Doral Bank Collapses After Years of Financial Losses – Largest Bank Failure Since 2010

DoralThe largest bank failure since 2010 left the FDIC on the hook for almost $1 billion in losses as the giant $5.9 billion asset Doral Bank, San Juan, Puerto Rico, was closed by bank regulators.  Doral Bank has been a bank failure waiting to happen as years of losses and economic turmoil in Puerto Rico battered the banking giant.

The failure of Doral Bank in terms of total assets and losses to the FDIC Deposit Insurance Fund exceeds the total of all 18 banking failures of 2014.

As reported by the Wall Street Journal, Doral Bank not only resulted in huge losses to the FDIC but also inflicted significant losses on several US financial institutions, was an embarrassment to the FDIC which erroneously released news of its failure prematurely, and may result in large losses to local Puerto Rico pension funds and other institutions which hold billions of dollars worth of Doral Bank debt.

Doral Bank in Puerto Rico was closed by regulators Friday, with a botched announcement of its failure culminating years of turmoil that cost investors, including Goldman Sachs Group Inc. and Marathon Asset Management, hundreds of millions of dollars.

The failure of the bank, which had $5.9 billion in assets, was the largest in the U.S. since 2010. While many had anticipated the bank would be closed, as its market capitalization had shriveled to less than $10 million, its shares plummeted 46% on Friday afternoon after the Federal Deposit Insurance Corp. prematurely made the announcement during market hours.

The closure marked a capstone to years of financial difficulties, including improper accounting, recapitalization and two reverse stock splits that left shares languishing. It comes after an appeals court this week ruled Doral wasn’t owed a $229 million tax refund, overturning a lower court decision to grant the money to the bank. That followed a January directive from the FDIC to have an adequate capital plan within 30 days.

The FDIC announced the closure earlier than intended, with an official sending a statement at 3:03 p.m. EST, then asking reporters to disregard it minutes later. The error occurred when an FDIC employee drafted an email and pressed “send” too early, according to a person familiar with the matter.

Doral’s problems began just before the financial crisis. Improper accounting forced Doral to restate earnings in 2006 with a 56% cut to profits. A $610 million recapitalization in 2007 by investors, including Goldman Sachs, Bear Stearns Merchant Banking and several hedge funds, failed to stabilize the bank.

Puerto Rico has also struggled since the financial crisis. It has about $73 billion in debt and is battling with a weak economy, declining population and high unemployment. Its bonds are widely held by mutual funds and individuals because of their tax advantages, and some investors fear the island’s problems could cause bondholder losses nationwide. As of Dec. 31, Doral Bank had about $4.1 billion in deposits, the FDIC statement said.

Puerto Rico has become a black hole for banking.  Doral Bank is the fourth large banking failure in Puerto Rico since April 2010 when the Westernbank Puerto Rico, Premier Bank of Puerto Rico, and Eurobank En Espanol all failed.  The four failed banks had total assets of $26.3 billion and resulted in total estimated losses to the FDIC of $6.0 billion.  

More banking failures may be on the way in Puerto Rico as the island’s economy continues to contract and the government teeters on the brink of insolvency under a crushing debt load.  There is ongoing speculation about a US bailout of Puerto Rico and a subcommittee of the US House of Representatives held a hearing on allowing Puerto Rico public corporations to file for Chapter 9 bankruptcy as reported on by Cumberland Advisors.

The marketplace consensus is that some sort of debt restructuring of the Commonwealth’s obligations will have to occur, and there are many avenues to a restructuring. Restructuring talks are ongoing for the island’s power authority, PREPA. The island is expected to tap financial markets once again in a $2bn deal that will provide much-needed liquidity to the Puerto Rico Government Development Bank, the island’s paying agent and one of its borrowing conduits. Uncertainty and headline risk are rising. We continue to avoid uninsured Puerto Rico debt as the threat of default rises and the story plays on.ubcommittee on Regulatory Reform, Commercial and Antitrust Law in the US House of Representatives held a hearing on if Puerto Rico public corporations should be allowed to file for Chapter 9 bankruptcy. Various creditor groups, including hedge funds and mutual fund complexes, were represented at the meeting.

Downgrades across numerous Puerto Rico credits have come fast and furiously from both Moody’s and S&P. These followed US Federal Judge Francisco A. Besosa’s decision regarding the “Recovery Act” we wrote about in “New Developments in Puerto Rico,” published February 9, 2014. Even Puerto Rico sales tax bonds (also known as COFINA), considered by many participants to be the island’s most secure credit, have been downgraded in the last few weeks. We continue to watch the situation as it unfolds. All eyes will be on possible financing options to improve the island’s liquidity over the course of the next few months.

Doral Bank has been a mess for years as regulators allowed the problem bank to continue operations even as its financial condition continued to weaken.  Even prior to the banking crisis Doral Bank has a large amount of nonperforming loans as indicated by its high troubled asset ratio.  The troubled asset ratio is a good predictor of bank failure and once the ratio reaches 100 percent failure is almost inevitable according to Bank Tracker Investigative Workshop.  Doral Bank’s troubled asset ratio has bounced around between 75 and 100 percent since late 2008 and then suddenly expanded to a recent level of almost 200 percent.

The FDIC which was named as receiver for Doral Bank entered into a purchase and assumption agreement with  Banco Popular de Puerto Rico which will assume all deposits of the failed bank.  Doral Bank had total assets of $5.9 billion and deposits of $4.1 billion at December 31, 2014.  Banco Popular agreed to purchase only $3.25 billion of Doral’s assets and also agreed to pay the FDIC a premium of 1.59 percent on the assumed deposits.  The FDIC was able to enter into two separate agreements with other firms to sell $1.3 billion of Doral’s assets at a discount while retaining the balance for later disposition.  Banco Popular had previously acquired the $12 billion asset Westernbank Puerto Rico when it failed on April 30, 2010.

Doral Bank had 26 branches which will all reopen on the next regular banking day.  Customers of Doral Bank will have access to their money over the weekend through the use of checking accounts, debit cards, and ATM machines. Banco Popular will take over and operate eight of Doral’s branches while selling the other 18 branches at a later date to three other banks.

The cost to the FDIC Deposit Insurance Fund for the collapse of Doral Bank is $748.9 million.  Doral Bank becomes the fourth banking failure of 2015 and is two times larger in terms of asset size and losses than all 18 bank failures of 2014.  The 18 banks that failed in 2014 had total assets of $3.1 billion and resulted in losses of $398.8 million while Doral Bank had total assets of $5.9 billion and losses of $748.9 million.  The four banks that failed in 2015 had total assets of $6.3 billion and resulted in total losses to the FDIC Deposit Insurance Fund of $848 million.

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