Federal Deposit Insurance Corporation as Receiver for Broadway Bank v. Giannoulias et al
Filing
55
MEMORANDUM OPINION Signed by the Honorable John F. Grady on January 16, 2013. Mailed notice (cdh, )
12-1665.131-RSK
January 16, 2013
IN THE UNITED STATES DISTRICT COURT
FOR THE NORTHERN DISTRICT OF ILLINOIS
EASTERN DIVISION
FEDERAL DEPOSIT INSURANCE CORP.,
AS RECEIVER FOR BROADWAY BANK,
Plaintiff,
v.
DEMETRIS GIANNOULIAS, GEORGE
GIANNOULIAS, JAMES MCMAHON, SEAN
CONLON, STEVEN DRY, DONNA
ZAGORSKI, STEVEN BALOURDOS,
GLORIA SGUROS, ANTHONY D’COSTA,
Defendants.
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No. 12 C 1665
MEMORANDUM OPINION
Before the court are: (1) defendant James McMahon’s motion to
dismiss; (2) defendant Gloria Sguros’s motion to dismiss; and (3)
the joint motion to dismiss of certain other defendants.1
For the
reasons explained below, we deny the defendants’ motions.
BACKGROUND
Plaintiff Federal Deposit Insurance Corporation, as receiver
for Broadway Bank (“FDIC-R”), has filed this lawsuit to recover
approximately $114 million in losses that the bank suffered on 20
commercial real estate (“CRE”) and acquisition, development, and
construction (“ADC”) loans.
1/
(Am. Compl. ¶ 1.)
The FDIC-R alleges
This motion is joined by defendants Demetris Giannoulias, George
Giannoulias, Sean Conlon, Steven Dry, Donna Zagorski, Steven Balourdos, and
Anthony D’Costa. These defendants and McMahon have filed separate memoranda in
support of their motions raising many of the same arguments, and Sguros has
adopted those arguments in support of her motion.
- 2 -
that the defendants — seven former directors of Broadway Bank (the
“Director Defendants”)2 and two former officers (the “Officer
Defendants”)3 — negligently approved the loans.
(Id. at ¶ 2.)
According to the complaint, CRE and ADC loans are inherently risky,
and compared with its banking peers Broadway Bank’s loan portfolio
was substantially concentrated in such loans during 2007-2008.
(Id. at ¶¶ 20-21.)
These risks were compounded by the fact that
many of the commercial building projects that the bank financed
were located outside of Illinois and therefore beyond the bank’s
ability to effectively monitor.
(alleging
that
the
defendants
(Id. at ¶ 22; see also id.
“deferred
excessively
borrowers regarding market evaluations and risk.”).)
to
its
The bank’s
loan policy, if followed, would have given the bank some protection
against these risks.
(Id. at ¶ 25.)
But the FDIC-R alleges that
the defendants “routinely ignored and repeatedly failed to enforce
the Loan Policy’s provisions.”
(Id.)
Instead of carefully
monitoring and managing loan risks, the defendants pursued a
strategy of “reckless growth:”
Underwriting was perfunctory or nonexistent. Limits on
loan to value ratios repeatedly were ignored. Loans were
made without appraisals or with grossly deficient
appraisals. Construction draws were used for improper
purposes with little or no active monitoring by the Bank.
2/
The Director Defendants are Demetris Giannoulias, George Giannoulias,
James McMahon, Sean Conlon, Steven Dry, Donna Zagorski, and Steven Balourdos.
(See Am. Compl. ¶¶ 8-14.)
3/
The Officer Defendants are Gloria Sguros and Anthony D’Costa, both of
whom were members of the bank’s loan committee. (See Am. Compl. ¶¶ 15-16.)
- 3 -
Little or no attention was paid to whether loan
guarantors had sufficient liquidity to protect the Bank’s
interest. Loans were made to uncreditworthy borrowers
with a history of bad loans — in some cases with Broadway
itself. In some instances, loans were made to assist
other
financial
institutions
avoid
regulatory
intervention or loss recognition.
