As we have reported before, Georgia has the unfortunate distinction of leading the nation in bank failures since the onset of the late-2000s financial crisis. Georgia has also seen far more FDIC bank failure lawsuits than any other state: 15 of the 63 bank failure cases brought by the FDIC since 2010 involve Georgia banks and are currently pending in Georgia federal courts. While some allegations vary from case to case, the general thrust of all of these lawsuits is that the former directors and/or officers of the banks were negligent or grossly negligent in pursuing aggressive growth strategies, with these strategies usually involving a high concentration of risky and speculative speculative real estate and acquisition, construction and development loans. Here is a rundown of the most interesting and significant developments to date:
The most heavily litigated issue has been whether the business judgment rule insulates bank directors and officers from liability for ordinary negligence. Beginning with Judge Steve C. Jones’ decision in FDIC v. Skow, concerning the failure of Integrity Bank, the district courts have consistently dismissed ordinary negligence claims, citing the business judgment rule. As we previously reported in November, the Eleventh Circuit has agreed to hear an interlocutory appeal in the Skow case. That appeal has now been fully briefed by the parties. The FDIC’s briefs can be found here and here, while the Defendants/Appellees’ brief can be found here. The parties’ briefs all focus on the interplay between the business judgment rule and Georgia’s statutory standard of care, with the FDIC arguing that the statute’s expression of an ordinary care standard precludes the application of any more lenient standard, and the Defendants/Appellees arguing that Judge Jones correctly followed the Georgia appellate courts’ interpretation of the business judgment rule. Note: This firm represents the Georgia Bankers Association and Community Bankers Association of Georgia, who have been granted leave to appear as amici curiae in support of the Defendants/Appellees. The amicus brief can be found here.
The pace of FDIC lawsuits against former bank directors and officers picked up considerably in the second half of April. Between April 15th and the end of the month, the FDIC filed eight D&O lawsuits. Each of the lawsuits relate to bank failures allegedly arising from an overconcentration in CRE and ADC loans. In six of the eight cases, the FDIC’s complaint was filed only days before the expiration of the 3-year limitations period. Here is a short synopsis of each new case:
- The first lawsuit was filed against the former senior officers of Riverside National Bank of Florida (Ft. Pierce, FL). The bulk of the FDIC’s complaint in that case focused on failed loans that had been secured by stock of Riverside’s affiliated holding company. We previously summarized the lawsuit in our April 24, 2013 blog post.
- Later on April 15th, the FDIC sued two former senior officers of City Bank (Lynwood, WA). According to the FDIC’s complaint, City Bank’s president and CEO alone had loan approval authority of up to $42 million, which was equal to the legal lending of the Bank. The complaint seeks the recovery of $41 million arising from the failure of 26 separate loans.
- The FDIC’s lawsuit against the former directors and officers of Bank of Wyoming is an interesting one. Here, the D&O carrier, BancInsure, apparently denied coverage for the FDIC’s pre-suit claim. Prior to the filing of the FDIC’s complaint, the former D&Os negotiated a settlement with the FDIC that provided for: (i) a “confession of judgment” in the amount of $2.5 million; and (ii) an assignment of the D&Os’ coverage claims against BancInsure in favor of the FDIC. The filing of the lawsuit on April 23rd was a mere formality to allow the court to enter the judgment.
- On April 25th, the FDIC sued the former D&Os of Peninsula Bank of Florida. The lawsuit was filed in the Middle District of Florida, which as we reported in our September 13, 2012 blog post, has held that Florida’s statutory version of the Business Judgment Rule insulates corporate directors from claims for ordinary negligence. Consistent with that ruling, the FDIC sued the former directors of Peninsula Bank for gross negligence, but sued the former officers for ordinary negligence. The complaint seeks the recovery of $48 million.
- The FDIC took a similar approach in its lawsuit against the former directors and officers of Frontier Bank (Everett, WA). It sued the former officers for ordinary negligence and the former directors for gross negligence, presumably because of the protections afforded by Washington State’s Business Judgment Rule. The complaint seeks the recovery of $46 million in connection with 11 loans.
- The FDIC’s complaint against the former directors of Eurobank is the third such suit filed in connection with the failure of a bank in Puerto Rico. As it did in the previous two suits, the FDIC took advantage of a Puerto Rican statute which permits it to also assert a direct action against the directors’ D&O carrier. The complaint seeks the recovery of more than $55 million in connection with 12 failed credits.
