Fraud Identification Training Sept-Oct 2022

CASE STUDY 10

SALVAGE YARD

Situation:

SY, Inc., is a large salvage company with a well-established borrower relationship at Security National Bank (SNB). The company’s credit line is the largest credit in the bank and at the bank’s legal lending limit of $1.1 million. Although Loan Committee members did not want to extend additional credit to the company, they also did not want to lose the account. The bank has been able to retain the relationship so far, even though a new bank opened in the same community earlier this year and has been soliciting SNB customers. Presently, the company is unable to move steel, its sole source of revenue, and is short of working capital. This was caused by an unexpected and sudden rail strike, which the EIC (Examiner in Charge) read about in the newspaper. By 6-11-X7, the examination asset review date, the checking account of SY, Inc. had been overdrawn over $80M for 13 days and had now reached $108M. Company President Jack Lewis learned the strike was expected to last two to four weeks, so he approached his loan officer, Vice President (VP) Johnson, to discuss the company’s need for additional working capital. Reportedly, SY, Inc. President Lewis did not have time to gather reliable financial data and prepare an accurate financial statement because of the suddenness of the strike. The most recent financial statement that the bank has is dated fiscal year end 3-30-X6; however, President Lewis reportedly told VP Johnson that the company had approximately $250M of steel ready to be shipped for smelting. VP Johnson, aware that the competing bank was seeking SY, Inc.’s business, accommodated her client and approved the signing of a $150M variable balance master note on 6- 12-X7 to mature 8-1-X9. (This variable balance note was not included on the Examiner in Charge’s (EIC) ALERT (Automated Loan Examination Report Tool) line sheets because it was extended after the asset review date). As part of a routine examination practice, the EIC reviewed multiple consecutive overdraft reports. He discovered that the $108M overdraft on asset review date reduced to $33M on 6-13-X7. VP Johnson stated she advanced $75M of the variable balance note on 6-12-X7. On 7-2-X7, the overdraft was back to $72M. The following Monday, VP Johnson reported she advanced the remaining $75M of the variable balance note and presented to the EIC a transcript of SY, Inc.’s DDA (Demand Deposit Account) account, which now showed a positive balance of $3M after a deposit of $75M. VP Johnson was not present for loan discussion when the EIC adversely classified portions of the credit line, including the entire $150M note. Bank President Ralph Samuel agreed that the line should be classified but stated the Examiners erred in the amount to be classified because the bank ceased lending to the company when it reached the bank’s legal lending limit.

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