The United States Court of Appeals for the Fourth Circuit, which governs North and South Carolina as well as Virginia, West Virginia and Maryland, has issued an important ruling in FDIC v. Rippy, a lawsuit  brought by the FDIC against former directors and officers of Cooperative Bank in Wilmington, North Carolina.  As it has done in dozens of cases throughout the country, the FDIC alleged that Cooperative’s former directors and officers were negligent, grossly negligent, and breached their fiduciary duties in approving various loans that caused the bank to suffer heavy losses.  The evidence showed the FDIC had consistently given favorable CAMELS ratings to the bank in the years before the loans at issue were made.  The trial court entered summary judgment in favor of all defendants, criticizing the FDIC’s prosecution of the suit as an exercise in hindsight.  The Fourth Circuit, however, vacated the ruling as it applied to the ordinary negligence claims against the officers.  In its opinion, the court held that the evidence submitted by the FDIC was sufficient to rebut North Carolina’s business judgment rule and thus allow the case to go to trial.  The Court found that the evidence indicated that the officers had not availed themselves of all material and reasonably available information in approving the loans.

The decision is specific to North Carolina-chartered banks and is based on the historical development of the business judgment rule in that state.  Nonetheless, there are certainly comparisons to be drawn to decisions from other states.  The emphasis on allegations of negligence in the decision-making process echoes last year’s decision in FDIC v. Loudermilk, in which the Georgia Supreme Court held that it was possible to bring an ordinary negligence claim against bank directors and officers who engage in a negligent process in making a decision.  While the Georgia Supreme Court in Loudermilk seemed to be of the view that it would permit claims to go forward against directors and officers who completely avoided their duties and acted as mere figureheads, the Rippy decision shows that in North Carolina, at least, the distinction between a viable case and one barred by the business judgment rule may be very fine indeed.  For instance, the FDIC’s evidence consisted largely of expert testimony that Cooperative’s officers failed to act in accordance with generally accepted banking practices by, among other things, approving loans over the telephone before they had examined all relevant documents, and by failing to address warnings and deficiencies in the bank’s (generally positive) examination reports.

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.

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 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 has filed its fifth professional liability lawsuit since early October. Its most recent lawsuit is against the former directors and officers of Community Bank of West Georgia (Villa Rica, Georgia), which went into receivership in June 2009. A copy of the FDIC’s complaint is attached here.

Community Bank of West Georgia (the “Bank” or “Community Bank”) opened in March 2003. The FDIC alleges that the Bank’s original business plan was to grow its assets for a planned sale within five years. Towards this end, the FDIC contends, the Bank focused on increasing its real estate lending, primarily in ADC and CRE loans and purchase of loan participations.

The FDIC’s claims for negligence and gross negligence are rooted in many of the same types of general allegations that have become part of the FDIC’s standard pleading mantra: (i) failure to comply with the Bank’s own policies and procedures, banking regulations, and prudent lending practices; (ii) failure to adequately monitor and supervise the Bank’s lending function; (iii) disregard of regulators’ warnings and failing to address obvious problems; (iv) deficient underwriting, risk management, and credit administration practices that left the Bank “fatally exposed to the inevitable cyclical decrease in real estate values.” In total, the FDIC seeks to recover losses in excess of $16.8 million from 20 specific loans and loan participations.

On October 2nd, the FDIC filed its 33rd lawsuit against former directors or officers of failed banking institutions since the beginning of the current economic recession.  This suit is against the former directors of Benchmark Bank (“Benchmark” or the “Bank”) of Aurora, Illinois, which was placed into FDIC receivership on December 4, 2009.  For a copy of the FDIC’s complaint, click here.

A central theme of the FDIC’s complaint is that the director defendants, all of whom served on the Director’s Loan Committee, embarked on a strategy of aggressive growth through the approval of high-risk acquisition, development and construction (“ADC”) and commercial real estate (“CRE”) loans.  The director defendants approved the high-risk loans, the FDIC alleges, “without analysis of their economic viability or a complete evaluation of the creditworthiness of borrowers and guarantors”.   Even after the real estate market declined, the FDIC contends, the director defendants exacerbated the Bank’s problems by making new loans and renewing existing troubled loans, rather than curtailing ADC/CRE lending and preserving capital to absorb losses from existing loans went bad.

The most unique of the FDIC’s case theory centers on the role of Benchmark’s former chairman, Richard Samuelson, who was not only a director, CEO, and long-time acting president of the Bank, but also the principal originator of the Bank’s ADC and CRE loans.  As CEO and acting president of the Bank, Mr. Samuelson was ultimately responsible for the underwriting and credit administration of loans.  Yet those functions were never segregated from the loan origination function, leaving the Bank with a significant internal control deficiency.  Moreover, since Mr. Samuelson originated most of the ADC and CRE loans, it created a dynamic in which credit analysts were very reluctant to report underwriting deficiencies on his loans.  To make matters worse, the FDIC contends, Mr. Samuelson earned generous incentive awards from his loan originations, providing him with additional motivation to ensure that loans were approved.  In view of these facts, the FDIC alleges, the director defendants knew or should have known that the ADC and CRE loans required a higher degree of scrutiny and monitoring.  The FDIC contends that the director defendants breached their duties with respect to 11 specific ADC and CRE loans, resulting in losses of over $13.3 million.

