Full text of District Notices (Federal Reserve Bank of Dallas) : Uniform Rating System, Circular No. 79-191

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F

e d e r a l

R

e s e r v e

B

a n k

DALLAS. TEXAS

o f

D

a l la s

75222

C ircu lar No. 79-191
November 29, 1979

UNIFORM RATING SYSTEM

TO ALL STATE MEMBER BANKS IN THE
ELEVENTH FEDERAL RESERVE DISTRICT:
The Federal Financial Institutions Examinations Council has recom­
mended the agencies re p re s e n te d on the Council adopt a uniform ratin g system
for evaluating the sou nd ness of federally s u p e rv is e d ban ks and th rift institu­
tions and th e ir compliance with law.
Enclosed a re the Council's p r e s s release and text of the rating
sy ste m .
The Council ask ed for action by Federal agen cies con cerned by
December 15, 1979. The ratin g system would become operativ e when ap p ro ved
by the ag en cies.
Sincerely y o u r s ,
Robert H. Boykin
F irs t Vice P resid en t

Enclosures

B a n k s a n d o th e rs a re e n c o u ra g e d to use th e fo llo w in g in c o m in g W A TS n u m b e rs in c o n ta c tin g th is B ank:
1-800-442-7140 (in tra s ta te ) and 1-800-527-9200 (in te rs ta te ). F o r c a lls p la c e d lo c a lly , p le a s e use 651 p lu s th e
e x te n s io n re fe rre d to above.

This publication was digitized and made available by the Federal Reserve Bank of Dallas' Historical Library (FedHistory@dal.frb.org)

Press Release

November 21, 1979

Fo r immediate release

The Federal Financial Institutions
today that it has recommended to the agencies

Examination Council announced
represented on the Council

ad o p t i o n of a u n i form rating system for evaluating the soundness of federally
supervised banks and thrift

institutions and their compliance w i t h law.

In announcing t h e r e c o s n e n d a t i o n , J o h n G. Heimann, C omptroller of
the Currency and Chairman af the Council, said:
The rating sys t e m that the Council wishes to see adopted by
Federal regulators of connnercial banks, mutual savings banks,
savings and loan associations and credit unions provides for
a general framework of evaluation whi c h takes into account
all significant financial, operational and compliance factors
addressed in the examination of these institutions.
The rating sys t e m proposed by the Council has a two-fold
purpose.
First, it is designed to reflect in a comprehensive
and uniform fashion an institution's financial condition, its
compliance w i t h applicable laws and regulations, and its
overall soundness.
Second, the rating system the Council
proposes is m e a n t to assist the public and the Congress in
assessing the aggregate strength and soundness of our
financial system.
The Council asked for action by Federal agencies
the Council b y December 15.

represented on

The rating system would become operative when

approved b y the agencies.
The proposed sys t e m allows
credit unions,

for recognition of distinctions among

savings and loan associations, mutual savings banks and commercial

banks while at the same time promoting overall uniformity and consistency of
supervision.
(composite)

The system wo u l d provide for uniform definitions of five summary
rating categories and agreed upon uniform standards

p r o b l e m financial

institutions.

for identifying

-2-

Coatinuing existing agency practice, the ratings for individual
institutions would not be made public or supplied to the institutions examined.
However, adoption of the proposed uniform rating system is expected to be of
substantial assistance to those seeking to compare the various aggregate data
made available annually to the Congress by the five agencies.
The proposed five composite ratings —

in which institutions may be

classed according to a combination of their ratings on many different subjects —
range from Composite Rating No. 1 —

for financial institutions that are

found to be basically sound in every respect —

to Composite Rating No. 5 —

which would include institutions rated as having a high probability of
immediate or near term failure.
It is a basic purpose of the proposed rating system to identify any
institution —

whether a commercial bank, savings and loan association, credit

union or mutual savings bank —

that is a problem institution.

These would

fall into categories four or five, calling for special supervisory surveillance.
Institutions in the third category would be those whose composite rating
indicated some combination of financial, operational or compliance weaknesses,
ranging from moderately severe to unsatisfactory, but not indicating a danger
of failure.

Such institutions would, however, require more than normal super­

visory attention.

Those in category two would be institutions regarded as

fundamentally sound, but with weaknesses that can be corrected in the normal
course of business and which consequently do not require special supervisory
attention except to ensure adjustments to overcome their minor weaknesses.
Institutions in the first category are more capable of withstanding the

-3-

vagaries of business conditions than institutions with lower ratings and
would be subject only to minor criticism that can be corrected routinely.
The Council's proposed five rating categories, and explanatory
material, are attached.
- 0 -

November 13, 1979
UNIFORM FINANCIAL
INSTITUTIONS RATING SYSTEM*

Introduction
The rating system provides a general fram ew ork for evaluating and assim ilating
all significant financial, op eration al and com piiance fa c to rs in order to assign

a

sum m ary or com posite supervisory rating to each Federally regulated co m m ercial
bank, savings and loan asso ciatio n , mutual savings bank and c re d it union.
of

the

rating

system

is to

r e f le c t

in a com prehensive and uniform

The purpose
fashion

an

institution's financial condition, com pliance with laws and regulations and overall
operating soundness.

