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Lincoln's eamings from 1984 through 198725/

reflect the positive benefit of these changes in business objectives before Lincoln's management was required to devote substantially all of its cine, to responding to the regulatory examination process.

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Lincola's not worth also increased substantially under ACC'S control fron 1984 through 1988, whether calculated under GMP or regulatory accounting principles ( "RUPS). ($ • Thousands )

Not Worth

Minimum Required pre-ACC Acomisition

CMP

RI

RAP Net Worth

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237

Al financial data regardlag Acc, Wacoln of any consolidated subsidiary appousing La this paper for all fiscal years through 1987 aro takon or dorived from audited financial statements, unless calculated for the purpose of this paper. Ml such financial data for any period commencing or ending attor Doccuber 31, 1989 is unaudited and subject to yoak-end ad justnants normally made in connection with an audit.

Lincoln's aggregate return on invesçment from 1984 through 1988
also exceeded industry standards: 267

LINCOLN SAVINGS & LOAN ASSOCIATION
AGGREGATE RETURN ON INVESTMENT (ROI)

1984 - 1988

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ACC's financial results of operation were certified without qualification in 1984 and 1985 by Arthus Anderson and Company ("Arthur Andersen'), and in 1986 and 1987 by Arthur Young Company ("Arthur Young'), Lincoln's and Acc's independent certified public accountants during those years.

Lincoln's reported performance from 1984 through 1988, when Lincoln was soveroly burdened by the effects of what was then almost three years of regulatory examinations, demonstrates the success of the Operating Plans

In overy quarter iron ACC's acquisition of Lincoln until
the third quartor of 1988, Lincoln's return on assets
tar exceeded its cost of funds.

267

Prior to ACC's acquisition of Lincoln, at the end of 1983,
Lincoln's return on average assots was approxiestoly .321.
Pollowing ACC's acquisition, Lincoln's return on average
assots was .741 In 1984, 2.921 in 1985, 1.388 la 1986, .951
in 1987, and .058 in 1988 (through September 30, annualized)
The Industry's avorage roturn on assots was .121 in 1984,
.398 in 1985, .021 in 1986, -.648 in 1987 and ·.946 in 1988.
United States League of Savings Institutions, 89_Savings
Institutions Sourcebook, (1989) at 55.

Through September 1988, Lincoln was profitable in 16 of
the iš quarters following its acquisition by ACC.
Lincoln's return on assets consistently and
substantially exceeded the return it could have earned
had it invested in single family residential mortgages.
Lincoln's reported earnings and net worth showed
sustained growth.
Lincoln consistently outperformed the industry as a
whole in 4, broad group of traditionally operated
thrifts. 211
Under ACC's management, regulatory not worth, a key
indicator of financial health for regulatory purposes,
increased to an amount far in excess of the regulatory

requirements. ACC transformed Lincoln from an ailing and undiversified savings and loan association into a diversified financial Institution equipped to respond to futuro Interest rate fluctuations and changes in tho financial servicos marketplace.

The foregoing discussion demonstratus not only the wisdom of ACC's Operating plan but the oponnoss with which that plan was pursued. To suggest that ACC or Lincoln attempted, at any time, to cloak its plans from disclosure to federal or state regulators is simply without factual support. VII. me 1984 Regulatory Examination

The PHILAB conducted its first regulatory examinations of ACC and blacola La 1984. These examinations were briot and rosulted in roports only several pagos long which raised few issues, none of any particular significance.

On December 6, 1984, the FHLBB comploted its holding company examination of ACC as ot September 19, 1984. The FIBB reviewed ACC's bus laos1 activities, ACC's acquisition of Lincoln and its

21

Por cample, the industry average profit margin (net
aftos-eas Lacono divided by total income) was .976 in 1984,
3.161 LA 1985, .116 la 1986, -6.868 LA 1987 and -10.171 in
1988 (United States League of Savings Institutions,
89 Savings institutione sourcebook, (1989) at 55) as compared
to Lincoln's profit margin of 6.188 in 1984, 14.916 in 1985,
6.871 La 1986, 6.339 in 1987 and .441 la 1988 (through
September 30, annualized).

