Bhatti v. Fed. Hous. Fin. Agency

• Citation: 332 F.Supp.3d 1206
• Decision Date: 06 July 2018
• Docket Number: Case No. 17-CV-2185 (PJS/HB)
• Parties: Atif F. BHATTI; Tyler D. Whitney; and Michael F. Carmody, Plaintiffs, v. The FEDERAL HOUSING FINANCE AGENCY ; Melvin L. Watt, in his official capacity as Director of the Federal Housing Finance Agency; and The Department of the Treasury, Defendants.
• Court: U.S. District Court — District of Minnesota

332 F.Supp.3d 1206

Atif F. BHATTI; Tyler D. Whitney; and Michael F. Carmody, Plaintiffs,

v.The FEDERAL HOUSING FINANCE AGENCY ; Melvin L. Watt, in his official capacity as Director of the Federal Housing Finance Agency; and The Department of the Treasury, Defendants.

Case No. 17-CV-2185 (PJS/HB)

United States District Court, D. Minnesota.

Signed July 6, 2018

Scott G. Knudson and Michael M. Sawers, BRIGGS AND MORGAN, P.A., for plaintiffs.

Robert J. Katerberg, Howard N. Cayne, and Asim Varma, ARNOLD & PORTER KAYE SCHOLER LLP; Mark A. Jacobson, Karla M. Vehrs, and Christopher Proczko, LINDQUIST & VENNUM LLP, for defendants Federal Housing Finance Agency and Melvin L. Watt.

Robert Charles Merritt, UNITED STATES DEPARTMENT OF JUSTICE; Craig R. Baune, UNITED STATES ATTORNEY'S OFFICE, for defendant Department of the Treasury.

ORDER

Patrick J. Schiltz, United States District Judge

Plaintiffs are shareholders in the Federal National Mortgage Association (commonly known as "Fannie Mae" or "Fannie") and the Federal Home Loan Mortgage Corporation (commonly known as "Freddie Mac" or "Freddie"). Fannie and Freddie (collectively, "the Companies") are federally chartered, for-profit, publicly traded corporations that are in the business of purchasing and guaranteeing mortgages and bundling them into securities. Both companies are regulated by defendant Federal Housing Finance Agency ("FHFA").

In 2008, in the midst of the Great Recession, FHFA placed Fannie and Freddie into conservatorship-and then, acting in its capacity as conservator on behalf of the Companies, FHFA entered into preferred stock purchase agreements ("PSPAs") with the United States Department of the Treasury ("Treasury"). Under the PSPAs, Treasury made billions of dollars available to Fannie and Freddie in exchange for shares of the Companies' stock. Over the years, the parties amended the PSPAs from time to time. In August 2012, FHFA and Treasury amended the PSPAs for the third time in order to restructure the calculation of dividends to be paid to Treasury. Under this Third Amendment (which is still in effect), Fannie and Freddie pay a quarterly dividend to Treasury that is roughly equal to the amount by which their net worth exceeds zero.

The Third Amendment is deeply unpopular among some of the Companies' shareholders, and they have launched at least two waves of lawsuits in an attempt to undo it. The first wave of litigation attacked the Third Amendment directly. When that wave largely failed, shareholders launched a second wave of litigation (including this lawsuit). In the second wave of litigation, shareholders are attacking the Third Amendment indirectly by challenging the legality of FHFA itself-hoping that, by killing the tree, they can kill one of its fruits. Plaintiffs in this particular lawsuit challenge the structure of FHFA (specifically, the fact that it is headed by a single director who can be removed only for cause). Plaintiffs also challenge the way that FHFA is funded and limitations on judicial review of FHFA's actions as conservator. Plaintiffs further challenge the length of the term that was served by an acting director of FHFA. And finally, plaintiffs challenge Congress's grant of conservatorship powers to FHFA.

This matter is before the Court on defendants' motions to dismiss and plaintiffs' motion for summary judgment. For the reasons that follow, defendants' motions are granted, and plaintiffs' motion is denied.

I. BACKGROUND

A. Regulatory Structure

Fannie and Freddie are for-profit, stockholder-owned corporations whose activities include purchasing, guaranteeing, and securitizing mortgages originated by private lenders. Am. Compl. ¶ 10. From 1992 until 2008, the Companies were regulated by the Office of Federal Housing Enterprise Oversight ("OFHEO"). Am. Compl. ¶ 13.

In July 2008, after the subprime mortgage crisis triggered the Great Recession, Congress passed the Housing and Economic Recovery Act ("HERA"), Pub. L. 110-289, 122 Stat. 2654 (July 30, 2008). Am. Compl. ¶¶ 7, 14, 25. HERA established FHFA as the successor to OFHEO. Am. Compl. ¶¶ 7, 14; 12 U.S.C. § 4511. Congress established FHFA because it found that "more effective Federal regulation is needed to reduce the risk of failure" of Fannie and Freddie. 12 U.S.C. § 4501(2). Under HERA, FHFA is responsible for overseeing the "prudential operations" of Fannie and Freddie and ensuring that they operate "in a safe and sound manner" consistent with the public interest; that they " ‘foster liquid, efficient, competitive, and resilient national housing finance markets"; and that they have "adequate capital and internal controls." 12 U.S.C. § 4513(a)(1).

