Risk Management

S&L Scandal Makes Headlines, Again

Fourteen years after the government encourages banks to buy-up failing S&L companies, Old Stone Corp. wants to take its case against the federal go...
Marie LeoneOctober 2, 2006

The year is 1984. A new computer called the Apple Macintosh is in stores. Wendy’s “Where’s the Beef?” commercials are launched. Michael Jackson’s hair catches fire while he’s filming a Pepsi commercial. Frankie Goes to Hollywood has a top hit with “Relax.”

And Old Stone Bank buys a troubled savings and loan bank in Rhode Island, guaranteeing that its executives won’t be able to relax for the next 14 years.

Over the weekend, the board of Old Stone Corp., a Rhode Island holding company that once owned Old Stone Bank, voted to petition the Supreme Court to review its 14-year-old breach-of-contract case. Though finding its way onto the high court’s docket is a long shot, the company hopes to overturn a recent appeals court decision that shaved $118 million from an award that the company won in a case against the federal government.

Back in the mid-1980s, at the height of the savings and loan crisis, Old Stone Bank acquired two troubled S&L’s, buoyed by government assurances that it could count their assets as part of its regulatory capital — the amount all banks are required to maintain as a cushion against default. But a 1989 federal law changed those rules, driving Old Stone into receivership.

In 2004, Old Stone was awarded $192.5 million by the Court of Federal Claims. But last May, U.S. Appeals Court Judge Robert Hodges partially struck down that decision, and shrunk Old Stone’s award to $74.5 million from $192.5 million. Last week, Old Stone requested an appeals court rehearing, but was denied. As a result, Old Stone Chairman Bernard Buonanno, said the company is now seeking review of the case by the Supreme Court in an effort to have the full awarded reinstated. “We believe that our damages claims are strong and should have been affirmed in full under established precedents,” said Buonanno in a press statement.

Old Stone’s legal odyssey began in earnest in 1992. That’s when it first sued the federal government for, among other things, allegedly reneging on benefits it promised to Old Stone after the bank acquired two troubled savings and loan banks — Rhode Island Federal Savings & Loan of Providence and Citizens Federal Savings & Loan of Seattle — in 1984 and 1985 respectively. The Claims Court ruling, which was not questioned by the appeals court, said that the contract violations were based on passage a 1989 federal banking law called the Financial Institutions Reform, Recovery and Enforcement Act, or FIRREA.

FIRREA limited what banks could include in their reported regulatory capital. By law, commercial banks must set aside liquid assets, called regulatory capital, in order to lend money. To induce healthy banks to acquire sputtering S&Ls during the 1980s, the government promised buyers that they could include capital credits and goodwill earned in the transaction as regulatory capital, as long as it was amortized over at least 25 years. However, when FIRREA was passed in 1989, the new law limited what would count toward regulatory capital requirements.

Without the capital from the two S&L deals, Old Stone Bank — along with about 120 other banks that sued the government in similar cases — could not meet its regulatory capital requirements. To stave off a government seizure of the bank, officials at Old Stone Corp. submitted a plan to regulators which included asset sell-offs, the proceeds of which would be used to pay down debt and bring the bank back into regulatory compliance. But a declining commercial lending market, coupled with company claims that it sold valuable assets at “fire sale” prices, weakened Old Stone financially. By January 1993, three months after it filed its lawsuit against the government, Old Stone Bank failed to meet it regulatory capital requirements and was seized by the government.