Using Bonus Clawbacks To Punish Bank Executives: FDIC's Complaint Against WaMu Executives - NYT
Kerry K. Killinger, who led Washington Mutual as it ballooned and imploded, calls claims against him "political theater."
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By Law Professor Peter Henning
Reprinted with permission.
A common complaint has been the absence of prosecution of financial executives for their role in the economic crisis in 2008, but what is equally striking is the large compensation those executives received while their companies pursued increasingly risky policies that led to the crisis.
The Federal Deposit Insurance Corporation has taken small steps to address this issue. It is pursuing claims for damages against former top executives at Washington Mutual, which became the largest bank failure in history. The F.D.I.C. has also adopted a new clawback rule for failed banks that would allow it to try to reclaim two years worth of executive compensation.
The F.D.I.C. is pursuing its case against Kerry K. Killinger, Washington Mutual’s onetime chief executive, and two other executives at the bank for risky lending practices that led to its shutdown in September 2008. The complaint alleges they were grossly negligent and breached their fiduciary duty for undertaking a so-called “higher-risk lending strategy” that increased the bank’s exposure to subprime mortgages concentrated in California and Florida, undermining its capital base when the housing market collapsed.
The defendants have assailed the F.D.I.C. claims as a public relations move, asking for dismissal of the lawsuit because they exercised reasonable business judgment in shifting the bank into subprime loans. A brief filed by Stephen J. Rotella, Washington Mutual’s former chief operating officer, contends that the case “amounts to a pure public relations stunt designed to deflect criticism away from the F.D.I.C., which has been — and continues to be — under fire for its regulatory failures with respect to WaMu and refuses to take any responsibility for its central role in the financial crisis.”
A crucial issue in the suit is whether the executives are protected by the “business judgment rule,” which prevents a corporate officer or director from being held liable for poor decisions that end up harming the company so long as the person acted with due care. Chancellor William B. Chandler III of the Delaware Chancery Court summarized quite well how the rule protects executives from judicial second-guessing in In re Citigroup Shareholder Derivative Litigation:
Whether a judge or jury considering the matter after the fact, believes a decision substantively wrong, or degrees of wrong extending through “stupid” to “egregious” or “irrational,” provides no ground for director liability, so long as the court determines that the process employed was either rational or employed in a good faith effort to advance corporate interests.
Mr. Killinger led Washington Mutual’s corporate strategy to concentrate on subprime mortgages in the apparent belief that as more loans were made, they would actually lower the bank’s risk by spreading it across a large base of borrowers. Unfortunately, that approach depended on the real estate market continuing its upward price trend indefinitely, so that when the housing bubble collapsed the bank suffered rapidly increasing losses across its portfolio.
It is not clear where on Chancellor Chandler’s spectrum of bad decisions the high-risk lending strategy fell, probably somewhere between stupid and irrational, but it certainly appears to be something that came within the discretion of corporate managers, no matter how ill-fated it was.
Washington Mutual was based in Seattle, so F.D.I.C.’s suit is governed by Washington State’s business judgment rule. If the subprime mortgage strategy was undertaken in good faith and on the basis of some investigation by the executives, then regardless of how disastrous it was there is a good chance the claims for negligence and breach of fiduciary duty will be dismissed. This would be another example of what the Deal Professor pointed out recently, that corporate executives “have about the same chance of being held liable for their poor management of a public firm as they have of being struck by lightning.”
Mr. Killinger received more than $65 million in compensation from 2005 to 2008, a significant sum for presiding over an institution that ultimately failed. Under rules completed by the F.D.I.C. last week, the agency can recoup two years worth of executive compensation for banks that fail in the future under authority granted by the Dodd-Frank financial regulatory law.
The new rules allow the F.D.I.C. to reclaim compensation from senior executives if they were “substantially responsible” for the bank’s failure. An important facet of the rule creates a presumption that the chairman of a company’s board, the chief executive, the president and the chief financial officer, or someone removed from one of those positions by the F.D.I.C., is substantially responsible for the bank’s demise if the person had authority over “strategic, policymaking or companywide operational decisions.”
The presumption can be rebutted if the executive shows he or she performed with the “requisite degree of skill and care required by the position.” This effectively turns the business judgment rule on its head by requiring the executive to show that due care was exercised, not that the decisions should be protected from after-the-fact second-guessing regardless of how stupid it was.
Shifting the burden to an executive to show that this person did not contribute to the failure will be difficult — maybe even impossible — because the fact that F.D.I.C. took over the bank goes a long way toward showing that questionable decisions were made.
