Lessons from a Community Bank Turnaround: Capital is King

July 2014

Lessons from a Community Bank Turnaround: Capital is King

This is the story of how a Seattle community bank on the brink of failure in 2009 turned itself around, went public despite the odds, and is now positioned for growth. HomeStreet Bank’s five-year odyssey offers lessons for community bank CEOs everywhere.

And they begin at the top, with turnaround CEO Mark Mason, a 28-year banking veteran. Regulators had already deemed the bank troubled when the board appointed him to run the floundering bank in 2009. Classified assets had hit $760 million, the bank’s Texas ratio was at 160.7 percent, and its net interest margins was 1.04 percent. The bank was under an FDIC cease and desist order, and it had to get its Tier 1 Capital ratio to 10 percent, or risk closure.

“When I was interviewing for the job, I told the board what I thought I could do,” Mason recalled. “I said I would recapitalize by taking the bank public.”

Most investment bankers had told him it wasn’t possible. He proved them wrong. After two failed attempts, the bank closed its IPO in February 2012, yielding net proceeds of $88.7 million. The FDIC removed the bank from its troubled bank list.

Mason was experienced at turning around troubled banks, and the problem asset levels didn’t intimidate him. He saw a bank with high quality, long-tenured employees, strong management and the potential to generate income to pay for the bank’s losses.

He quickly came to the conclusion that the bank’s woes were “a story of unintended consequences,” not poor management, all centered on residential construction. The bank had been around for 90 years, and even had the distinction of being Fannie Mae’s oldest continuous lending relationship.

Ironically, the loans that got into trouble weren’t no-doc loans or subprime. The bank’s conservative board and management had stayed clear of such loans. Instead they committed too much capital, as it turns out, to home builders. “They breached the cardinal rule of diversification,” Mason said.

He helped the bank grow its mortgage business four-fold. When MetLife announced it was closing its home loan division in 2011, HomeStreet recruited its lenders and operations staff in the Pacific Northwest. Today it is the largest purchase mortgage originator in the region, surpassing Wells Fargo in recent quarters.

From the start, Mason maintained close contact with the bank’s regulators. “They are your primary constituents. They determine how much time you have,” he said. “To create credibility, you must be transparent.”

He met monthly with the regulators and developed a reasonable plan to turn the bank around. He kept in touch to show them how he was progressing and made sure they never heard a “surprise” from someone else. He has maintained close relationships with his state and federal regulators, speaking with the FDIC several times a quarter and meeting in person with the regional director at least twice a year.

“For a leader, you must be supremely confident. You are absolutely convinced of success,” he said. “Everyone around you thinks you are going to fail, including the regulators.”  The big challenge is to maintain and improve the bank’s capital ratios. He says you can do that, even if you lose money on assets, because capital is a ratio. But don’t forget revenue, he cautions.

He also made sure he retained the bank’s special assets staff. He had to convince them that in a turnaround situation, with falling asset values, the most important thing is the speed at which you get rid of the assets, not the price you get for them.

“Get rid of assets quickly, and move on,” he advises.

That’s not as easy as it sounds, Mason notes, because special assets people view success differently. So he celebrated velocity.

He made sure he had the right leadership in the bank’s business segments. “It’s easy to say hire the right people. Great people go where they are attracted. Understand who you are trying to attract and how to be attractive,” Mason advises. 

And he was aggressive. “Don’t be afraid to take risks. Not just credit risks, capital risks, risks with opening offices, risks with expanding. If you have the right people, you’ll largely be successful.”

In the fourth quarter of last year, HomeStreet Bank acquired two banks. Its long-term strategy is to establish a significant mortgage banking share through the opportunistic hiring of high-performing teams of originators in existing and new markets. Mason wants to grow the traditional bank business by following mortgage expansion.

Today the bank has $3.1 billion in assets and its pro forma net income was $2.8 million in the first quarter, excluding acquisition-related expenses.  For the long-term,  Mason is aiming high—he plans on  an ROE of more than 15 percent, once growth is stabilized.

Key Elements of HomeStreet Bank’s Turnaround Strategy
  1. Improve and maintain superior regulatory relations. Be transparent and meet monthly, in person, if possible, to review the bank’s performance and its forecast. Don’t allow surprises.
  2. Retrain the bank’s workout and REO personnel. Maximize speed, not recovery. Do the hard things, but be flexible when necessary. Take deeds in lieu to speed resolution.
  3. Parallel track foreclosure and negotiation.
  4. Remember that capital is king. Maintain and improve capital ratios, no matter what. Sell assets at a loss, so you can improve asset quality and capital ratios.
  5. Develop the people you have. Challenge them to figure out how to meet your ever-increasing expectations.
  6. Create a reasonable but aggressive plan and set achievable goals. Then set the next round of goals even more aggressively.
  7. Don’t forget revenue. Cost-cutting won’t turn around a company, but improving and expanding existing businesses will. Figure out the missing pieces.
  8. Exhibit confidence.  

HomeStreet By the Numbers

Dec. 31, 2009

Dec. 31, 2013


1.04 percent

3.17 percent

Non-performing assets

$482 million

$38.6 million

Net Income (loss)

$(110.3) million

$23.8 million

Classified assets

$570 million

$51 million

Total assets

$3.21 bllion

$3.07 billion

Tier 1 Leverage Ratio

4.53 percent

9.96 percent