CRE Skeptic's  Instablog

Intervest Bancshares Corp (IBCA) has among the lowest stock prices relative to its tangible book value per share of any significant bank in the United States.  Furthermore, unlike most other banks trading below tangible book, IBCA in the course of this recession has lost money only in the most recent quarter.   And there’s been little change since 2006 in the number of shares outstanding.  So Intervest seems cheap, based on conventional measures.

Intervest is a little different from most other small banks.  It’s got just seven branches:  one in New York’s Rockefeller Center and six others in Florida.  And Intervest’s loan book is more than 99% commercial real estate loans - 35% multifamily apartment buildings and 64% other commercial real estate. 93% of these loans are in the “tristate” New York / New Jersey / Connecticut area or in Florida, regions badly affected by the credit crunch. 

This geographic tilt manifests itself in their credit quality performance:  At year-end, 7.6% of Intervest’s multifamily loans were in nonaccrual status, versus a national average of 4.4%, according to WLMlab Bank Loan Performance.  Similarly, 5.5% of their CRE loans were in nonaccrual status, versus a national average of 3.45%. 

Given this nonaccrual situation, one might expect that Intervest has provisioned heavily against the possibility of losses on foreclosure of the delinquent loans and sale of the properties.  But their allowance for loan losses at the end of Q1 2010 was only 1.94% of net loans, and their nonperforming assets are a startling 545% of their loan loss allowance.  Traditionally, a 1:1 NPA coverage ratio has been seen as the norm for a bank.  Troubled CRE loans can take a long time to work out, relative to most other forms of bank loan.  Furthermore, the banks’ logical course of action is often to restructure a troubled loan.  If IBCA’s lending turns out to be strong, then it’s provisioning may well be adequate.  The challenge is the length of time required to find out the answer.

Thriving banks pay for their – inevitable – losses out of the margin they make in their businesses, either from lending margin or noninterest income.  However, IBCA’s net interest margin was only 2.23% in Q1 2010.  In large measure this is because of the lack of a branch infrastructure, which forces them to fund themselves with brokered and internet-originated deposits. Intervest generates almost no noninterest income other than loan prepayment penalties, so this isn’t a source of income that it might be elsewhere.

These facts may have attracted the attention of their regulators.  IBCA has been operating under a memorandum of understanding with the OCC since last April.  While an MoU is milder than a “cease and desist” order, usually the last step before seizure, this MoU requires them to do a number of things, including agreeing to “improve credit risk management processes … implement a three-year capital program  … and revise INB’s interest rate risk policy”, none of which inspire confidence. 

Furthermore, the OCC required IBCA to maintain higher than standard capital ratios:  9% Tier 1 capital to total average assets (leverage ratio); 10% Tier 1 capital to risk-weighted assets; and 12% total capital to risk-weighted assets.  The minimum leverage ratio for a well-capitalized bank is 3%, and 6-8% is currently considered normal.  These ratios mean that Intervest is severely limited in its ability to make new loans, further limiting its ability to earn its way out of the problem. Finally, it is instructive to take the current pipeline of troubled assets and see what would happen if the regulator or accountants decided to tap IBCA on the shoulder and force them to get rid of the them.  Assuming minimal haircuts of 15% for OREO assets and 25% for other NPLs (including Troubled Debt Restructurings) would result in a hit of over $60mm.—a hit that would likely cause IBCA to violate the capital requirements agreed with the OCC.

Has IBCA been kicking the proverbial can down the road?  Only time will tell, but one need only look at First Bancorp (FBP) to see what happens when a bank is ultimately forced to realize losses on a growing portfolio of impaired assets.