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Presenting a live 90‐minute webinar with interactive Q&A
FDIC Lawsuits Against Failed Banks' Law Firms gand Other Outside Professionals Protecting Borrowers' and Lenders' Interests Under UCC Article 9
T d ’ f l f
1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific
WEDNESDAY, MAY 18, 2011
Today’s faculty features:
Dianne S. Wainwright, Partner, Margolis Edelstein, Pittsburgh
Linda D. Kornfeld, Partner, Jenner & Block, Los Angeles
Michael L. Zigelman, Partner, Kaufman Dolowich Voluck & Gonzo, Woodbury, N.Y.
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The FDIC and CurrentThe FDIC and CurrentBanking Crisis:Banking Crisis:
Anticipating Effects on Third Party Anticipating Effects on Third Party ffProfessionalsProfessionals
Michael L. Zigelman, Esq.Partner
135 Crossways Park Dr ive, Sui te 201y ,Woodbury, New York 11797
www.kdvglaw.com
IntroductionIntroduction
FDIC Role
IntroductionIntroduction
FDIC RoleCurrent Crisis
S&L C t C i iS&L v. Current CrisisClaim Environment
Professional Liability Exposures
6
FDIC’s Role in the FDIC’s Role in the U S B ki S tU S B ki S t
Currently Primary Regulator for 4,715 State Non-Member
U.S. Banking SystemU.S. Banking Systemy y g
BanksDodd-Frank Act Also Establishes FDIC as Primary
Regulator for All State-Chartered ThriftsRegulator for All State Chartered ThriftsProvides Deposit Insurance for 7,723 Banks (as of
November 18, 2010)E h d it i i d f t l t $250 000Each depositor is insured for at least $250,000 per
insured bankFunded by its insured financial institutionsy
Backed by Full Faith & Credit of U.S.Acts as Receiver for Failed Banks and Thrifts to Liquidate
Assets and Pay ClaimsAssets and Pay Claims
7
Failed BanksFailed Banks20072007 T dT d
2007: 3 banks failed
20072007--TodayToday
2007: 3 banks failed2008: 25 banks failed2009 140 b k f il d2009: 140 banks failed2010: 157 banks failed
2011: 25 banks have failed to date (as of March 18, 2011), )
8
Top States for Bank and Thrift F il 2007 2010Failures, 2007 – 2010
California 34 fail res assets totaling $102 5 BCalifornia: 34 failures, assets totaling $102.5 B
Illinois: 38 failures, assets totaling $30.5 Bo s 38 a u es, assets tota g $30 5
Florida: 45 failures, assets totaling $32.8 B
Georgia: 52 failures, assets totaling $26.9 B
9
Current Crisis:Current Crisis:N b f F il d B kN b f F il d B k
From 2007 through Sept. 10, 2010, 293 commercial banks with FDIC deposit insurance failed (only 18 bank failures from 2002-07)
Number of Failed BanksNumber of Failed Banks
deposit insurance failed (only 18 bank failures from 2002 07).
10
FDIC Problem InstitutionsFDIC Problem InstitutionsFDIC Problem InstitutionsFDIC Problem Institutions
11
Savings & Loan Savings & Loan v.v.v.v.
Current CrisisCurrent Crisis
Refers to the crisis of the 1980s and 1990s during which hundreds of savings and loan
associations in the U.S. failed Contributed to the large budget deficits of
the early 1990s
12
Savings & Loan Savings & Loan v.v.
2 744 failed banks as result of S&L Crisis
Current CrisisCurrent Crisis2,744 failed banks as result of S&L Crisis
Annual Failures and LossesUntil 2009 not more than 50 bank failures in single yearUntil 2009, not more than 50 bank failures in single year
since 1992.Current annual failures lower than each year of S&L
Crisis but 2009 losses larger than most years of S&LCrisis, but 2009 losses larger than most years of S&L Crisis.
Aggregate Lossesgg gAggregate nominal losses in S&L were $103 Billion,
compared with $75 Billion from 2008 through June 2010.Recent per bank failures 3x larger than in S&L CrisisRecent per-bank failures 3x larger than in S&L Crisis.
