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Georgia Supreme Court Weighs in on Director Liability

The Supreme Court of Georgia issued its latest opinion on March 13, 2019 in the continuing litigation over whether former directors and officers of the now defunct Buckhead Community Bank can be held liable for financial losses from commercial real estate loans.

The Georgia Supreme Court had previously advised a Georgia federal court, where the case was filed by the FDIC, that the directors and officers of the bank could be held liable if they were negligent in the process by which they carried out their duties. Following that opinion, rendered in 2014, the case returned to federal court, and a trial was ultimately held in 2016. In that trial, the jury concluded that some of the directors and officers were negligent in approving some loans and awarded the FDIC $4,986,993 in damages.

The trial judge in the case found that the defendants were “jointly and severally liable” for the award, meaning that the entire verdict could be collected from any one of the defendants. The defendants appealed contending that joint and several liability had been abolished by the General Assembly in 2005. The defendants also argued that the trial court should have given the jury the opportunity to apportion the damages among each of the defendants according to their respective degrees of fault. In considering the appeal, the United States Court of Appeals for the Eleventh Circuit again sought direction from the Supreme Court of Georgia on this new issue of law.

On Wednesday, in a 39-page opinion, the Georgia Supreme Court responded, providing answers to some, but not all, of the questions raised by the Eleventh Circuit. The Georgia Supreme Court held that joint and several liability can still be imposed in Georgia on defendants “who act in concert insofar as a claim of concerted action involves the narrow and traditional common-law doctrine of concerted action based on a legal theory of mutual agency and thus imputed fault.” The Supreme Court indicated that this was a very narrow exception to the usual rule that damages must apportioned among defendants.

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Maryland’s Business Judgment Rule Bars FDIC’s Ordinary Negligence Claims

Another court has weighed in on the question of whether the FDIC can sue former directors and officers of failed banks for ordinary negligence.  The latest decision comes from a federal court in Maryland, which held that a gross negligence standard must be applied when evaluating the conduct of directors and officers under Maryland’s business judgment rule.  FDIC v. Arthur, Civil Action No. RDB-14-604 (D. Md. Mar. 2, 2015).

The facts of FDIC v. Arthur follow a now-familiar pattern.  Baltimore-based Bradford Bank failed on August 28, 2009 and the FDIC was appointed as its receiver.  The four defendants are the bank’s former president, a senior loan officer and two directors who served on the bank’s loan committee.  The FDIC alleged that the defendants were negligent, grossly negligent and breached their fiduciary duties to the bank in connection with seven commercial loan transactions, resulting in losses in excess of $7 million to the bank.  FIRREA holds bank directors and officers to a gross negligence standard of conduct; however, the FDIC has routinely asserted that applicable state law holds directors and officers to a stricter ordinary negligence standard, giving the FDIC the right to sue for ordinary negligence.  As a result, federal courts across the country have had to determine whether the business judgment rule, as interpreted by the appellate courts in which they sit, permits ordinary negligence claims.

In Maryland, the answer is that ordinary negligence claims are not permitted.  Like many states, Maryland has enacted a statutory standard of care.  Md. Code. Ann., Corps. & Ass’ns § 2-405.1(a)(3) provides that “[a] director shall perform his duties as a director, including his duties as a member of a committee of the board on which he serves…[w]ith the care that an ordinarily prudent person in a like position would use under similar circumstances.”  But as the court explained, decisions both before and after the enactment of § 2-405.1 make it clear that “the appropriate test to determine director liability is one of gross negligence.”  In the court’s view, the statute did not intend to supplant existing case law applying the business judgment rule and its gross negligence standard.  The court also noted that the gross negligence standard was consistent with both FIRREA and the standard of care employed by Delaware courts.  Maryland, like many states, frequently finds Delaware law to be influential in answering questions of corporate governance.

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Georgia Supreme Court Confirms Business Judgment Rule

The Georgia Supreme Court issued its long-awaited decision in FDIC v. Loudermilk  on Friday, addressing whether the FDIC’s ordinary negligence claims against former directors and officers of failed banks are precluded by the business judgment rule.  There is a lot to digest in the Court’s 34-page opinion, but here are our initial thoughts.

