October 12, 2011
Authored by: Bard Brockman
On August 10, 2011, the FDIC sued nine former directors and officers of Cooperative Bank (Wilmington, NC), which was placed into receivership in June 2009. A copy of the FDIC’s complaint is available here.
In its complaint, the FDIC alleges that the board and senior management of Cooperative Bank instituted a strategy in 2001 to grow from the Bank’s assets from $443 million to $1 billion by the end of 2005. The Bank did not meet that goal, but the board and senior management reaffirmed the goal to become a $1 billion bank, and pursued an aggressive growth plan in furtherance of that goal. That aggressive growth plan, the FDIC alleges, caused the Bank to become over-concentrated in acquisition, development and construction (“ADC”) loans. Furthermore, the FDIC contends, the defendants “failed to manage the inherent risks associated” with the aggressive growth strategy. Specifically, the director defendants permitted a lax loan approval process that did not include a formal loan committee to review an analyze loans; instead, the Bank relied on various levels of loan approval authority, which were routinely violated. State and federal regulators repeatedly warned Cooperative’s management about the risks associated with its high concentration in speculative loans and weaknesses in its lending function, but the FDIC states those warnings were ignored.
The FDIC’s complaint seeks approximately $34.5 million of damages on negligence and breach of fiduciary duty theories. The alleged damages flow from two types of loan losses.
The first set of losses resulted from Cooperative’s “Lot Loan Program,” in which the Bank provided credit to borrowers to buy vacant lots for the purported purpose of eventually building vacation homes in developments along the North Carolina coast. In reality, the FDIC alleges, Cooperative provided lot loans to out-of-state, speculative buyers (many of whom intended to “flip” the lots) on artificially-inflated appraisals.
The Lot Loan program was particularly ill-advised, the FDIC contends, because the Bank’s senior management acknowledged from the start that the lot loans would not be profitable for the Bank. The senior managers viewed the Lot Loan Program as a “loss leader,” which would put the Bank in a better position to provide construction financing when the buyers were ready to build.
In the course of setting up the Lot Loan Program, the Bank’s senior management represented to the Bank’s ALCO Committee that the lot loans would be limited to a 90% loan-to-value ratio, and that payments would not be interest-only (which had been a concern of the regulators). Even at 90% LTV, the lot loans violated the Bank’s own Loan Policy, which allowed only a 65% LTV limit for raw land and a 75% LTV limit for land development. To make matters worse, the lot loans were no-equity loans, with interest-only payments, and the majority of the lot loans were “stated income” (no-document) loans.
Cooperative’s board learned about the high-risk Lot Loan Program at a board meeting on July 17, 2007, and specifically determined that the lot loans did not comply with the Bank’s Loan Policy. Nevertheless, the board took no corrective action, and the Bank continued to make risk lot loans for several more months. The FDIC is seeking to recover damages of nearly $10 million against the Bank’s senior management – the president and EVP for mortgage lending – for the lot loans extended before the July 17, 2007 board meeting. It is also seeking to hold the senior managers and all of the directors liable for approximately $4.5 million of losses on lot loans extended after that July 17, 2007 board meeting.
In addition, the FDIC is seeking to damages of over $20 million for losses suffered on nine commercial real estate loans. The key allegations with respect to these losses is that the director defendants approved these loans without any formal loan review or evaluation process. Instead, the Bank’s president called individual directors and secured telephonic approval until he had enough votes to approve a loan. The director defendants did not have copies of the loan files or any other presentations to evaluate the loan when they purportedly approved them by telephone.