R000209

operating results for the years 1982 and 1983 and the first eight months of 1984, limiting the scope of review to the minutes of the Board of Directors, financial statements, regulatory reports and litigation. The examination report noted that ACC provided mortgage financing to purchasers of its homes through ACMC and that ACMC granted mortgage loans at below market rates in order to stimulate sales of homes built by ACC. It also acknowledged, without comment, that ACMC issued GNMA pass-through certificates secured by pools of FHA (Pederal Housing Administration) and VA (Veterans Administration) loans and, depending upon market conditions, either sold the GNUA's or hold them as investments. The report also commented on ACC's profitable operations and its net income of $3.1 million and $19.2 million for 1982 and 1983, respectively, although it noted the poor performance of a minor homebuilding division of ACC.

The FHLBB and the California Department jointly conducted an examination of Lincoln as of August 20, 1984. The final report of the PHLBB, sent to Lincoln on Pebruary 5, 1985, also was briet and expressed no areas of significant concern.

With respect to Lincoln's real estate Investments, the PHLBB and the California Department were primarily concerned with such appraisal deficiencies as the lack of market/economic feasibility studies for certain real estate projects, the need for additional valuation reservas for losos on certain proportion, and the omission of an allowance or discount for holding costs of development properties, because the appraisers based their findings on the retail lot valuos.

The examination report also suggested the need for a full-time managing officer for Lincoln and the required_formation of an audit committee comprised of independent directors, both of which were complied with on October 12, 1984. The PHILBB commented on the fact that ACC provided certain services for Lincoln without authorization of Lincoln's Board of Directors, which authorization was formally given by a resolution passed October 12, 1984. The roport noted that Lincoln had exceeded the comercial loans-toono-borrower limitation in connection with its investnant in debt securitia of one issuer; however, as acknowledged by the PHLBB, this excess was inadvertent and existed only for approximately two weeks. The THLBB also commented on an Investment by Lincoln in below lavustuont grade corporato debt socuritia but indicated that such concern had been proviously addressed in prior correspondence.

While the PHLBB also commented on Lincoln's plans to invest up to 20% of its assets in unimproved land, the report noted that the new management under Koating had extensive experience in all aspects of the acquisition, development and sale of land and had the expertise to manage this type of investment successfully.

Thus, the type of land loan and investments later criticized as

unsafe and unsound wore specifically reviewed by the PHLBB in 1984 without criticism and, indeed, with laudatory comment.

The only significant concern exprossed by the California Department related to Lincoln's Investments in provident and LABICO which, it said, inadvertently exceeded the authorized investment limits established by the California Department. Although Lincoln did not meet specified capital requirements with sospect to provident as early as July 1, 1982, prior to ACC's acquisition of Lincoln, the California Department in July 1982 had authorized an additional $1 million investment without rescinding the previously granted Investment authority. The California Departaont suggested that Lincoln simply apply for increased investment authority to cover such over-investment. On October 10, 1984, Lincoln submitted that application to the Callfornia Departaont, which was approved on December 7, 1984.

As formor California Savings and Loan Commissioner Lawrence
W. Taggart said in testimony before the House Banking Committee on
November 1, 1989:

There was no problem with Lincoln Savings
at all in '84. I not continually with the
federal Home Loan Bank in San Francisco. They
war aovor on a monitored list that I was
ann of. Thoy novor were brought to my
attention that the Federal Home Loan Bank had
a probla with tha when I was a regulator.
Toy were considered to be a clean shor's

.. Lincoln was never considered to be a
osobinhoo when I was commisioner.

(anphasis added.) VIII. Adoption of the Direct Investment Rule

When ACC recolved approval to acquin Lincoln, Lincoln was investing virtually all of its deposits in rofinanced or brokered homo mortgage louni. N a result, wacola was experiencing serious fiosacial difficultio. Ondor ACC's control, Lincoln's financial conditLoa berproved significantly u. u result of ACC'S dramatic diversification of Lincoln's portfolio.

On Jaanasy 31, 1985, the PHILBB promulgated first direct Investmeat Regulation, olloctivo march 21, 1985.2

287

This regulation lepored ilastation (applicable retroactively to December 10, 1984) upon the wount of so-called direct Lavastrents' that any FSLIC-Lasured stato-chartored savings and

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SO rod. Reg. 6928 (1985), codighed at 12 C.I.R. S 563.9-8 (1986).

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