Written by Teresa Zink for HB Litigation Conferences LLC

Professional liability and, more specifically, directors and officers liability arising out of what has come to be know as the new banking crisis is an area where many see more questions than answers.  In an effort to answer some of those questions, HB Litigation Conferences in mid-January brought together a distinguished panel of lawyers who, according to moderator Ronald Glancz “lived through the 1980s and represented a number of directors, officers, and professionals.” 

Glancz, who chairs the Financial Services Group at Venable, LLP in Washington, D.C. was joined by John Gerstein, a partner with Troutman Sanders, LLP in Washington, D.C. who has handled a number of accounting liability cases; Thomas Richey of Bryan Cave Powell Goldstein, LLP in Atlanta who represented the FDIC for many years and has a distinguished reputation representing the government in D&O cases, and John Villa of Williams & Connolly, LLP in Washington, D.C. who Glancz said “wrote the book on D&O liability and attorney liability.”

Kicking off a somewhat informal discussion of key questions, Glancz asked the panel: “What is going to be different about the D&O and professional liability-type cases that are brought today or in the future versus those that I think we handled back in the 1980s?”

According to Villa, the breadth of the problem is an issue this time around.  “I think that there’s going to be a lot of soul searching among the regulators in trying to figure out how to deal with a problem that has impacted so many financial institutions,” he said.  The problems in the 1980s “impacted institutions within a certain band, mostly in the south and southwest,” this time however, “it has impacted so many different financial institutions and so many of them are suffering that I think it’s going to be very hard for them to make the same arguments that they made in the past.”

In addition, he said, “I think it’s going to be very easy to make arguments to the regulators that it’s unfair to bring an action against your director or officer because their institution failed, because all the other institutions somewhat similarly situated ultimately got relief out of the TARP program or other programs.”

Lower Volume of Litigation

Villa also thinks it is very unlikely that there will be the same volume of litigation as occurred in the 1980s.  He explained, “it is the largest banks that have the greatest weaknesses, not because of their loan portfolios, but because of their trading portfolios. … If a $150 billion bank went down, they’re unlikely to start suing all the lawyers for that bank.  However, if you had 300 banks that went down, each one of which had $500 million in assets, it’s quite likely you’d get a lot of investigations and a lot of lawsuits.”  Right now, he said, “the problem is in the biggest strata of the wholesale sector; whereas 20 years ago, it was all the banks in a region.”

One caveat, he explained, if the downturn in the overall economy starts driving up loan losses and pushing more marginal banks down, “then you’re going to get another big uptick in litigations.  Right now, though, I suspect the potential of litigation is in a fairly limited strata of the market.”

Publicly Held Institutions

Another difference, Villa explained, is that in the 1980s and 1990s most of the failures were privately held institutions.  The failure of public institutions means “it’s much more likely that the SEC will become actively involved in some of this litigation.”

Richey agreed, “It’s quite possible. You do have Sarbanes-Oxley in the meantime, and you do have Chief Executive Officers in the holding company levels typically having to make those certifications to their financial statements.  If you have very significant loan loss recognition issues there, then it’s possible that they’ll step in and pick up the easy cases.”  However, he added, “I tend to think that they’re not going to be all over the banks.  Many of the banks that are failing are still community banks.  If they’re publicly held, they’re barely publicly held.”

He also noted that the in-house staff at the FDIC in large part got their experience in the 1980s and 1990s when there was a lot of litigation.  “When you say, ‘What kind of standards will they apply?’ they’re going to be looking at the same old views towards gross negligence that they did back then.  In other words, the law hasn’t changed.”

Potential Litigation Targets

What about professional liability suits?  Glancz noted the suits that were brought against accounting firms and speculated that the ratings agencies may be a target.  Gerstein agreed.  However, he noted, “I think it’s a little early to see how it’s going to play out.”  He explained that in the past, regulators “seemed to sue pretty much any failed institution: they sued the accountants and, not originally, sued the lawyers.”  This time around “It’s less clear because it seems like these financial institutions have fallen off a cliff lately.  In other words, it was just precipitous that we all experienced in America over the past six months.”

According to Gerstein, “I think the most interesting dynamic that’s going to come out of this, whether you’re suing a director or suing a lawyer or accountant, is on the one hand – on the suing side – you’re going to be saying, ‘How could you have ever let this happen?’  Forget the lawyer who at least has some things to talk about, and the accountant who has some things.  For the director, it’s a little hard to explain logically why this was a good idea because of all the problems.” 

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