13
Savings & Loan Savings & Loan v.v.
Comparing Assets of Failed Banks
Current CrisisCurrent CrisisComparing Assets of Failed Banks
79% of recent failed banks had less than $1 Billion, but accounted for 20% of Deposit Insurance Fund
losses.91% of S&L failed banks had less than $1 Billion (in
2010 dollars) and accounted for 37% of losses2010 dollars) and accounted for 37% of losses. Striking Similarities in Practices
High-risk business strategies, concentrations in high-g g grisk sectors, overreliance on “hot money” funding sources, weakness in staffing, and poor oversight.
Poor underwriting policies credit administration riskPoor underwriting policies, credit administration, risk management, and monitoring.
14
Claim EnvironmentClaim Environment
Bank failures concentrated in Georgia and FloridagDue to depressed commercial values from
overbuilding and weak economic gfundamentals.
Most matters are potential claimsFDIC retaining private counsel to pursue claims
E-DiscoveryE DiscoveryMore evidence than during S&L Crisis.
15
Claim Environment:Claim Environment:FDIC I itFDIC I it
FDIC protected from its own post-closing
FDIC ImmunityFDIC Immunity
p p gnegligence and/or failure to mitigate.
Many courts deemed FDIC immune orMany courts deemed FDIC immune or subject to no duty of care (although courts
not uniform on issue).Potential sovereign immunity under
Federal Tort Claims Act for FDIC’s own ti iactions as receiver.
16
Claim Environment:Claim Environment:FDIC’ Liti ti T tiFDIC’ Liti ti T ti
As receiver, FDIC has access to bank’s internal
FDIC’s Litigation TacticsFDIC’s Litigation Tactics
,documents.
FDIC can also subpoena individuals from banksFDIC can also subpoena individuals from banks for evidence.
FDIC may collaborate w/ DOJ to develop criminalFDIC may collaborate w/ DOJ to develop criminal charges against D&O’s.
E g Two Integrity Bank officers sued by FDIC alsoE.g., Two Integrity Bank officers sued by FDIC also indicted. FDIC, as Receiver of Integrity Bank of
Alpharetta, Georgia v. Steven M. Skow et al., U.S. District Court N D Ga Case No 1:2011 cv 00111District Court, N.D. Ga., Case No. 1:2011-cv-00111.
17
FDIC’s Claims Against D&O’sFDIC’s Claims Against D&O’sFDIC authorized suits against 130 D&O’s with claimed
damages of $2.6 Billion.During S&L Crisis, FDIC recovered $1.3 Billion from banks’
D&O’D&O’s.Most FDIC investigations completed within 18 months of
bank closure.T d t FDIC fil d it i t 4 b k ’ D&O’ ( iTo date, FDIC filed suits against 4 banks’ D&O’s (naming
35 individuals).IndyMac. FDIC v. Van Dellen, et al., U.S. District Court, C.D. Cal.,
Case No SA cv 10 004915Case No. SA-cv 10-004915. Heritage Community Bank. FDIC, as receiver of Heritage
Community Bank, v. John M. Saphir et al., U.S. District Court, N.D. Ill., Case No. 1:10-cv-07009.
Integrity Bank. FDIC, as Receiver of Integrity Bank of Alpharetta, Georgia v. Steven M. Skow et al., U.S. District Court, N.D. Ga.,
Case No. 1:2011-cv-00111.1st Centennial Bank FDIC as receiver of 1st Centennial Bank v1st Centennial Bank. FDIC, as receiver of 1s Centennial Bank, v.
James R. Appleton et al., U.S. District Court, C.D. Cal., Case No. cv-11-00476.