Unlike the suit against the Washington Mutual executives, which puts the burden of proof on the F.D.I.C. to establish a lack of due care, this new authority means reclaiming two years of executive compensation will be the default option. And the business judgment rule will no longer shield decisions from subsequent scrutiny by the courts assessing whether an executive was substantially responsible for a bank’s demise because now executives must show they acted with due care.
Stupidity is not a federal crime, which may well explain why there have not been any prosecutions of bank and Wall Street executives to this point. While the business judgment rule protects executives from being held liable for bad decisions under state corporate law, those who work for banks now face a bit more risk of being struck by lightning by the F.D.I.C.
F.D.I.C.'s Complaint Against Washington Mutual Executives
Peter J. Henning, who writes White Collar Watch for DealBook, is a professor at Wayne State University Law School.
Jul 27, 2011 at 1:34 PM
Reader Comments (21)
My Andy Rooney rant for the afternoon...............
Swindler in central Russia buys goods with old Brazilian currency
http://en.rian.ru/crime/20110727/165418776.html
http://sports.espn.go.com/mlb/news/story?id=2798498
We were a all a team and I would like to thank Uncle Rudy for the honor and priviledge of being a Rockwood All Star.
these money keepers should share with us the rights to:
Have a free funds Reserve Banks Checking account with at least a couple of millions in funds!
These funds should also be tax free! like the tax incentives these corporate Donald McRiches have!
http://dailybail.com/home/adam-levitin-tells-congress-citigroup-bank-of-america-jpmorg.html
I'm not saying that what sheila bair did with wamu was justified or correct...i'm simply saying that everyone WAS and IS still insolvent...watch the levitin clip i linked...you willl understand what i'm saying...it's a short video...and again, understand that i'm saying that JPMorgan, the acquirer of wamu in the shady fdic seizure, is also insolvent.
For years J Dimon lusted after WMB & set up "Project West". For months/years prior to seizure JPM moles were inserted into WMB & it was those senior executives that led them into the high risk MBS market (that Killinger foolishly went along with). However at the end of the day their exposure was limited compared to other banks. Additionally for months prior to seizure JPM had all of WMBs financial records & up to the minute status as a prospective buyer but were secretly active in supplying negative info to other prospective buyers (Santander etc) to put them off. While on one side of their mouth they (JPM) were negotiating with WMB they were making seperate deals with FDIC. TD Bank offered $25B for their east coast branches only but needed more time to complete the offer. FDIC rejected the bid as "non compliant". Hence FDIC rushed in with the low ball $1.88B giveaway & seizure to secure it for JPM for essentially nothing. Thus wiping out a major competitor & providing the necessary liquidity. JPMs situation was so dire they had to still borrow 190B from TARP.
http://www.forbes.com/feeds/afx/2008/09/23/afx5458883.html
The JPM friendly MSM & the Senate via PSI hearings have brainwashed the public into thinking WMI were yahoos just like the big 5. If you listen to the PSI hearings you will hear Levin going on & on about these MBS being to blame for their failure & you will hear Killinger refute it again & again saying their exposure to the toxic stuff was only 3% of their business.
It should be noted that at the height of the financial crisis (actually the Banking Cartel crisis) that of the 19 financial institutions protected from Naked Shorting, WMB was excluded from that list (why SEC? following orders from Paulson). It was the NS that pummeled the price into the ground (carried out by whom SEC?, still waiting) & withdrawal of business (JPM?) that led to a mini bank run from small depositors that was already stabilized & with mucho backup liquidity at hand.
http://www.deepcapture.com/washington-mutual-price-versus-failures-to-deliver/
http://www.deepcapture.com/the-naked-short-selling-that-toppled-wall-street/
http://docs.justia.com/cases/federal/dis...
According to their Motion:
"More fundamentally, the FDIC’s actions took place despite the fact that WaMu’s
liquidity and capital thresholds remained well above the levels typically required for seizure.
(Id.) For example, a bank is considered in danger of being seized if its net liquidity dips below
5% of total assets. (Id.) WaMu had $29 billion in net liquidity—about 9.4% of assets and nearly
twice the closure threshold on the day it was seized. (Id.) Likewise, WaMu’s capital exceeded
all regulatory minimums. (Id.) Its leverage ratio stood at 7.66% of total assets while regulators
consider a level of 5% to be well-capitalized. (Id.; 12 C.F.R. § 325.103(b) (2011).)"
Some telling statements:
Kerry Killinger Can’t Say He Wasn’t Warned
November 13, 2008
Kerry Killinger can’t say he wasn’t warned.
Two months before Washington Mutual failed, Treasury Secretary Henry Paulson warned then-CEO Kerry Killinger that he ought to sell the Seattle-based thrift before it deteriorated further.
