Shareholder Suits: Ruling a Victory for Banks

Article excerpt

Close analysis of a recent opinion by the U.S. Court of Appeals for the Third Circuit indicates that banks may have gained a stronger hand in disputes over the reporting of loan-loss reserves.

UJB Financial Corp. and some of its officers and directors were sued by shareholders for alleged violating federal and state laws and regulations.

As with the dozens of other shareholder actions filed within the past two years against financial institutions, the suit was filed after announcement of a dramatic decline in net income and an increase in loan-loss reserves. which resulted in a significant drop in the price of UJB's common stock.

Loan-loss Reserves in Question

The shareholders charged that the plaintiff class had purchased the New Jersey bank's securities after relying upon "fraudulent" public statements about the adequacy of loan-loss reserves.

While a district court dismissed most of the plaintiffs' federal securities claims for failure to state a claim of fraud - as opposed to mismanagement the appellate court reversed.

It ordered the plaintiffs to revise the complaint to make clear whether they were alleging mismanagement (merely failing to provide adequate reserves) or fraud (intentionally inaccurate reporting of reserve and income figures).

The circuit court observed that where a bank has represented that its practices are "adequate" or "conservative," "the securities laws are clearly implicated if it nevertheless intentionally or recklessly omits certain facts contradicting these representations."

Significantly, however, the appeals court reaffirmed that plaintiffs must specifically provide a factual basis for their allegations of fraudulent conduct: "Plaintiffs must accompany such an allegation with a statement of facts upon which their allegation is based."

The appeals court also:

* Did not specifically determine whether the plaintiffs in that case had pleaded their claim with the specificity required by Rule 9(b) of the Federal Rules of Civil Procedure. …