We have previously summarized an important district court ruling dismissing the FDIC’s ordinary negligence claims against former directors and officers of Integrity Bank of Alpharetta, Georgia.  The FDIC asked the U.S. District Court for the Northern District of Georgia to reconsider its decision in that case, but the court recently denied that request and reaffirmed its rationale that Georgia’s version of the Business Judgment Rule bars claims for ordinary negligence against corporate directors and officers.  A copy of the court’s recent order in the Integrity Bank case is available here.  Although the district court declined to reconsider its prior dismissal of the ordinary negligence claims, it acknowledged that there was “substantial ground for difference of opinion” on that issue, and it granted the FDIC’s request to certify an order of interlocutory appeal to the Eleventh Circuit Court of Appeals.  Everyone in the D&O defense community, and especially those here in Georgia, is anxiously awaiting to learn if the Eleventh Circuit will accept interlocutory appeal of the case.

In the meanwhile, district courts in two other cases have weighed in on whether the Business Judgment Rule bars claims for ordinary negligence.  The first of these also comes from the Northern District of Georgia, and specifically from the FDIC’s lawsuit against certain former directors and officers of Haven Trust Bank.  (We have previously summarized the Haven Trust complaint.)  Utilizing the same rationale set forth in the Integrity Bank rulings, the court here ruled that the FDIC’s claims for ordinary negligence are not viable by virtue of the Business Judgment Rule.  Furthermore, the court ruled, to the extent that the FDIC’s claims for breach of fiduciary duty are based on the same alleged acts of ordinary negligence, those claims are foreclosed by the Business Judgment Rule as well.  The ruling was not a complete victory for the D&O defendants, however, as the court declined to dismiss the FDIC’s claims for gross negligence under FIRREA.  Specifically, the court held that the FDIC had alleged, in a collective fashion, sufficient facts on which a jury might reasonably conclude that the defendants had been grossly negligent.  Despite that holding, the court took the unusual step, “in the interest of caution,” of ordering the FDIC to replead the gross negligence claim with specific allegations as to each defendant’s involvement or responsibility for the alleged wrongful acts.  A copy of the court’s ruling can be viewed here.

On July 13, 2012, the FDIC filed its 31st professional liability lawsuit since the advent of the current economic downturn.  This suit was filed against seven former directors and officers of Community Bank of Arizona (“CBOA” or the “Bank”), all of whom served on the Bank’s Board Loan Committee.  CBOA had four branches in metropolitan Phoenix before it was closed and placed into receivership on August 14, 2009.  For a copy of the FDIC’s complaint, click here.

As it has in prior D&O lawsuits, the FDIC generally alleges here that the defendants: (i) took unreasonable risks with the Bank’s asset portfolio; (ii) violated the Bank’s own loan policies and procedures when approving the acquisition of loans; (iii) ignored warnings regarding risky real-estate and constructions loans, and (iv) knowingly permitted poor underwriting in contravention of the Bank’s policies and reasonable industry standards.

The FDIC’s sharpest criticisms of the defendants relate to CBOA’s acquisition of loan participations without conducting any of its own underwriting.  Most of these loans were acquired from CBOA’s larger “sister bank,” Community Bank of Nevada (“CBON”).  The CBON loans were principally made to real estate developers in Nevada, and seventy-five percent (75%) of the participations that CBOA purchased from CBON ultimately became problem loans.  According to the FDIC’s complaint, the defendants “rubber stamped” the purchase of the loan participations, all without having CBOA: (i) conduct independent financial analysis of the loans; (ii) obtain updated appraisals of the collateral; (iii) obtaining or analyzing financial statements of the guarantors; or (iv) conducting independent site inspections as required by the CBOA loan policy.

On May 23, 2012, the FDIC filed an action against the former directors and select former officers of Innovative Bank (“Innovative” or the “Bank”).  Innovative was based in Oakland, California, and it had four other branches in the state when it was closed by the FDIC in April 2010.  For a copy of the FDIC’s lawsuit, click here.

The FDIC’s complaint in this case contains the same hallmark claims for negligence, gross negligence and fiduciary breach that we have come to expect from its D&O suits.  But this case is unique in that the FDIC also asserts a direct claim for fraud.

The alleged fraud was rooted in the Bank’s high-volume SBA lending program.  According to the complaint, the senior vice president in charge of SBA lending, Jimmy Kim, had free rein to originate, recommend and approve SBA loans, all with virtually no supervision by senior management or the board of directors.  The SBA loans generated huge commissions for Mr. Kim, and he reportedly received monthly commissions in excess of $100,000.  In order to continue the flow of high commissions, the FDIC alleges, Mr. Kim colluded with borrowers and loan brokers to cause the Bank to extend millions of dollars of loans that absent fraud would not have qualified for the SBA lending program.

The latest drama from Beverly Hills is not a revival of Beverly Hills 90210 or a sequel to Beverly Hills Cop, but rather a 42-page complaint filed against the former directors and officers of First Bank of Beverly Hills (“FBBH” or the “Bank”).  FBBH was closed and put into receivership on April 24, 2009.  The FDIC’s lawsuit was filed on April 20, 2012, just days before the expiration of the three-year limitations period.  For a copy of the FDIC’s complaint, click here.

According to the complaint, the director and officer defendants pursued an “unsustainable business model” focused on rapid asset growth through the extension of high-risk CRE and ADC loans.  At the same time, the FDIC alleges, the defendants were weakening the Bank’s capital position by approving large quarterly dividend payments (based on “false profits” from problematic loans) to the Bank’s parent corporation, in which many of the defendants were shareholders.

A common refrain throughout the FDIC’s suit is the defendants’ alleged “willful disregard” of the Bank’s own Loan Policy.  For example, the defendants approved two loans that were in violation of the Loan Policy’s prohibition against loans for construction projects with “difficult topography.”  One loan was for a project that ultimately failed because it sat directly atop the San Andreas Fault.  And the second loan was for a project that failed because the vast majority of the land was ultimately deemed undevelopable due to the Endangered Species Act.