In addition to serving as a useful cool for sum m arizing the

condition oi individual institutions, the rating fram ew ork wiii aiso assist the public
and Congress

in assessing

the ag g re g a te

stren gth and

soundness of the

financial

industry.
Although

it

is acknowledged

th at to .some degree

each

type of financial

institution poses its own set of supervisory issues and co n cern s, the uniform rating
system is predicated upon c e rta in featu res and functions, including q u alitativ e and
quantitative fa c to rs , com m on to all categ o ries of institu tions.

In gen eral, financial

institutions provide a wide range of essential c re d it, depository and related financial
services to individuals, p riv ate co m m ercial enterprises and governm ents.

In so doing,

financial institutions play an im p ortant and in tegral roie in the stab ility and grow th of
econom ic a ctiv ity a t th e lo cal, regional, national or international level.

Institutions

are best able to c a rry out these essential functions and acco m m o d ate the demand for
financial serv ices when they are operated in a sound and prudent manner in full
com p lian ce with relev an t laws and regulations.

♦The term "fin ancial in stitu tion " with re s p e c t to the ratin g system refers to c e rta in
institutions whose prim ary F ed eral supervisory agencies are rep resen ted on the
F ed eral Financial Institutions Exam ination Council, i.e ., F ed erally supervised
com m e cial banks, savings and loan associatio n s, m utual savings banks and c re d it
unions.

-2-

O verview
Each

financial

institution

is assigned

a

uniform

com p osite

ratin g

th at is

p red icated upon an evaluation o f p ertinen t financial and op eration al standards, c r ite r ia
and principles.

The ratin g is based upon a scale of one through fiv e in ascending order

of supervisory co n cern .

Thus, " 1 " rep resen ts the highest rating and, consequently, the

low est level of supervisory co n cern ; while ''5" rep resen ts the low est, most c ritic a lly
d eficien t level of p erfo rm an ce and, th e re fo re , the highest degree of supervisory
co n ce rn . Each of the five com p osite ratings is described in g re a te r d etail below.
In assigning a com posite
ev alu ated .

rating, all relev an t f a c to rs m ust be weighed and

In g en eral, th ese fa c to rs include:

the adequacy of the ca p ita l base, n et

w orth and reserves for supporting presen t operations and future grow th plans; the
quality of loans, investm ents and oth er a s s e ts ; the ability to g en erate earnings to
m aintain public con fid en ce, co v er losses and provide adequate secu rity and return to
d epositors; the ability to

m anage liquidity and funding; the ability to m e e t the

com m unity's or membership's leg itim ate needs for financial services and co v e r all
m aturing deposit obligations; and the ability of m anagem ent to properly adm inister all
a sp e cts of the financial business and plan for future needs and changing circu m sta n ce s.
The assessm en t of m anagem ent and adm inistration includes the quality of internal
co n tro ls, operatin g procedures and all lending, in vestm en t and operating policies;
com p lian ce with relev an t laws and regulations; and the involvem ent of the d ire cto rs ,
shareholders

and o ffic ia ls .

In gen eral,

assignm ent

of

a

com posite

rating

may

in co rp o rate any other fa c to rs th a t bear significan tly on the overall condition and
soundness of the financial institution.
N otw ithstanding the use of common sum m ary ratin g s, sp ecific p erform an ce
benchm arks, standards and principles will continue to reco g n ize existing stru ctu ral,
o p eration al and regu lato ry distinctions am ong d ifferen t ty p es of financial institutions.

- 3Thus, while each financial institution will be evalu ated upon c r ite r ia relating to its
p articu lar industry, the assignm ent of a uniform com posite ratin g will help to d ire ct
uniform and con sisten t supervisory atten tio n in such a way th a t does not depend solely
upon the nature of an institution's c h a rte r or business, or the identity of its prim ary
F ed eral

regu lato r.

While

distinctions

asso ciatio n s, co m m ercial banks and

am ong

c re d it

unions,

mutual savings banks are

savings

and

loan

recognized, overall

uniform ity and con sisten cy of supervision will be strengthened by the e x iste n ce of
com m on supervisory ratin gs.
The prim ary purpose of the uniform ratin g system is to help identify those
institutions whose fin ancial,
supervisory atten tio n

operating

or com p lian ce

w eaknesses

require

special

and/or w arran t a higher than norm al degree of supervisory

co n cern . In an e f f o r t to accom plish this o b jectiv e, the rating system identifies ce rta in
institutions whose fin ancial, operational or m anagerial w eaknesses are so sev ere as to
pose

a

serious

th re a t

to continued

financial

viability.