18
FDIC’s Causes of Actions Against D&O’s
Negligence and/or Gross NegligenceNegligence and/or Gross NegligenceGross Negligence under Financial I tit ti R f R dInstitutions Reform, Recovery and
Enforcement ActBreach of Fiduciary Duty
Breach of Duty to SuperviseBreach of Duty to Supervise
19
Defenses of Bank D&O’sDefenses of Bank D&O’sDefenses of Bank D&O sDefenses of Bank D&O s
B i J d t R lBusiness Judgment Rule
Statute of LimitationsStatute of LimitationsFrom bank closure, FDIC has 3 yrs for torts
and 6 yrs for contract claimsand 6 yrs for contract claims
Loss CausationUnforeseeability of industry-wide crisis
FDIC’ O C l bilitFDIC’s Own Culpability20
Professional Liability Professional Liability EE
Other policies exposed
Exposures Exposures
BPL, Fiduciary, Lawyers E&O, Accountants E&O
As receiver FDIC will sue other professionalsAs receiver, FDIC will sue other professionals.Historically, FDIC filed suits against D&O’s of ¼ of
failed banks—same number of additional suits brought gagainst lawyers, accountants, and insurers.
During S&L Crisis, FDIC filed 205 legal malpractice and 139 acco nting malpractice s itsand 139 accounting malpractice suits.
During S&L, FDIC recovered $1.6 Billion for legal and accounting malpractice claims compared to $1 3accounting malpractice claims, compared to $1.3
Billion in D&O claims.21
Theories for Professional Theories for Professional Li bilit Cl iLi bilit Cl i
Tort claims for breach of fiduciary duties and/or
Liability ClaimsLiability ClaimsTort claims for breach of fiduciary duties and/or
negligence against officers and directorsMalpractice claims against accountants, p g ,attorneys, appraisers, brokers or other
professionalsBreach of Contract claims
Fidelity BondsMortgage Fraud – Cost Per Loan Mortgages, Closing
Instructions, Indemnification
22
Professional Liability Exposures: Professional Liability Exposures: R iR iRecoveries Recoveries
Total professional liability collections from JanuaryTotal professional liability collections from January 1986 to December 1996 exceeded $5 Billion.
$4.5 Billion of the $5 Billion was collected from 1990 th h 1995through 1995
Of the $4.5 Billion, the FDIC and RTC collected more than $1.2 Billion on accounting liability claims
During the six years after the enactment of the Financial Institutions Reform, Recovery, and
E f t A t f 1989 (“FIRREA”) 1989 t 1995Enforcement Act of 1989 (“FIRREA”), 1989 to 1995, the FDIC and RTC collected $500 Million on attorney
malpractice claims.malpractice claims.
23
Professional Liability ExposuresProfessional Liability ExposuresProfessional Liability ExposuresProfessional Liability Exposures
As of April 12, 2011, the FDIC authorized 11 fidelity p , , ybond, attorney malpractice, and appraiser
malpractice lawsuits.Also 142 residential malpractice and mortgage fraud
suits pending (some inherited).
Additional lawsuits likely in Georgia and Florida.
24
Professional Liability Exposures: Professional Liability Exposures: Ti i d I t A l iTi i d I t A l iTiming and Impact AnalysisTiming and Impact Analysis
It is too earl to determine the potential impact ofIt is too early to determine the potential impact of the FDIC’s focus on professional liability claims.As the receiver for failed banks and thrifts theAs the receiver for failed banks and thrifts, the FDIC has three years to file tort claims, and six years for breach-of-contract claims unless theyears for breach of contract claims unless the institution's home state has a longer statute of
limitations. Most of the concerned failures occurred in 2008
and after, during the height of the crisis, and have either not yet met or are approaching the
three-year mark.25
Conclusion Conclusion FDIC aggressively pursuing former D&O’s
More litigation is anticipatedMore litigation is anticipatedImpact of Dodd-Frank Financial Reform
A tActFDIC also pursuing third-party
professionals involved with failed banksToo early to gauge the impact on certain y g g p
third-party professionals - i.e. lawyers and law firms, associated with failed institutions
26
FDIC LAWSUITS AGAINST THEFDIC LAWSUITS AGAINST THE FAILED FINANCIAL INSTITUTION’S
OUTSIDE AUDITORS
Dianne S. Wainwright, EsquireMargolis Edelstein525 William Penn PlaceSuite 3300Suite 3300Pittsburgh, PA [email protected] @ gwww.margolisedelstein.com
