Franklin Federal Sav. Bank v. Director, Office of Thrift Supervision

• Decision Date: 12 March 1991
• Docket Number: No. 90-5971,90-5971
• Citation: 927 F.2d 1332
• Parties: FRANKLIN FEDERAL SAVINGS BANK; Franklin Financial Group, Inc.; George O. Haggard, Jr.; Ben B. Jarnagin; Richard C. Jessee; A. Eugene Jolley; Jean S. Keener; George B. McGuffin; Charles G. Robinette, Plaintiffs-Appellees, v. DIRECTOR, OFFICE OF THRIFT SUPERVISION, in his own official capacity and as successor in interest to the Federal Home Loan Bank Board; and the Federal Deposit Insurance Corporation, in its own capacity and as successor in interest to the Federal Savings and Loan Insurance Corporation, Defendants-Appellants.
• Court: U.S. Court of Appeals — Sixth Circuit

Page 1332

927 F.2d 1332

59 USLW 2561

FRANKLIN FEDERAL SAVINGS BANK; Franklin Financial Group,

Inc.; George O. Haggard, Jr.; Ben B. Jarnagin; Richard C.

Jessee; A. Eugene Jolley; Jean S. Keener; George B.

McGuffin; Charles G. Robinette, Plaintiffs-Appellees, v. DIRECTOR, OFFICE OF THRIFT SUPERVISION, in his own official

capacity and as successor in interest to the Federal Home

Loan Bank Board; and the Federal Deposit Insurance

Corporation, in its own capacity and as successor in

interest to the Federal Savings and Loan Insurance

Corporation, Defendants-Appellants.

No. 90-5971.

United States Court of Appeals, Sixth Circuit.

Argued Nov. 16, 1990.

Decided March 12, 1991.

John F. Dugger, Bacon, Dugger, Jessee & Perkins, Morristown, Tenn., Thomas Buchanan, J. Michael McGarry, III (argued), William D. Coston, Eric W. Bloom, Bishop, Cook, Purcell & Reynolds, Washington, D.C., for plaintiffs-appellees.

Aaron B. Kahn, Harris Weinstein, Thomas J. Segal, Office of the Dept. of Treasury, Thrift Supervision, Jacob M. Lewis (argued), U.S. Dept. of Justice, Douglas Letter, Dept. of Justice, Appellate Staff, Civ. Div., Martin Jefferson Davis, Office of Thrift Supervision, Washington, D.C., John W. Gill, Jr., U.S. Atty., Marilyn L. Hudson, Asst. U.S. Atty., Knoxville, Tenn., Thomas A. Schulz, Dina L. Biblin, Federal Deposit Ins. Corp., Theodore C. Hirt, U.S. Dept. of Justice, Appellate Staff, Civ. Div., Stuart M. Gerson, Leslie H. Southwick, Brook Hedge, Gary W. Herschman, Dept. of Justice, Civ. Div., Washington, D.C., for defendants-appellants.

Before KEITH and BOGGS, Circuit Judges; and CONTIE, Senior Circuit Judge.

BOGGS, Circuit Judge.

Franklin Federal Savings Bank sees itself as a good institution on the rebound being hounded by federal regulators who refuse to keep their word. Franklin's predecessor, Morristown Federal Savings and Loan Association, began operating in 1935. In the 1980s, Morristown Federal Savings and Loan Association began having financial problems. Still, seven shareholders--all plaintiffs in this case--did believe that they could restructure the bank and solve its problems. Accordingly, they formed the Franklin Financial Group, a holding company that would take over Morristown, change its name to "Franklin Federal Savings Bank," and inject new capital. The Federal Savings and Loan Insurance Corporation ("FSLIC") and the Federal Home Loan Bank Board ("FHLBB") approved these changes.

Franklin thinks that, given time, the bank can regain its financial strength. When Franklin made its deal with the FSLIC and the FHLBB, the parties reached an agreement governing the accounting treatment of the bank for regulatory purposes. At least, Franklin thinks it had a deal. The Office of Thrift Supervision (successor to the FSLIC and the FHLBB) claims that any agreement by the FSLIC or the FHLBB regarding the accounting treatment to be applied to Franklin for the purpose of meeting its regulatory requirements constitutes a nonbinding statement of regulatory intent. This difference in views is important because, in the meantime, Congress passed FIRREA--the Financial Institutions Reform, Recovery, and Enforcement Act of 1989. FIRREA requires savings and loans to meet a whole host of new regulatory capital requirements. The OTS believes that FIRREA abolished all prior regulatory forbearances. Franklin thinks otherwise. These two issues--the nature of the understanding between Franklin and the FHLBB and the effect of FIRREA--are the crux of contention in this case. Franklin has received a permanent injunction preventing the OTS from applying new regulatory requirements to it. The OTS appeals, and we now reverse.

