The Securities and Exchange Commission charged Irvine-based Financial Corp. of America on Monday with a wide range of lending and accounting abuses that inflated the firm's earnings from 1980 through 1984 and distorted them in 1985 and 1986.
The SEC complaint was particularly critical of FCA's failure to set aside adequate reserves for loan losses and a controversial--and long-ago discontinued--construction-loan program that sparked dozens of lawsuits by angry borrowers.
FCA settled the complaint without admitting or denying the SEC's allegations. As part of the settlement, FCA agreed to improve its financial controls through closer scrutiny by its outside accountants. It also agreed not to commit similar acts in the future.
FCA's operating subsidiary is American Savings & Loan, the nation's largest S&L. American Savings has nearly $34 billion in assets and 178 branch offices throughout California.
The SEC action comes at a time when FCA is battling the twin curses of rising interest rates and its continued loan-quality problems--conditions that have caused heavy losses recently. FCA's capital level is $928 million below federal regulatory requirements.
The SEC complaint represented a critique of the company's management practices under Charles W. Knapp, who was chairman and chief executive of FCA from 1975 through August, 1984. He was ousted by federal savings and loan regulators, who objected to FCA's loan practices.
SEC attorney Juan Marcel Marcelino would not comment on whether Knapp is under investigation. But he confirmed that "certain aspects" of the SEC probe are continuing. He declined to elaborate.
Knapp, still the target of shareholder litigation for the way he ran FCA, now operates his own investment banking firm in Los Angeles. Though not available for comment Monday, Knapp said in a statement: "We are pleased with the outcome (of the investigation), which appears appropriate since it required no penalty."
According to William J. Popejoy, Knapp's successor as chief executive, FCA's past lending practices are being investigated by seven grand juries around the country. He also noted that FCA has spent more than $4 million on its own on investigations of past lending policies.
The SEC also criticized the accuracy of FCA's quarterly earnings reports in 1985 and 1986--years when Popejoy was in charge. The SEC objected because so much of the loan-loss reserves in those two years--almost $650 million--were added in the last three months of each year. The timing is important because additions to reserves cut into quarterly operating profit. Thus, although the year-end loan-loss reports were accurate, the SEC indicated, the quarterly reports were not, a condition the commission blamed on "inadequacies in FCA's accounting systems and internal control procedures."
FCA viewed the settlement as positive, saying it did not hurt the firm financially and represented an end to all "pending investigations" by the SEC.
"This is a big burden off our back," Popejoy said in a telephone interview. "This has taken thousands of man-hours and hundreds of thousands of dollars in legal fees."
The SEC did not require FCA to restate its profit because the government agency was not able to quantify the total amount that would need to be restated, SEC attorney Marcelino said. The SEC did, however, note that the accounting treatment on certain construction loans inflated earnings by a total of more than $20 million in 1980 and 1981.
A spokesman for FCA said a restatement is not necessary now because earlier abuses have been accounted for in subsequent additions to reserves.
Though the SEC complaint did not mention Knapp by name, it focused largely on loan and accounting practices during several of the Knapp years, when FCA grew from an obscure savings and loan into one of the nation's biggest financial institutions.
In one case, according to the complaint, FCA's staff and its outside accounting firm of Arthur Andersen & Co. recommended a loan-loss reserve balance of $147 million at the end of 1983.
But FCA slashed the recommended level to $98.3 million, a reduction based in part on "unsupported and unreasonable changes in certain assumptions and amounts used in the initial calculations," the complaint said. FCA earned $172 million in 1983, an industry record at the time.
The SEC also said FCA misstated earnings in 1980 and 1981 because of its highly profitable but controversial "buy-sell" construction-loan program. It was this program that helped FCA to report large profits in the early 1980s, when most S&Ls had quit making construction loans and were posting heavy losses because of soaring interest rates.
Here, according to the SEC complaint, is how a typical buy-sell agreement worked: If a developer held a $700,000 option to buy a piece of property, FCA would step in and buy the real estate for that price. It would then turn around and sell the property to the developer for $900,000.
The developer, in turn, would get his acquisition and construction loan from FCA, while FCA would reap an immediate profit from the sale of the property, plus hefty loan fees. But the program soured after soaring interest rates sent the construction loans into foreclosure.