The upshot for bank directors and officers in Georgia is that the business judgment rule is very much alive, and applies to banks to the same extent as other corporations.  That itself is big news—the Georgia Supreme Court had never addressed whether the business judgment rule exists in any context, and the FDIC had argued that if the rule existed at all, it did not apply to banks because the Banking Code imposes an ordinary negligence standard of care.  Much of the Court’s opinion is devoted to explaining how the business judgment rule developed as a common law principle and refuting the argument that the statute trumps the rule.

The Court explained, however, that the business judgment rule does not automatically rule out claims that sound in ordinary negligence.  It distinguished claims alleging negligence in the decision-making process from claims that do no more than question the wisdom of the decision itself.  A claim that a directors disregarded their duties by failing to attend meetings, for instance, could survive a motion to dismiss.  A claim that the decision itself was negligent, without any allegation relating to the process leading to the decision, will not survive.

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FDIC Sues Former Chairman and Senior Officers of La Jolla Bank

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.

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FDIC Sues Former Fla. Bank Directors for Gross Negligence

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.

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FDIC Sues Former Officers and Directors of Two Failed Georgia Banks in October 2012

As has been noted on this blog before, the State of Georgia has the dubious distinction of leading the nation in the number of failed financial institutions. In the month of October 2012, the number of lawsuits against former officers and directors of those failed institutions increased by two (2).

In the first lawsuit, filed on October 17, 2012, the FDIC brought suit in its capacity as Receiver for American United Bank of Lawrenceville, Georgia against two former officers and 6 former directors of the bank. (A copy of the complaint can be found here.)  In that suit, the FDIC alleged both ordinary negligence and gross negligence in connection with the management of the lending function of the bank. The FDIC alleged that the failure of American United caused a loss to the Federal Deposit Insurance Fund in the amount of $45.2 million, and, through alleged damages in the lawsuit, seeks to recover an amount in excess of $7.3 million.

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FDIC Files Second D&O Lawsuit in Florida

Despite having more than its fair share of failed banks, Florida has not been a hotbed of D&O litigation. On November 9th, the FDIC filed only its second lawsuit against former directors of a failed banking institution. The defendants here are former directors of Century Bank, FSB (Sarasota, FL), which was placed into receivership in mid-November 2009.  A copy of the FDIC’s complaint is available here.

 The FDIC’s complaint is consistent with most of its prior D&O lawsuits, with typical allegations of negligent overconcentration in ADC and CRE, as well as various failures to follow the Bank’s loan policy or to exercise safe and sound banking practices. What makes this complaint a little different is that it focuses on ten specific loan transactions which were approved after it was apparent that the Bank was in “dire financial condition” and not meeting regulatory capital requirements. 

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Eleventh Circuit Will Hear Appeal on Scope of Georgia’s Business Judgment Rule

In August, the Northern District of Georgia reaffirmed its prior ruling in the Integrity Bank case that Georgia’s version of the Business Judgment Rule shields former directors and officers from FDIC claims for ordinary negligence. Our discussion of that ruling can be found here. In doing so, the district court acknowledged that there was “substantial ground for difference of opinion,” on the issue, and it granted the FDIC’s request to petition the Eleventh Circuit Court of Appeals for an interlocutory appeal.

On November 16th, the Eleventh Circuit granted the FDIC’s petition, paving the way for an interlocutory appeal on the district court’s ruling. The parties will brief their respective arguments in the coming weeks, and it is likely that several interested non-parties will also seek to file amicus (“friend of the court”) briefs. The Eleventh Circuit may elect to hear oral argument on the issue, but it is not required to do so. A decision will likely come down within the next year.

The Eleventh Circuit’s ruling is expected to have a significant impact on the scope of claims that the FDIC may assert against former directors and officers of failed banks in Georgia. If the Court affirms the district court below, then the FDIC will be limited to prosecuting claims for gross negligence, which involves a much higher standard of care. If the Eleventh Circuit reverses, then the FDIC will continue to pursue D&O claims for ordinary negligence based on a lower threshold of negligent conduct. Either way, the Eleventh Circuit’s decision should be a significant turning point for FDIC claims in Georgia.

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