"Paulson said, 'You should have sold to JPMorgan Chase in the spring, and you should do so now. Things could get a lot more difficult for you,' " said one of several current and former high-ranking WaMu executives familiar with details of the call.
I hope you see the bigger picture now & understand many WMB shareholders & businesses ruined by this illegal seizure want to see justice done (follow the bankruptcy hearings in Delaware) & do not want the "peoples" bank lumped in with all those NY scumbag banks.
DavidK
You paint WaMu to be a Saint of a bank when it most certainly was not. Read these links:
Washington Mutual created 'mortgage time bomb,' Senate panel says
http://articles.latimes.com/2010/apr/13/business/la-fi-wamu-inquiry13-2010apr13
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http://www.huffingtonpost.com/2011/04/14/well-aware-of-bubble-washington-mutual_n_849435.html
Saying Yes, WaMu Built Empire on Shaky Loans
http://www.nytimes.com/2008/12/28/business/28wamu.html
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I'm not denying any of the facts and links as you report, but you're nuts to think that somehow WaMu was above the fray of fraud and insolvency. They were loaded to the gills with horribly insolvent assets. Again, since you don't seem to get my point, I'm not absolving the FDIC and JPMorgan of wrongdoing, I'm simply pointing out that WaMu was just as insolvent as everyone else. You live in a fantasy land if you believe otherwise. Every single bank in this country is insolvent if they were forced to mark their assets honestly. This is my point.
You quote links that all quote the senate report. It tried to make out WM was the worst offender, but it simply was not so & nowhere in that report does it show the facts & figures to prove WM was insolvent. If you want to prove your case show me the F&F from the report & we will be done. You cannot because it's a lie. Sure they took a hit, but it was not fatal the other banks were in way deeper.
They tried to gift Citi the Wachovia empire to save Citi not the other way round. But their plans were thwarted when Wells Fargo stepped in & said hey we are going to buy W at a multiple of what your offering. Where was the investigation into the FDIC on that & JPM/WM deal?. The report did not say diddly squat that we did not know already. They pointed the finger at WM to cover up the real offenders (the Cartel & FDIC). Did you see the questioning of Sheila Bair by the committee? A few soft ball questions & that was it, what a joke. The conclusion was predetermined & Levin got nowhere in trying to prove WM/Killinger was the real baddy. So here you have a report that purports to show WM was to blame but that same hearing & subsequent report proved nothing of the sort. Just a lot of hyperbole that was repeated by the MSM sheep. The bottom line is at the end of the day the biggest banks got bigger at the expense of their competition for pennies on the dollar with the help of the Federal Reserve & FDIC. Did you see those conclusions?????????
Davidk
25 Questions Washington Mutual Inc Investors Would like Congress to Address
18 months after the seizure and sale of Washington Mutual, investors have still seen no proof of justification for the seizure of the bank. The OTS claimed it was a liquidity crisis that caused the bank to fail. However, an independent investigation by Kirsten Grind of the Puget Sound Business Journal and Portfolio.com backed up what Washington Mutual Investors already knew, there was never a liquidity crisis. The bank was solvent and had somewhere between $29 and $50 billion of liquidity at their disposal.
Due to a complete lack of transparency between the FDIC, OTS and the general public, including Freedom of Information Act requests being answered with fully redacted documents that appear to be hiding the REAL reason(s) the bank was seized, the shareholders of Washington Mutual Inc have had to rely solely on their own due diligence to put the pieces together as they've tried to understand what really happened.
This morning I asked Washington Mutual Inc shareholders to share with the rest of the world what they would like to see addressed in the upcoming congressional sub-committee hearings.
The following are 25 of their questions and concerns as they relate to Washington Mutual, the FDIC, The OTS, JP Morgan Chase, and other government officials.
1) When did FDIC and JPMC first contact one another about WaMu?
2) Did JPMC Contact the FDIC or did the FDIC contact JPMC?
3) We know it happened as early as March 08 but at what point did JPMC begin lobbying the FDIC to seize WaMu?
4) Did your investigation happen to uncover any of the now infamous details of JPMC's advanced plan to dupe the government into seizing WaMu and selling it to JPMC based upon the premise that Chase could get the government involved in giving them a sweetheart deal so long as the shareholders were wiped out? In other words, did your investigation turn up anything relevant to JPMC's "Project West"?
5) What information about Washington Mutual did the FDIC offer JPMC?
6) As per the FDI Act, did the FDIC convey similar information to ALL other potential WMB suitors at the same time they provided it to JPMC?
7) How significant was JPMC's role in in shaping the FDIC's decision to pressure the OTS to seize Washington Mutual?
8) What information did JPMC give the FDIC regarding the financial health of WaMu?