FHFA is headed by a single director nominated by the President and confirmed by the Senate. 12 U.S.C. § 4512(a), (b)(1). The director serves a term of five years but can be removed by the President for cause. Id. § 4512(b)(2). FHFA also has three deputy directors appointed by the director. Id. § 4512(c) - (e). If the director leaves office or is incapacitated before his or her term concludes, the President must designate one of the three deputies to serve as acting director until a successor is appointed or the director returns. Id. § 4512(f).

HERA gives FHFA the authority to place Fannie and Freddie into a conservatorship or receivership under certain circumstances "for the purpose of reorganizing, rehabilitating, or winding up the affairs" of the Companies. 12 U.S.C. § 4617(a)(2). Upon appointment as conservator or receiver, FHFA succeeds to "all rights, titles, powers, and privileges of the regulated entity, and of any stockholder, officer, or director of such regulated entity with respect to the regulated entity and the assets of the regulated entity[.]" Id. § 4617(b)(2)(A). When FHFA acts as a conservator, the agency is "not ... subject to the direction or supervision of any other agency of the United States ...." Id. § 4617(a)(7). In addition, HERA limits the extent to which courts may "take any action to restrain or affect the exercise of powers or functions of the [FHFA] as a conservator ...." Id. § 4617(f).

FHFA is independently funded from annual assessments imposed on Fannie and Freddie-assessments that are "not ... construed to be Government or public funds or appropriated money." 12 U.S.C. § 4516(a), (f)(2).

B. FHFA Directors

Pursuant to statute, FHFA's first director was James Lockhart, who at the time of the enactment of HERA was serving as director of OFHEO. Am. Compl. ¶ 42; see also 12 U.S.C. § 4512(b)(5). Lockhart resigned as FHFA director in August 2009. Am. Compl. ¶ 42. President Obama then designated deputy director Edward DeMarco to serve as acting director. Am. Compl. ¶ 43. In November 2010, President Obama nominated Joseph Smith, Jr., to serve as FHFA director. Am. Compl. ¶ 44. The Senate failed to confirm Smith, however. Am. Compl. ¶ 44. In May 2013, President Obama nominated Melvin Watt to serve as FHFA director. Watt was confirmed by the Senate on December 10, 2013 and sworn into office on January 6, 2014. Am. Compl. ¶¶ 44.

C. The Conservatorship and the PSPAs

As noted, FHFA placed Fannie and Freddie into conservatorship on September 6, 2008. Am. Compl. ¶ 28. The next day, Fannie and Freddie (acting through their conservator, FHFA) entered into the PSPAs with Treasury. Am. Compl. ¶ 31. Under the original PSPAs, Treasury committed to provide up to $100 billion to each Company to ensure that it maintained a positive net worth. Am. Compl. ¶ 32. For any quarter in which a Company's liabilities exceeded its assets, the PSPAs authorized the Company to draw on Treasury's commitment up to the amount of the shortfall. Am. Compl. ¶ 32. In return, Treasury received a million shares of senior preferred stock in the Companies and warrants entitling it to purchase up to 79.9 percent of the Companies' common stock at a nominal price. Am. Compl. ¶¶ 34-35. By operation of law, Treasury's right to purchase common stock in the Companies expired on December 31, 2009. Am. Compl. ¶ 30.

Treasury's preferred stock has a liquidation preference of $1 billion, which increases by one dollar for every dollar the Companies draw on Treasury's funding commitment. Am. Compl. ¶ 35. In the event of liquidation, Treasury will be entitled to recover the full amount of its preference before any other stockholder receives payment. Am. Compl. ¶ 35. Treasury is also entitled to receive dividends, which, under the original PSPAs, the Companies could elect to pay by increasing the amount of the liquidation preference. Am. Compl. ¶¶ 36-37.

The PSPAs have been amended several times. In May 2009, the parties doubled Treasury's funding commitment from $100 billion to $200 billion. Am. Compl. ¶ 41. In December 2009, the parties increased the funding commitment even more, establishing a formula that permits Treasury's funding commitment to exceed $200 billion. Am. Compl. ¶ 41. Finally, in August 2012, the parties entered into the Third Amendment, which is the focus of this litigation. Am. Compl. ¶ 55.

The Third Amendment replaced the fixed-rate annual dividend to which Treasury was entitled-and which could be paid by increasing Treasury's liquidation preference rather than with cash-with a quarterly cash dividend equal to the amount by which the Companies' net worth exceeds zero, less a capital buffer that decreases over time (and reaches zero in 2018). Am. Compl. ¶ 55. Plaintiffs refer to this dividend requirement as the "Net Worth Sweep." Am. Compl. ¶ 55.

The conservatorship in general and the Third Amendment in particular are bitterly opposed by plaintiffs and other shareholders participating in the second wave of legal attacks designed to undo the Third Amendment. According to plaintiffs, the conservatorship and the Third Amendment were parts of a nefarious plot to seize control of Fannie and Freddie and operate them for the exclusive benefit of the federal government. Am. Compl. ¶ 28. Plaintiffs claim that Fannie and Freddie did not need the hundreds of billions of...