Question

13. Roger Anderson took over as CEO of Continental Illinois of Chicago in 1973. His great ambition was to see "Conti" grow larger than its Chicago archrival, First Chicago. Conti's loan officers were urged to lend at all costs. They offered bargain rates to lure borrowers away from other banks. They accepted every syndication and participation they could. By 1983, Conti had $42 billion in assets and had passed First Chicago to become the seventh largest bank in the United States.

The same rise in interest rates that precipitated the LDC debt crisis started Conti's decline. As the recession worsened, the poor quality of its loans became apparent. Default followed default. When Penn Square Bank of Oklahoma City failed in July 1982, it transpired that Conti was holding $1 billion of its energy loan participations. Conti's loss on these alone was $220 million.

These losses were particularly serious because of Conti's heavy reliance on liability management. Because its home state of Illinois did not then allow bank branching, Conti had only a single office in downtown Chicago. Consequently, core deposits made up only 25% of its funds. The rest came from the money market. Some 16% of its funds were borrowed from U.S. banks and some 40% were Eurodollars. As its financial situation worsened, Conti found it progressively harder to roll over its NCDs, and it was forced to rely more and more on overnight funds.

Conti's condition deteriorated further over the next year and a half. In April 1984, Conti announced an additional $400 million of problem loans, bringing the total to $2.3 billion, an amount greater than its equity. On Friday, May 11, as a result of rumors that it was about to be closed, Conti was unable to roll over its overnight borrowing, and it was forced to borrow $3.5 billion from the Chicago Fed.

A week of efforts by the Fed and by the other major banks to prop up the failing bank proved fruitless. On May 17, the FDIC announced that it would guarantee all of Conti's liabilities (not just its insured deposits). In July, after it proved impossible to arrange its acquisition by another bank, Conti was taken over by the federal government.

By March 1985, Conti's assets had shrunk from their peak of $42 billion to $30 billion. The final cost of the bailout is still unknown‑it depends on how much the FDIC can recover on the bad loans‑but recent estimates place the cost at about $1.7 billion.

Question

Explain the reasons behind the failure of Continental Illinois.

Answer 1

There are many reasons behind failure of continental Illinois and they all are because of over ambition and wrong decisions to achieve impractical goals set by CEO Roger Anderson.

1. To grow larger than First Chicago they started lending at all costs and offered bargain rates and accepted every syndication and participation they could. This aggressive lending leads to accumulation of bad debt.
2. Second reason was rise in interest rates (the bargain rate loans start to bleed money)
3. Recession, due to recession defaults started in already poor loan books.
4. Holdings of $1 billion of Penn Square bank energy loan participations. With decline of Penn Bank Conti lost 220 million.
5. Poor liability management, Conti had only a single office in downtown Chicago. Consequently, core deposits made up only 25% of its funds 16% of its funds were borrowed from U.S. banks and some 40% were Eurodollars.
6. Reliance on Overnight funds from money markets which are not only short term but also high cost.
7. More bad debts in 1984 (around $400 mill) totaling $2.3 billion more than Equity (big red flag).

It all can be summed up as trying to achieve overambitious and impractical goals by aggressive lending and not increasing liabilities or able to arrange low cost and long term funds to back the lending.