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Federal Deposit Insurance Corporation As Receiver For v. Amrish Mahajan

July 26, 2012


The opinion of the court was delivered by: Judge Virginia M. Kendall


Plaintiff Federal Deposit Insurance Corporation ("FDIC") as receiver for Mutual Bank (the "Bank") sued twelve individuals, ten members of the Board of Directors (the "Board") of the Bank (together, the "Director Defendants"), and two former officers of the Bank (the "Officer Defendants"). The FDIC also brought claims against the Bank's lawyer, James Regas (also a Director Defendant) and his law firm (the "Regas Firm"). The FDIC alleged gross negligence, negligence, breach of fiduciary duty, wasting of corporate assets and, in the case of Regas and the Regas Firm, claims of malpractice and aiding and abetting the other Defendants' breach of fiduciary duty. The claims arise as a result of the Bank's loss of $115 million and subsequent business failure, allegedly as a result of risky construction and commercial real estate loans and the improper expenditure of corporate assets for personal use by the Defendants. Each of Defendants moves to dismiss the claims pursuant to Federal Rule of Civil Procedure 12(b)(6). For the reasons set forth herein, the motions are granted in part and denied in part.

Undisputed Facts

For purposes of a motion to dismiss, the Court accepts as true all well‐pleaded allegations in the First Amended Complaint. Beginning in 2004, the Bank grew its loan portfolio rapidly with a concentration in commercial real estate ("CRE") and in acquisition, construction, and development ("ADC") loans. In 2007, the ADC loans represented 209% of the Bank's capital; by 2009, ADC loans represented 819%. By comparison, other peer group banks decreased their exposure to ADC loans from 147% in 2007 to 129% in 2009. In 2007, the Bank held CRE loans accounting for 415% of the Bank's total capital; by 2009, CRE loans accounted for 1,855% of total capital. By comparison, peer group banks had CRE exposure of 302% in 2007, and 205% in 2009. Additionally, the Bank concentrated its loan portfolio in a small number of customers, increasing loan amounts to its fifteen largest borrowers from $294.2 million in 2007 to $428.6 million in the fall of 2008.

A. The Bank's Loan Policy and Regulatory Exam History On paper, the Bank maintained an extensive loan policy, requiring underwriting in conformity with state and federal law, extensive documentation, and evaluation of risk. According to the Bank's loan policy, loans in excess of the individual officers' lending limits, but under $1 million, required the approval of the Senior Officer Loan Committee (the "SOLC") and loans in excess of $1 million required the approval of the Directors' Loan Committee (the "DLC") comprising members of the Bank's Board. In reality, Defendants repeatedly ignored the Bank's loan policy.

In May 2005, the Illinois Department of Financial and Professional Regulations (the "IDFPR") conducted an examination of the Bank and delivered its report to the Board on June 10, 2005. That report warned the Board that its high concentration in hotel loans carried more risk than other properties, and that many of the loans the Bank extended were inappropriately based on projections rather than historical data and/or had collateral consisting of distressed properties. The 2005 report also noted that many of the properties securing gas and convenience store loans were difficult for the Bank to monitor for collateral purposes as they were outside the Bank's immediate market area. As a result of the 2005 report, IDFPR regulators made several recommendations to manage risk, yet these recommendations were not followed by the Bank.

In May 2006, the FDIC investigated the Bank and delivered its report to the Board on July 29, 2006. The 2006 report again raised concerns about the Bank's risk management, record asset growth, and lack of increase in staffing to keep pace with the increase in the loan portfolio. The 2006 report also stressed the geographic dispersion of properties subject to loans, and potential flaws with asset quality. As with the 2005 report, the 2006 report made recommendations to enhance risk management which were again not followed by the Bank.

In May 2007, the IDFPR and the FDIC jointly investigated the Bank and delivered their joint report to the Board on June 27, 2007. The 2007 report noted continued deterioration in the Bank's loan portfolio and in asset quality, highlighted risk concerns with the gas, convenience store, and hotel markets, the geographic dispersion of properties outside the local market, and the reliance upon aggressive and speculative appraisals. The 2007 report also noted staffing concerns hampering accurate loan review. As with the 2005 and 2006 report, regulators made recommendations to enhance risk management, and again, these recommendations were not followed by the Bank.

In June 2008, the IDFPR and the FDIC again jointly investigated the Bank and delivered their report to the Board on July 30, 2008. The 2008 report contained a harsh description of the Bank's financial condition, the risk management practices, and noted the "rapid" deterioration of asset quality resulting in severe exposure for the Bank. Regulators warned the Board that the Bank needed to significantly improve its risk monitoring and reporting, secure adequate staffing, and change credit administration practices that, if not altered, presented "an imminent threat to the institution's viability." Cmplt at ¶50. Regulators invited the Board to participate in exam discussions, but none of the Board did so. When regulators invited Defendant Pethinaidu Veluchamy, then Board Chairman, to attend an individual meeting to discuss the 2008 report and exam, he elected not to attend. As a result of the 2008 report, the Bank entered into a Cease and Desist Order with the FDIC, effective January 9, 2009.

In January 2009, the FDIC conducted an additional exam of the Bank to evaluate the asset quality and Bank operations as of the end of 2008. Regulators noted no improvement in Bank management's ability to properly identify and reserve for risk, and that the Bank's financial condition had deteriorated to the point where the Bank's future was in question. The IDFPR closed the Bank on July 31, 2009.

B. The Twelve Loss Loans

Of the loans made and approved by the Director and Officer Defendants, twelve loans (the "Loss Loans" caused losses totaling $115.4 million. The Defendants routinely failed to assess the repayment abilities of the borrowers on the Loss Loans, relied on loan brokers who brought high risk loans to the Bank, made loans out of area, inappropriately allowed the use of the Loss Loans' interest reserves, and failed to monitor the use of the funds of the state of the collateral securing the Loss loans. Although most of the Loss Loans were made after the real estate market began its decline in 2006, the Loss Loan files make no more than casual references to deteriorating market conditions.

C. Personal Use of Bank Corporate Assets

The Director and Officer Defendants used funds of the Bank for personal use, including: (i) a $250,000 payment for sponsorship of Defendant Arun Veluchamy's wedding in July 2008; (ii) $495,000 in payments to Defendant Mahajan for defense of his wife's criminal case for Medicaid fraud, only $202,560 of which was repaid to regulators; (iii) payments for renovations of the Bank's offices made by friends and relatives of the Director Defendants, which payments exceeded the value of the improvements by approximately $250,000; and (iv) payments of approximately $300,000 for a Board meeting in Monte Carlo, for which no businessā€related function is apparent. In additional to Bank expenditures for personal use, the Bank paid improper dividends to the Director Defendants in the amount of $10.5 million in 2007 and 2009. The dividends were authorized by the four Veluchamy Defendants (who collectively held 95% of the ...

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