From Wall Street to Main Street How are local banks coping with the tough economy?

This is the second in a series of articles featuring interviews with local financial institutions to find out how their role in the community has changed in light of the financial crisis of the last 19 months.

Californians have experience when it comes to earthquakes of the geological kind. But when a local bank fails, it feels like a financial earthquake, making us question the very foundation of our economic security.

The California Department of Financial Institutions closed regional community bank 1st Centennial Bank on January 23.

1st Centennial, based in Redlands with a branch in Temecula, is the latest casualty of the 19-month credit crisis which developed from the crash in housing prices but spread to all areas of the economy.

1st Centennial started in Redlands in 1990 and grew to seven branches and $832 million in assets.

Its main source of difficulty was loans to local real estate developers for construction and land loans. These players were forced to default after being stuck with new homes they couldn’t sell.

The Redlands Daily Facts published an obituary of sorts on January 26.

“1st Centennial has been a success story for the past 16 years and is now a casualty of an economic downturn,” it said. “The FDIC will lose $227 million, but the true loss will be our schools, our clubs, our service organizations and our Local Events.

“1st Centennial was a bank that cared for its community, started by a group of people who wanted their community to have that kind of bank.”

As most know, depositors are insured when a bank fails – up to a new limit of $250,000.

The loans on a failed bank’s books are almost always sold to stronger banks with the FDIC or other regulator acting as receiver or intermediary.

1st Centennial is not the first regional community bank to fail.

Last year PFF Bank & Trust, headquartered in Pomona, and Downey Savings and Loan, headquartered in Newport Beach, were seized.

“The closing of these two thrifts once again demonstrates the tremendous impact of the housing market distress on the State of California,” said John Reich, director of the Federal Office of Thrift Supervision.

Community banks play an important role in the community. We interviewed officers at community banks to see how they are coping with the challenging economic conditions in our area.

Gary Votopka

President/CEO,

Mission Oaks National Bank

Riverside and San Bernardino county unemployment figures reached 10.1 percent in December 2008, according to a state report.

This contrasts with an overall California unemployment of 9.3 percent and a national figure of 7.2 percent.

These dismal job figures are a reflection of the crash in housing prices and the deepening recession biting Southern California disproportionately hard.

It is the backside of the pendulum swing after Southern California’s years of high growth.

Mission Oaks Bank was founded in Temecula in 2000. It had its origins, according to the bank Web site, on a Temecula basketball court in the late 1990s.

Veteran banker Keith Johnson and local physician Dr. Walter Combs talked about the need for a locally owned bank that would fill the void created by the mergers with large banks sweeping the industry.

Gary Votopka, another veteran banker, joined the founders and early investors.

The mission was to serve the growing area’s need for personalized banking, and it is faring remarkably well but is not immune to the economic crisis.

Mission Oaks’ conservative management and smaller size, compared to the failed regional banks, has kept it out of most of the trouble in areas such as construction, real estate development and sub-prime loans.

Votopka has 30 years banking experience and most of this is in community banking.

He believes that he, his senior officers and bank board of directors know and understand their community better than the money center banks.

They have strong connections and long relationships with their clients.

Votopka speaks of “the business bank and community bank model” which has focused on serving small- and medium-sized businesses.

Mission Oaks has approximately $225 million in assets, with many of the loans being SBA (Small Business Administration) guaranteed loans.

This bank never made general residential mortgage loans and so avoided the whole “sub-prime” morass.

It did some owner-occupied construction loans and some commercial real estate, but exposure is modest.

The toxic waste of mortgage back securities and exotic instruments such as credit default swaps that have effectively bankrupted the large national banks are nowhere on Mission Oaks’ balance sheet.

Yet, as a fish swimming in the troubled economic pond of Southern California, we asked Votopka how things have changed at the bank.

“We aren’t doing deal deals,” he said.

He means they are not seeking deals on a pure transaction basis of yield. They are concentrating on expanding their customer relationships.

This is the banking version of “you scratch my back and I’ll scratch yours.”

The clients most likely to secure a loan from them are the ones with checking and savings accounts or CDs with the bank.

At its core, banking is a simple business: “We rent money,” Votopka said. “We want savers as customers.”

Mission Oaks came into this downturn in a very strong position.

According to Votopka, “We are in the 86th percentile in strength with risk-based capital of over 16 percent [October quarter as last reported]. We are still profitable.”

To put this in perspective, Bank of America has a significantly lower but still adequate risk-based capital ratio of 11.69 percent and is not profitable.

Mission Oaks has made accommodations to a slowing economy. One loan development officer was laid off and a special assets officer (to deal with problem loans) was hired.

The bank’s relative strength has allowed it to take advantage of weaker rivals.

The failed Downey Savings branch in Fallbrook’s Major Market is now Mission Oaks’ newest branch.

The new Lake Elsinore branch, due to open soon, appears to be a good choice for expansion in a high-growth, underserved area.

Mission Oaks now has five branches and two additional loan production offices.

Mission Oaks, in spite of its relative strength and continued profitability, has gotten shareholder approval for a preferred stock offering as part of its application for $5.7 million of TARP (Troubled Asset Relief Program, also known as the bank bailout program) federal funds.

The reason for the application is that it is relatively cheap money. SBA guaranteed loans are a strong part of Mission Oaks’ assets.

The guaranteed portion of the loans can be sold in the secondary market, which allows the bank to regenerate loan capacity.

However, that secondary market has not been functioning well and that may limit, temporarily, the bank’s capacity to grow loans.

One of our last questions: If I am a prospective borrower, what can I do to make me a good loan prospect with your bank?

“Every business owner needs a good team including an accountant, lawyer and a banker who understand his needs. Deposit some money and get to know your community banker personally,” said Votopka. “Stick to your knitting and do not be overextended. Have a good business plan.”

In these times, he went on to explain, it is going to be hard to do a deal based on speculative future cash flows. There needs to be cash going in.

Mark Schiepp, director of California Economic Forecast, thinks the first two quarters of 2009 in Southern California will be grim but he thinks there could be “stability” in the last half of the year.

“The population is still expanding in Riverside and San Bernardino,” he said. “There will be a demand for services and all sorts of products. We’re in a cycle now, but we will recover.”

This bodes well for the future of community banks that are riding out the crisis.

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