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Appeal of CAMELS Composite Rating and Component Ratings for Capital, Asset Quality, Management, Earnings, Liquidity and Sensitivity to Market Risks – (Second Quarter 2010)


A community bank appealed to the Ombudsman the downgrade in the composite rating and CAMELS ratings for capital, asset quality, management, earnings, liquidity, and sensitivity to market risks. The composite and CAMELS ratings were downgraded from 2/232322 to 5/545453.


The appeal stated the report of examination (ROE) did not support the ratings.

Capital – The appeal stated the bank's capital ratios far exceed regulatory minimums; "even after a large unsupportable provision to the reserve". The bank's capital was within the well-capitalized category. Therefore, the only way that capital could be downgraded so drastically was by letting the overlap with other components dominate the decision. Using the definitions from the Uniform Financial Institutions Ratings System (UFIRS), the appeal stated that capital should be rated satisfactory.

Asset Quality – The appeal recognized that asset quality had deteriorated as a result of the negative economic environment - not negligent management, incompetence, or poor credit systems. The appeal further stated that both bank's management and the examiners agreed that as the depth and severity of the recession became more apparent so did the impact to asset quality. However, loan quality had not deteriorated to such a point as to threaten the viability of the bank. Therefore, the rating for asset quality should indicate an area that needs improvement.

Management – According to the appeal, the management team had not changed and had been complimented during previous examinations for its conservative nature, loan quality, and loan identification systems. In the most recent ROE, much of the examiner's criticism was centered on the lack of an updated strategic plan. The appeal contends that management acted appropriately by stopping growth and marking time until the recession ended. It was management's assertion that their strategic plan would be successful if not impeded by unrealistic regulators. Consequently, the management rating should, at worse indicate an area in need of improvement, because the current management team was capable of addressing the bank's deficiencies.

Earnings – The appeal asserted that earnings were profitable from 2002 through the fourth quarter of 2009 when they incurred a loss due to a bulk sale of other real estate owned (OREO). Even with the loss, earnings exceeded peer and placed the bank in the top 16 percentile for the state. Although earnings for the first half of 2010 continued to be impacted by additional OREO write-downs, increasing provisions to the reserve, and increasing non-performing credits, management expected earnings to stabilize during the second half of 2010. Based on this, the appeal stated that earnings only needed to improve.

Liquidity – The appeal stated the loan to deposit ratio was relatively stable compared to the prior two years and during those years the bank was rated satisfactory. The appeal further discussed the bank's aggressive program to reduce reliance on brokered funds and overall wholesale funding since the examination. As a result, the loan to deposit ratio dropped significantly and the amount of liquidity greatly improved. Therefore, the appeal agreed that liquidity still needed to improve.

Sensitivity to market risk – The appeal stated that a "needs to improve" rating was not warranted. Market risk sensitivity and risk management represented only a moderate potential for adverse impact on earnings performance or capital position. The appeal stated that the current level of market risk was satisfactory.

Composite Rating – Based on the facts presented above, the appeal acknowledged areas of supervisory concern and reflected those concerns in their adjustment to the ratings. The appeal stated that management was capable and willing to correct the issues, was not especially vulnerable to outside influences, and bank failure was not likely. The appeal disagreed with the assessment that the overall condition of the bank was critically deficient. The appeal contended that a "needs to improve" rating was more appropriate.


The ombudsman conducted a comprehensive review of the information submitted by the bank as well as documentation supplied by the Supervisory Office (SO). The Uniform Financial Institutions Rating Systems (UFIRS) as defined in the Comptroller's Bank Supervision Process Handbook was used as the standard for determining the appropriate composite rating and component ratings for management, liquidity, and sensitivity to market risk. The bank was informed of the OCC's intent to issue a formal enforcement action; therefore, this review was limited to a determination that the standards were appropriately applied by the supervisory office in assigning the appealed ratings.

Capital – It is consistent with OCC supervisory policy to consider the inter-relationship and impact of the various banking components when rating capital. Asset quality, earnings, liquidity, and management all play a role in determining capital adequacy. The collective impact of these factors may require additional contributions to support long-term capital needs. After reviewing the information submitted, the ombudsman concluded that the supervisory office appropriately applied the ratings guidance in determining capital adequacy.

Asset Quality – The appeal does not dispute the increasingly negative trends regarding classified and criticized assets, loan losses, delinquencies, or lack of effective workout plans. Based on the significant level of problem assets and inadequate controls, asset quality posed a significant threat to the bank's viability. Therefore, the ombudsman concluded the rating assigned by the supervisory office for asset quality was reasonable.

Management – The appeal asserted that until the economic downturn stabilized it was impractical for management to update its strategic plan and it would continue to "keep bailing". This comment reflected a passive approach to problem solving and supported the supervisory office's determination that management was incapable of returning the bank to a safe and sound condition. Therefore, the ombudsman concluded the management rating assigned by the supervisory office was reasonable.

Earnings – Based on the ombudsman's review of the information submitted by the bank and the supervisory office, earnings performance was critically deficient to support bank operations and augment capital. Therefore, the rating assigned by the supervisory office was reasonable.

Liquidity – Historically, banks have incurred difficulty accessing established borrowing lines in time of crisis. The bank's actual condition was consistent with the crisis scenario projected in its Contingency Funding Plan (CFP) and the plan called for management to continue using borrowed funds to provide liquidity. Based on the ombudsman's review of the facts provided in the appeal and the supervisory office response, the bank's liquidity position was critically strained and the rating for liquidity was reasonable.

Sensitivity to Market Risk – The bank's appeal stated that monitoring systems were sufficient to identify, measure, and control exposure to market risk. Additionally, the appeal asserted that both the net interest margin (NIM) and rate sensitivity ratios were within policy limits. The supervisory office response referred to facts in the report of examination (ROE) regarding management's inability to timely adjust its balance sheet in a declining interest rate environment. Consequently, earnings were negatively impacted by the large volume of variable rates loans which would continue to present a moderate level of risk in the current environment. The ombudsman concluded, based on the above factors, the rating assigned for sensitivity to market risk was reasonable.

Composite – Based on the collective facts presented above, the ombudsman concluded the composite rating assigned by the supervisory office was well supported and reasonable. The volume and severity of problems were beyond management's ability or willingness to control or correct. Immediate outside financial or other assistance was needed in order for the financial institution to be viable and ongoing supervisory attention was necessary.