(Id. at ¶ 24; see also id. at ¶ 40.)
The FDIC-R alleges that state
and federal bank examiners notified the bank in 2007, 2008, and
2009 concerning specific shortcomings.
(Id.
at ¶¶ 27-38.)
However, the defendants “ignored” the regulators’ criticisms and
recommendations.
The
(See, e.g., id. at ¶¶ 28, 33, and 35.)
FDIC-R’s
complaint
contains
a
chart
showing
which
defendants allegedly approved each of the 20 challenged loans.
(Id. at ¶ 39.)
It then goes on to describe why the FDIC-R believes
that the defendants were negligent in approving each loan.
id. at ¶¶ 44-128.)
(See
The defendants’ alleged negligence generally
falls into the following categories: (1) approving high-risk loans
and loan-renewals without proper underwriting, e.g., failing to
verify the finances of borrowers and guarantors (see, e.g., id. at
¶¶ 47(b), 54(a), 57(a), 70(a)-(b), 75(a) & (d)-(e), 81 (b), 85(a),
89(a) & (c), 93(a)-(b), 97(a)-(c), 101(a)-(b), 105(a) & (c),
109(a)-(c), 114(a)-(c), 120(a)-(b), 126(a) & (d)); (2) ignoring the
bank’s loan policy, e.g., approving loans based upon an “as
completed” (not “as is”) appraisal (see, e.g., id. at ¶¶ 47(b),
52(b), 57(b), 63, 70(c), 75(b), 81(c), 85(a)-(b), 109(a), 114(b),
and 126(a) & (c)); and (3) ignoring market risks and regulatory
- 4 -
warnings about over-concentration in CRE/ADC out-of-territory loans
(see, e.g., id. at ¶¶ 47(a) & (c), 52(c) & (d), 57(c), 70(d),
75(e), 81(e), 93(e), 97(d), 101(b), 105(c), 120(d), and 126 (e)).
DISCUSSION
The FDIC-R’s three-count compliant asserts claims against the
defendants for gross negligence (Count I), breach of fiduciary duty
(Count II), and ordinary negligence (Count III).
Taken together,
the defendants’ motions seek to dismiss the FDIC-R’s complaint in
its entirety. In addition, certain defendants have moved to strike
particular allegations as “immaterial” and “impertinent.” See Fed.
R. Civ. P. 12(f).
A.
Legal Standard
The purpose of a 12(b)(6) motion to dismiss is to test the
sufficiency of the complaint, not to resolve the case on the
merits.
5B Charles Alan Wright & Arthur R. Miller, Federal
Practice and Procedure § 1356, at 354 (3d ed. 2004).
To survive
such a motion, “a complaint must contain sufficient factual matter,
accepted as true, to ‘state a claim to relief that is plausible on
its face.’
A claim has facial plausibility when the plaintiff
pleads factual content that allows the court to draw the reasonable
inference that the defendant is liable for the misconduct alleged.”
Ashcroft v. Iqbal, 129 S. Ct. 1937, 1949 (2009) (citing Bell Atl.
Corp. v. Twombly, 550 U.S. 544, 570, 556 (2007)).
When evaluating
a motion to dismiss a complaint, the court must accept as true all
- 5 -
factual allegations in the complaint.
However,
we
need
not
accept
as
Iqbal, 129 S. Ct. at 1949.
true
its
legal
conclusions;
“[t]hreadbare recitals of the elements of a cause of action,
supported by mere conclusory statements, do not suffice.”
Id.
(citing Twombly, 550 U.S. at 555).
Pursuant to Rule 12(f), we “may strike from a pleading an
insufficient defense or any redundant, immaterial, impertinent, or
scandalous
matter.”
Fed.
R.
Civ.
P.
12(f).
We
possess
“considerable discretion” when ruling on a motion to strike.
Charles
A.
Wright
&
Arthur
Procedure § 1382 (3d Ed.).
R.
Miller,
Federal
Practice
5C
and
Such motions are “disfavored” because
they “potentially serve only to delay.”
