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Capital One Financial Corp. Directors Again See Dismissal of Del. Derivative Suit

Friday, October 11, 2013

The U.S. District Court for the Eastern District of Virginia Oct. 8 dismissed for a second time a double derivative action against Capital One Financial Corp.(COF) directors relating to “add-on” products such as payment protection insurance and credit monitoring that regulators determined were sold using deceptive practices (In re Capital One Derivative S'holder Litig. , 2013 BL 278168, E.D. Va., Lead Case No. 1:12cv1100, 10/8/13).

Judge T.S. Ellis, III said that the amended, consolidated complaint fails because Capital One’s certificate of incorporation bars the newly alleged duty of care claim against director, chief executive and president Richard D. Fairbank. Further, the court said that the shareholder plaintiffs “are not entitled to wrest control of the corporation from the board to sue derivatively on behalf of the corporation” where they failed to plead with particularity that demand would be futile under Fed. R. Civ. P. 23.1 and Delaware law.

Nominal defendant Capital One is the parent company of both Capital One Bank, N.A. (USA) and Capital One Bank (Europe) Plc. Although the plaintiffs sued the directors of Capital One, the court said, Capital One Bank USA is the entity alleged to have been harmed by the individual defendants’ wrongdoing. Where, as here, stockholders sue the parent company of the allegedly harmed subsidiary, “Delaware law recognizes and defines such a claim as a double derivative suit,” the court said.

The plaintiffs' claims relate to the sale of “add on” products in 2010-2012 by Capital One third-party call centers using practices that later found by the Office of the Comptroller of the Currency and the Consumer Financial Protection Bureau to be deceptive.

In an earlier ruling, the court granted in part the defendants’ motion to dismiss, and permitted amendment of some claims. In this ruling, the court dismissed the amended complaint with prejudice. 

Actions as Director

The court said that Capital One’s certificate of incorporation provides that directors may be held liable only for breaches of the duty of loyalty or “ 'acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of law.’” Thus, the court said, absent bad faith, intentional misconduct or a knowing violation of the law, Fairbank cannot be liable for breaches of the duty of care when he acts as a director.

The court said that it follows that to state a claim against Fairbank for breach of the duty of care where there are no allegations of bad faith, intentional misconduct or knowing violation of the law, the plaintiffs must plead facts plausibly asserting that he acted solely in his capacity as an officer, “thereby removing his actions from protection under the exculpatory clause.”

After review, the court said that the plaintiffs’ allegations in this connection “fall short,” and the newly-alleged breach of duty of care claim is barred by Capital One’s certificate of incorporation. 

Red Flags?

The court further ruled that the plaintiffs have failed to plead with particularity that making demand of the board would be futile.

The key to this claim, the court said, is the plaintiffs’ allegation that the director defendants were aware of certain “red flags” that should have alerted them to problems at the third-party call centers. The director defendants allegedly consciously decided not to heed the red flags, investigate, and correct the call centers’ practices.

The court said in this regard that certain alleged red flags could have alerted the defendants to wrongdoing at the third-party call centers, including Capital One Bank Europe’s settlement with the British Financial Services Authority; Capital One’s 2012 settlement with the West Virginia Attorney General; and various class actions over Capital One’s payment protection plans.

The court said that although the complaint adequately pleads that these and certain other incidents could have served as red flags to alert the director defendants to wrongdoing at the third-party call centers, it fails to plead the requisite knowledge and bad faith as to each of the individual directors. Thus, the shareholders cannot claim that demand on the board would have been futile.

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