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This past Friday the FDIC seized 3 more banks to bring the total for 2009 up to 20. What are the telltale signs that a bank is on the brink? Citron believes that International Bancshares (NASDAQ:IBOC) is doing more than just giving signs; it is screaming out that something is really wrong Deep in the Heart of Texas.

Loans on the Books

When analyzing any bank you have to start with the loan portfolio. Below is the loan breakdown on IBOC:

From 2004-2008, almost all of the growth of IBOC’s book of business is construction lending, with the greatest increase occurring in 2006 and 2007, obviously the high-water mark of the real estate bubble. Commercial, mortgage, and consumer loans are actually down from 2004. What is even more alarming is that 73% of these construction loans — nearly $1.4 billion, mature in the next 12 months.

December 31,

2008

2007

2006

2005

2004

(Dollars in Thousands)

Commercial, financial and agricultural

$

2,574,247

$

2,426,064

$

2,337,573

$

2,376,276

$

2,710,270

Real estate—mortgage

888,095

798,708

785,401

847,512

960,599

Real estate—construction

1,911,954

1,835,950

1,404,186

901,518

749,689

Consumer

169,589

190,899

198,580

218,607

229,302

Foreign

328,948

285,008

309,144

281,947

239,622

Total loans

5,872,833

5,536,629

5,034,884

4,625,860

4,889,482

Unearned discount

(1

)

(74

)

(168

)

(508

)

Loans, net of unearned discount

$

5,872,833

$

5,536,628

$

5,034,810

$

4,625,692

$

4,888,974

Maturing

Within
one year

After one but
within five years

After
five years

Total

(Dollars in Thousands)

Commercial, financial and agricultural

$

760,911

$

1,642,972

$

170,364

$

2,574,247

Real estate—construction

1,394,919

498,448

18,587

1,911,954

Foreign

214,830

107,806

6,312

328,948

Total

$

2,370,660

$

2,249,226

$

195,263

$

4,815,149

In order to compare apples to apples we thought it would be fair to make some comparisons to another regional bank in Laredo/San Antonio region, Cullen/Frost Bankers, known as Frost Bank (NYSE:CFR)

CFR has grown their loan balances across all areas with no measurable concentration in construction loans. In stark contrast to IBOC’s exposure, which is over 250% of tangible book value, CFR’s construction loan balance is less than 100% of tangible book value. Next, note that CFR’s allowance for bad debt is 10% of its construction loans, compared to IBOC, which has reserved at a rate of only 3% on its construction loans.

Of even greater concern, Citron examined the publicly-traded institutions that took between $100 million and $500 million of TARP funds, a group of 43 companies. We found one startling statistic: IBOC had the highest ratio of construction loans to total loan portfolio, and yet they had lowest loan loss reserve rate for that loan class.

Assessing the market

Especially in light of IBOC’s severe lack of disclosure (see below) investors are left to judge the financial health of IBOC on their own. Naturally, attention turns to the underlying conditions of the real estate construction market in the bank’s specific region. Don’t take our word for it, just last week the Texas Fed declared the state is officially in a recession.

And if you think it does not affect Laredo, just listen to the local news.

Wikipedia lists construction projects in Laredo, Texas. Citron called the local Chamber of Commerce in Laredo — EVERY single one of the proposed/under construction projects listed in Wikipedia above has been cancelled or postponed.

Here is one project for which IBOC is lead lender that just went into foreclosure a few weeks ago.

Here is another major construction project funded by IBC that went into foreclosure also last month.

Lastly, here is a project where IBC was the largest creditor and they ended up purchasing the project themselves out of foreclosure.

If Citron was able to find these with a simple Google search, imagine what else is really out there? Citron suggests that IBOC management will not likely part with this information voluntarily. Company management does not host conference calls, and the detailed disclosure about its loan portfolio is seriously deficient, especially in the midst of the financial environment of 2009.

Management:

Criticisms of the company’s practices, and in particular, the extravagance of the CEO’s expenditures including Citation jet and high salary, have come from places as near as their local newspaper.

Largest shareholder and director Tony Sanchez is extremely influential in the operations of the bank. Incredibly, he was also the head of Tesoro Savings and Loan, which folded in 1988, leaving taxpayers with $160 million bill.

While the company took $216 million of taxpayer money during the last week of November, Sanchez, along with the CFO Imeldo Navarro, cashed in close to $20 million worth of stock in the following 3 weeks. The insider dumping has been ruthless as recently as March 5, where Sanchez registered and began selling 800,000 shares of stock, at the low of the market. Citron is incredulous that companies accepting TARP money can allow their insiders to dump stock on the market in the same month …but we don’t make the rules.

Additional Red Flags to Consider – Disclosure Failures

  • Large amount of related party loans — $79.4 million as of IBOC’s recent 10-K
  • No disclosure of the breakdown of their loan portfolio
  • Company does not hold any conference calls
  • No Analyst Coverage

Conclusion

The obvious question of the day is what impact the new Treasury troubled asset program will have on IBOC’s untenable situation. In the opinion of Citron, the new program only accelerates the day of reckoning for IBOC’s “living-in-denial” strategy. The new program brings price discovery to bad assets, and IBOC has not even begun the process of disclosing the writedowns that would threaten its solvency. Meanwhile, while investors look to datapoints like the status of commercial construction projects in Laredo, insiders keep stamping out stock sales.

It is unavoidable that someone at IBOC has a lot of explaining to do, but if history repeats itself, don’t expect an explanation from the company. When in doubt, follow the money. It flows from the taxpayers’ of the United States, through the “black hole” of the bank’s balance sheet, and directly into the insiders’ pockets via their relentless insider stock sales. The money flow is the clearest “tell” of all — from those who really know what is happening Deep in the Heart of Texas.

Cautious investing to all.

Disclosure: Short IBOC

Source: Bank on the Brink: International Bancshares