D&O claims against financial institutions in Denmark - have we seen the end of the crisis?

The years of financial crisis from 2008 led to a number of significant D&O claims against board members and executive management of small/medium sized financial institutions in Denmark. Below we provide an overview of the most significant D&O claims. 

The claimant – Finansiel Stabilitet

Historically, Denmark has not seen a large number of D&O claims related to financial institutions.

At the start of the financial crisis, the Danish Government passed various pieces of legislation to avoid a total crash of the financial markets. This included the setting up of a legal entity, “Finansiel Stabilitet”, designed to take over insolvent financial institutions and to wind them up in a controlled manner.

Finansiel Stabilitet decided to raise D&O claims against former board members and executives of a number of financial institutions. 

D&O court cases

What legal tests did the courts apply?

The above D&O claims demonstrate an examination of liability as defined by the Companies Act 470/2009. The liability sections of the Act are not very detailed, however relevant issues were:

1. Mismanagement, including:

• Excessive growth strategies and risk appetite
• Insufficient human and financial resources
• Insufficient procedures and non-compliance
• Fast-track procedures and the granting of loans to buy shares
• Demands from the Financial Services Agency.

2. Insufficient consideration and evidence when reaching a lending decision

The courts only found in favour of the Finansiel Stabilitet if there was strong evidence of (b) and only if there was causation. To prove causation seems to have been a difficult task.

However, the overriding principle applied by the courts in all claims was the Business Judgment Rule. 

The Business Judgment Rule

The Business Judgment Rule allows the Board to make strategic decisions which may result in losses as long as such decisions are based on documented procedures and reviews.

An increase in risk appetite and the pursuit of new business opportunities is acceptable if the decision is based on relevant investigations. Likewise, executives are allowed to grant credits which may not be profitable or are loss generating if such decisions are documented.

Consequently, the Business Judgment Rule leaves a margin for errors. The question is where to draw the line. The following cases give some guidance:

a). Amagerbanken

The Finansiel Stabilitet alleged that the granting of specific loans were outside the scope of Business Judgment Rule.

The Appeal Court acquitted the Board and the CEO for most of the allegations save for the granting of a loan extension at a time where it ought to have been clear (to the Bank) that the risk of losses due to market conditions in the real estate sector was imminent.

The bank did not have D&O insurance in place. However, the Chairman’s Professional Indemnity policy incepted and paid out about DKK100m of the DKK225m judgment sum.

b). Capinordic Bank

The Finansiel Stabilitets allegations related to mismanagement and the granting of ill-founded loans. The courts found no evidence of mismanagement but a lack of thorough evaluation and documentation of specific loans. In particular, the courts criticised loans granted to entities whose directors were personally related to members of the Bank’s Executive Management. 

There was a D&O insurance in place with a DKK25m limit.

c). Roskilde Bank

The court ruling is surprising because it examined allegations many would have thought would lead to liability – but did not. This included organisational issues such as growth and risk appetite for real estate projects and problems related to specific loans.

Though the court agreed that the bank had organisational challenges and took risks, the court held that the Finansiel Stabilitet had not presented sufficient evidence to prove liability and cause. Only one loan (out of ten) provided to a customer, who could not repay existing loans and who basically had no income, amounted to negligence.

Comment

“Finansiel Stabilitet” has only been partly successful in proving liability and causation.

In reaching a decision, the courts assess whether there are relevant standard operating procedures in place and whether management have complied. Flexible management structures and procedures appear to be accepted as well as fairly expansive risk appetite decisions. The courts appear to have no issue with precarious business decisions as long as such decisions are based on relevant investigation and documents and loans are provided in accordance with the arm’s length principle. However, if these requirements are not met, the courts are likely to find for the Finansiel Stabilitet irrespective of insurance cover.

All of the rulings leave one overall impression: the burden of proof for the Finansiel Stabilitet is high.

Very few of these cases have led to publicly known D&O coverage disputes. However, one conclusion to be drawn with respect to D&O cover is that there ought to be a growing demand for D&O cover and for an increase in limits of liability.

Read others items in Professions and Financial Lines Brief - May 2020