27
Outside Auditors have been involved with Financial Institutions for many Years
The Independent Auditor is engaged generally:1 T d t l dit f th fi i l t t t
y
1. To conduct annual audits of the financial statements and to verify the financial statements.
2. To review the bank managements’ internal control2. To review the bank managements internal control mechanisms.
Conceptually, accountants agree to utilize Generally A t d A ti P i i l (“GAAP”) d G llAccepted Accounting Principles (“GAAP”) and Generally Accepted Audit Standards (“GAAS”) in completing audits and reviewing internal controls. However, both GAAP g ,and GAAS are subject to multiple interpretations.
28
The FDIC as Receiver• The FDIC as Receiver for a failed financial institution acquires the
rights of the financial institution to assert claims for losses caused by professionals hired by the failed financial institution: including A t t d A ditAccountants and Auditors.– When asserting claims as Receiver, the FDIC can utilize the
accountant’s annual engagement letters to demonstrate privity d i t i tli i th d ti dand assist in outlining the duties owed.
– “The FDIC,” as the failed bank’s “receiver, can only bring claims that would be available to the thrift.” FDIC v. Deloitte & Touche 834 F S 1129 (E D A k 1992)834 F. Supp.1129 (E.D Ark. 1992)
– Note: The FDIC can also file claims on behalf of depositors or creditors in its “corporate” capacity. These claims are asserted by th FDIC t di i “Thi d P t B fi i i ” d ththe FDIC standing in as “Third Party Beneficiaries” and they are different claims than those brought as Receiver.
29
The FDIC Acquires/Inherits the Rights of the Failed Financial Institution• Contract rights and/or applicable insurance
policies/fidelity bonds.• Contract rights owed from third party professionals to the
failed financial institution.Professional Malpractice Claims• Professional Malpractice Claims
NegligenceNegligent MisrepresentationNegligent Misrepresentation
• Other Tort Claims
30
The FDIC as Receiver (cont.)
• The FDIC, as Receiver, attempts to recover assets from others who may be liable for the failed institution losses. This process begins with the investigation.– Investigation
The Professional Liability Operation• The Professional Liability Operation– When a financial institution fails the Professional
Liability Operation unit conducts an investigation.y p g– Part of the investigation involves identifying
potential areas of recovery for the failed i tit ti Cl i i t di t ffiinstitution. Claims against directors, officers, lawyers, accountants, brokers and/or appraisers will be examined.
31
Th P f i l Li bilit O ti
The Investigation• The Professional Liability Operation
– Generally, 18 months to investigate (from the time the financial institution is closed).• Complex and detailed in nature• Multi-layer review by the FDIC attorneys and investigators• Subpoena power: the FDIC has authority to serve subpoenas p p y p
to the failed Financial Institution’s former auditors. See 12 U.S.C. 1821(d)(2)(I),
Claims will be pursued only if they pass a two-part test:p y y p p• (1) Meritorious and• (2) Cost-effective
32
The Two-Part Test(1) The claim must be legitimate on the merits:
• If the FDIC’s lawyers and investigators believe the claim is more likely than not to succeed in the litigation, then the FDIC will evaluate the second prong of the two part testwill evaluate the second prong of the two part test.
• The Professional Liability Operation unit will carefully examine the causes of action and evidence available to support the various claims.
(2) The litigation must be cost-effective.• Considering the available personal or corporate assets of the
defendant target and the available insurance coverage does itdefendant target and the available insurance coverage, does it appear that there are assets available to recover?
• Numerous meritorious lawsuits have not been pursued because of insufficient sources of recovery to justify the loss.
