairman Ernest Fleischer said at the courthouse that he is ready to go back to work today. He said he is uncertain how Resolution Trust Corp. changed Franklin during its seven-month conservatorship, which began Feb. 16.

The OTS cited $185 million in potential losses for the takeover.

Fleischer said he believes that the institution is viable and that it can continue to practice its specialty: managing cash flow from mortgage-backed securities.

A dispute over how to value those securities was one of the factors in the court case over whether it should have been taken over.

Saffels said: “I realize Franklin is a much different institution now than it was in February, but it is up to management to work that out.”

Fleischer said recapitalizing Franklin should be relatively simple. The OTS wrote off more than $300 million of Franklin’s capital that Fleischer said could easily be put back on the books.

Franklin, with a relatively small retail customer base, has a majority of its assets in the form of federally insured mortgage-backed securities. The securities are home mortgages, packaged as tradeable securities and sold to investors on the open market.

Unlike other thrifts, which depend on savings deposits to help fund residential mortgage loans, Franklin managed its money in a nontraditional manner.

It depended on brokered deposits gathered nationwide and invested the funds in mortgage-backed securities. Franklin hedged its investments through the futures market.

“It does the sorts of things almost no other savings and loans institutions do,” said James Barth a professor at Auburn University.