WASHINGTON — With a Federal Deposit Insurance Corp. decision on industrial loan company charters imminent, one of its charges is the subject of a wide-ranging enforcement action alleging lax attention to everything from compliance to compensation.
The FDIC, along with California regulators, quietly imposed a scathing cease-and-desist order last month against Silvergate Bank, a $346 million-asset ILC in La Jolla.
According to the 14-page order, Silvergate is doing nothing right. Nonexistent or broken are its internal controls; loan-loss reserving; compliance program; liquidity tools; compensation practices and performance reviews; budgeting process; and ethics policies.
The chairman is being forced to give up his chief executive officer title and hire an experienced banker to "restore all aspects of the bank to a safe and sound condition, including earnings, management effectiveness, liquidity, and sensitivity to market risk," according to the Dec. 14 order, which became public last week.
In addition to a new CEO, regulators want a new chief financial officer, a new senior loan officer, and an executive to ensure compliance with the Bank Secrecy Act. Silvergate has too many brokered deposits and not enough capital or loss reserves, according to the order.
The FDIC claims the comprehensive order is evidence of its vigilance, while critics say the agency is too lenient with troubled institutions. The question is significant, given the ongoing debate about ILC regulation in general and the FDIC's ability to supervise large, commercially owned ones in particular.
"I don't think ILCs are that much different than other banks," said the industry analyst Bert Ely. "There is a more basic question, and that is how good is the FDIC, period? I have my doubts."
Sandra Thompson, director of the FDIC's division of supervision, defended the agency in an interview Friday.
"The number of issues identified in the enforcement action show the thoroughness with which we supervise these institutions," she said.
Ms. Thompson would not talk about Silvergate more specifically, like why the ILC was allowed to expand into Texas when it had so many problems.
"The FDIC has a good track record of supervising ILCs," she said. "As any other bank, they are subject to regular examinations — including those focusing on safety and soundness, consumer protection, community reinvestment, BSA, information technology, and trust activities."
Ms. Thompson also said that the FDIC practices "progressive supervision," meaning it takes increasingly tougher steps against banks if they do not fix their problems. A formal cease-and-desist order, like the one against Silvergate, is considered a serious enforcement measure.
The debate over ILCs stretches back to July 2005, when Wal-Mart Stores Inc., in its fourth attempt to enter the banking business, asked the FDIC for permission to charter an ILC in Utah. After delaying any action on the application, the FDIC decided to shelve any and all decisions related to ILC applications for six months. That self-imposed moratorium is scheduled to expire Wednesday, but the agency is widely expected to extend the deadline to give Congress more time to legislate on the issue.
Under current law, ownership of ILCs is not restricted, and Congress has been debating whether to bar commercial companies like Wal-Mart or Home Depot Inc. Eighteen other retailers, including Target Corp. and Toyota Motor Corp., already operate ILCs.
The FDIC is expected to move forward on the pending applications from financial companies while continue to sit on the requests by commercial firms. However, making that distinction may not be easy. At least a couple of the 10 pending applications (down from 18 early last summer) fall in a gray area between commercial and financial.
The Silvergate matter does not present any questions of commercial ownership, but its persistent and fundamental problems raise questions about the FDIC's oversight abilities.
"In terms of the ILC debate, substantively, this is just another example of weak supervision," Mr. Ely said. "But politically, the linkage certainly can be drawn and will be drawn, I'm sure."
According to the FDIC, Silvergate has been examined three times in the last three years — twice by the FDIC.
In January 2006, Silvergate announced a deal to sell itself to Wescom Credit Union in Pasadena, but the deal fell through just before the FDIC froze all ILC applications.
Silvergate's chairman, Dennis S. Frank, said in an interview Monday that it is cooperating fully with both state and federal regulators.
"It's been a wild ride between the political winds shifting to the moratorium to dealing with current events in the marketplace," he said. "I'm very confident that we have the directives from this order well in hand."
Mr. Frank said that Tony Feraro has been hired as CEO. He has worked at Unity Bancorp Inc. of Clinton, N.J. and Zions Bancorp. of Salt Lake City.
Mr. Frank, a former investment banker with Goldman Sachs Group Inc., who consolidated a group of failed thrifts into Coastal Banc in Houston during the 1980s, bought Silvergate in 1996.
According to the latest FDIC data, as of Sept. 30 its assets had dropped 27% from a year earlier, to $346 million.
Net income for the first nine months of the year fell 56.2%, to $146,000. It has received two consecutive "needs to improve" ratings in its last two Community Reinvestment Act exams; the most recent one was in August.
This is not Silvergate's first cease-and-desist order. It was hit with one in November 1992, and that one too was broad, faulting board oversight, management abilities, capital levels, credit quality and concentrations, and lending practices.
