How AIG’s board ended up in the middle of Greenberg’s suit v. U.S.

January 9, 2013

On Wednesday, as Dealbook reported in a terrific story Monday night, AIG’s 12 board members will hear an extraordinary presentation. Starr International Company, which is controlled by former AIG chief Hank Greenberg, will ask the company to join a $25 billion case in federal claims court that accuses the United States of wrongfully seizing control of AIG from shareholders when the government took control of the teetering insurer in September 2008. Then, according to a court filing in which AIG described the process, the government and the Federal Reserve Bank of New York will counter Starr’s arguments and urge the board to forego litigating against its federal saviors (who have since been paid back in full). By the end of the month, the board will decide whether to take on Starr’s derivative claims against the government, risking accusations of ingratitude, or to vote against pursuing the litigation, risking possible shareholder derivative claims that it has breached its own fiduciary duties.

Starr hasn’t made any threats of breach-of-duty claims against AIG’s board, and its lawyers at Boies, Schiller & Flexner declined comment through a firm representative. So far, AIG’s conduct in Starr’s litigation against the federal government has actually helped Greenberg’s company, as you’ll see below. But as the AIG board deliberates, directors will be wary of the former chairman’s well-exercised trigger finger for lawsuits.

Starr’s campaign against the feds began in November 2011 as two different cases: the federal claims court complaint against the United States (asserting both direct shareholder claims and derivative claims on behalf of AIG for the government’s supposedly unconstitutional conduct) and a shareholder derivative complaint in federal court in Manhattan against the Federal Reserve Bank of New York, which was the instrument of the $182 billion federal bailout of AIG. In a landmark (and cogently written) ruling last November, U.S. District JudgePaul Engelmayer dismissed the entire case in Manhattan federal court. The judge said (and here I’m summarizing an 89-page ruling) that Starr hadn’t adequately established the Federal Reserve’s fiduciary duty to AIG and its shareholders, and even if such a duty existed, AIG’s claims under Delaware law would be pre-empted by the federal government’s larger responsibility to stabilize the national economy.

But there was an intriguing paragraph in Engelmayer’s opinion, little noticed at the time, that hinted at the AIG board’s ongoing concern about its obligation to assume Starr’s claims against the government. Engelmayer said that he had encouraged AIG’s board to decide whether to join Starr’s case and that AIG’s lawyers said board discussions were under way. Engelmayer’s opinion disclosed that AIG had already set aside time at the Jan. 9 board hearing for presentations on the Starr litigation.

In fact, AIG’s role in the Starr suits has been a giant question mark hovering over the cases since they were filed. Derivative suits, as you know, are brought by shareholders standing in the shoes of a corporation, asserting claims that rightfully belong to the corporate board. Under Delaware law, which governs the AIG litigation, shareholders must be prepared to show that before filing suit they served the board with a demand that it bring its own claims or that such a demand would have been futile. Usually shareholders file derivative breach-of-duty claims against board members, so their complaints argue that boards are too conflicted to decide whether to sue themselves. Here Starr wasn’t suing the AIG board but rather the federal government on behalf of AIG. Nevertheless, Starr did not serve a demand on AIG’s board before filing its suits in Manhattan federal court and federal claims court in Washington.

The government argued in both Manhattan federal court and federal claims court that Starr’s failure to serve a presuit demand on the AIG board, or otherwise to assert the futility of a demand, meant that the derivative claims had to be tossed. But it was forced to make those arguments without supporting briefs from AIG. Starr and AIG reached a side deal, agreeing to extend the deadline for AIG, as a nominal defendant in both cases, to respond to Starr’s complaints. Claims court Judge Thomas Wheeler explained the terms of the side deal in an order in March 2012 that approved the joint stipulation (despite the government’s objection): AIG wouldn’t have to answer the complaint until after a ruling on preliminary motions, but Starr couldn’t argue that the delay represented the board’s tacit endorsement of the suits. The side deal was quite a boon to Starr: In the federal court case, AIG specifically asked Judge Engelmayer not to rule on the presuit demand issue, despite the government’s argument that it required him to toss Starr’s derivative claims.

If the government had prevailed in both of its dismissal motions, AIG and its lawyers at Weil, Gotshal & Manges would never have had to figure out how to respond to Starr’s claims. But it didn’t. In July 2012, Wheeler ruled that Starr could proceed not only with direct claims that the government’s purchase of a 79.9 percent stake in AIG was an unconstitutional taking of shareholders’ property without compensation but also with derivative takings claims related to the stock sale and the takeover of AIG assets by the Fed’s Maiden Lane facility. (He tossed Starr’s other constitutional claims.) The judge put off any ruling on the government’s argument that Starr failed to make the proper presuit demand, writing that the procedure is supposed to safeguard the power of the corporate board, which, in this case, had agreed to delay consideration. “Here, AIG — the party the demand requirement was meant to protect — has not sought to enforce its right to a demand but instead has requested that the court defer ruling on the issue,” he wrote. “Under such circumstances, the court is not compelled to address the demand issue at this time.”

Wheeler’s ruling meant that AIG’s board had to deal with Starr’s assertions. Starr underlined that obligation in August, when it served a demand on the board that called for AIG to bring claims against the government. AIG’s lawyers subsequently informed Engelmayer and Wheeler that the board had begun evaluating its options; in a Sept. 5 filing with Wheeler, Weil Gotshal outlined the deliberation process. “The making of the demand by Starr is a significant change in the litigation landscape, and, as we reported to the court, AIG’s board has established an orderly and deliberative process pursuant to which the board will consider the novel and complex issues raised by Starr’s demand,” AIG wrote. “The process will include written presentations addressing specific questions from AIG and written replies, and then oral presentations to the board, by Starr and the government.” AIG has since said that discussion of the Starr suit will consume the entire morning of the board meeting Wednesday. (AIG counsel Joseph Allerhand of Weil referred me to an AIG spokesman, who didn’t return my call.)

If the board refuses to join the case, it’s certainly conceivable that Starr (or another shareholder, for that matter) could allege that directors were improperly bypassing claims that have already survived a dismissal motion. AIG, of course, would respond that litigating against the government, particularly in these circumstances, is an expensive and unnecessary diversion from its recovery. It only helps a future AIG defense that the board has given serious consideration to Starr’s claims.

Starr’s direct claims against the United States, based on the dilution of the value of AIG shares after the stock sale to the government, will proceed regardless of the AIG board’s decision, since those claims belong to shareholders, not to the corporation. Starr has moved for certification of a class of prebailout shareholders and told Judge Wheeler at a status conference in December that deposition and discovery are under way.

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