The Bancorp (TBBK): Another “Extend and Pretend” Loan To Avert a 1Q 2018 Loss

Postscript: June 29, 2018

The following sequence of events revolving around a single sale of a note made to a now bankrupt LLC is indicative of the shady way The Bancorp (TBBK) had handled the disposition of its commercial loan portfolio set aside as a discontinued operations three and a half years ago.

First, on April 27, 2018, The Bancorp announced that it had reached an agreement to sell a construction loan note due from a now bankrupt LLC.  The new buyer agreed to pay the bank the full principal of the loan, but this offer was likely made possible by the fact that the bank financed the purchase by taking new notes from the buyer.  In making the announcement, the CEO Damian Kozlowski said

“There was a lot of interest and value in the property”

implying that they did their due diligence and this was the best deal they could get.

Then, less than a month later on May 16, 2018, the bank abruptly announced in an 8-K the termination of the agreement.

Now, a month later on June 29,2018,  two days before the end of its 2Q18, the bank announced once again the sale of the note.  But,  this time the buyer paid all cash without bank-financing, but bought the note at a $1.9 Million mark-down from its principal, meaning the bank would be taking an equivalent $1.9 Million loss on sale.

Was this latest buyer involved earlier?  What might have changed in the last month to induce this new buyer to pay all cash?

Postscript: May 17, 2018

After The Bancorp’s annual shareholder meeting on May 16, 2018, the company filed a  Form 8-K announcing the termination of the loan discussed at length in this paper.

We can can only speculate that it was the new buyer who got cold feet and backed out, given the spate of lawsuits filed by lawyers representing Chinese EB-5 investors .

Below is the announcement.

The Company reports the termination of the previously-announced sale of a $36.9 million non-performing loan, which is collateralized by a hotel under construction and a parking lot in Florida. The loan became delinquent in the first quarter of 2018 and the borrower, a development corporation, subsequently declared bankruptcy. Based upon an independent first quarter 2018 appraisal, the loan to value is approximately 80% on an “as-is” basis, with personal guarantees of certain of the borrower’s principals.  The Bancorp Bank, the Company’s wholly-owned subsidiary, is pursuing collection and the Company currently believes that there will be no loss of principal.

Summary (originally published on May 2, 2018)

On March 7, 2018  two Florida LLCs filed for Chapter 11 bankruptcy to stave off foreclosure by The Bancorp (TBBK) on a $38 Million construction loan for a hotel in Ft. Lauderdale.

In an April 8, 2018 paper, we predicted that the bank would show a loss on its 1Q 2018 financials based on our estimate of an additional 20% mark-down of the troubled hotel construction loan.

However, literally “at the 11th hour” on April 26, 2018 on the night before TBBK announced 1Q2018 earnings, the bank signed a purchase agreement to sell the troubled loan with no loss due generous bank-financing coupled with a pre-packaged bankruptcy that subordinated other lenders to the LLC.

These other lenders were 60 Chinese investors contributing $500,000 each to gain priority status for a permanent residency visa under the controversial EB-5 program.

The new loan is still troubled due to uncertainty as to how much money is needed to complete the hotel plus lawsuits filed on behalf of the now subordinated Chinese EB-5 lenders.

As we have been saying in various papers over the past four years, The Bancorp still has continuing problems with its discontinued operations.

Disclosure

We have received no remuneration for this paper. We have never received any remuneration for any of our 6+ papers about The Bancorp’s “continuing problems with its discontinued operations.”  

Our financial analysis is often directed toward deceptive accounting practices of corporations.  But, it is against our nature to talk to, or work with opportunistic lawyers suing corporations.

We do not currently have a position in the Bancorp’s stock and do not intend ever to take a position in the stock.   Information in this paper, including forecast financial information, should not be considered as advice or a recommendation to investors or potential investors in relation to holding, purchasing or selling securities.

A Recap of The Bancorp’s Continuing Problems

The Bancorp (NASDAQ: (TBBK) is a publicly-held Philadelphia regional bank with a diversified loan portfolio.  It is also known for being one of largest issuers of reloadable prepaid debit and gift cards in the country.  

On October 31, 2014, The Bancorp announced that it was discontinuing its $1.2 Billion commercial lending operation.  It set aside this portfolio on its balance sheet, claimed it was marked-to-market, and that it was actively seeking buyers.  Since that announcement, the bank has had considerable trouble selling off the most troubled segments.

