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Board Report: June 14, 2010
Orion Bank (Orion) was supervised by the Federal Reserve Bank of Atlanta (FRB Atlanta), under delegated authority from the Board, and by the Florida Office of Financial Regulation (State). The State closed Orion on November 13, 2009, and named the FDIC as receiver.3 On December 14, 2009, the FDIC IG advised our office that the bank’s failure would result in an estimated loss to the DIF of $593.8 million, or 22 percent of the bank’s $2.7 billion in total assets.
Orion failed because its Board of Directors and management did not control the risks associated with rapid growth and an extremely high concentration in Commercial Real Estate (CRE) and, in particular, acquisition, development, and construction (ADC) loans. Under the direction of the Chief Executive Officer (CEO), who had a dominant role in the bank and held a controlling interest in the parent bank holding company, Orion aggressively expanded its CRE and ADC loan portfolios in the south Florida market from 2004 through 2006. A subsequent rapid decline in the Florida real estate market led to deteriorating asset quality and significant losses, particularly in the ADC portfolio. Bank management failed to acknowledge the extent of the real estate market downturn and was slow in recognizing and mitigating credit risk exposure. Mounting loan losses eliminated the bank’s earnings, depleted capital, and ultimately led the State to close Orion.
Our analysis of FRB Atlanta’s supervision of Orion revealed that a State examination report issued in March 2007 identified a notable change in the bank’s risk profile resulting from a deteriorating real estate market and newly identified weaknesses in credit risk management and Board of Directors oversight. We believe the findings included in the State examination report should have signaled to FRB Atlanta that additional, timely supervisory attention was warranted earlier in 2007, instead of waiting until December 2007 to begin on-site examination work.
The State’s March 2007 examination report revealed that the real estate market in Orion’s service areas had deteriorated; however, the bank’s CRE and ADC loan concentrations continued to increase. In addition, examiners noted that a $533 million, or 70 percent, increase in CRE loans registered during the 12-month period ending March 31, 2006, and a $406 million, or 84 percent, increase in ADC loans registered during the same period exposed the bank to “greater credit risk.” In contrast to the generally favorable assessment cited in a March 2006 FRB Atlanta examination report, State examiners described Orion’s loan review program as ineffective and noted that the bank’s internal loan grading did not identify certain problem loans. Examiners warned that “the untimely identification of loan problems could expose the bank to additional credit losses.”
The State examination report also raised concerns that “appraisals made at the height of the real estate market in 2004 and 2005 may not represent the realistic fair value of the collateral today,” and that Orion’s ALLL methodology should be reconsidered in light of the residential real estate market slowdown and the bank’s concentration in CRE loans. In addition, contrary to the positive opinion expressed in FRB Atlanta’s 2006 examination report, State examiners commented that Orion’s Board of Directors seemed to offer little direction or supervision and that the CEO appeared to view the Board of Directors as a hindrance more than anything else.
While we believe that the circumstances presented in the March 2007 State examination report provided an opportunity for an earlier supervisory response in 2007, given the rapid decline in the real estate markets served by Orion, it was not possible to determine whether earlier supervisory attention would have affected Orion’s subsequent decline or the failure’s cost to the DIF. We believe that Orion’s failure offered a valuable lesson learned that could be applied when supervising banks with similar characteristics and circumstances. In our opinion, Orion’s failure illustrated that financial institutions with a dominant CEO, a weak Board of Directors, and extremely high concentrations in risky assets such as CRE and ADC loans require (1) heightened supervisory attention even when financial performance is strong, and (2) an immediate and forceful supervisory response when signs of market deterioration or weaknesses in credit risk management first become apparent.
The Director of the Board’s Division of Banking Supervision and Regulation agreed with our conclusion and lesson learned.