Federal Deposit Insurance Corporation
Division of Supervision and Consumer Protection
Washington, D.C. 20429

DATE: August 26, 2004

MEMORANDUM TO: Stephen M. Beard, Deputy Assistant Inspector General for Audits

FROM: Michael J. Zamorski [Electronically produced version; original signed by Michael J. Zamorski], Director

SUBJECT: Draft Report Entitled, Division of Supervision and Consumer Protection's Assessment of Bank Management (Assignment Number 2003-057)

The Division of Supervision and Consume Protection (DSC) appreciates the opportunity to respond to this Draft Report prepared by the FDIC's Office of Inspector General (OIG). As the results of this audit show, the approach used by DSC examiners to assess bank management and controls during safety and soundless examinations is adequate.

We concur with recommendation (1) and will take action as noted below. We partially concur with recommendation (2) and offer an alternative action as described below. While we concur with the intent of the recommendation (2), we believe that guidance for the assessment of and response to banks that are controlled by a dominant official are currently provided in various DSC policies and procedures. We believe the intent of recommendation (2) can be achieved by updating the discussion in DSC's Manual of Examination Policies on banks that are controlled by a dominant official.

While we have no exception to the assessments of the dominant official's influence in the sample of six banks reviewed by the OIG, the methodology whereby a sample of six out of eight state non-member banks with a composite rating of "5" as the sample causes us some concerns. We believe that the sample of banks on which these recommendations are based is too small to conclude that a separate consolidated set of guidance should be developed for banks that are controlled by a dominant official. The sample does not include any of the numerous institutions with composite ratings of "1" or "2" that are also controlled by a dominant official. We do not think it is reasonable to conclude from a review of such a small sample of banks with similar deficiencies that a separate set of guidance should be created.

Additionally, while the presense of a controlling official may be identifed from the previous examination report or work papers, in many cases the extent of the control of that dominant official will not be known until many of the examination procedures and assessments are performed. If a separate set of guidance were created to assess banks that are controlled by a dominant individual, they would be redundant of the steps that have already been performed to identify and assess the dominant official and the extent of his or her control. Furthermore, all the risk factors that the Report identifies as important risk factors to assess when an institution is controlled by a dominant official are the same factors that are assessed in all examinations. DSC would also like to point out that none of the other Federal banking agencies have a separate set of guidance for the assessment of banks controlled by a dominant official.

Response to Recommendations

OIG recommends the Director, DSC:

	(1)	Require that the pre-examination review process considers and identifies the presence of a dominant official as a potential targeted/high risk area and that examination steps be planned to evaluate the level of risk and the quality of mitigating controls at the bank.
	DSC's Response:
	We concur with this recommendation. While we believe that our guidance already includes this requirement, we will review the guidance for the pre-examination review process to ensure that it is clear that this factor be considered and included in the planning. Currently, the Risk Scoping Activities Module includes guidance for specific activities that would consider the presence of a dominant official, including identification of key personnel, review of auditors' evaluations of internal controls, and a determination of perceived control risks from the previous examinations and other reports. It should be noted that if a dominant individual is identified during previous examinations, this information will be included in the previous examination report or workpapers. However, in order to ensure that this risk area is considered during the pre-examination review process, we will recommend to the Interagency ED Module Maintenance Committee that a specific requirement to "consider the impact of the existance of a dominant official" be added to the Risk Scoping Module. This Committee is expected to hold its next meeting before the end of 2004.

OIG recommends the Director, DSC:

	(2)	Consolidate and/or expand existing guidance for the assessment of and response to banks that are controlled by a dominant official.
	DSC's Response:
	While we concur with the intent of the recommendation, we offer an alternative action to achieve the desired result. As discussed earlier in this response, we believe that a consolidated set of guidance for the assessment of and response to banks that are controlled by a dominant official currently exists. However, we believe that the discussion in DSC's Manual of Examination Policies on the concerns regarding the risks and potential dangers inherent in institutions controlled by a dominant official should be expanded. DSC will update this coverage in the Manual of Examination Policies to emphasize the existance of a dominant official as a risk factor. This discussion will also emphasize the need to consider and assess the issues noted in the OIG's Report. This discussion will be included in the next revision to the Manual. This revision is expected to be completed in the 1st quarter of 2005.

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