FDIC Lawsuits: Coming Soon to Failed Banks Near You?

FDIC Lawsuits: Coming Soon to Failed Banks Near You?

The FDIC has authorized more than 50 lawsuits against former directors and officers of failed banks, according to an October 8, 2010 Bloomberg article. But merely because the lawsuits have been authorized does not necessarily mean we will see 50 lawsuits, as it appears that the FDIC approval was calculated in part to encourage pre-litigation settlements.

Since January 1, 2008, the FDIC has taken control of 294 banking institutions, as detailed here. The FDIC has been a very active litigant seeking to assert its rights of priority over other litigants' claims against the directors and officers of failed banks, but the FDIC itself has filed only one lawsuit against the senior officials at a failed bank.

Though the FDIC has to date pursued relatively little litigation itself, it has asserted claims against individuals at failed banks. These claims have come in the form of demand letters nominally addressed to the individuals but also with copies to the failed institution's D&O insurers.

For example, as discussed here, the FDIC filed a November 24, 2009 motion in the BankUnited Holding Company bankruptcy proceeding asserting its rights of priority to assert claims against Company's bank unit's directors and officer. Attached to the motion was a copy of a November 5, 2009 letter the FDIC's attorneys sent to former directors and officers of BankUnited, in which the FDIC presented a demand for civil damages and losses. Copies of the letter were sent to the company's primary and first level excess D&O insurers.

With its recent litigation authorization, the FDIC may now proceed to file more lawsuits against directors and officers of failed banks. However, the authorization (and surrounding publicity) may have been calculated to try to avoid litigation and encourage pre-litigation settlement in connection with some of the claims the FDIC has previously asserted in the form of demand letters like the one in BankUnited.

Along those lines, the Bloomberg article quotes an FDIC spokesman as saying that "the goal is to reach as many settlements as possible," adding further that "it's both in our interest and theirs to try and settle this matter before it gets into court and we get into expensive litigation." Thus, it appears that the authorization and surrounding publicity is designed in part to encourage settlements before available funds have been reduced by defense expenses.

The article cites the FDIC's estimate that the 50 authorized lawsuits would represent an effort to try to recoup more than $1 billion in losses. By way of comparison, and according to the NERA' August 2010 report on failed bank litigation (about which refer here), during the S&L crisis, the FDIC recovered about $1.3 billion in D&O claims.

In terms of the number of lawsuits filed, the 50 currently authorized lawsuits would represent about 17% of the 294 banks that have failed since January 1, 2008. During the S&L crisis, the FDIC filed lawsuits in connection with about 24% of the 1.813 failed financial institutions -- meaning roughly 435 lawsuits. Because the institutions failing during the current banking crisis are larger than the institutions that failed during the S&L crisis, the potential litigation recoveries in connection with many of the current failed institutions are proportionately larger.

Even though the FDIC want to try to settle cases if it can, it seems probable that it soon will be filing lawsuits, perhaps many of them in the days ahead. The Bloomberg article quotes the FDIC's spokesman as saying that "we're ready to go," adding that "we could walk into court tomorrow and file the lawsuits."

As a loyal reader said, commenting on the reports of the FDIC's litigation authorization, "Game on." Indeed.

Special thanks to the several readers who sent me copies of the Bloomberg article.

Morgan Keegan Funds '33 Act Subprime-Related Claims Survive Dismissal: In a September 30, 2010 order (here), Middle District of Tennessee Judge Samuel H. Mays, Jr. granted the defendants' motions to dismiss the '34 Act claims but denied the motions to dismiss the '33 Act claims in the Regions Morgan Keegan Open-End Mutual Fund securities class action litigation.

Plaintiffs are investors in three Morgan Keegan select mutual funds. The defendants are the funds themselves, their corporately affiliated asset manager, related corporate entities, as well as their corporate parent. The defendants include individual officers and directors of the funds and related entities.

The plaintiffs' allegation is basically that the funds invested in CDOs and other illiquid subprime mortgage-backed investments in excess of stated restrictions on the funds' investments. The plaintiffs contend that their investment losses are not the result of normal market factors, but rather are due to the funds investment in lower-priority tranches of asset-backed securities. When the market for the instruments began to decline in 2007, the funds found themselves holding assets that quickly declined in value and which they could not readily sell because of the limited market for such investments. Two of the funds declined in value over 70 percent, the third declined over 20 percent.

In reviewing the motions to dismiss, Judge Mays noted that the plaintiffs' amended complaint "exceeds four hundred pages, comprising 766 paragraphs and six appendices." This extraordinary length may in the end have weighed against the plaintiffs. Judge Mays observed that "when it is possible to ask legitimately, after reading a four-hundred page Complaint, who is being sued for what on a particular count, Plaintiffs have not met the PSLRA's pleading standards," adding that "it is not for the Court or for Defendants to ask who is 'relevant' to a particular count. It is the plaintiffs' duty to state clearly against whom they seek damages." Judge Mays found that dismissal of the '34 Act claims on this basis alone is sufficient.

Judge Mays went on, assuming for the sake of analysis that the plaintiffs claims had been pled with sufficient particularity, to hold that the plaintiffs had not sufficiently pled scienter. In attempting to establish scienter, the plaintiffs had relied on the "group pleading" doctrine. Judge Mays assumed for purposes of his opinion that group pleading had survived the PSLRA, but nevertheless concluded that "plaintiffs have failed to demonstrate that the inference of scienter is at least as compelling as any opposing inference of nonfraudulent intent."

But while Judge Mays granted the defendants' motion to dismiss the plaintiffs' '34 Act claims, he denied the defendants motions to dismiss the plaintiffs' '33 Act claims, finding that the plaintiffs had adequately identified the allegedly misleading statements in order to state a claim.

I have added the Morgan Keegan ruling to my running tally of subprime and credit crisis-related lawsuit dismissal motion rulings, which can be accessed here.

Read other items of interest from the world of directors & officers liability, with occasional commentary, at the D&O Diary, a blog by Kevin LaCroix.