9) JPM claims they were watching deposits fly out of WMB from "a war room" at JPMC. Were other banks granted unfettered access to the inner most workings of Washington Mutual before the bank was seized or was JPMC granted special FDI Act breaching privileges do to their connections in Washington.
10) Why was WaMu seized on a Thursday when we all know banks are historically seized on Fridays?
11) Who at the FDIC leaked information of the seizure to CNBC?
12) Why did the SEC refuse to protect WaMu by adding it to the 2008 Financial Institution No Short Sale list?
13) When Killinger called Paulson to ask him to use his influence to have WaMu added to the No Short Sell list, why did Paulson refuse and simply say "You should have sold to JPMorgan Chase in the spring, and you should do so now. Things could get a lot more difficult for you?"
14) Why was Wamu seized when it had ample cash to weather additional bank runs, and while the passage of TARP was obviously looming?
15) The FDI Act section 13(E) requires the FDIC to get fair market value for the assets they sell The FDIC's Purchase and Assumption Agreement with JP Morgan specified that section 3.1a listed all of the assets sold to JPMC. Why doesn't a section 3.1a exist? Furthermore, why does page one of the FDIC's "closing book" on Washington Mutual show that the FDIC was offering to sell assets, even if they didn't belong to the bank, in other words, even assets of the holding company which the FDIC has no power to seize or sell. Without an itemized list of assets sold to JPMC, how does the FDIC even know which assets they sold, let alone if they received a fair price for them and how do we as investors know the FDIC didn't sell JPMC assets of the holding company?
16) The FDIC sold IndyMac's 33-branch, $6.5B deposit institution for $13.9B. In comparison, the FDIC sold WaMu's 2200 branches and $300 billion in assets, $188 billion in deposits to JPMC for only $1.9 billion. Are we supposed to believe that the FDIC acted within the constrains of the FDI Act and that they maximized the asset value of WMB or should we just assume that due to their incompetence and insistence on a "whole bank transaction" in accordance to a pre-arranged sweetheart deal with JPMC, that we were effectively "robbed"?
17) Was WaMu given specific instructions to remedy itself? And if so, were those instructions followed?
18) WaMu was in the process of moving billions of dollars from the subsidiary FSB bank into WMB when it was seized. Internal documents released through the bankruptcy proceedings show this was called "Project Fillmore" and we know that FSB had 20 billion in cash on hand. So why did the OTS seize WaMu before it could re-capitalize via the transfer if the OTS had signed off on this deal as part of their Memorandum of Understanding with the bank?
19) Why did the FDIC include this $20+ billion in cash in the sale to JPMC, along with $300 billion in assets for only $1.9 billion?
20) Wouldn't it have made sense for the FDIC to use this $20+ billion to pay the bank and holding company bondholders and shareholders instead of gifting the money to JPMC and wiping everyone else out?
21) The OTS claimed WaMu was seized because of a "liquidity crisis" due to bank runs, even though WaMu had adequate (actually above average) liquidity at the time it was seized. Please disclose the ratios of the top 10 banks/investment firms/commercial banks and thrifts for September 2008 so that we know that our bank wasn't arbitrarily seized to place pressure on Congress to pass TARP and/or to insulate JPMC from the pressures of the 2008 financial crisis.
22) What happened to the $50 billion of reliable liquidity as stated in WaMu's Sept 11, 2008 press release?
24) Why did the FDIC offer to cover JPMC up to $500 million to indemnify JPM from confidentiality clause violations between JPM and WaMu? Is it standard operating procedure for the FDIC reward banks that break the law with immunity against prosecution?
25) Wachovia was determined to be "systemically important" to the security of the nation's financial system, and at the urging of Treasury Secretary Timothy Geithner was offered for sale (not seizure or receivership) to Citi, eventually to be merged into Wells Fargo via a separate deal. Was WaMu, the nation's largest bank failure in our history, not systemically important to rescue or enable a buyout
DavidK
http://www.avaresearch.com/ava-main-website/files/20090930175434.pdf?page=files/20090930175434.pdf
Disclosure: I am a WAMUQ shareholder & have no ties whatsoever to the above person/s/Co.
DavidK
I note that you still continue to ignore one of the biggest stories of 2011:
The crime & corruption surrounding the takedown & subsequent rape, pillage & fleecing of WAMU shareholders, which is now only coming to light.
I suggest you read this brief from the EC which was released yesterday:
http://wmish.com/docs/815/8491.pdf
p.s. I trust you are aware that the DOJ have dropped their investigation into the criminal activities of Killinger et al? and no explanation why? Ooooh! I wonder why? rabbit hole runs very deep here. Did not see your report of that, did I miss that?
DavidK