McAllen bank signs 'cease and desist' order

McALLEN — Bank of South Texas is facing increased scrutiny from regulators after federal and state authorities said the lender broke banking laws and regulations and “engaged in unsafe and unsound” banking.

The McAllen-based Bank of South Texas, which has three branches in the Lone Star State, signed a “cease and desist” order with regulators in late October, pledging to overhaul its lending practices and strengthen oversight by the bank’s board of directors, according to the order from the Federal Deposit Insurance Corp. and the Texas Department of Banking.

Bank of South Texas will continue to operate as officials develop plans to eliminate or reduce the volume of assets that aren’t making money, increase the money the bank retains and review financial reports previously submitted to the government to make sure they reflected “the financial condition of the bank,” according to the agreement. The order was issued Oct. 27 but was not made public until last week.

Darryl Lemke, president of Bank of South Texas, said the bank did not violate any laws or regulations and that the increased scrutiny by regulators came as no surprise, given how the recession has soured real estate holdings across the country.

For example, bank regulators expect Bank of South Texas and other financial institutions to retain more than 9 percent of their assets now, instead of lending them. Before the recession, regulators expected less than 6 percent — a standard Bank of South Texas was meeting before the order.

“We’ve never considered that we’ve engaged in hazardous or lax lending,” Lemke said. “There’s not anything in the order that we see as a problem for us.”

Lemke added that the bank has already addressed some of what is outlined in the agreement and that the bank already had adequate policies for some of the practices the government criticized.

The 25-page “cease and desist” order details 11 practices regulators said were unsafe, unsound or violated banking law and regulations.

Among those, the bank allegedly operated without “adequate” supervision by the board of directors, had an “excessive level” of “adversely classified loans or assets,” engaged in “hazardous lending,” created concentrations of credit, and operated “in violation of applicable Federal and State laws and regulations.”

Bank of South Texas, which is owned by the McAllen-based holding company S.T. Banc Corp., neither denied nor admitted liability by signing the agreement. The bank has one branch each in McAllen, Hebbronville and Kingsville. A fourth is expected to open near the intersection of Nolana and Jackson Road in McAllen in 2010, Lemke said.

The bank’s board members include: Alberto Duran, a San Juan doctor, Ricardo Barrera, a Mission doctor, Frank Cepeda, a local construction contractor, and Lemke. Other board members are Ron Herschap, of Laredo, and Hilberto Guerra and Raul Ruiz, both of Hebbronville.

The agreement stems from a review of the bank as of March 31, 2009, when Bank of South Texas filed a quarterly report with regulators.

At that time, the bank’s net income was in the red as it operated with a loss of $54,000. The bank, which then had assets of more than $81 million, had close to $2.5 million in loans and leases that were past due.

The bank also had more than $2.2 million in “other real estate owned,” an industry term for properties the bank foreclosed on and then acquired at auction, according to the bank’s filings with the FDIC.

Despite the relative resilience of the Rio Grande Valley economy, most Valley banks endured rising numbers of customers unable to make loan payments in 2009, according to the banks’ filings with the FDIC.

As of September the bank’s net income had fallen to negative $91,000, while the number of loans and leases that were past due fell to $2.1 million. Other real estate owned by the bank fell to $1.6 million.

Lemke said the bank owns four foreclosed commercial properties and that at least one of them is already under contract to be purchased. The bank does not own any residential properties.

“That’s a very small number,” he said of the four foreclosed properties. “We’ve always felt that we’ve done prudent underwriting on our own.”

In the agreement, regulators also outlined 19 provisions that Bank of South Texas needs to include in a revised loan policy. Among those, the bank must establish and maintain a loan grading system and internal watch list of problematic loans. It also must require that any credit given to the bank’s executive officers, directors or principle shareholders be thoroughly reviewed for “regulatory compliance,” according to the order.

Lemke said that provision was surprising because the bank already prohibits insider loans.

He said the bank did not appeal the “cease and desist” order because not doing so was in the “best interest” of the bank and because “95 percent” of the areas outlined by regulators have been addressed.

“We think that whatever problems we have are a result of the downturn in the economy,” Lemke said. “We have the experience to deal with them and manage them professionally.”