Like many a financial institution, Associated Banc-Corp (parent of Associated Bank) committed mistakes during the mortgage boom — like parachuting loan officers into hot housing markets thousands of miles away to grow a construction loan book. By the end of 2009, of course, the folly was evident: the bank’s nonperforming loans hit $1.07 billion. A year later, Associated had gross write-offs of $529 million.

Fortunately, though, in the Upper Midwest, the core of Associated’s market, delinquency and foreclosure rates stayed below banking industry and national averages, allowing the Green Bay, Wisconsin-based institution to maintain a sufficient capital cushion.

Christopher Del Moral-Niles,  CFO, Associated Banc-Corp

Christopher Del Moral-Niles,
CFO, Associated Banc-Corp

Now, four years after his arrival as treasurer of Associated Banc-Corp, Christopher Del Moral-Niles paints a portrait of a bank that has recovered nicely. Total loans rose 7.9% and a total deposits 5.4% in the first nine months of 2014, and net interest income increased 5.8%. In addition, the bank’s loan-to-deposit ratio is back near 95, after dropping into the low 70s in 2010 .

Still, it has hardly been an easy journey for Niles, who was promoted to CFO in 2012. Internally, even with $26 billion in assets and 4,400 employees, Associated lacked some discipline in basic finance functions, like internal performance reporting. In a December interview with CFO, excerpted here, Niles describes how he brought rigor to the bank’s operations and product strategy, and why he doesn’t view tighter industry regulation negatively.

What kind of problems did previous management get into leading up to the financial crisis?

Back in the fourth quarter of 2008 Associated Bank had 14 percent construction loans, 13 percent home equity lines and second mortgages, and 5 percent consumer installment loans. Clearly as the economy turned those were three areas where you saw a lot of pain. The prior management assumed that since construction lending is short term, two to three years, that the pain wouldn’t be that severe. The problem, of course, is when a construction loan performs it’s a two- or three-year loan; when it doesn’t, it’s forever.

[Associated] had decided to follow its customers to Florida, to Arizona, to Colorado, because that’s where people from Wisconsin go in the winter. But most of the time that’s a bad idea because those [housing markets] are generally more volatile than Wisconsin’s. And when you’re making loans you need people that are deeply embedded in that market. You need people who live, breathe and eat real estate in that market and understand why a certain corner works or doesn’t work. And who has tried to develop there before and didn’t. And what permit issues developers have had. And what the traffic patterns are. And if you don’t have people who are deeply embedded in the market, you’re going to end up doing bad deals.

What was the path back for the bank?

The challenge the bank faced when I arrived here in 2010 as treasurer was how do we put [deposits] to work? How do we change the mix of the assets? Where do we find the assets that are prudent and appropriate to the bank and will bring us an earnings stream?

[CEO] Phil Flynn and I had worked together at Union Bank of California, and during that time we’d been very a very active part of the expansion of Union Bank’s mortgage activities, particularly a type of mortgage called the 5/1 hybrid ARM. We knew that those assets were very suitable for a bank, and we knew how to go find them. We brought a lot of refinancing activity into Associated. Historically, Associated had refinanced customers from a 30-year [mortgage] into another 30 year and that would just be sold off to Fannie Mae or Freddie Mac. The 5/1 ARM is a five-year fixed term loan that then adjusts on an annual basis. The bank is very well suited to deposit lives of between 3 and 7 years. So a mix of those mortgages is perfect for the balance sheet — we don’t take a long-term interest rate risk that we can’t hedge against.

We also realized that all of the other banks were pulling back their energy industry lending. European banks were selling loans because they were dealing with credit and capital issues. So we went looking for other [institutions’] power and utility loans. The typical borrower is a power plant that’s selling power, typically on a contract basis, to a public utility. The public utility is always going to be ‘lights on,’ that is, the public utility is always going to pay their bills. The only question is does the power plant know what it’s doing? Does it operate efficiently? So we aggressively moved in and became the fill-in power utility lender when all the European banks were pulling back.