33
The FDIC’s Recovery HistoryThe FDIC s Recovery History
• During the 1980s and 90s the FDIC pursued claims i t dit d it th f t th t h liti tiagainst auditors despite the fact that such litigation was
complex and expensive.• As a result of their efforts, the FDIC and RTC ultimately
ti t d th $1 15 billi d i thi ti i dnegotiated more than $1.15 billion during this time period as a result of the auditing malpractice claims. – Four global settlements involving KPMG, Deloitte &
Touche Arthur Anderson and Ernst & YoungTouche, Arthur Anderson and Ernst & Young accounted for over $1 billion of the $1.15 billion recovered.
34
Assuming Cost Effective, Litigation may be Pursued where the Following Elements are Met:
– (1) Strong liability claim• A clear showing that there was a deviation from the
accounting/auditing standards.– (2) Damages that are discernable/quantifiable.– (3) Causation: Assuming the FDIC can show that the auditor ( ) g
deviated from the accepted auditing standards, the FDIC must be prepared to show that the breach of the duty or breach of contract caused the harm to the failed financial institution; (reliance on the audit report may be required).
35
Theories of Liability Against the External Auditors
• Professional Negligence– The breach of, or deviation from, the applicable professional
t d d f hi h d hstandard of care, which caused harm.• Negligent Misrepresentation
– The breach of, or deviation from, the applicable professional standard resulting in the auditor misrepresenting a material fact upon which the Financial Institution relied.
• Breach of Contract– The failure to adhere to or follow the provisions of the
Engagement Contract; the engagement letter generally includes language indicating that the audit will be conducted in accordance with generally accepted audit standards.
36
Theories of Liability Against the External A dit ’ (C ’t)Auditor’s (Con’t)
• Fraud
• Fraudulent Misrepresentationp
• Aiding and Abetting management’s breach of its fiduciary duties
B h f Fid i D• Breach of Fiduciary Duty
37
Professional Negligence and Negligent Misrepresentation• Professional Negligence
– Exercising reasonable care what should the “auditor have discovered” in the course of the audit.
• Negligent MisrepresentationExercising reasonable care in the course of the audit– Exercising reasonable care in the course of the audit, what should the auditor have revealed to management?• Audited financial statements• Audit opinion report• Management letter• Meeting with management and/or the
audit committeeaudit committee
38
Negligent Misrepresentation (cont.)• The FDIC has the benefit of hindsight.• By the time the financial institution fails, the FDIC knows
th t th dit d fi i l t t t t i llthat the audited financial statements are materially misstated; i.e. the audited financial statements support negligent misrepresentation claims.
• Audit opinion report = often unqualified.• Management letter = the auditor’s additional report to the
Fi i l I tit ti ’ t di th tFinancial Institution’s management regarding areas that “need attention.”
39
Third Party Claims against the Auditors
• Potential claims arising out of the FDIC actions against othersagainst others.– It is possible, if not likely, that if the FDIC
pursues claims against Directors and Officerspursues claims against Directors and Officers, that these Directors and Officers will file Third Party Complaints against the Auditors, seeking to join the Auditors as parties to the lawsuit.
– See FDIC v. Loube (v. KPMG Peat Marwick), 134 F.R.D. 270 (N.D. Ca. 1991).
40
What Damages Will the FDIC Assert?• Generally the FDIC will assert that the Financial
Institution continued to fund loans and incurred b t ti l l lt f thi ti dsubstantial losses as a result of this continued
funding.If the auditor would only have discovered the– If the auditor would only have discovered the problem (underwriting procedures, loan loss reserves, collateral etc…), the losses wouldreserves, collateral etc…), the losses would have been drastically reduced.
• Loss in shareholder value• Lost opportunities
41
The Auditor’s Defenses• No duty breached – GAAP and GAAS involves professional
judgment.– Where there is an interpretation over an audit standard, experts p , p
will often disagree about whether the auditor actually deviated from the accepted standard of care.
• Comparative or Contributory Negligencep y g g– The Auditors argue that the actions, (misfeasance/malfeasance)
of the Financial Institution’s management caused the losses, and therefore management’s negligence either bars the claims or in g g gthe alternative reduces the amount of the recovery.• The auditors may be able to raise serious questions about what
the Board of Directors knew and how the Board failed to act.