Heller Financial, Inc. v.
Midwhey Powder Co., Inc., 883 F.2d 1286, 1294 (7th Cir. 1989).
Accordingly, courts routinely deny motions to strike “unless the
challenged
allegations
have
no
possible
relation
or
logical
connection to the subject matter of the controversy and may cause
some form of significant prejudice to one or more of the parties to
the action.”
B.
Wright & Miller, supra, § 1382 (footnotes omitted).
“Gross Negligence”
“Recklessness”
Means
“Very
Great
Negligence,”
Not
At the outset, we note that the parties disagree about the
correct
definition
Institutions
Reform,
of
“gross
Recovery
negligence.”
&
Enforcement
The
Act
Financial
(“FIRREA”)
authorizes the FDIC-R to sue the directors and officers of a failed
bank to recover damages “for gross negligence, including any
- 6 -
similar conduct or conduct that demonstrates a greater disregard of
a duty of care (than gross negligence) including intentional
tortious conduct, as such terms are defined and determined under
applicable State law.”
12 U.S.C. § 1821(k); see also Atherton v.
F.D.I.C., 519 U.S. 213, 216 (1997) (holding that state law sets the
standard of conduct that officers and directors must meet, but that
§ 1821(k) prohibits courts from applying a more “relaxed” standard
than “gross negligence”).
Some of the defendants argue that under
Illinois law “gross negligence” means “recklessness,” citing RTC v.
Franz, 909 F.Supp. 1128, 1139 (N.D. Ill. 1995). (See Certain Defs.’
Mem. at 4-7; cf. McMahon Mem. at 8 (essentially agreeing with the
FDIC-R that gross negligence refers to a level of culpability
greater than ordinary negligence, but less than recklessness).) In
light of Atherton, we have serious doubts about whether it is
permissible to borrow from state law a definition of “gross
negligence” that effectively raises the standard of culpability to
recklessness.
See Atherton, 519 U.S. at 227 (“[T]he statute’s
‘gross negligence’ standard provides only a floor — a guarantee
that officers and directors must meet at least a gross negligence
standard.”).
But we need not reach that issue because, for the
reasons explained in F.D.I.C. v. Gravee, 966 F.Supp. 622, 636-37
(N.D. Ill. 1997), we conclude that Franz misstates Illinois law on
this question.
See id. (persuasively reasoning that Franz relied
too heavily on the Illinois Supreme Court’s discussion of “willful
- 7 -
and wanton conduct” in a different context).
relied
on
the
Illinois
Supreme
Court’s
The Gravee court
definition
of
gross
negligence in Massa v. Department of Registration and Education,
507 N.E.2d 814, 819 (Ill. 1987): “[g]ross negligence is commonly
understood to encompass ‘very great negligence, * * * [b]ut it is
something less than the willful, wanton and reckless conduct’ [the
appellee] claims it to be.”
932 (5th ed. 1979))S.
Id. (quoting Black’s Law Dictionary
We conclude that “very great negligence” is
the correct standard. See F.D.I.C. v. Spangler, 836 F.Supp.2d 778,
785 (N.D. Ill. 2011) (adopting Gravee’s interpretation of Illinois
law).
B.
The FDIC-R’s Claims are Sufficiently Pled
“The elements of the [FDIC-R’s] gross negligence, negligence
and breach of fiduciary duty claims are similar. In order to state
valid claims, the [FDIC-R] must allege duty, breach, proximate
cause,
and
omitted).
damages.”
Id.
(applying
Illinois
law;
citations
In its amended complaint, the FDIC-R clearly identifies
the challenged transactions, describes them in sufficient detail,
and explains why it believes that the defendants’ conduct fell
below the applicable standard of care.
In two recent decisions,
judges in this district substantially denied4 motions to dismiss
4/
The Spangler and Saphir courts granted the defendants’ motions insofar
as the FDIC was asserting duplicative claims for ordinary negligence and breach
of fiduciary duty. See Spangler, 836 F.Supp.2d at 793 (dismissing claim for
breach of fiduciary duty); Saphir, 2011 WL 3876918, *9 (dismissing negligence
claims). We address that issue infra.
