Tough road ahead for local banks

Since 2006, local banks have had to deal with a recessionary economy, low consumer confidence, squeezed profit margins, dramatic drops in market capitalization and mortgage originations along with steep increases in loan delinquencies and loan-loss provisions.

Consequently, 2008 was no different since the island’s banking industry also had to face the spillover from the worldwide financial crisis and the credit crunch that ensued during the second half of the year.

While local financial institutions basically came out unscathed from the stateside subprime mortgage crisis (except Popular Inc.’s Banco Popular North America operations), they weren’t able to avoid the effects of the local, stateside and worldwide recessions on local bank operations.

As of Sept. 31, 2008, the industry average of nonperforming loans (with delinquent payments of 90 days or more) among local commercial banks jumped to 7.23%, more than three time the combined 2% average rate experienced during the 2001-’02 local recession.

The highest rate of nonperforming loans was found in the construction-loans portfolio, which has grown fourfold, from an industry average of 2.97% in 2Q ’06 to a whopping 18.89% in 3Q ’08.

Other loan portfolios, such as Commercial & Industrial and Consumer & Residential mortgages have experienced a marked increase in the number of nonperforming loans, while the credit-card portfolio has remained stable. That’s because financial institutions periodically clean up this portfolio through charge-offs.

The situation at local commercial banks as a result of the local and world recessions and the credit crunch have put on hold, at least temporarily, the much-talked about consolidation of the local banking industry. It is rumored those institutions that get approved for the U.S. Treasury’s Capital Purchase Program (CPP) under the Troubled Asset Relief Program (TARP) could use the capital infusion for future acquisitions.

Bad year for bank earnings

After initially starting the first part of the year with earnings, the local financial institutions that filed financial statements lost a combined $699.31 million in the third quarter (3Q) of 2008, the worst quarterly performance by the group in recorded history, versus a combined $64.4 million loss during the same period in 2007.

The 3Q ’08 results principally felt the impact of Popular Inc.’s whopping $668.5 million quarterly loss, related to the company’s stateside operations, which are undergoing a major restructuring and downsizing as the parent company of Banco Popular de Puerto Rico is selling assets as it exits the stateside subprime mortgage market and closes underperforming branches.

Of the 10 commercial banks operating on the island, only eight continue to be quoted in the stock market. R-G Financial Corp. and W Holding Co., parent companies of R-G Premier Bank and Westernbank, respectively, are still revising their latest financial statements and aren’t up-to-date with their filings; therefore, their stock is traded over the counter through the Pink Sheets.

R-G restated its interim and audited financial statements for the periods Jan. 1, 2002 through Dec. 31, 2004 and is still working to file its quarterly reports on Form 10-Q for the three quarters of 2005, the first three quarters of 2006, the four quarters of 2007 and 2008 as well as file its annual reports on Form 10-K for the years ended Dec. 31, 2005, 2006, 2007 and 2008.

On June 26, 2007, W Holding surprised investors when it disclosed one of its larger asset-based loans (Inyx) was impaired and there was a “significant” collateral deficiency with respect to the impaired loan. The company later indicated the collateral deficiency was at least $80 million.

Furthermore, the company stated an independent firm was retained to review the impaired loan, the company’s entire asset-based lending portfolio and the asset-based lending division’s systems of internal controls. On this news, the price of the company’s shares fell by over 37.3% to close June 26, 2007 at $3.14 a share, on unusually heavy trading volume.

The sudden and drastic loss in the bank’s stock value prompted several lawsuits from investors. Consequently, the stock plummeted to less than $1.00 a share.

On July 24, 2008, W Holding announced it had been notified by the New York Stock Exchange (NYSE) that the company wasn’t in compliance with NYSE Listed Company Manual Section 802.01C because the average closing price of the company’s common stock had been less than $1.00 for 30-consecutive trading days.

W Holding successfully executed a reverse-stock split at opening of trading Dec. 2, 2008 at a ratio of one share for every 50 shares of the company’s outstanding common stock.

During trading Dec. 2, the price of the company’s stock ranged between $8.02 and $12.30, to finally settle at $8.98, up $8.74, or 3,641.67%, from the previous day’s closing price of $0.24.

Following the one-for-50 reverse-stock split on Dec. 2, W Holding topped the list of biggest percentage decliners on the New York Stock Exchange (NYSE), when the stock price dropped from its day high of $12.30 to $8.98, a difference of $3.02 or 25.17%, with a volume of 148,770 shares traded.

The purpose of the reverse split was to increase the per share market price of W Holding’s common stock, to bring the company into compliance with the continued listing requirements of the NYSE.

Getting cover under the TARP

Local banks Popular Inc., First BanCorp and Oriental Financial Group worked to beat the Nov. 14 deadline and apply for the federal TARP, managed by the newly created Office of Financial Stability at the U.S. Treasury to supervise the CPP.

In all, the U.S. Treasury could end up investing more than $1.4 billion to recapitalize local banks through TARP (CB Oct. 30, 2008).

The U.S. Treasury announced Oct. 20, 2008 a voluntary CPP to encourage U.S. financial institutions to build capital to increase the flow of financing to businesses and consumers.

Under the CPP, the U.S. Treasury Department may purchase qualifying capital in U.S. banking organizations for up to $250 billion in senior-preferred shares. The program was available to qualifying U.S.-controlled banks, savings associations and certain bank and savings & loan holding companies engaged only in financial activities that elected to participate before 5 p.m. Nov. 14.

The U.S. Treasury will determine eligibility and allocations for interested parties after consultation with the appropriate federal banking agencies, the Federal Reserve Board and the Federal Deposit Insurance Corp. in the case of Puerto Rico.

Popular Inc. received preliminary approval from the U.S. Treasury to participate in the CPP under TARP. Meanwhile, First BanCorp and Oriental Financial Group applied for the capital purchase program and Eurobancshares Inc. indicated that before the Nov. 14 deadline it was evaluating opportunities to increase its capital position, including its participation in the CPP under TARP.

R-G Financial, W Holding and Doral Financial Corp. didn’t indicate whether they applied for the CPP under TARP. In the case of R-G and W Holding, they aren’t up-to-date with the filings of their audited financial statements, while Doral was well-capitalized to require the extra capital.

Although well-capitalized through their holding companies, Spanish banks BBVA Puerto Rico and Banco Santander Puerto Rico as well as Canadian bank Scotiabank Puerto Rico won’ be able to participate in TARP even if they wanted to, because they aren’t U.S.-controlled financial institutions.