42
The Auditor’s Defenses (Con’t)( )• No Reliance or lack of causation:
– Discovery may reveal that no one from within management “relied” uponDiscovery may reveal that no one from within management relied upon the audited financial statements, management letters and or other statements made by the auditors. See FDIC v. Ernst & Young, 967 F.2d 166 (5th Cir. 1992) where the Court stated, “If nobody relied upon the audit, then the audit could not have been a substantial factor in b i i b t th i j ”bringing about the injury.”
– Timing may preclude a showing of causation; losses occurring well before the release of the audited financial statements could not have been caused by the opinion of the auditor.
• Statute of Limitations– The audited financial statements at issue may have been published
several years before the failed Financial Institution’s demise. See FDIC R i C & M 996 F 2d 222 (10th Ci 1993 )v. Regier Carr & Monroe, 996 F.2d. 222, (10th Cir. 1993.)
–
43
The Auditor’s Defenses (Con’t)The Auditor s Defenses (Con t)
• As an “independent auditor” there was noAs an independent auditor there was no Fiduciary Duty to the failed Financial Institution. See RTC v. KPMG Peat Marwick, 844 F. Supp 431, (N.D. Ill. 1994).– In an auditor malpractice case where a failed
bank is alleging an improper or negligently performed “independent audit”, the auditor cannot be held to owe a fiduciary duty towardcannot be held to owe a fiduciary duty toward the client.
44
Auditor’s Defenses (Con’t)Auditor s Defenses (Con t)
“In pari delicto potio est conditio defendantis”,In pari delicto potio est conditio defendantis , meaning, in a case of equal or mutual fault the position of the defending party is the stronger one.
The defense is similar to the comparative or contributory negligence defense, however it is stronger because it can operate to bar tort, contract and equity claimscontract and equity claims.
45
In Pari Delicto (Con’t)• Rooted in agency law principles, the defense provides
that the fraudulent conduct of a corporate officer is i t d t th ti if itt d i th fimputed to the corporation if committed in the course of the officer’s employment and for the benefit of the corporation. – The defendant bears the burden to prove that the
corporate officer undertook the fraudulent conduct in connection with his/her employment and further thatconnection with his/her employment and further that he/she did so “for the benefit” of the corporation.
– See: The Official Committee of Unsecured Creditors of Allegheny Health Education and Research Foundation (“AHERF”) v. Pricewaterhouse Coopers LLP 989 A 2d 313 (Pa 2010)LLP, 989 A.2d 313 (Pa. 2010)
46
ImputationImputation• The AHERF Court reasoned that the imputation of
management’s fraudulent conduct can be imputed where g pmanagement was an active, voluntary participant in the wrongful conduct for which it seeks redress, and further that it bears “substantially equal” [or greater] y q [ g ]responsibility for the underlying illegality as compared to the Defendant auditor.
• With respect to using “imputation” as a defense the applicable state law will apply. See O’Melveny & Meyers v FDIC 512 U S 79 114 S Ct 2048 (1994) [FDICv. FDIC 512 U. S. 79, 114 S. Ct. 2048 (1994) [FDIC pursued claims against a failed savings and loan’s attorneys.]
47
Adverse Interest ExceptionAdverse Interest Exception
• If the officer or management acted solely for his/her own g ypersonal benefit, and to the detriment of the corporation or company, imputation will not apply.
H C t h d t i d th t h– However some Courts have determined that where the agent and the corporation both benefit, that the wrongful conduct of the agent can nevertheless be imputed to the corporate entity.
• See AHERF opinion for detailed discussion concerning how various jurisdictions haveconcerning how various jurisdictions have interpreted this defense.
48
ConclusionsConclusions• Over 330 Financial Institutions have failed since January 1, 2009.
Wi h hi b i i lik l h h P f i l Li bili– With this number it is likely that the Professional Liability Operation is conducting multiple and complex investigations at this time.
– We are beginning to see some lawsuits against g g gDirectors/Officers and Lawyers; accordingly, it is possible that actions against Auditors will be filed.
