For University Bancorp of Ann Arbor, Mich., innovation and rapid growth have taken a regulatory toll.
Stephen Lange Ranzini, the $129 million-asset University's entrepreneurial chief executive, has led it into business lines where few community banking companies of its size go, most notably Islamic banking. These efforts have fueled expansion; University's assets grew 46.5% last year.
Last month regulators disclosed a cease-and-desist order requiring University to improve compliance with the Bank Secrecy Act, which helps the government detect and prevent money laundering. The order also told the company to quit one of its niche businesses — international trade finance — and to stop using the Swift payment system.
Ranzini said regulators simply did not want a community bank to be involved in the international business. The compliance shortcomings had nothing to do with an emphasis on Islamic banking, he said, but resulted from botched paperwork by a thinly stretched staff.
He also said such a focus might understandably have drawn more scrutiny.
"We have to perform at a higher level than a normal community bank, and they felt we were not operating at the level that we should have been," Ranzini said in one of several interviews this week and last. "That is a fair criticism."
Some observers who have read the 40-page order from the Federal Deposit Insurance Corp. and the Michigan Office of Financial and Insurance Regulation said it is particularly detailed and rigorous.
"This C&D is so sweeping; it hits them on one thing after another," said Rebel A. Cole, a finance and real estate professor at DePaul University in Chicago and a former Federal Reserve Board economist. "The regulators are raising a lot of red flags."
He characterized the order as "damning."
Since 2003, University has offered financial products nationwide that adhere to Shariah, or Islamic law, which does not allow paying or charging interest. Traditional community banking accounts for only about 15% of its revenue.
Ranzini said the Feb. 12 order would not derail growth or prompt any changes in the Islamic banking division. "This had nothing to do with our customers. No depositors or lending was criticized. It was the paperwork that was criticized. Because of our growth, the person I had doing internal audit part time saw her responsibilities grow and wasn't spending the time on internal audit."
He said he realized this a few months before the June exam that led to the order and hired a full-time internal auditor and compliance officer. Since then, Ranzini said, University has beefed up its compliance staff further and installed software that helps it find fraudulent or illegal activity through automation.
David Loundy, a vice president at Devon Bank in Chicago, one of University's rivals in the Islamic finance market, said this business makes BSA compliance tougher. The customers, many of whom are immigrants or have relatives in foreign countries, are likely to make more international transactions.
The same would be true for a bank doing business in Miami, he said. "BSA is a big issue everywhere, especially when you are dealing with a population that has a lot of overseas businesses, and you can't take shortcuts in your due diligence and your regulatory compliance."
Ranzini said he has accomplished more than half of the points in the order.
They are mostly things that can be accomplished relatively quickly, he said. "Making sure your paperwork is right is easier to fix than selling $10 million of bad commercial real estate loans, which we don't have, thankfully."
Still, he acknowledged that any regulatory action looks bad, particularly without context. For that reason, he said, a few days before the FDIC made the order public, University issued a press release detailing the steps it had taken to address the issues that regulators had raised.
Frank C. Bonaventure Jr., a principal and the chairman of the financial institutions group at Ober, Kaler, Grimes & Shriver PC in Baltimore, called the willingness to talk about the order a good sign.
"A lot of times, there is a story behind an enforcement order," said Bonaventure, formerly an Office of the Comptroller for the Currency regulator. "It is good for banks to tell their side of the story."
University added the international trade finance business about a year and a half ago. It was a small part of the company, making up less than 1% of its revenue, and the company immediately quit the business after the exam.
"I am under the impression that international trade is going to grow, and so few banks are involved in it, it seemed like a great opportunity," Ranzini said. "But our regulators expressed their strong opinion that they didn't want a community bank doing it, and we got that message loud and clear last summer."
Even though University had already stopped using the Society for Worldwide Interbank Financial Telecommunication's system, regulators included the ban in the order to make the objection official, he said. The order also said University must find stronger hires for key positions, keep capital elevated and improve asset quality.
Ranzini said the concerns about asset quality were primarily driven by $20 million of mortgage-backed securities guaranteed by Fannie Mae and Freddie Mac. The securities were sold in January at a profit, he said.
The Michigan economy has hurt loan performance, he said. But University appears to have better credit quality than comparable banks in the state. According to Dec. 31 FDIC data, its noncurrent loans made up 1.87% of total loans, versus the average of 2.88% for Michigan banks with assets of $100 million to $300 million.
"The loan quality does not appear to be bad, and the financials don't look like this bank is in any trouble," Cole said. The fast growth, particularly in the current economic climate, may have prompted regulators to put additional pressure on University to ensure credit quality and capital levels remain strong, he said.
Jeffrey C. Gerrish, the chairman of Gerrish McCreary Smith Consultants LLC and a former FDIC regulator, called the order one of the more serious ones he has seen in a while. "The bank was clearly having some significant compliance issues, and whether it is sloppy paperwork or something else, when it comes to BSA and AML, it won't be tolerated."
However, Gerrish said, much of the language is boilerplate and may have stemmed from regulators thinking that, given the compliance issues, other parts of the company should be monitored more closely.
Because University has been making money and completed a $200,000 offering of preferred shares last month, Ranzini said, he expected it to report a first-quarter leverage ratio at or above the 8% required under the order.