Will First Mariner Bancorp (FMAR) be the next small bank to go bankrupt?

My bet is yes, this small Maryland bank will in the near-future go bankrupt.

Weak Balance Sheet  

The bank has equity of $72.7M (all figures as of 12/31/07). That thin bit of equity is supporting $1.244 billion in assets and $1.171 billion in debts. Thus the bank is leveraged 1,711%, that is to say assets are more than 17 times equity. This in turn means a decline in the value of its assets as of 12/31/07 of 5.88% would wipe out all of the bank’s equity and likely leave the bank’s stock worthless. A decline of less than 5.88% could still render the bank in violation of regulatory minimum capital ratios.

I wonder if such a decline hasn’t already happened so far this year.

The bank has $134.5 million in residential construction loans to businesses and $91.4 million in residential construction loans to individuals at average interest rates of 7.9 and 8.3% respectively. These high interest rates indicate the loans were fairly risk when they were taken out. I would expect a very high percentage of these loans will fall into default as the residential real estate market in Maryland is very weak right now.

The bank has $292.6 million in commercial mortgages. As consumers cut bank on spending, retailers curb expansions and close down underperforming stores I think this aspect of their portfolio will also perform poorly. The average interest rate on these loans is 7.4%, again indicating that these are less than stellar borrowers.

Used Boat Loans

The bank also has $188.4 million in consumer loans at an average rate of 13.5%. Again this very high interest rate indicates these are less than stellar borrowers. According to the company, some of these loans are “originated though direct mail solicitation,” “unsecured” or secured by “new and used” cars and boats(!!!).

 

Would you say that soliciting loans via junk mail, and then extending loans to people with bad credit (@13.5% APR) with the only security being a used boat or a used car is a sound banking practice? Do you think that high-interest used car and used boat loans will perform well during a recession?

I don’t, but FMAR thinks these loans will perform stupendiously. While it has hundreds of millions of dollars worth of these junk loans, it has only set aside $12.8 million in allowances for loan losses, or 1.50% of its loan portfolio. Non-performing assets meanwhile rocketed up from 0.52% of assets at the end of 2006 to 3.48% at the end of 2007. Non-performing loans are 5.01% of all loans at the end of last quarter compared to 4.27% at the end of Q3. Additionally it is the bank’s practice to count loans as “performing” if the borrower is currently making payments but is 90 days or more behind in payments. Since I doubt these past-due amounts are written off, this would seem to indicate that past-due payments by such borrowers are counted as performing assets (as interest receivable).

The bank also owns $55 million in mortgage-backed securities. Some portion of these are GSE securities, but it is not possible to tell from the company’s financial statements what portion of these are increasingly worthless private label securities and what portion are GSE MBS, which have also suffered in value but much less so. If you assume a 60/40 split in favor of GSE then the company will probably report suffering a loss of $5 to $15 million on its MBS portfolio.

Shaky short-term financing?

FMAR discloses several short-term sources of capital. Given the current liquidity crisis FMAR’s lenders may ask it to repay these loans rather than allow it to roll them over, potentially forcing the company into default and/or bankruptcy. FMAR’s short-term debt include loans includes commercial paper and “a mortgage warehouse line of credit secured by certain loans held for sale.” Such an event might cause the bank to go out in a bang, like Bear Stearns or Thornberg Mortgage. More likely in my opinion is the bank goes out in a whimper over the few quarters as losses from bad loans mount.

Either way, I like FMAR as a short play.