We have written a number of papers since early 2015 detailing “continuing problems with its discontinued commercial loan operations.” There have been two basic points we have tried to make:

• The portfolio was not fairly marked initially because “fairly marked assets sell fairly quickly.”
• Once the bank began to take additional markdowns, the hits to equity brought it close to going below the Dodd-Frank standard of a “well-capitalized bank.”

A full recap of The Bancorp’s problems can be found in our paper  “The Bancorp: ‘An Extend and Pretend’ Loan Operation That Will Never End”

The Bancorp’s Problems Continue into 2018

On March 7, 2018  two Florida LLCs filed for Chapter 11 bankruptcy to stave off foreclosure by The Bancorp on a $38 Million construction loan for a hotel in Ft. Lauderdale.

The unfinished Las Olas Ocean Resort at 550 Seabreeze Boulevard in Ft. Lauderdale, Florida.

We presented a detail account of this problem loan in our April 8, 2018 paper The Bancorp (TBBK): Will a Florida Hotel Loan Default Ruin Its 1Q18 Financials?

In that paper, we predicted that the bank would show a loss on its 1Q 2018 financials based on our estimate of an additional 20% mark-down of the troubled hotel construction loan.

After the market closed on Thursday April 26, 2018, what actually happened was that TBBK reported net income of $14.1 Million with no apparent negative effect from its discontinued loan operations in general nor from the troubled hotel construction loan in particular.

Based on summary financials, TBBK’s stock soared when the market opened on Friday April 27th…for the first hour.

After that,  the stock began to fall from an intraday high of $11.60 to close at $10.96 for a 5.8% decline.  The next day another 5.3% decline was tacked on.

What had happened was that institutional investors did not like what they heard on the call or read about a day later when the transcripts of the call were published on-line.

TBBK’s 1Q2018 Conference Call and Press Release

CEO Damian Kozlowski started the April 27th conference call, proudly claiming “..the first quarter was a great start to a new year”.   (The conference call has been transcribed and made available by Seeking Alpha.)

This statement was certainly justified given the summary financials disclosed the night before in a press release indicating a positive net income of $14.1 including a small net positive income of $156,000 from the discontinued operations.  

But, then CEO Kozlowski unexpectedly announced that a purchase agreement had been signed for the troubled loan collateralized by the unfinished hotel.

This was a quick sale all the way around —  just two months after the bank foreclosed and just one month after the borrower filed for bankruptcy. (See timeline below from our previous paper) :

CEO Kozlowski even revealed that the purchase agreement was signed just the night before,  just in time to deflect any concerns about the impact of the troubled loan on future profits.

“Last night, we signed a purchase sale agreement for the full principal amount and that transaction should close this quarter. So that’s good news on the credit side.”

“There was a lot of interest and value in the property. We are glad to in the last moment before we had this call to have a purchase sale agreement signed.”

Later on in the conference call,  CEO Kozlowski gave a rather confusing answer to an analyst’s follow-up question about the bank-financing of the loan sale.  

Matthew Breese

Understood. Now that’s very helpful. Okay. And then the hotel property with the purchase agreement, what was the size of that?

Damian Kozlowski

$38 million. Yes, there is a big loan in discontinued. We are working with the purchaser, so what will happen is about 18 million will come off, we will provide credit and that credit is not only going to be backed by all the collateral, but also additional guarantees by the purchaser. So it’s going to be a safe loan. We will go down about 13 million and then we will have a bridge loan in place for the acquirer if that will be extremely low risk.

Matthew Breese

Okay. 38 out of discontinued and then?

Damian Kozlowski

I’m not sure where you will put the 25 million, but the delinquency will end. So you will see that come off. You will see it go down by approximately 13 million and then we will have a new loan. I think it probably will be booked in discontinued, but it will be a safe and sound, it will be we believe a very safe loan.

It’s only up to a year, it’s only as a combination for them to finish and reposition the property. The people who are buying the property are extremely experienced and have great knowledge of the marketplace and knowledge of the hotel industry and they are and we are very excited and so is the town I think of Fort Lauderdale that they have decided to build the property.

Matthew Breese

Okay. And so that in combination with the mall, and we are looking at over the next six months potentially something like a 70 million coming out of discontinued right?

Damian Kozlowski

Well, yes 15 from the loan, 37, 38 from the hotel.

Matthew Breese

Okay, okay. Sorry my numbers are a little off there.

Reconstructing The Loan Financing and Cash Requirements of New Borrower

Based on the conference call exchange quoted above, here is how we saw the agreement:

Why would someone pay full value for this loan to a bankrupt LLC?  For one, it was completely financed by the bank.  But, more importantly, it turns out that the LLC and The Bancorp negotiated a pre-packaged bankruptcy filing that subordinated $30 Million in investments from other lenders.

