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FirstFed plans stock sale in bid to avert government takeover

The thrift has been battered by losses on its risky mortgages. Its proposed offering comes as bottom-fishing investors are showing interest in troubled lenders.

October 03, 2009|E. Scott Reckard

FirstFed Financial Corp., battered by losses on its portfolio of risky mortgages, is pursuing a plan to sell stock to the public in a last-ditch bid to avert a government takeover of the Los Angeles-based savings and loan operator.

The proposed stock offering by the parent of First Federal Bank of California comes as bottom-fishing investors, betting the economy is improving, are showing interest in troubled lenders.

But few banks have endured a year as bad as that suffered by FirstFed, the second-largest California-based thrift. That makes the company's plan to sell stock extremely ambitious, analysts say.

"I don't know if it's the most audacious plan" ever to raise capital, said banking analyst Timothy Coffey at FIG Partners in San Francisco, "but it has to be near the top."

First Federal, based in Santa Monica until a recent move to cheaper digs near Playa Vista, survived the S&L industry meltdown in the 1980s by specializing in adjustable-rate mortgages that bent traditional lending rules.

That kind of mortgage, known as an option ARM, allowed a borrower to regularly pay so little for several years that the loan balance actually rose. And FirstFed often waived the requirement for applicants to produce pay stubs or other proof of income.

Option ARMs were widely available in the housing boom but have been a disaster in the bust. They have been blamed for the demise of Newport Beach's Downey Savings and the near-collapse of mortgage giant Countrywide Financial Corp. of Calabasas as well as the country's former fourth-largest bank, Wachovia Corp.

With FirstFed bleeding red ink since the start of 2008, regulators early this year barred the bank from making new loans. Its stock traded Friday at 42 cents a share, down 95% in the last year. It peaked at $69.23 a share in early 2007.

Nonetheless, shareholders voted by a two-thirds majority this week to authorize the issuance of more shares and a reverse stock split, two conditions of a stock offering.

Chief Executive Babette Heimbuch acknowledged that if the share sale failed, regulators' patience would run out, making it likely that the bank would be seized and its 39 branches -- mostly in affluent coastal areas of Southern California -- sold to the highest bidder.

On Wednesday the bank missed a deadline set by regulators to raise new capital, but they are letting the bank try its plan to sell stock, Heimbuch said. The regulators declined to comment.

FirstFed has retained an investment bank, which it won't identify, to handle the offering, but it has no timetable to file the required paperwork with the Securities and Exchange Commission before a sale of shares can take place, Heimbuch said.

Regulators have not specified a dollar amount of new capital to be raised, instead saying the S&L must improve its capital ratios -- the size of its financial cushion against losses relative to its loans and other assets.

Banking consultant Bert Ely estimates that FirstFed needs to raise $250 million. Because the company's shares outstanding are worth only $5.7 million, selling that much new stock would reduce the stake held by the company's current shareholders to just 2.2% of the company.

That also means the buyers of the new shares would own practically all of its stock and thus control the company.

FirstFed had $6.3 billion in assets at the end of June, making it the No. 2 California-based thrift as of June 30, after Pasadena's OneWest Bank, with $17 billion in assets. OneWest was created this year when a private equity group bought the remains of failed IndyMac Bank from the Federal Deposit Insurance Corp.

FirstFed invited some major private equity investors to consider buying it this year, but they declined.

Many potential buyers might prefer to let FirstFed fail and then buy its branches and deposits from the FDIC, though not necessarily its loans, Ely said.

Heimbuch contends that a stock offering would broaden the pool of potential buyers to include private investors that aren't big enough to buy a bank directly from the FDIC but see a chance to own part of a lender at the bottom of the market.

Since being barred from making new loans, FirstFed has worked to clean up its portfolio by offering modifications to borrowers that would allow them to keep making monthly payments, Heimbuch said.

At the end of August, FirstFed reported holding $5.8 billion in loans, of which nearly $2 billion were mortgages on apartment buildings that so far have not created problems for FirstFed.

About $450 million of the loans were single-family mortgages written off as uncollectable -- loans that were continuing to drain capital as they sank into foreclosure, Heimbuch said.

But she characterized those as the last big slug of troubled mortgages at FirstFed, which stopped making the riskiest types of home loans in late 2005, much earlier than most rival home lenders.

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