- 8 -
complaints filed by the FDIC against the former officers and
directors of failed banks.
See id. at 784-93; F.D.I.C. v. Saphir,
No. 10 C 7009, 2011 WL 3876918, *5-9 (N.D. Ill. Sept. 1, 2011).
The allegations in those cases were comparable to the FDIC-R’s
allegations in this case, both in terms of their subject matter and
their specificity.
Consistent with those decisions, we conclude
that the FDIC-R has adequately pled claims for gross negligence,
negligence, and breach of fiduciary duty.5
consider it a close question.
Indeed, we do not
The defendants’ arguments that the
FDIC-R is alleging fraud by “hindsight,” and that it is seeking to
impose strict liability for the bank’s failure, are untenable in
the
face
of
the
complaint’s
allegations
that
the
defendants
consciously disregarded the risks associated with the challenged
loans.
(See, e.g., Am. Compl. ¶¶ 3-4, 26, 28, 33, 132-35, 140-42,
147-49.)
Similarly, we reject the defendants’ attempts to refute
the complaint’s allegations by referring to positive statements
made by regulators about the bank’s performance.
(See Certain
Defs.’ Mem. at 1, 13-21; McMahon Mem. at 11, 13.)
The thrust of
the defendants’ argument is that the regulatory guidance that the
5/
The defendants cite a raft of non-binding authority from Illinois and
other jurisdictions, including two recent decisions from the Northern District
of Georgia. See F.D.I.C. v. Skow, No. 11-CV-111, at 20 (N.D. Ga. Aug. 14, 2012)
(dismissing claims based on ordinary negligence under Georgia law); F.D.I.C. v.
Briscoe, No. 12-CV-2303, at 10-12 (N.D. Ga. Aug. 14, 2012) (same). (The slip
opinions in Skow and Briscoe are attached to McMahon’s motion for leave to file
supplemental authority.) It would needlessly lengthen this opinion to address
each case the defendants cite.
It is sufficient to say that we find the
decisions the defendants rely on less persuasive than Saphir and Spangler, two
recent decisions applying substantive Illinois law and federal pleading standards
to facts very similar to our own.
- 9 -
bank received was not as negative as the complaint suggests, and in
fact supports the defendants’ position that they fulfilled their
fiduciary duties.
This argument may ultimately persuade the trier
of fact that the defendants did not act negligently, but we do not
weigh evidence at this stage of the case.
See Saphir, 2011 WL
3876918, *4 (“Factual determinations as to what the Director
Defendants knew or should have known is premature at this stage .
. . .”); see also Swanson v. Citibank, N.A., 614 F.3d 400, 404 (7th
Cir. 2010) (“For cases governed only by Rule 8, it is not necessary
to stack up inferences side by side and allow the case to go
forward only if the plaintiff’s inferences seem more compelling
than the opposing inferences.”). The same goes for the defendants’
argument that the bank’s losses were caused by a general economic
downturn in 2008 and not the defendants’ actions. See Saphir, 2011
WL 3876918, *8 (rejecting a similar argument); see also F.D.I.C. v.
Mahajan, No. 11 C 7590, 2012 WL 3061852, *6 (N.D. Ill. July 26,
2011) (“[W]ith respect to various Director Defendants’ arguments
that the allegations in the Amended Complaint can be attributed to
the declining market generally, it is too early in the litigation
to make any such determination.”).
Ultimately, the FDIC-R will
have to prove that the defendants’ conduct was a “substantial
factor” contributing to the bank’s losses.
F.3d 1424, 1434 (7th Cir. 1993).
F.D.I.C. v. Bierman, 2
But it is not required to prove
its claims at this stage of the case.
- 10 -
Several of the defendants challenge the FDIC-R’s allegations
as applied to them, specifically.
Defendant McMahon argues that
some of the deficiencies alleged in the complaint are not alleged
with respect to the four loans he approved.
