Sending a jolt through the banking industry, Security Pacific Corp. on Monday disclosed that it will lose as much as $360 million in the final three months of this year, mostly because of the deteriorating economy and problem loans in Arizona and Australia.
The Los Angeles-based banking firm, parent of Security Pacific National Bank, also revealed that it is in full-scale retreat from many of the global ambitions that formed the heart of its strategy through the 1980s.
In a surprising announcement, the nation’s fifth-largest banking firm said it is dismantling its merchant bank operation, a unit that helped finance mergers and other corporate deals. Until recently, that unit was touted as the foundation for Security Pacific’s future as a diversified financial operation.
In all, Security Pacific expects to sell or trim operations that employ about 4,000 people. Most of those people work outside California. The bank said those workers may not necessarily lose their jobs if their operations are sold.
The projected loss for Security Pacific, which until recently has posted relatively strong financial results, was far bigger than had been expected by even the most bearish investors and securities analysts. It comes amid a string of big losses at major banks nationwide that has created a growing uneasiness about the overall health of the nation’s banking system.
Concerns are especially growing about California banks because they have so far avoided the big losses suffered by East Coast banks. Security Pacific is in far better shape than some troubled Eastern banks, and depositors have no cause for alarm, analysts say. Even with a fourth-quarter loss estimated at $320 million to $360 million, the bank still expects to post a full-year profit in 1990 of between $160 million to $200 million--thanks to large profits earlier in the year.
Significantly, Security Pacific did not set aside money in reserves to cushion against specific problems with real estate in California. That was greeted enthusiastically by investors who saw it as a sign that real estate problems in the state may not be as bad as some doomsayers are predicting, although many analysts said they remain cautious. As a result, Security Pacific’s stock rose $1 per share on Monday to close at $23 a share on the New York Stock Exchange.
Robert B. Albertson, a banking analyst with the Wall Street firm Goldman, Sachs & Co., said that investors believe Security Pacific would have taken “a bath” by setting aside much more money if it were having serious problems with California real estate. The fact Security Pacific did not do that, he said, helped boost investor confidence overall in the state’s banks.
Security Pacific Chief Executive Robert H. Smith said that the bank believes that while California real estate is softening, it is not a major problem for the bank now. He said much of what will happen to California depends on the national economy next year and what happens in the Persian Gulf.
Rumors about big problems at Security Pacific had spread quickly on Friday after the bank mysteriously disclosed that it was pulling an offering of $100 million in notes after they had been sold out to investors. Had that offering gone ahead, Security Pacific could have faced lawsuits by investors claiming they bought the issues without knowing the full extent of the bank’s problems.
Security Pacific is setting aside $850 million to deal with its problems. A part of $600 million of the amount is for potential losses on loans, more than half of that earmarked for problems in Australia and Arizona. Australia is suffering through a near-depression, while Arizona’s real estate market continues to suffer from that state’s overbuilding.
The rest of the $600 million was set aside for general, unspecified loan problems that the bank may suffer in the future. Separately, another $200 million will cover costs associated with the dismantling of its merchant bank operation. Finally, $50 million will be set aside for costs to dispose of foreclosed real estate.
The bank also said that it will recommend to its board that its quarterly dividend of 63 cents per share be maintained.
Security Pacific also disclosed that Vice Chairman David R. Lovejoy, 42, the architect of its merchant bank strategy, will resign once the unit is taken apart. Rumors have circulated widely among bankers in recent weeks of a growing tension between Lovejoy and Smith, who are close friends and neighbors. Lovejoy was unavailable for comment Monday, but Smith in an interview strongly denied any rift.
“The honest answer is that he was part of this decision,” Smith said, who added that Lovejoy remains a close friend.
The merchant bank is involved in numerous non-traditional corporate lending and service activities, many of which are offered by Wall Street firms. Those activities included buying interests in brokerage houses in London, Toronto and Australia in what some securities analysts now believe was a big mistake.
Security Pacific viewed these investment banking activities as important because corporations are increasingly going to non-bank sources to arrange financing, such as the issuance of short-term corporate IOUs. Security Pacific executives believed they needed to adapt to that trend and compete globally by diversifying, offering corporate clients numerous products and services.
Since the early 1980s, Security Pacific has pushed the merchant bank as one of the most important--if not the most important--key to its future. Lovejoy’s 54th-floor office was nearest to the office of former Chief Executive Richard J. Flamson III, who stepped down from that post early this year. In a newspaper interview, Flamson once remarked that Lovejoy “holds the keys to the vault” because of Security Pacific’s huge investment.
But profits lagged, and critics describe Security Pacific’s effort as unfocused. They fault the bank for expanding too quickly and for being overly aggressive in paying high salaries to attract talent. They say some ventures, especially the brokerage house purchases, soured quickly. And some of the deals it helped finance have soured, such as $131 million it lent to cash-strapped HAL Inc., parent of Hawaiian Air. That loan is in default.
External factors hurt Security Pacific as well. The securities market fell apart in the late 1980s. Financing of buyout deals has all but dried up. Too many competitors entered the business as well. And although the barriers between banks and Wall Street are coming down slowly, they have not come down far enough for most banks to reasonably compete.
Now, analysts say, Security Pacific will retrench, virtually pulling out of Europe and putting more emphasis on its position as a Western regional bank similar to rivals BankAmerica Corp. and Wells Fargo & Co.
One question is where Security Pacific’s expansion plans go from here. It has been aggressively acquiring thrifts and medium-sized banks. It has said it would be interested in combining with First Interstate Bancorp should that firm be available. And banking industry sources say Security Pacific executives over the years have expressed a possible interest in linking up with Chemical Bank in New York.
Security Pacific chief Smith said the firm won’t be expanding for at least a year as it works to bolster its capital.