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The AAO Weblog covers accounting issues and current events as they relate the practice of investment analysis. All posts prior to September, 2007 are in the public domain, but after September 4, only subscribers to The Analyst's Accounting Observer will see all posts going forward. Only selected, occasional posts will be released to the public domain from September 4 forward.

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The Puerto Rican SEC Flu
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Posted by: Jack Ciesielski 10/26/2005 7:53 PM
One of my favorite parts of the day's end: getting Fortune magazine's Street Life in the e-mail. It's a daily wrap-up of market events, authored by a rotating cast of some of Fortune's most entertaining writers. And it lets me know what I missed during the day - like today. Says Andy Serwer in today's column:

"SAN JUAN SINKHOLE: Have you been following this Puerto Rican bank scandal? Me neither. Until now. Turns out the three biggest financial institutions there are under fire for bad accounting. Doral Financial, the island's biggest mortgage lender, just revealed that the SEC has begun a formal investigation. Stock is down to $8.80; it was close to $50 earlier this year. First BanCorp and R&G have also announced problems. Watch this space for takeovers! Hello? Chris Flowers speaking...."

Nope, not exactly following it: but back in April it was noted in this space that Doral Financial was making some pretty serious adjustments to its interest-only residuals resulting from securitizations of loans. And in July, it was noted that R&G Financial (absolutely, positively no relation to R.G. Associates, which is - me) was also having trouble making its accounting work when it comes to securitizations. As for First BanCorp, that one went by me. It is rather curious: three big players in a small area all coming down with the accounting flu.

Let's follow it now, at least for a little bit. First, a look at the First Bancorp announcement of the SEC investigation released last Friday:

One issue under review by the Audit Committee is whether the mortgage transactions at issue were properly classified for accounting purposes as purchases of the mortgage loans by First Bank or whether they should have been treated as loans by First Bank to the other financial institutions, secured by the mortgages. Although the Company's accounting analysis is not complete, First Bank has concluded that most of its transactions with one financial institution, R&G Mortgage Corp, did not qualify as true sales as a legal matter. Accordingly, these transactions may need to be accounted for as a secured loan to that financial institution. As a result, First BanCorp may be required to restate its previously issued financial statements for the period from 2000 through the first quarter of 2005.

Any reclassification of the transactions as secured loans rather than as purchases of mortgages would affect the notes to the Company's financial statements as well as the Company's presentation of its cash flow from investing activities. The Company is reviewing the adequacy of its allowance for loan losses relating to the potential reclassified secured loans as well as the regulatory capital implications of the reclassifications. Any need to change the allowance for loan losses would impact previously reported net income and loans net of allowance for loan losses.

Interesting: looks like R&G Financial and First Bancorp may have gotten the flu from each other. R&G Financial, in yesterday's disclosure about the SEC investigation, was much less forthcoming - and made no mention of First Bancorp or any other institutions. As for Doral, its release today was for the purpose of notifying investors that "it no longer expects to file by November 10, its amended annual report on Form 10-K for the year ended December 31, 2004. The delay is principally attributable to new information regarding the Company's mortgage loan sales to local financial institutions."

Note the plural: institutions. It'll be interesting to see if there other players yet to be named involved in this - and especially interesting if any others are non-publicly traded players.
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