November 15, 2015

An Outlier In Terms Of Headline Value

A weekend topic on a trial that just concluded, reported by the Omaha World Herald. “U.S. prosecutors on Thursday put a human face on the collapse of TierOne Bank during the federal criminal trial of ex-Chief Executive Gil Lundstrom. Judith Klinkman, a longtime bank employee, testified that she was encouraged to buy stock in the company’s 2002 initial public offering. She said the other 750 employees at what was once Nebraska’s second-largest bank also were encouraged to buy. ‘By who?’ asked U.S. Prosecutor Rush Atkinson. ‘The executives,’ replied Klinkman, who was Lundstrom’s secretary, as well as the company’s assistant secretary.”

“But the housing bubble was about to blow. Within a year, quarterly losses began to pile up, losses that prosecutors say were made to look not as bad as they were because the bank was hiding $60 million in additional delinquent loans that nobody else knew about. In the end, Klinkman said, she lost it all, never having sold a share of the company she had been with since it was a small thrift institution called First Federal Savings and Loan. Shares fell to almost nothing in 2010 and eventually just disappeared after regulators sold TierOne’s assets to Great Western Bank.”

“That also spelled the end for Klinkman at the company. The transition to Great Western cost her job. ‘I was told I was no longer needed,’ she said. ‘How long had you worked at TierOne?’ Prosecutor Atkinson asked. ‘Forty-two years,’ Klinkman said.”

“The death of TierOne Bank was primary in the mind of ex-Chief Executive Gil Lundstrom even before the bank was seized and shuttered in June 2010, according to evidence submitted in his federal criminal trial Friday. ‘In death spiral,’ Lundstrom penned in a handwritten note that was obtained by the FBI during its investigation. ‘The regulators are putting me in a box.’”

“In another handwritten missive, the banker wrote on a legal pad, ‘Dead without TARP,’ referring to the federal Troubled Assets Relief Program, the government bailout plan for troubled banks that TierOne failed to qualify for.”

“The ‘death spiral’ Lundstrom referred to was one that pressured the bank from two directions at once.”

“On one hand, the federal banking regulator called the Office of Thrift Supervision in 2008 was demanding updated appraisals on the underwater real estate the bank had lent money on for homebuilders to construct subdivisions. Problem was, the housing bubble was long burst and the homebuilders were defaulting in record numbers, to the tune of $60 million in loan losses by 2009 that TierOne was hiding from investors and regulators, according to prosecutors. Stale real estate appraisals that in some cases were years old — elevated appraisals last done at the height of the bubble — were the only thing keeping the hidden losses from bursting into view.”

“On the other, the Office of Thrift Supervision also was demanding that TierOne keep more money in capital reserve accounts. With profit long gone — annual losses became the norm starting in 2007 — there was no source of cash for the reserves, which would be required to increase even more if the proper real estate appraisals were conducted.”

“The jury that found former TierOne Bank boss Gil Lundstrom guilty Friday of criminal fraud had heard and seen volumes of evidence that he kept two sets of financial records to fool investors and regulators into thinking his bank was sound. It wasn’t. The bank’s 2010 collapse was the state’s largest-ever.”

“Former Chief Executive Lundstrom, 74, was found guilty on 12 of the 13 federal counts against him. He faces the possibility of decades in prison if sentenced to the maximum penalties. The actual sentence will be up to the judge. Lundstrom is free on bond for the time being.”

“Damaging to him was a report he ordered subordinates to prepare that showed as much as $114 million in unrealized losses from delinquent loans to homebuilding companies that had yet to find their way into the company’s filings with the Securities and Exchange Commission or banking regulators.”

“‘He lied about it over and over again,’ U.S. Prosecutor Henry Van Dyck said in his closing statement Thursday, referring to testimony and other evidence presented to the jury that indicated Lundstrom told his lieutenants to keep the bad news off the books, signed financial statements that omitted the losses and ordered board minutes to be cleansed of any reference to the underwater loans made to housing developers in places such as Florida and Las Vegas.”