I

Franklin's predecessor savings and loan began to have financial problems in the early 1980s. From 1983 to 1988, Morristown's losses averaged $230,000 a year. According to Franklin, these losses resulted from its having outstanding a number of relatively low-yield loans while, at the same time, it had to compete for depositors in a deregulated environment by paying higher interest. At oral argument, Franklin assiduously denied that its troubles resulted from speculative loans or mismanagement. Nonetheless, the officers of Morristown realized that something had to change if the bank was to survive. As early as 1984, the officers of Morristown, together with officials from the FSLIC and the FHLBB, began formulating a plan. Under the plan, Morristown would convert from the mutual to the stock form of organization and a holding company would acquire the troubled thrift, injecting needed capital.

As a result of these negotiations, a group of investors formed the Franklin Financial Group, Inc. for the purpose of acquiring Morristown. The investors who formed the Franklin Financial Group included a number of Morristown managers and directors, including Charles Robinette, who had, in March 1988, taken over as Chief Executive Officer of Morristown. In due course, the management of Morristown and the Franklin Financial Group submitted their proposal to the FSLIC and the FHLBB, the agencies that were required to approve such changes. Under the plan as submitted, Morristown would undergo a so-called "voluntary supervisory conversion" from the mutual form to the stock form. After the conversion, Franklin Financial would then acquire Morristown, which would operate henceforth as "Franklin Federal Savings Bank."

The FSLIC and the FHLBB approved the transaction. In the acquisition of Morristown, the Franklin Financial Group "acquired" so-called "supervisory goodwill" in an amount equal to Morristown's net liability. Supervisory goodwill is an accounting construct used in certain types of transactions. When a business, such as a savings and loan, is purchased, and its liabilities exceed assets, the shortfall is carried on the books of the new institution as an asset--"supervisory goodwill." This "asset" is then written off--amortized--over a period of years, and is eventually no longer carried on the books.

The acquisition and supervisory conversion of Morristown required the approval of both the FSLIC and the FHLBB. Though the parties differ as to who it was that initiated the transaction, the FSLIC and the FHLBB clearly approved of and cooperated in the deal. On January 12, 1989, the Franklin Financial Group entered into a Voting and Disposition Rights Dividend Agreement with the FSLIC that spelled out the terms under which the Franklin Financial Group could acquire Morristown Federal Savings and Loan Association. Section VIII(D) states:

All references to regulations of the Board or the FSLIC used in this Agreement shall include any successor regulation thereto, it being expressly understood that subsequent amendments to such regulation may be made and that such amendments may increase or decrease the Acquiror's obligation under this Agreement.

(emphasis added). Previously, the FHLBB had sent Franklin a forbearance letter dated November 21, 1988. This letter reads, in part:

In connection with the approval by the Federal Home Loan Bank Board ("Board") of the Voluntary Supervisory Conversion and acquisition of Morristown Federal Savings and Loan Association ... the following forbearance is hereby granted.

1. For purposes of reporting to the Board, the value of any unidentifiable intangible assets resulting from accounting for the acquisition in accordance with the purchase method may be amortized by Franklin Federal Savings Bank over a period not to exceed 25 years by the straight line method.

Franklin argues that this forbearance constitutes a binding part of its agreement with the FHLBB and the FSLIC. The FHLBB argues that the forbearance was merely a statement of regulatory intent rather than a binding contractual obligation on the part of the government.

Though the transaction was intended to benefit the Franklin Financial Group's investors, it did save the FSLIC a certain amount as well. While Morristown had not yet been placed into receivership, everyone agrees that Morristown was a troubled institution. Moreover, the transaction was not without cost to the shareholders of the Franklin Financial group either. At the time of the transaction, Morristown's liabilities exceeded its assets by $9.6 million. The FHLBB and the FSLIC believed that the Franklin Financial Group would have to contribute at least $3 million to make Franklin Federal a viable institution. Ultimately, the Franklin Financial Group invested $5 million in Franklin Federal. Evidently confident that Franklin Federal would succeed, the shareholders in the Franklin Financial Group borrowed the $5 million--securing the debt with their own collateral, not Franklin Federal's, and agreeing to be personally liable for the full amount. Franklin Federal has enjoyed a certain amount of success. In the 1989 calendar year, it earned $1.2 million. With the infusion of new capital, together with the modest success, Franklin's negative tangible capital has shrunk from approximately $9.6 million to $2.184 million as of July 1990.

The OTS claims that the forbearance letter does not bind it. The OTS argues that the forbearance letter merely constituted a "statement of regulatory intent" rather than a contractual obligation. Franklin notes that it received no assistance from the FSLIC other than the regulatory forbearance allowing its use of supervisory goodwill. Franklin says it never would have entered into the arrangement if it had not believed that the forbearance was binding on the government.

In 1989, Congress passed FIRREA. FIRREA sharply curtailed the use of supervisory goodwill in order to meet regulatory capital requirements in the thrift industry. Supervisory goodwill can now be amortized over no more than twenty years. 12 U.S.C. Sec. 1464(t)(9)(B). As the forbearance letter allows Franklin to amortize supervisory goodwill over a twenty-five year period, the statute cuts off five years.

In addition, the use of supervisory goodwill is being...