Although it is impossible to know what will happen next, it appears that numerous theories of liability and likewise numerousthat numerous theories of liability and likewise numerous corresponding defenses will, once again, be at the core of any FDIC litigation involving claims against the failed bank’s auditors.
49
Lawyers’ E&O Lawyers’ E&O ExposuresExposures
Historically – Claims against attorneys were brought in less than 10% of failed banks
ExposuresExposures
less than 10% of failed banks205 attorney malpractice suits filed by FDIC/RTC during prior
crisisOver $500 Million recovered from suits and pre litigationOver $500 Million recovered from suits and pre-litigation
settlementsSame Legal Standards Apply to Attorneys in Failed Bank
ContextContextGood Legal Counsel Requires Compliance with
Contractual, Fiduciary and Ethical DutiesAreas of Focus
Lawyer as Gatekeeper (e.g., Closing Attorney)Failure to Disclose Facts
Proper Advice Given to “Client”Conflicts of Interest
50
Lawyers’ E&O Exposures:Lawyers’ E&O Exposures:Th i f Li bilitTh i f Li bilit
Negligence in performing the basics
Theories of LiabilityTheories of Liability
Common in “Make Money Fast” cases against loan closing attorneys
F il f li f ll l i i iFailure to perfect liens or follow closing instructions
Failure to disclose material factsFailure to counsel/Inaccurate opinions
Conflicts of interestSwitching clients
Joint representationsPost-failure, Bank’s counsel becomes FDIC’s
counsel and privileges pass to the FDIC51
Lawyers’ E&O Lawyers’ E&O ExposuresExposures
FDIC so far filed 3 suits in Georgia against failed banks’ outside law firms
ExposuresExposures
banks outside law firms.After S&L Crisis, FDIC recovered $500 Million from legal
malpractice claims.Most recent filing: February 7 2011 against a Georgia lawMost recent filing: February 7, 2011 against a Georgia law firm, Smith Welch & Brittain, and J. Mark Brittain. FDIC v. Smith, Welch, & Brittain, LLP and Joseph Mark Brittain,
U.S. District Court, N.D. Ga., Case No. 1:2011-cv-00372.A reflection of fact that Georgia has had more bank failures
than any other stateAllegations:g
Loans handled by firms were rendered defective or invalid because property descriptions did not match title records,
thereby preventing banks from foreclosing.Handled loans where borrower was also a client and
obtained loans based on inflated property values.52
Lawyers’ E&O Exposures: Lawyers’ E&O Exposures: Aidi d Ab tti B h fAidi d Ab tti B h fAiding and Abetting Breaches of Aiding and Abetting Breaches of
Fiduciary Duty ClaimsFiduciary Duty ClaimsPremise: the financial institution’s management
breached its fiduciary duty, the lawyers aided and y y yabetted the management in their breach, and therefore, the lawyers are also liable for the
damages that flowed from management’s breachdamages that flowed from management s breach
Circumvents defenses such as contributory negligence that would otherwise be available in anegligence that would otherwise be available in a
straight legal malpractice suit
This claim type is as yet largely untested by theThis claim type is as yet largely untested by the courts.
53
Lawyers’ E&O Exposures: Lawyers’ E&O Exposures: P ibl D fP ibl D fPossible DefensesPossible Defenses
Lawyers are not the “last to review”Lawyers are not the last to reviewAccountants, auditors, in-house counsel,
managementmanagement
Lawyers may be working under a limited scope, not all legal work is comprehensive
in nature
54
Q ti & AQuestions & Answers
Mi h l L Zi l EMichael L. Zigelman, Esq.Partner
i l @kd l
135 Crossways Park Drive Suite 201
135 Crossways Park Drive, Suite 201Woodbury, New York 11797
www.kdvglaw.com
New York | Pennsylvania | New Jersey San Francisco | Los Angeles | Flor ida 55
FDIC L it A i t B k ’ O t id FDIC Lawsuits Against Banks’ Outside Professionals: Insurance
Considerations
May 18, 2011
Linda KornfeldJenner & Block
[email protected](213) 239-5176
WHICH POLICIES MAY APPLY?