These

institutions

are,

depending upon degree of risk and supervisory co n cern , rated Com posite " V or "5 ".
Such institutions a re generally ch a ra cte riz e d by unsafe, unsound or other seriously
u n satisfacto ry

conditions

and

c a rry

a

relativ ely

high

possibility

of

failure

or

insolvency. The uniform id en tification of such institutions will help to ensure:

1)

T hat the degree
response

a re

of supervisory atten tio n

based

upon the

sev erity

and the type of supervisory

and

nature

of

an

institution's

problem s;
2)

That

supervisory

adm inistered

atten tio n

uniformly

and

and

actio n

co n sisten tly ,

a re ,

to

the

regardless

institution or the identity of the reg u lato ry ag en cy ; and

e x te n t
of

the

possible,
type

of

- if-

3)

T h at approp riate supervisory action is taken to address th ose institutions
whose financial problem s en tail th e g r e a te s t p oten tial for

hardship or

inconvenience to depositors, borrow ers or the public; or th ose institutions
whose p o ten tial w eaknesses would m ost seriously disrupt the proper and
e ffic ie n t functioning of the financial system .

The rating system also identifies a c a te g o ry of institutions th a t have som e
com bination of financial or com pliance d eficien cies th a t, while posing little or no
th re a t to financial viability under presen t circ u m s ta n ce s , do w arrant m ore than normal
supervisory co n cern .

These institutions are not deem ed to present a significan t risk of

failu re, or of loss or hardship to depositors, borrow ers, or th e public, but do require a
higher than norm al level of supervision.

The delineation of this c a te g o ry will assist

supervisory au th orities in separating the m ost serious and c r itic a l problem institutions
whose

viability

may

be

com p lian ce d eficien cies

in question
may

from

those

require a sp ecific

institutions

supervisory

whose

response

co n stitu te a significan t risk of failu re, insolvency or bankruptcy.

financial or
but do

not

Institutions th a t

w arrant som e supervisory con cern but do not en tail a relatively high possibility of
failure or insolvency are generally rated Com posite "3 ".

C om posite R atings
Com posite ratin gs are defined and distinguished as follow s:
C om p osite 1
Institutions in this group are basically sound in ev ery r e s p e c t; any c r itic a l
findings or com m en ts a re of a minor nature and can be handled in a routine
m anner.

Such institu tions are re sista n t to e x te rn a l econ om ic and financial

disturbances

and

m ore

capable

of

withstanding

conditions than institu tions with lower ratin gs.
give no cau se for supervisory con cern .

th e

vagaries

of

business

As a resu lt, such institutions

- 5Composite 2
Institutions in this group are also fundam entally sound, but may r e f le c t modest
w eaknesses c o rre c ta b le in the norm al course of business.

The n atu re and

sev erity of d eficien cies, how ever, a re not considered m aterial and, th e re fo re ,
such institutions are stable and also able to w ithstand business fluctuations
quite well.
co n cern ,

While a re a s of weakness could develop into conditions o f g re a te r

the

adjustm ents

supervisory
are

resolved

response
in

the

is

lim ited

norm al

to

the

e x te n t

th at

cou rse

and

operations

minor

continue

s a tis fa c to ry .
Com posite 3
Institutions in this c a te g o ry exhibit a com bination of fin an cial, operational or
com pliance w eaknesses
When

w eaknesses

ranging from

re la te

to

financial

onset

of

adverse

vulnerable

to

d e te rio ra te

if co n ce rte d action

w eakness.

the

m oderately
condition,
business

sev ere
such

to

u n satisfacto ry .

institutions

conditions

and

may

could

be

easily

is not e f f e c tiv e in c o rre ctin g the a re a s of

Institutions which are in significant non-com pliance with laws and

regulations may also be accord ed this ratin g .

G enerally, these institutions give

cause for supervisory con cern and require m ore than normal supervision to
address d eficien cies.

O verall stren gth and financial c a p a c ity , how ever, are still

such as to make failure only a rem ote possibility.
Com posite
Institutions in this group have an im m od erate volume of serious financial
weaknesses or a com bination of other conditions th a t a re u n satisfacto ry .

Major

and serious problems or unsafe and unsound conditions may exist which a re not
being s a tis fa cto rily addressed or resolved.

Unless e f f e c tiv e action is taken to

c o r r e c t these conditions, they could reasonably develop into a situation th at

-6could impair future viability, constitute a threat to the interests of depositors
and/or pose a potential for disbursement of funds by the insuring agency.

A

higher potential for failure is present but is not yet imminent or pronounced.
Institutions in this category require close supervisory attention and financial
surveillance and a definitive plan for corrective action.
Composite 5
This category is reserved for institutions with an extremely high immediate or
near term probability of failure.

The volume and severity of weaknesses or

unsafe and unsound conditions are so critical as to require urgent aid from
stockholders or other public or private sources of financial assistance.

In the

absence of urgent and decisive corrective measures, these situations will likely
require liquidation and the payoff of depositors, disbursement of insurance
funds to insured depositors, or some form of emergency assistance, merger or
acquisition.