Since becoming CFO in 2012 what have you focused on?

The real challenge was becoming head of finance at an organization that had historically been extremely decentralized. We had a series of regional banking community teams and even regional CFOs at one point. That culture of decentralization had allowed for a lot of ‘interesting’ customized reporting. Everyone had their own way of looking at performance. So we’d get reports on average loans from some teams and end-of-period loans from others. There wasn’t a defined, consistent set of metrics that people were held accountable for and that were produced by a central repository. There were multiple versions of the truth.

When I first joined as treasurer, for example, I wanted to show quarterly trends for multiple years. OK, what’s the best internal source? There wasn’t one. All the financial the systems are pretty good at looking at the last 12 months. They’re not very good at producing a five-year report. But I could log on to an SNL Financial database and pull up the last 23 years of history in seconds. And so for the first year I was doing all this reporting that the company had never seen before using public records.

What did you do to improve reporting?

Our business is real time and the first thing we needed was real-time, daily balance sheet data by division, by group. So that’s something we immediately put in place. We created standardized reports, and as treasurer this was important to me because if a customer deposits a lot of money I have to then, probably at the margin, go buy some bonds or deposit more money at the Fed. In the process of doing that I created standardized balance sheet reporting for every division. So I could tell the guys in commercial lending, here’s how you did, the guys from real estate, here’s how you did, the guys from mortgage, here’s how you did. We ended up on the IBM Cognos platform and introduced a series of IBM Cognos executive portals and dashboards, a landing spot for all the financial data.

What else did you do in the wake of the financial crisis to turn the bank around?

When you are struggling as a financial institution, you can only do so much on the revenue side. If the demand isn’t there for your loan products it’s not, no matter how much you want to give away money. But, interestingly, while banks are really good at credit risk and interest-rate risk, in general, they’re really poor at analyzing their own costs on a product basis. So we went through a process, really beginning in 2010 but culminating in 2012, of doing a robust costing analysis.

We conducted time-and-motion studies of the folks in operations. We figured out the 10 things they do and then how long they actually spend — how many minutes each day, each week, or each month — doing different tasks. It has been the basis for what we call an ‘innovative profitability management solution’ that we rolled out, again using IBM Cognos. We took all the data on costing and crunched it using a series of SAS formulas and then published the data as costing variables for all the different functions. For the first time we creating standardized, centralized, product costing information. And we actually have true profitability views of our customers. It comes with a philosophy that we’ve adopted but only recently institutionalized: risk adjusted return on capital.

[RAROC] essentially means not all loans [or relationships] are created equal. There is inherently more risk in a home equity loan than there is in a first mortgage, and commercial loans, depending on what kind, can be riskier still. There are different types of regulatory capital that are applied. We charge the customer capital based on what those rules are, first and foremost. And then we charge additional capital based on the risk of the borrower within that. And then we charge an appropriate cost based on what it costs us to process and maintain this loan [or relationship].

For example, one of the things we discovered was that a national retailer had $25 million to $30 million in account balances every night. And then we peeled back the costing data and found we were getting 250 cash deposits and 250 cash withdrawals by them every day. It turns out that they were telling their store managers, ‘Don’t keep cash in the store overnight.’ So every night the managers would clear out the cash, put it in a little bag, bring it to a branch and deposit it. Then every morning the first thing they did was to withdraw the cash they needed for the registers. They were hitting almost our entire network anywhere there was a branch that was close to one of their stores. If you want cash delivery there’s way better ways to do this than having your people come back and forth to our branches.

Does the product costing information go into what you’re going to charge a business borrower?

Absolutely. That’s part and parcel of the realization that you may have to ‘touch,’ for example, a business line of credit every month at least or every time the collateral swaps out — unlike a real estate loan where you basically don’t have to touch it often. Did the bank factor that into the costs? Did it build in a higher spread or a higher fee to effectively capture that there’s going to be a cost to touch this loan every month?