• Errors & Omissions Coverage—the critical focal gpoint
– Covers “claims” for allegations of “professional” misconduct
– Must act within “professional” capacity as defined by policy p y
57
5858
What constitutes a “claim”?What constitutes a claim ?
• Demand letters?
Subpoenas?• Subpoenas?
• “Informal investigations”?g
59
Duty to “advance” defense fees Duty to advance defense fees
• “Potentiality” standard
“Prior to final adjudication” the “timing” question• Prior to final adjudication —the timing question
60
Amounts spent for “excluded” claimsAmounts spent for excluded claims
• Could be covered if “benefits” covered claims
Parties shall use “best efforts” to allocate between • Parties shall use best efforts to allocate between covered and uncovered claims
61
Panel counsel and insurer “consent”Panel counsel and insurer consent
• Before choosing counsel not on “panel counsel” list, should obtain consent
• Impact of failure to obtain consent
62
“Intentional conduct claims” Intentional conduct claims
• Should not impact payment of defense fees
e g Cal Ins Code section 533• e.g., Cal Ins Code section 533
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ALLOCATION OF LIMITED RESOURCES BETWEEN COVERED INSUREDSBETWEEN COVERED INSUREDS
• Early notice •
• Timely submissions of legal bills •
• Stipulations amongst insureds •• Stipulations amongst insureds •
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POLICY EXCLUSIONS POLICY EXCLUSIONS INSURERS MAY RAISE
Fraud Exclusion Fraud Exclusion
• Does not impact defense duty
“Final adjudication”/“fraud in fact” language• Final adjudication / fraud in fact language
• “Final” means “final” after all appealspp
• “Severability” of insureds
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“Personal Profit” ExclusionPersonal Profit Exclusion
• Final adjudication/in fact language
Did the executive reap an “illegal” profit or gain?• Did the executive reap an illegal profit or gain?
• Did the executive commit “insider trading” or some gother form of “theft”?
• Wrongful “bonus” not enough• Wrongful bonus not enough
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“Insolvency” ExclusionInsolvency Exclusion
• Some policies exclude coverage for claims: “arising out of … the insolvency or bankruptcy of the Insured or any other
fi i ti ”person, firm or organization”
• Do FDIC claims related to failed banks “arise out of” the “insolvency” of an “organization”?
• Zurich Specialties London Limited v. Bickerstaff (9th Cir. p (Mar. 28, 2011)
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“Regulatory” ExclusionRegulatory Exclusion• Created by S&L crisis
• 1/2-3/4 of D&O policies contain, not as common in E&O, but still may be relevant
• Soft market lessened the use of such exclusions
• Are such exclusions ambiguous or create “illusory” coverage?
• Some favorable decisions in D&O context
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“Penalty” ExclusionsPenalty Exclusions
• What is the true nature of the claimed “fine” or “penalty”?p y
• Many policies cover “the multiplied portion of any multiplied damages ” damages . . .
• If the “penalty” can be characterized as “multiplied damages ” then applying the exclusion could render the damages,” then applying the exclusion could render the “multiplied damages” coverage mere surplusage
• At the very least, the competing provisions arguably may create ambiguity
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Prior or Pending Acts ExclusionsPrior or Pending Acts Exclusions
• Purport to bar coverage for claims arising out of insured’s allegedly wrongful conduct prior to specified date
• Date may coincide with termination of coverage • Date may coincide with termination of coverage under a previous policy
• Disputes exist regarding whether “acts” are sufficiently “related” to trigger the exclusion
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• Notice of potential claims under prior policies with less prior policies with less restrictive exclusions?
• Notice today of possible future claims?
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Issues to Consider When Purchasing Future CCoverage
• Professionals that provide services in significant part to banks may face increased scrutiny in the underwriting process
• Carefully consider the breadth of proposed • Carefully consider the breadth of proposed regulatory exclusions and attempt to negotiate to increase protectionp
• Evaluate all potential claims and do not let “prior acts” exclusions create challenges down the roadacts” exclusions create challenges down the road
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