WASHINGTON — The collapse last week of three of Puerto Rico's 10 banks significantly consolidated the commonwealth's banking system and marked one of the most complicated days in the history of the Federal Deposit Insurance Corp.
Analysts said the failures Friday of the $12 billion-asset Westernbank, the $6 billion-asset R-G Premier Bank and the $2.6 billion-asset Eurobank and their sale to three separate buyers were long overdue.
"There were really just too many banks in the Puerto Rican system for an economy that wasn't growing all that fast," said Bain Slack, an analyst covering the region for KBW Inc.'s Keefe, Bruyette & Woods Inc. "The industry has finally gotten the consolidation that it's needed for years."
For the FDIC, the coordinated failures presented a massive challenge: how to take down the banks, which held roughly a quarter of Puerto Rico's deposits, without sparking a panic across the island.
In a rare move, FDIC Chairman Sheila Bair traveled to the island for a press conference, where she assured depositors their money was safe. "The consolidation that is being announced today, I think, will strengthen the banking sector here," Bair said. "The acquirers … bring balance-sheet strength, they bring new capital, they bring new resources."
The only comparable event in the agency's history was during the savings and loan crisis, in which the government, on multiple occasions, coordinated the seizures of Texas thrifts owned by a single parent company.
But in Puerto Rico, the FDIC had to transfer a large portion of the region's assets while preventing a contagion in the broader region. "Texas was big, but it kind of pales in comparison," said John Douglas, the FDIC's general counsel from 1987 to 1989 and now a partner at Davis Polk & Wardwell.
He added that the agency's ability to move nimbly is "tremendously important, in the sense that if you screw it up you've got other banks operating on the island.
"You don't want them to be affected by what you do with those that you think are a problem," Douglas said. "It needed to be crisp and clean and seamless to the public."
But even the dramatic moves might not be enough.
Another island institution, the $20 billion-asset Firstbank of Puerto Rico, a subsidiary of First Bancorp and the territory's No. 2 bank behind Popular, still faces crippling credit losses.
In a Securities and Exchange Commission filing Thursday, the parent reported a $107 million first-quarter loss, more than double its fourth-quarter loss.
The company said it was working to resolve its problems, but, it said, "Given the present economic outlook in" the bank's "principal markets and in spite of actions taken, the corporation may experience further deterioration in its portfolios, which may result in higher credit losses and additions to reserve balances."
The region's banks have suffered not only from a recession predating the U.S. mainland's downturn, but also a wild competition for construction loans.
At one time, only a few players in Puerto Rico originated loans, which they then sold to other banks on the island.
After that model was upended by an accounting scandal over how the loan sales were valued, the banks that had bought the credits tried to get into the origination business. But that left too many banks pursuing limited market share, and the heightened competition for loans led to lax underwriting and weak profits.
"Even in the good times, they didn't have the ability to earn," Slack said. "When the credit cycle turned, it was very evident that they had not priced or underwritten their loans particularly well."
Still, there appeared to be enough interest in buying the failed banks that the FDIC is not expected to take as big a loss as analysts once expected. The FDIC estimated the three failures will cost $5.3 billion.
The agency quickly sold the failed banks' remains to three suitors: the banking giant Popular Inc., Bank of Nova Scotia's Scotiabank and Oriental Financial Group Inc. The resolutions, which the agency had planned for months, brought the year's failure total to 60. (The number climbed to 64 with four stateside failures Friday evening.)
Banco Popular de Puerto Rico, a $23 billion-asset Popular subsidiary in Hato Rey, agreed to assume all of Westernbank's $8.6 billion in deposits and acquire $9.4 billion of its assets. It did not agree to pay a deposit premium. Banco Popular will share losses with the FDIC on $8.8 billion of Westernbank's assets. The failure was estimated to cost the FDIC $3.3 billion.
Meanwhile, the $6 billion-asset Oriental Bank and Trust in San Juan paid a 1.25% premium to assume all of Eurobank's $2 billion in deposits, and agreed to acquire essentially all of its assets. The acquirer and the FDIC will share losses on about $1.6 billion of the failed bank's assets. The resolution was estimated to cost the agency $744 million.
Scotiabank, the $1.8 billion-asset Puerto Rican subsidiary of the Canadian giant, paid the FDIC a 1.35% premium to assume all of R-G Premier's $4.2 billion in deposits, and will acquire virtually all of its assets. It will share losses with the FDIC on $5.4 billion of those assets. The resolution was estimated to cost $1.2 billion.
Slack said the acquirers and the island's industry as a whole will benefit from the scarcity of players. "By taking this excess capacity out of the system, when the economy improves, these banks don't have to compete for market share with price. They can have better returns, be more profitable, and as they're more profitable they'll retain more capital."
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Corrected April 30, 2010 at 9:29PM: For clarification, this story relied on data from the FDIC that has since been updated. In Oriental Bank and Trust's deal for the $2.56 billion-asset Eurobank, the buyer paid a 1.25% premium to assume $400 million of Eurobank's core retail deposits. In all, Oriental assumed $785 million of the failed bank's deposits. Oriental acquired $1.7 billion of Eurobanks assets and has a loss-sharing agreement with the FDIC on $1.58 billion of those assets.