- The FDIC sued the former D&Os of Champion Bank (Creve Coeur, MO) on April 29th. The bulk of the FDIC’s complaint centers on seven out-of-state loan participations that Champion Bank had purchased from a lead bank for real estate projects in Nevada, Arizona and Idaho. According to the FDIC’s complaint, one of the former officers negligently represented that the lead bank would repurchase the participations upon Champion Bank’s request. The other D&O defendants negligently relied on that representation, as there was no such agreement with the lead bank. The lawsuit seeks the recovery of $15.56 million in damages.
- Finally, on April 30th, the FDIC filed a complaint against the former D&Os of Midwest Bank and Trust Company (Elmwood Park, IL). This lawsuit has two very distinct sets of legal theories. The first set of claims is asserted against the former D&Os in connection with their approval of six failed loans that resulted in damages of at least $62 million. The second set of claims is asserted against the former directors in connection with their alleged violation of the Bank’s investment policy. Specifically, the FDIC alleges that the former directors failed to sell preferred stock of Fannie Mae and Freddie Mac that it held for investment purposes, despite its auditor’s adverse classification of the stock. The FDIC seeks a separate award of damages in the amount of $66 million in connection with this set of claims.
Last week the FDIC sued eight former senior officers of Riverside National Bank of Florida (Ft. Pierce, FL). The suit was filed on April 15th, one day prior to the expiration of the three-year limitations period. For a copy of the complaint, click here.
Riverside National Bank of Florida (“RNB”) was opened in 1982, and it grew to 60 branches in 10 counties before it was put into receivership on April 16, 2010. The FDIC estimates that the material loss to the Deposit Insurance Fund arising from RNB’s failure is approximately $492 million.
According to the FDIC, RNB was affiliated with at least two other non-public bank holding companies, one of which owned a Florida bank that had failed in 2009. This corporate affiliation is a central theme in the lawsuit, as the FDIC focuses exclusively on the defendants’ approval of eight loan transactions that were secured by the holding company stock for either RNB’s parent or one of its affiliated holding companies, all allegedly in violation of RNB’s loan policy. Several of these loans were made to family members of one or more of the defendants. With the acceleration of the economic downturn in 2007, the holding company stock securing these loans lost value, and the loans quickly became non-performing and under-collateralized. The FDIC is seeking damages of approximately $8 million, which is the amount of losses attributable to the eight loan transactions at issue.
To our knowledge, this is the first FDIC lawsuit that focuses on failed loans secured by affiliate holding company stock. Since most community banks are not affiliated with multiple bank holding companies, this is not likely to signal a trend in FDIC litigation theory.
In a departure from its typical litigation practice, the FDIC has sued not only the directors and officers who voted for failed loans, but also the senior loan officer who originated those same loans. The claims arise from the failure of New Century Bank, which was placed into receivership in April 2010. The FDIC filed its complaint against the former D&Os on March 26, 2013, just a few weeks prior to the expiration of the three-year limitations period. For a copy of the FDIC’s complaint, click here.
The FDIC seeks to recover damages in excess of $33 million in connection with fourteen bad credits. According to the FDIC’s complaint, each of the fourteen loans was approved in violation of the Bank’s loan policy. Common violations of the loan policy included: (i) failure to establish adequate debt repayment programs; (ii) extension of credit in excess of permitted LTV ratio limits; (iii) failure to adhere to required debt-to-income ratios; (iv) approval of debt service coverage ratios below minimum requirements; and (v) reliance on outdated, unverified and inadequate financial information from borrowers and guarantors.
Several of the Bank’s failed credits were particularly problematic because they were for development projects in Las Vegas, which was far outside the Bank’s normal trade area. Not only could the Bank not monitor these projects as effectively as those in its normal market area, the loan policy itself prohibited the extension of credit outside the Bank’s market footprint.
The most unique aspect of this case is the FDIC’s decision to pursue separate claims against the Bank’s former SVP of Commercial Lending. Nowhere in its lawsuit does the FDIC allege that the lender voted to approve any of the failed credits. Rather, the FDIC asserts negligence and gross negligence claims against the lender arising from his origination, recommendation and administration of the bad loans.
It is not unusual for the FDIC to include senior lenders among its target D&O defendants. However, in almost every case to this point, those senior lenders had voted to approve the failed loans in question. That is not the case here. It will be interesting to see whether this case marks the beginning of a new FDIC theory of recovery against loan officers with no authority to approve loans.
