August 20, 2010 – ShoreBank, a large and politically well connected Chicago based lender was closed by Illinois regulators who appointed the FDIC as receiver. The failed bank was purchased from the FDIC by the Urban Partnership Bank, Chicago, Illinois, a newly-chartered institution which will wind up owning essentially all of the deposits and assets of failed ShoreBank. The ownership of Urban Partnership, the circumstances of the bank’s recapitalization and the cost to taxpayer are all issues which merit special attention with this latest banking failure.
ShoreBank, a $2.1 billion asset institution, has been attempting to raise desperately needed new capital for months to prevent closure by regulators. At March 31st, ShoreBank had a troubled asset ratio of 300% compared to a national average for all banks of 15%. The troubled asset ratio is a measure of a bank’s financial health and is derived by dividing the sum of past due loans, nonperforming loans and real estate owned by the bank’s capital and loan loss reserves. Virtually all of the banks closed by regulators in the past two years have had troubled asset ratios of 100% or greater since financial recovery is virtually impossible once a bank reaches this point.
Typically, a banking institution in ShoreBank’s precarious financial condition would be promptly closed by regulators based on its “unsafe and unsound condition”. Critically undercapitalized banks do not normally attract investors. In the case of ShoreBank, however, regulators made an exception and a highly unusual and unique rescue effort was subsequently launched by some of the biggest banking institutions on Wall Street.
Why would some of the largest financial institutions in the US rush to the aid of a relatively small, failing Chicago bank? The reason was based on who was soliciting the financial assistance. ShoreBank has had long standing ties to President Obama and some of his top aides. Responding to questions from Republican lawmakers, the Obama administration denied that it had pressured big banks to invest in ShoreBank. The large institutions offering capital to ShoreBank had no comment on why they decided to invest in one particular bank in Chicago.
In May, ShoreBank appeared to be close to its goal of raising up to $140 million from mega banks Goldman Sachs, Citigroup, JP Morgan Chase, Morgan Stanley and Bank of America. In addition to the commitments from the major banks, ShoreBank was reportedly seeking another $75 million from the US government in order to complete its recapitalization. Given the public disdain for further bank bailouts and the obvious political ties to Washington, regulators wisely turned down ShoreBank’s request for funds under the Troubled Asset Relief Program (TARP). Considering ShoreBank’s poor financial condition, regulators concluded that even with the additional TARP bailout, ShoreBank would have still been under capitalized and unsafe to remain open. Regulators were left with no options and proceeded to close ShoreBank.
Although the Government did not directly bail out ShoreBank, after reviewing the manner in which ShoreBank was closed and then resurrected by regulators, it appears that a “stealth bailout” for the owners of ShoreBank was conducted. Providing direct cash from the TARP to ShoreBank would have been highly visible and controversial. Instead, ShoreBank was recapitalized through loss-share guarantees from the FDIC and a $367.7 million loss taken by the FDIC insurance fund.
The bailout of ShoreBank is certain to be controversial for the following reasons:
-In an almost unprecedented action, the FDIC allowed the current management team to remain in place and maintain ownership of ShoreBank by allowing them to purchase ShoreBank through the newly chartered Urban Partnership Bank. Although ShoreBank’s President William Farrow was brought on after regulators ordered ShoreBank to raise additional capital, it is highly unusual for the FDIC to resell a bank to the managers who ran the failed bank.
-Some of the largest financial institutions in the US are investing approximately $140 million to recapitalize failed ShoreBank and may have been pressured to do so by very highly connected individuals at the White House. There are no other cases in which large banks have lined up to recapitalize a failing bank. Republican lawmakers are already requesting an investigation of ShoreBank to determine the propriety and circumstances regarding its closing and resurrection.
-The closing of ShoreBank is costing the FDIC insurance fund and ultimately the taxpayers $367.7 million. In addition, the FDIC agreed to a loss-share transaction with Urban Partnership on $1.41 billion of ShoreBank’s assets to protect Urban Partnership from possible future losses. The ultimate cost of this loss-share arrangement cannot presently be determined.
The unusual conclusion of the ShoreBank failure is that current management and owners remain in control by buying back ShoreBank from the FDIC via a newly chartered bank. The newly chartered bank is now a viable institution thanks to capital injections from large US banks, write downs taken on nonperforming assets by the FDIC and a loss-share agreement to cover future additional losses on assets. The taxpayers have taken the losses while any future gains will accrue to the bankers who originally caused the losses that lead to ShoreBank’s collapse. An investigation into the circumstances of ShoreBank’s resurrection should be conducted.
ShoreBank had $2.16 billion in assets and $1.54 billion in deposits at June 30, 2010 and is the nation’s 114th banking failure this year. Illinois now has 15 banking failures in 2010, second only to Florida with 22 bank closings.