The Outlook for the Thrift Industry: A Survivor's Guide; Big Challenges and Changes Face American S & Ls - and Their Accountants
The savings and loan industry is under fire. In the wake of the S&L crisis, regulators are challenging accounting procedures, lending practices and even the regulatory structure set up to oversee the industry. Congress is reacting to the exorbitant amounts required to satisfy insured deposits in failed institutions. The public, incensed over reported excesses committed by the industry, is demanding action to prevent the same problems from recurring. A large portion of America's S&Ls will not survive--they will be either liquidated or merged with other financial institutions. Those that will survive and regain public confidence must do what all successful management groups hopes to accomplish: * Define their market. * Serve their market effectively and efficiently. * Earn an economic profit. The following examines the forces that will transform the S&L industry over the next five years, highlighting what auditors and internal accountants should be focusing on during this evolution. REGULATORY CHANGES The Financial Institutions Recovery and Reform Enforcement Act (FIRREA), signed into law in August 1989, eliminated the Federal Home Loan Bank Board (FHLBB) and replaced it with the Office of Thrift Supervision (OTS). While the FHLBB was an independent agency, OTS is a division of the U.S. Treasury Department. The adoption of FIRREA, along with new capital rules enacted by the OTS and the adaption of bank examiners' methods in thrift examinations, will fundamentally alter the structure of the industry. The new capital rules adopted for S&Ls have three themes: * Increasing minimum regulatory capital levels. * Placing institutions that fail to meet the higher capital requirements under a regulatory microscope. * Bearing capital levels on the perceived risk of a thrift's assets. Capital levels. In the 1970s, when the industry first encountered losses, thrift regulators lowered the required level of capital in two ways. First, the absolute percentage of capital required was reduced to permit institutions to grow and enhance profitability. Second, the accounting concepts used to measure periodic income were changed to permit recognition of greater profits. Both changes have been entirely reversed under the new OTS rules. Capital levels have been increased drastically, while certain accounting practices have been eliminated (for example, appraised equity capital, deferred loan losses and loan fees). The impact on the industry has been dramatic as thrifts seek ways to raise regulatory capital and/or shrink their assets in an effort to meet the new capital guidelines. There are now three capital requirements: * A tangible capital requirement of 1 1/2% of assets. * A core capital requirement of 3% of assets. * A risk-based capital requirement of 8% of risk-weighted assets. Effects of noncompliance. If an institution fails to meet one of its capital requirements, it must submit to its regulator a capital plan demonstrating how it will meet the requirement. In addition, the regulator may impose on the institution a series of restrictions designed to curb its actions until it is once again in capital compliance. Risk classification of assets. The regulatory risk classification of assets (used to calculate the risk-based capital requirement) requires segregating assets into one of a number of groups. Depending on the group, the capital requirement could range from 0% (for cash) to 16% (for real estate acquired through foreclosure). The actions that result from this procedure demonstrate just how serious these requirements are. Specifically, the risk classification scheme probably will have the folliwing effects: * Assets with high capital requirements will be avoided. * Institutions will seek ways to shift assets from high- to low-capital requirement group (by securitizing mortgage loans, for example). …