This comes from a post by Vernon Litigation group representing those other investors.

Besides the $50 Million loan from The Bancorp less $13 Million unfunded balance, the bankrupt LLC received, and presumably already spent an additional $30 Million from so called EB-5 Chinese investors.  The EB-5 program gives priority status for immigrants applying for permanent residency visas if they invest at least $500,000 in a U.S. jobs creation project.

The Vernon Litigation Group found court documents indicating that the LLC bankruptcy was pre-packaged with clauses that “would subordinate or eliminate the debt owed to EB-5 investors”

Here is the full explanation:

“Perhaps the most troubling issue at hand, according to the Court Documents filed in Florida District Court last week, is the allegation that the EB-5 project principals Ken Bernstein, Eugene Kessler, and Jack Kessler allegedly proposed a plan to eliminate the investment made by foreign investors. Specifically, the 550 Seabreeze project principals allegedly sought the Lender’s support for a pre-packaged bankruptcy that would subordinate or eliminate the debt owed to EB-5 investors. In other words, under this plan allegedly proposed by the principals, investments made by the foreign investors through the EB-5 project could be effectively erased.”

Below is our estimate of the cash needed by the new borrower to finish the estimated 20% remaining to complete hotel,  and to complete the bankruptcy proceedings including a settlement with the now subordinated EB-5 investors.  The estimate also includes the payoff of a reportedly outstanding $5 Million construction lien.

An Estimate of Future Losses on TBBK’s  Discontinued Operations

Based on its 1Q18 financials, the Bancorp can be expected to produce a quarterly net profit on continuing operations of around $14 Million.

To his credit, CEO Kozlowski has introduced a level of transparency to the quality and accumulated markdowns of loans remaining in its discontinued operations.  Below is our summary of the lastest disclosure found at the bottom at TBBK’s 1Q18 financial PR referenced earlier:

At the very end of the 1Q18 financial PR, the bank was forthright in disclosing early on a new problem loan:

Despite an ethic of transparency brought to the bank by CEO Kozlowski in mid-2016, we still question whether TBBK has adequate reserves to cover future loan delinquencies followed by borrower bankruptcies. We believe the bank when it says that current markdowns are according to GAAP.  But normal GAAP markdowns might not be sufficient to cover future markdown on the garbage left.

The bank has spent the last four year selling off the best pieces to other banks in the Mid-Atlantic region. In 2Q15, loans totaling $150 Million were “cherry-picked” by the Cape May Bank, NJ ($102M) and another unidentified bank.  In 3Q16, a loan package of $65 Million was “cherry-picked” by the First Priority Bank, Malvern PA.  

The rest no bank would touch without requiring The Bancorp to take a considerable loss on sale which would jeopardize their status as a “well-capitalized” bank per Dodd-Frank.

In addition, at least $300 Million in loans have come off the books as borrowers with low loans to values have been able to refinance at lower interest rates at other banks. What remains are likely “underwater” loans (loans to value > 100%) and “extend and pretend” loans featuring interest only payments with a large balloon payment at the end.

We estimate below that over the next two years, there might be as many as three quarters where TBBK would have to book additional markdowns whose size would cause an overall loss on their quarterly P&L.  

During the 3Q16 conference call, the new CEO Damian Kozlowski sought to reassure rattled analysts by claiming,

“We believe this (markdown) is not systemic. We believe this is a one-time item.”

At the end of this unusually long and testy 4Q16 conference call with analysts (a first!), CEO Kozlowski wearily pledged,

“I want to wind it down as quickly as possible…”

The year 2016 was a bad for investors in TBBK (see chart below) as the new CEO broke through the denial and booked additional markdowns.

Obviously, the CEO must have received a lot of criticism from the Board.  Maybe the criticism got to him as there were no major additional markdowns in 2017 and the stock more than doubled.

We do not believe that the mid-2016 Damian Kozlowski would have allowed the troubled loan sale to be rushed through at literally “the 11th hour” to avoid concerns about possible markdowns.  

He must be worn down with the clean-up of the “extend and pretend loan operation that will never end”.  

He must be tired of the “test the limits of GAAP” ethics of TBBK’s  Chairman Daniel G. Cohen and his cronies that make up a majority of the Board.  (See our accounting paper The Bancorp: A Test for Post-Enron GAAP)

 He is too good of a bank executive to be stuck dealing with problems created before his arrival.  It’s time to GET OUT!!!