At the end of the day there’s a regulatory minimum on capital. Those regulatory minimums work out to basically 7 percent. So for every hundred dollars of a loan you need 7 cents of capital against it. You need to earn a minimum return on that capital. By the way, if it’s a higher-than-average risk loan it’s going to be more capital and you need to show me, [loan officer], that we’re going to earn enough on this loan to make it worthwhile or else the answer is just ‘no.’ We need a double-digit return on capital, 10-plus percent. So, [loan officer,] show me how on this hundred dollar loan, net net, if I put 7 dollars of capital on [the balance sheet], you’re going to earn 70 cents. Prove to me that we’re going to earn 70 cents bottom line after tax. And by the way it’s bottom line after tax, because ultimately that’s all our shareholders care about. So we’ve reached the point where we’re delivering a 10.4 percent return, which is where we want to be.

That sounds pretty healthy.

But it’s become increasingly difficult to stay there because the competition for assets today is so fierce. [Post-financial crisis] the borrower had to have personal guarantees, covenants, and all the other things that a banker loves. Now, some banks are starting to forget that they need those things. And they’re starting to say, well, we’ll do without a personal guarantee; we’ll do without a pledge of collateral; we’ll do without the covenants. And for us, that just makes no sense. We recognize that these things come in cycles; we may be unfortunately returning to the frothier point in the cycle, particularly for leveraged loans.

If you have that point of view what do you think of Dodd-Frank?

If you’re disciplined, you know what you’re doing and you’re rigorous in your analysis, you can win with any set of rules. If you’re undisciplined — you don’t know your costs, you don’t know how your business will react — any set of rules will be a challenge for you, right? So as a person who sees himself as disciplined and structured and rigorous, curiously enough, the more rules the better. We’re going to win in that environment.

What kind of headaches are the capital surcharges creating for you right now?

When Associated Bank’s [loan] book shrunk it actually had more capital than it needed. The bank took some losses but it raised capital along the way. It borrowed some TARP money and raised $500 million in equity. We’ve been growing the [loan] book back into our capital. We went back to the markets and we bought back $300 million plus of stock and repaid TARP with a bunch of debt. But we still ended up with incrementally more capital. I also have a less risky book from my perspective because I don’t have as much in the construction bucket, I don’t have as much in the home equity bucket and I don’t have as much in the consumer installment bucket. And my categories are the more granular, traditional categories like commercial real estate and traditional commercial and industrial loans.

So the bottom line is that I’ve never had a capital constraint other than how fast can I give it back. And so we’ve been repurchasing stock conservatively. We’ve also been increasing our dividend for the last four years running and we will probably continue those things until we find acquisitions.

Why haven’t there been more bank acquisitions, now that the economy is recovering?

It’s very clear to us that the regulators have changed [their outlook on bank assets]. It used to be if a [selling] bank had a [regulatory] issue ‘the rest of you circle up and figure out who’s going to take care of the issue and we’ll approve [the buyer that has] the strongest solution for fixing the issue.’ Now if a bank has an issue, it’s a hot potato. Whoever buys it now owns the issue, even though you didn’t originate the issue. If you buy that bank you’re going to own whatever penalty the [Consumer Financial Protection Bureau] or a state attorney general decides should have been paid by [the seller].’

We went into a bank late last year, a small community bank. We said ‘OK, we want to buy this bank.’ Normally we talk about pricing concerns, we talk about revenue trends. A team looked at 100 loan files. In 100 files they found 51 Truth in Lending or RESPA [Real Estate Settlement Procedures Act] violations, essentially disclosure act violations. How do you protect against that? If that’s systematic — and 51 seems pretty systematic — then how do you trust anything else that comes from that bank? So from our perspective the risk of acquisitions has gone up dramatically, which is why we have not been buying.

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