IN HORROR MOVIES, THEY NEVER HEAR THE MUSIC

I did a polite piece on

IN HORROR FILMS, THEY NEVER HEAR THE MUSIC

I did a polite blog on this subject a while back. This one won't be polite; diplomacy is a disposable luxury in a crisis.

For the past year and a half, since I stopped being a bank executive and became a consultant, I've been privileged (if a front row seat at the Coliseum watching lions devour Christians can be called a privilege) to witness the carnage that's characteristic of much of the face of community banking today.

In a surprisingly large number of cases, directors, management, and the banks they run are in far worse shape than anybody realizes, or wants to admit. Officers and directors are in harm's way, and directors are the most vulnerable of all. They're caught between the draconian concept of fiduciary and legal responsibility espoused by regulators, and the responsibility to support and assist the managers of the bank.

Following are some warnings and caveats to both managment and boards, stated as baldly and emphatically as I can:

• Directors, don't wait for the regulators to tell you to get a competent, sober third party review of your problem assets. You won't like the result, but you'll like it a lot less if the regulators mandate it and then question your competency as they start thinking about civil money penalties.


• When it comes to bad assets, management is ever the optimist. The loan portfolio is management's creation, the borrowers are management's customers, and often friends. Somebody has to be the pessimist and that means you, mister and ms. director. This doesn't mean that loan officers lie to directors. It does mean that they're human, and can't be fully objective when defaults are descending like a black cloud.


• Management, don't succumb to the bright idea that you can take your lenders (after all, they're not making any loans) and turn them into workout specialists. It simply won't work. A bank loan officer thinks about how to make a loan, not how not to. Once made, the loan is the cherished offspring of the loan department, to be nurtured to maturity. Getting these people to view their creations as the pieces of junk they very well may be, simply can't be done.


• Directors, if your bank is under a regulatory enforcement action, don't believe it if management tells you, "We can handle it", meaning the administration of the enforcement order, working the bad assets, and running the bank. Ladies and gentlemen of the board, simply do the math: responding to a Cease and Desist or some other enforcement fiat is virtually a full time job for management. Working the bad assets that got you into the mess in the first place, is, for sure a full time job. And then, management has to make money on top of everything else. Selective outsourcing is essential. The cost at first glance may seem daunting, but the move will pay off quickly, and it will probably mitigate regulatory pressure.


• Profitablilty has never been more vital than when assets are tanking and regulators are circling. If your bank isn't profitable, it's over. Directors should be very skeptical about any budget they're presented. Remember, your business model has most likely been pulled right out from under you by the regulators, because the problem assets are the result of that model and the examiners have deemed it broken.


• Plan for the worst and hope for the best is always good advice, but hardly anybody really gets a handle on what the worst probably is. After all, you built it and admitting that it may be a house of cards is too much like pleading guilty to being terminally dumb. Also, it's not easy to accept that maybe you really have hit that iceberg, and life jackets and lifeboats are the order of the day.


• If things get really bad, and your bank needs new capital, be very skeptical about the capital enhancement schemes you'll be looking at. It's very hard to raise new capital for an ailing bank. The present pockets, directors, officers, current stockholders, may be the only option. Know that from the outset.


• There's no more precarious financial position anywhere today than that of a bank director, especially of a community bank with problems. D&O insurance doesn't protect against regulatory suits or sanctions. Civil money penalties are levied routinely and they can be a lot more than just a traffic fine. Even when D&O coverage is a factor, the lawsuits can be long and bloody, with people having to put their lives on hold, at times for years.


• Again, unless you've been very aggressive in analyzing your loan portfolio, i.e., by having a competent, in depth third party asset review, the regulators will without fail, reclassify your loans and they won't be merciful. It's virtually constitutionally impossible for a bank's management and directors to do a tough, realistic internal classification and then say, "Hey, regulators, we're undercapitalizd". But, in the end it'll be much easier than having the supervisory agency doing it to you.

These warnings have come from seeing some very bad things happen to some pretty nice people.

Being tough minded, especially for directors, is the only way to mitigate the misery.