10.)
(McMahon Mem. at 9-
But the complaint alleges that these loans were problematic
for other reasons.
(See FDIC-R’s Resp. at 22-23.)
McMahon
quibbles with the inferences that the FDIC-R attempts to draw from
these allegations, (see McMahon Reply at 6-8), but the issues he
raises will have to await summary judgment or trial.
See, e.g.,
Swearingen v. Momentive Specialty Chemicals, Inc., 662 F.3d 969,
972 (7th Cir. 2011) (breach of the duty of care and proximate
causation are questions of fact).
Defendant D’Costa argues that
the FDIC-R has not alleged that he did anything wrong.
Certain Defs.’ Mem. at 24.)
(See
At this stage of the case we accept as
true the FDIC-R’s allegation that all of the defendants — including
D’Costa — received regulatory warnings about the bank’s risky loan
practices.
(Cf. id. (asserting that D’Costa did not receive
certain of those warnings).)
The FDIC-R further alleges that, as
a member of the bank’s loan committee, D’Costa failed to exercise
due care in approving 18 of the 20 challenged loans.
This is
sufficient to state claims against him for gross negligence,
negligence, and breach of fiduciary duty.
Finally, defendants
Conlon, Dry, Zagorski, and Balourdos argue that they are entitled
to special consideration in view of their “unique position” as
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outside directors.
(Certain Defs.’ Mem. at 22.)
Our Court of
Appeals has observed that “[f]ew distinctions have been drawn
Bierman, 2
between the duties of inside and outside directors.”
F.3d at 1435. Here, the outside directors have not articulated any
reason why they should be treated differently than the other
defendants with respect to the challenged loans.
the
FDIC-R
has
stated
claims
for
relief
We conclude that
against
all
of
the
defendants.
C.
The Business Judgment Rule and the Illinois Banking Act
The defendants argue that the FDIC-R’s claims are barred by
the business judgment rule and the Illinois Banking Act.
“Under
Illinois’ common law business judgment rule, corporate directors,
acting without corrupt motive and in good faith, will not be held
liable for honest errors or mistakes of judgment, and a complaining
shareholder’s judgment shall not be substituted for that of the
directors.” Treco, Inc. v. Land of Lincoln Sav. and Loan, 749 F.2d
374, 377 (7th Cir. 1984).
There is a split of authority in this
district about whether the business judgment rule is an affirmative
defense.
Compare
Spangler,
836
F.Supp.2d
at
791
(not
an
affirmative defense) with Saphir, 2011 WL 3876918, *5 (treating the
rule as an affirmative defense).
We will assume for purposes of
this opinion that it is not an affirmative defense, and therefore
it may be invoked in support of a motion to dismiss.
However,
“[i]t is a ‘prerequisite to the application of the business
- 12 -
judgment rule that the directors exercise due care in carrying out
their corporate duties.
If directors fail to exercise due care,
then they may not use the business judgment rule as a shield to
their conduct.’” Spangler, 836 F.Supp.2d at 792 (quoting Davis v.
Dyson, 900 N.E.2d 698, 714 (Ill. 2008)); see also Stamp v. Touche
Ross & Co., 636 N.E.2d 616, 621 (Ill. App. 1993) (“[T]he shield of
the business judgment rule is unavailable to directors who fail to
exercise due care in their management of the corporation.”).
The
Spangler
the
court
concluded
that
the
FDIC
had
overcome
“presumption” created by the business judgment rule by alleging
that the defendants “disregarded regulatory warnings of unsafe
lending practices and monthly reports reflecting dangerous loan
concentration and excessive growth, failed to follow the bank’s
business plans and loan policies, and took no action to reform
underwriting practices in response to criticism.”
Spangler, 836
F.Supp.2d at 792; see also id. (distinguishing Stamp, in which an
Illinois Appellate Court concluded that the plaintiff had failed to
allege sufficiently the defendants’ lack of due care).
