In a matter of first impression in Puerto Rico, and applying Delaware law, District Judge Gustavo Gelpi dismissed all the claims against 11 defendants, all of whom were the most senior executives at Westernbank, formerly Puerto Rico’s second largest bank. Westernbank, a $10 billion bank with hundreds of branches scattered throughout the island, was closed by the FDIC in 2010 for reasons unrelated to the lawsuit.
The derivative lawsuit, brought by a shareholder of the bank, alleged that the majority of the board of directors and senior management purposely ignored the warning signs of a massive, $200 million structured fraud initiated against the bank’s asset based lending division by a significant client of the bank. The shareholder claims included breach of fiduciary duties as officers and directors of the bank, waste of corporate assets, unjust enrichment, Sarbanes-Oxley violations, and violations of numerous Puerto Rican statutes.
Attorneys Carlos F. Concepcion, Manuel A. Rodriguez and Scott A. Burr, and Forensic Investigator and CPA Francisco Gomez, assisted the Special Litigation Committee of the board of directors in determining the viability of multiple derivative claims initiated against the bank’s officers and directors.
The investigation involved a review and analysis of over 100,000 documents related to the fraud and interviews of nearly 40 bank officials, directors and officers with knowledge of the events leading to the fraud. The Committee’s report, a nearly 200 page single-spaced report detailing its factual and legal analysis, was ultimately filed with the court along with the Committee’s motion to terminate or otherwise dismiss the case. The factual investigation also required detailed analysis of Westernbank’s internal control systems and their remediation that resulted from nearly a dozen third-party reports and analysis.
Resolution of the derivative claims required a full and thorough investigation, however, as the Committee had to be careful not to enhance or otherwise fuel the parallel class action case that was asserted concurrent to the derivative claims.
The Committee and its counsel also had to be very careful not to waive claims of privilege or otherwise divulge sensitive or confidential proprietary information.
The forensic investigation was conducted through the prism of the legal claims being asserted, and the investigators and attorneys had to understand the factual significance of the events and legal elements of the claims. This interplay would have been very difficult without attorneys who were also experienced forensic investigators themselves.
The Special Litigation Committee had no subpoena power, and sought the cooperation of the corporation’s inside counsel, whose ultimate allegiance was to the corporation.
The Special Litigation Committee, while comprised of members of the board of directors, had to maintain its independence, both in appearance and in fact, while adjudicating the claims. This tightrope dictated that the Special Litigation Committee not permit either the corporation’s counsel or plaintiff’s counsel to dictate or otherwise manage the investigation and its conclusions. The Special Litigation Committee, though, sought the cooperation of plaintiff’s counsel, the corporation and its counsel.
In its lengthy order, the Court held that:
- The Special Litigation Committee members did not have such significant commercial ties to the defendants to render them impartial to their duties;
- Formation of the Special Litigation Committee did not raise serious questions as to their ability to independently assess the shareholder’s claims;
- The Special Litigation Committee acted in good faith and conducted a reasonable investigation upon which it based its conclusions, and
- The Special Litigation Committee’s recommendation that the derivative action be summarily terminated was reasonable.
- The court declined to exercise its own independent judgment because the result reached by the Special Litigation Committee was not “irrational or egregious”.
In reaching its conclusions, the District Court validated several years of independent research by Francisco Gomez and Manuel Rodriguez. Both Mr. Gomez, who lead the initial factual investigation, and Mr. Rodriguez, are Certified Public Accountants and Certified in Financial Forensics. Additionally, Mr. Rodriguez is also an attorney.
Ultimately, Westernbank became a victim of the excesses of the national banking industry this decade. It’s irrational commercial real estate lending practices, coupled with a severe economic downturn in Puerto Rico led to its demise. The fraud perpetrated against it in this instance was but a drop in the proverbial bucket. Mitigation of this fraud, even at the onset, would not have stemmed the flood of losses that it eventually would realize and that doomed the stricken bank.