“Two other men have been charged by prosecutors in the case, former TierOne President James Laphen and ex-Chief Credit Officer Don Langford. They pleaded guilty last year to lesser counts in exchange for the possibility of a lighter sentence, and testified last week against Lundstrom, saying he did it.”

“The mid-1990s were a turning point for a once-small Nebraska bank that, through a strange combination of circumstances, has come to be one of the marking points of the great mortgage and financial crisis that engulfed the nation. It was 1994 when the Lincoln-based bank that came to be known as TierOne hired an outsider with no banking-management experience as a high executive: Gil Lundstrom, its outside lawyer, the attorney who had handled the institution’s lawsuits and other matters since the 1970s. Several years later he would ascend to chief executive, the top post.”

“Within a decade, the small savings and loan association owned by depositors — First Federal Savings and Loan Association of Lincoln — took on a new name: TierOne Bank. That itself is a banking term, ‘Tier 1′ being a class of bank reserve capital required by regulators, the financial cushion expected of banks consisting of paid-in shareholder money and retained earnings not to be touched for ordinary expenses. A name chosen to reflect financial strength and conservative management.”

“The name change also was a harbinger. Under Lundstrom’s leadership, the bank departed from its course of mortgage loans for ordinary folks and small-business loans for Lincoln outfits. He led the bank into a 2002 initial public stock offering and a massive expansion into lending to housing developers in other states. They, too, were chasing the home-building boom last decade when lending standards were eased and interest rates were low.”

“Lundstrom appears to be one of the only — and perhaps the only — CEO of a housing crisis-era financial institution to face federal criminal prosecution and be found guilty. According to a New York Times investigation published last year, only one executive — not a CEO — from a Wall Street firm was convicted and sentenced to jail for misconduct stemming from the financial crisis.”

“And that makes the TierOne case a bit of an outlier, at least in terms of headline value, raising the question of why prosecutors from the U.S. Justice Department’s Washington-based criminal-fraud division came looking in the Cornhusker State. TierOne was a minnow. At its apogee in 2006 it was the second-largest bank based in Nebraska, with $3 billion of deposits. Still, it was a minnow.”

“The largest bank in the nation in 2010, when most of the shoddy lending practices employed by some banks came home to roost, was North Carolina-based Bank of America, with $2.3 trillion in assets — loans, in other words. For people, a loan is a debt; but for a bank, it is an income-earning asset. And executives of Bank of America and the company itself — whose financial statements from the era were rife with undisclosed losses of the sort that convicted Lundstrom — escaped criminal prosecution amid a $20 billion government bailout from the federal Troubled Assets Relief Program, or TARP.”

“As did many other mammoth-size institutions. New York-based American International Group, at the time the largest insurance company in the world, falsely inflated ‘loss reserves by $500 million in order to quell criticism’ from Wall Street investment advisers that reserves had been declining, according to the Securities and Exchange Commission. The SEC, the federal regulator of publicly traded companies, is a civil body, meaning its penalties amount to fines, not jail time. Criminal prosecutions: zero.”

“The list goes on. Merrill Lynch, then the nation’s largest stock brokerage, announced a loss of about $8 billion back in the crisis era, three weeks after claiming only about half that. Criminal prosecutions: zero.”

“Lehman Brothers, once one of Wall Street’s leading investment banks; Citigroup, currently the third-largest bank in the nation; Countrywide Bank, once the third-largest thrift. All admitted after the fact that they were in far worse financial condition than originally reported. Criminal prosecutions: zero.”

“All are or were deeply connected Wall Street movers and shakers. TierOne, meanwhile, was in Nebraska — home to 1.8 million people, the 37th-most-populous U.S. state or territory. But when U.S. prosecutors came to town, they hit and they hit hard. Was he just unlucky — the lowest-ranking man in the spotlight at a convenient time? Or did his poor business judgment open the door for aggressive prosecutors looking for scalps?”

Bits Bucket for November 15, 2015

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