The FDIC-
R’s allegations in this case are substantially similar and, as we
have already discussed, they are pled with sufficient clarity and
detail to easily satisfy notice-pleading standards.
We deny the
defendants’ motion to dismiss insofar as it is premised on the
FDIC-R’s purported obligation to plead around the business judgment
rule.
- 13 -
The director defendants also argue that, under the Illinois
Banking Act, they were entitled to rely upon information that they
received from the company’s officers concerning the challenged
loans.
See 205 ILCS § 5/16(7)(b).
First, the defendants have not
cited any legal authority supporting their unstated premise that
the FDIC-R must plead around this statute in order to state a claim
for relief based on negligence.
Cf. Saphir, 2011 WL 2011 WL
3876918, *5 (concluding that the Illinois Banking Act provides an
affirmative
defense);
see
also
Mahajan,
2012
WL
3061852,
*7
(same).6 Second, whether the defendants reasonably relied on “loan
write-ups” when approving the challenged loans is a question of
fact that we cannot resolve on a motion to dismiss.
Cf. Spangler,
836 F.Supp.2d at 792 (documents purporting to show that the
Illinois Banking Act shielded the defendants from liability were
“inconclusive” at the pleadings stage).
We deny the director
defendants’ motions to dismiss insofar as they are premised on the
Illinois Banking Act’s protections.
C.
Duplicative Claims
The FDIC-R’s claims for negligence and breach of fiduciary
duty
are
based
upon
the
same
factual
allegations,
and
the
defendants argue that we should dismiss one of the two claims as
duplicative.
(See Certain Defs.’ Mem. at 24-25; McMahon Mem. at
6/
The Spangler court did not directly address this issue and instead
rejected the defendants’ Illinois Banking Act arguments on other grounds. See
Spangler, 836 F.Supp.2d at 792.
- 14 -
14-15.)
negligence
The Saphir and Spangler courts dismissed claims for
and
breach
of
fiduciary
duty
on
that
basis,
but
suggested that the FDIC could — but had not — pled the two claims
in the alternative. See Spangler, 836 F.Supp.2d at 793 (dismissing
claim for breach of fiduciary duty); Saphir, 2011 WL 3876918, *9
(dismissing negligence claims).
In this case, the FDIC has pled
its negligence claim in the alternative to its claim for breach of
fiduciary duty.
(See Am. Compl. ¶ 145.)
Pursuant to Fed. R. Civ.
P. 8(d)(2), these claims may proceed in the alternative.
D.
Motion to Strike
Certain defendants have moved to strike portions of paragraphs
24, 56, 135, 142 and 149 from the complaint as “immaterial” and
“impertinent.”
See Fed. R. Civ. P. 12(f); see also Wright &
Miller, supra, § 1382 (“immaterial” and “impertinent” are related
concepts that describe allegations that do not pertain to the
complaint’s subject matter and are unnecessary).
The allegations
in these paragraphs are all relevant and material to the FDIC-R’s
main contention that the defendants were grossly negligent in the
way that they operated the bank.
(See Am. Compl. ¶¶ 24 (“In some
instances, loans were made to assist other financial institutions
avoid regulatory intervention or loss recognition.”); 56 (“[I]n
August 2007, Defendant members of the Loan Committee approved a
two-year $3.2 million interest-only loan to Shubh Oceanic, LLC,
Bisaria, and his wife, ostensibly to purchase a passenger boat and
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transport it to Mumbai, India, to be used for ‘special events.’”);
see also id. at ¶¶ 135, 142, 149 (alleging in each paragraph that
“[d]efendant
members
of
the
Board
of
Directors
were
grossly
inattentive to the affairs of the Bank – deferring excessively to
the
whims
of
the
Giannoulias
family”).
Accordingly,
the
defendants’ motion to strike is denied.
CONCLUSION
The defendants’ motions to dismiss [26, 29, 30] are denied.
A status hearing is set for January 23, 2013 at 11:00 a.m.
DATE:
January 16, 2013
ENTER:
___________________________________________
John F. Grady, United States District Judge
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