The FDIC has begun posting copies of its settlement agreements on its website. It recently came under fire after the L.A. Times printed an article criticizing the FDIC for not being more transparent on the issue of whether its litigation efforts are bearing fruit. The FDIC responded to that criticism by posting the settlement agreements on its website. This website will likely be updated from time to time with new settlement agreements.
Not all of the settlement agreements posted on the FDIC’s site are from D&O cases. At least a few of them are from claims against brokers, lawyers or accountants for the failed banks. At this time, we don’t see any particular trends or patterns based on the settlement agreements on claims against former D&Os.
The FDIC recently sued a former director of Carson River Community Bank (Carson City, NV), which failed and went into receivership on February 26, 2010. The defendant, James M. Jacobs, was one of five directors who served on the Bank’s Senior Loan Committee and who approved three ADC loans that ultimately went into default, resulting in more than $3.6 million of losses to the Bank.
So why is the FDIC suing only Mr. Jacobs, and not the other members of the Senior Loan Committee for the allegedly imprudent loans? There are two probable reasons – one rooted in fact, and the other rooted in law. First, according to the FDIC’s complaint, the three subject loans were participated out to two Oklahoma banks owned by Mr. Jacobs’ family and for which Mr. Jacobs served as a director. The other directors on the Senior Loan Committee knew about Mr. Jacobs’ interest in the participating banks. What they did not know, however, was that Mr. Jacobs had secretly arranged for the Oklahoma participating banks to have preferential rights to repayment upon default. As a consequence of those preferential repayment rights, the Oklahoma banks were ultimately paid in full and Carson River Community Bank shouldered the bulk of the loss on the loans. This conduct, the FDIC alleges, constituted a breach of Mr. Jacobs’ fiduciary duty to Carson River Community Bank. Since the other directors on the Senior Loan Committee did not know about the preferential repayment rights, the FDIC was not in a position to assert similar fiduciary breach claims against them.
Second, the FDIC has not sued the other directors because Nevada has a very forgiving standard of liability for corporate directors. Under the Nevada corporate code, a director is not liable unless it is proven that: (a) the director’s act or failure to act constituted a breach of his fiduciary duties; and (b) the breach of those duties involved intentional misconduct, fraud or a knowing violation of law. Nev. Rev. Stat. § 78.137(7). Although it characterized the approval of the subject loans as imprudent, the FDIC must not have had sufficient facts to support an allegation that the other directors had committed “intentional misconduct, fraud, or a knowing violation of the law.”
This case is a true factual outlier, and it does not signal a trend that the FDIC will target single director defendants. We expect the FDIC will continue its now long-established practice of targeting all of the former directors and officers who played a substantial and active role in approving allegedly imprudent loans.
Last week the FDIC filed its 51st lawsuit against former directors and officers of failed banking institutions since July 2010. This most recent suit is against the former chairman, former CEO and former Chief Credit Officer of La Jolla Bank, which failed and went into FDIC receivership on February 19, 2010. A copy of the lawsuit is available here.
Many of the central themes in the FDIC’s complaint are consistent with its other recent D&O lawsuits – the Bank pursued an aggressive growth strategy fueled by heavy concentrations in commercial real estate lending, with insufficient underwriting and loan policy compliance, and without regard to deteriorating market conditions. What makes this case different is the FDIC’s theory that the Bank’s CEO and COO gave preferential loan treatment to certain Friends of the Bank (“FOB”). The senior officers, both of whom were compensated in large part based on loan production, allegedly granted oral approval of FOB loans, pressured lower-level bank personnel to recommend FOB loans with little or no underwriting, and concealed FOB loans that had gone into troubled status. Seven such FOB loans went into default, and the FDIC is seeking damages in excess of $57 million in connection with those loans.
Perhaps the most significant aspect of this case is that the FDIC is not seeking to hold most of the directors liable for the Bank’s losses. That decision is likely rooted in both the facts of the case and California’s version of the Business Judgment Rule. The factual allegations in the complaint suggest that the Chairman had actual knowledge of the Bank’s lax underwriting and loan policy compliance, and that the other directors may not have known about those deficiencies until much later. Ordinarily, the FDIC might still seek to hold the other directors liable for ordinary negligence. However, as several district courts have already ruled, California’s version of the Business Judgment Rule shields directors from claims for ordinary negligence. The FDIC therefore was limited to claims for gross negligence under FIRREA. It has asserted a gross negligence claim against the Chairman, but it apparently determined that the facts of the case do not support such a claim against the other directors.
