As state auditors combed through the files of the Colorado Division of Banking in 2003, they discovered glaring problems in how it inspects banks.
They found the staff of examiners inadequate to glean critical detail from banks' books. They spotted inconsistencies in how they gauged financial weaknesses. And they discovered that inspectors did not follow up on fraud risks they detected at banks.
"Colorado's average number of institutions per examiner was higher than all but one other state" in a six-state region, according to the Office of the State Auditor findings. It was the last audit of the Banking Division.
Such regulatory weaknesses persisted for the rest of the decade, a Denver Post investigation found,
There may have been no easier time than this decade for regulators to miss a bank's risky practices. The Federal Deposit Insurance Corp., the state's partner in monitoring New Frontier and most other state banks, slashed its ranks of watchdogs 37 percent — nearly a thousand employees — from 1999 to 2007.
Further, the remaining federal inspectors, as well as their state counterparts, often were diverted from reviewing the health of the state's banks to track terrorists' money-laundering after the Sept. 11, 2001, attacks.
During the past two years, the FDIC has restored 260 staff positions to deal with surging numbers of bank failures, but they have not provided The Post with numbers of inspectors added in Colorado.
Assets more than doubled
Over the past decade, the Colorado Division of Banking's small increase in examiners lagged sharply behind an increase in bank assets that need monitoring statewide. As the assets of banks under the division's watch more than doubled, from about $15 billion in 1999 to $39 billion by the end of 2008, the agency's examination staff — fluctuating between about 24 and 29 members — grew only 21 percent, according to Banking Division records supplied to The Post.
The state legislature in 2008 authorized five additional examiner jobs in addition to an auditor. But those positions have yet to be filled "due primarily to the governor's hiring freeze and other factors," a division spokesman said.
Evan Dreyer, spokesman for Gov. Bill Ritter, told The Post the division's needs will be met despite the hiring freeze and that efforts are underway to fill the positions.
New Frontier's meltdown also has raised questions about whether the governor-appointed banking board overseeing the division is diverse and neutral enough to prevent it from being too cozy with banks it regulates.
Under state law, the nine-member board, which sets policies for monitoring banks and is the final arbiter on closing them, designates five seats for bank executives.
"There is an advantage to having some oversight by experienced bankers, but it's a concern when it's a majority," said Rob Klingler, a Georgia banking-law attorney. The Federal Reserve board, he noted, has a mix of members selected by the federal government and local communities.
The Colorado Banking Division's policy statement also declares that its mission is not only to regulate banks but to promote competition.
Those are conflicting goals, said a former state examiner who requested anonymity, citing a state law banning inspectors from disclosing information they obtain in the discharge of their duties. "It means they're always thinking about propping up some banks," said the retired inspector.
"The primary goal of regulators should be safety and soundness," said Lawrence White, an economics professor at New York University. "I do not want banking regulators going out of their way to encourage economic development. They should be neutral."
"A career buster"
Officials with the state Department of Regulatory Affairs, which oversees the Banking Division, have refused to speak with The Post about New Frontier or even general approaches to regulation, citing the state law. They provided select answers to written questions about the department's staffing and policies.
FDIC officials also declined to comment.
Former banking commissioner Richard Fulkerson served at the helm of the division for 13 years. He left in November 2008, soon joining a bank consulting firm, seven weeks after it became known to regulators that New Frontier was likely to fail, records show.
His departure came as a surprise to many in the banking industry. At the time, he also was up against a rapidly deteriorating economy, particularly a hard-hit commercial real estate industry threatening the health of banks.
Greeley banker Leroy Leavitt recalled how Fulkerson was nervous about New Frontier's troubles as early as summer 2007, when they were having a conversation at a Denver banking conference.
"Almost everyone in the state banking community knew New Frontier was headed over the cliff," said Leavitt, chief executive of New West Bank in Greeley. "I asked, how are things going? He said, 'Up north, not so good.' He knew I was a neighbor of New Frontier.
"Then he looked me straight in the eye and said, 'This is a career buster.' "
Fulkerson said he did not recall the conversation. His departure, he said, had nothing to do with the bank.
"My retirement was planned several years in advance," he said. "The people I worked with will tell you that."
Several Fulkerson supporters, including former banking commissioner Barbara Walker and acting banking commissioner Fred Joseph, said he had been discussing an early retirement around 2007.
Fulkerson, a longtime state employee and former assistant regional director for the Office of Thrift Supervision in Kansas City, revealed his approach to enforcement in a September 2008 interview with The Post.
"I prefer a more graduated regulatory response. We are not going to start with the harshest enforcement actions," he said.
Fulkerson's exit came in the wake of a September 2008 inspection of New Frontier's finances. It showed the bank's distressed loans had skyrocketed to $258 million from $3.6 million in the prior exam a year earlier.
Joseph, who was appointed acting banking commissioner after Fulkerson's retirement, was left with an emergency on his hands.
While continuing to work at his job as state securities commissioner, he had to manage the process of issuing a cease-and-desist order against New Frontier in December 2008.
It was the first formal enforcement action against the bank, setting the clock on its closure, unless it made strict improvements to its loan management, boosted its capital and replaced bank president Larry Seastrom, among other measures.
By January, a Boulder investment group was considering buying a stake in the bank. Given the potential for boosting the bank's cash levels, Joseph and federal officials agreed to allow the bank to seek another $50 million in volatile, high-yield brokered CDs, the same deposits they would later condemn as detrimental to the bank's worsening balance sheet.
Unanswered questions
Among the unanswered questions The Post posed to state officials is whether the Banking Division's mission to promote competition was a factor in trying to prop up the bank with brokered deposits.
That shaky funding source, once again, wasn't the answer to its problems. By January, customers had already begun yanking millions in deposits as part of a silent bank run that extended through March.
All the regulators could do by April — after the bank had been drained of $222 million in deposits — was shut it down. Ultimately, the postmortem on the government's oversight, longtime industry observers say, will show a long list of failures.
"The practical aspect is that nobody wants to close a bank on their watch," said Jeff Gerrish, a former FDIC attorney.
"What we've learned here is that we should have done something sooner, given the bank's rapid growth," said Bill Mitchell, president of Bankers Bank of the West and a former member of the state banking board.
Mitchell left the board this fall, saying he had too many conflicts. In fact, his bank had financial dealings with New Frontier.
"I work with a lot of the banks," Mitchell said. "It's an awkward situation."
While public attention has focused largely on how regulators missed the misdeeds of Wall Street giants, The Post's investigation into New Frontier shows similar excesses and murky dealings can endure inside banks with an FDIC sticker on the door.
"It's the phenomenon of growing complexity," said Patrick Vellone, a Denver-based bank liability attorney. "New Frontier showed the same disguised financial arrangements as the investment banks. As complexity goes up, transparency goes down. What we don't understand, we really don't supervise or regulate in this country."
Miles Moffeit: 303-954-1415 or mmoffeit@denverpost.com Aldo Svaldi: 303-954-1410 or asvaldi@denverpost.com Researcher Barbara Hudson contributed to this report.