For the first time since the advent of the Great Recession, the FDIC has filed an action against former bank directors based only on theories of gross negligence. The lawsuit was filed against the former directors of Orion Bank (“Orion” or the “Bank”) of Naples, FL, which failed and went into receivership in November 2009. A copy of the FDIC’s complaint is available here.
The FDIC’s central case theory focuses on the defendant directors’ completely lack of oversight over Orion’s President and CEO, Jerry Williams. According to the complaint, Mr. Williams became such a dominant decision-maker that the defendant directors generally approved any and all of his proposals with little, if any, scrutiny. Their alleged abdication of responsibility bled over into role as members of the Board Loan Committee, and they “blithely rubberstamped” any loan that Mr. Williams proposed without any meaningful review or deliberation. The FDIC contends that the director defendants continued to “rubberstamp” Mr. Williams’ proposed loans even after banking regulators had specifically criticized their lack of oversight and had warned them to be personally and directly involved in reviewing, analyzing and independently evaluating loans presented for approval.
Apart from its allegations that the defendant directors failed to properly oversee management, the FDIC also alleges that the defendants routinely disregarded proper loan underwriting standards, the Bank’s own loan policy, repeated warnings from regulators, and the rapidly declining real estate market. Worse yet, the defendant directors continued to approve ADC lending at an accelerated rate between 2005 and 2007 despite obvious signs that the real estate market was in steep decline. In total, the FDIC seeks to recover more than $53 million in connection with several bad loans approved by the defendants.
Earlier this month, the FDIC filed its 42nd D&O lawsuit since the advent of the Great Recession. This suit was filed against the former directors and two former executive officers of Charter Bank of Santa Fe, N.M. (“Charter” or the “Bank”), which was closed and placed into FDIC receivership in January 2010. A copy of the FDIC’s complaint is available here. This case represents a departure from the FDIC’s typical claims about alleged over concentrations in ADC and CRE lending. It instead focuses on Charter’s intentional strategy to enter into the subprime lending market in late 2006.
According to the FDIC’s complaint, the defendants authorized the formation of a subprime lending group in late 2006, with plans to target subprime borrowers, primarily in Florida, California and Texas. The Bank ultimately committed 72% of the its core capital to opening and operating its subprime lending unit. By pursuing this strategic path, the FDIC alleges, the defendants ignored regulatory warnings about the significant liquidity risk of originating subprime loans for sale, as well as obvious early warning signs that the secondary market for subprime residential mortgages had already started to tighten significantly.
The pace of FDIC suits continued to pick up steam in the fourth quarter, with the FDIC filing its third lawsuit suit in Florida, this time against the former directors of Peoples First Community Bank (Panama City, FL). Peoples First Community Bank (“Peoples First” or the “Bank”) was closed and put into receivership on December 18, 2009. The FDIC’s lawsuit was filed on December 17, 2012 – one day prior to the expiration of the three-year limitations period. For a copy of the FDIC’s complaint, click here.
The FDIC’s complaint against the former Peoples First directors is strikingly similar, both in tone and substance, to its last several D&O complaints. As we previously reported, the FDIC now must overcome a ruling by the Middle District of Florida that Florida’s statutory version of the Business Judgment Rule bars claims against former directors for ordinary negligence. It appears that, as a matter of legal strategy, the FDIC is attempting to “plead around” the Business Judgment Rule by alleging that the director defendants approved each of the bad credits at issue after: (i) they were specifically warned by regulators about deficiencies in the Bank’s loan underwriting procedures; (ii) they knew or should have known about the Bank’s overexposure in CRE loans and the “inevitable cyclical decline in real estate values.” In this case, the FDIC highlights eleven CRE transactions that ultimately resulted in over $77.1 million in losses to the Bank.
This complaint was filed in the Northern District of Florida, which has not yet ruled on the applicability of Florida’s statutory Business Judgment Rule to ordinary negligence claims. Nevertheless, we fully expect that the director defendants here will seek to dismiss some or all of the claims early in the case. We will be monitoring this case, along with the two other pending Florida cases, to see which of the FDIC’s claims are allowed to move beyond the initial pleadings stage.