Free Post Trial Brief - District Court of Federal Claims - federal

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IN THE UNITED STATES COURT OF FEDERAL CLAIMS

STERLING SAVINGS ASSOCIATION, a state chartered savings association, STERLING FINANCIAL CORPORATION, a Washington corporation, Plaintiffs, v. UNITED STATES OF AMERICA, Defendant.

) ) ) ) ) ) ) ) ) ) ) )

No. 95-829C (Judge Wheeler)

DEFENDANT'S POST-TRIAL REPLY BRIEF

Respectfully submitted, MICHAEL F. HERTZ Deputy Assistant Attorney General

JEANNE E. DAVIDSON Director KENNETH M. DINTZER Assistant Director

Of counsel: TAREK SAWI Senior Trial Counsel MELINDA HART DELISA SANCHEZ WILLIAM KANELLIS ELIZABETH HOLT

ELIZABETH M. HOSFORD Trial Attorney Commercial Litigation Branch Department of Justice Attn: Classification Unit 8th Floor 1100 L Street, N.W. Washington, D.C. 20530 Tele: (202) 616-0332 Attorneys for Defendant

November 19, 2007

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TABLE OF CONTENTS Page TABLE OF AUTHORITIES. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . iv DEFENDANT'S POST-TRIAL REPLY BRIEF.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 ARGUMENT.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 I. STERLING'S LOST-PROFITS CLAIM IS BASELESS. . . . . . . . . . . . . . . . . . . . . . . . . . 3 A. B. C. Sterling's Mitigation Precludes An Award Of Lost Profits. . . . . . . . . . . . . . . . . . . 4 Sterling Is Not A "Lost Volume Seller". . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10 Sterling Failed To Prove That The Breach Caused The Lost Profits Alleged In Dr. Horvitz's Model. . . . . . . . . . . . . . . . . . . . . . . . . 17 1. Dr. Horvitz's Lost-Profits Model Does Not Measure Harm Attributable To Sterling's Alleged Loss Of Employees, Loans, Customers, And Reputation. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18 Sterling Would Have Failed FIRREA's Core Capital Requirement Even Absent The Breach. . . . . . . . . . . . . . . . . . . . . 22 a. Mr. Bankhead's Calculation Of "But-for" Core Capital Correctly Accounts For The Central Evergreen Goodwill. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23 Mr. Bankhead Correctly Recognized The Lewis Federal and Tri-Cities Goodwill As "Qualifying Supervisory Goodwill" In Calculating Sterling's "But-For" Core Capital Ratio. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26 Sterling's Lewis Federal And Tri-Cities Forbearances Do Not Support Dr. Horvitz's Assumption That Sterling Would Have Met FIRREA's Core Capital Requirement Absent The Breach .. . . . . . . . . . . . . . . . . . 30

2.

b.

c.

i

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3.

The Government Did Not Violate The Injunction Prohibiting Application Of FIRREA In A Manner Inconsistent With Sterling's Contracts . . . . . . . . . . . . . . . . . . . . . . . . . . 33 Sterling's Lost-Profits Claim Ignores Its Conversion To A Commercial Bank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37

4.

D.

The Allegedly Forgone Profits In Dr. Horvitz's Model Were Not Foreseeable When Sterling Acquired Lewis Federal And Tri-Cities . . . . . . . . . . . . . . . . . . . 38 The Damages Arising From Dr. Horvitz's Lost-Profits Model Are Not Reasonably Certain . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 39 1. Dr. Horvitz's Model Is Not Reasonably Certain And Is Invalid As A Matter Of Law Because It Relies Upon Unproven Wounded Bank Damages, Including A Claim That Has Been Abandoned, To Create Lost Profits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 42 Sterling's Model Requires Economic Forecasting .. . . . . . . . . . . . . . . . . 44 Sterling's Actual Profitability Does Not Render Dr. Horvitz's Model Reasonably Certain . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45 Sterling's Model Is Not Conservative .. . . . . . . . . . . . . . . . . . . . . . . . . . . 47 a. Dr. Horvitz's Assumption That The Incremental Bank Would Grow At The Same Rate As The Actual Bank Is Not Conservative .. . . . . . . . . . . . . . . . . . . . . . . . 48 Dr. Horvitz's Assumption That Sterling's "But For" Assets Would Have Been As Profitable As Its Actual Assets Is Not Conservative .. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 49 Dr. Horvitz's Assumption That "Usual and Ordinary" Assets Of The Type Held By Sterling Were Readily Available Is Incorrect . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53

E.

2. 3.

4.

b.

c.

II.

THE COURT SHOULD REJECT PLAINTIFFS' "MITIGATION" DAMAGES BECAUSE DR. JAMES'S MODEL IS FATALLY FLAWED AS A MATTER OF LAW AND DEMONSTRABLY WRONG AS A MATTER OF FINANCE . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 56 A. Sterling's Mitigation Claim Fails As A Matter Of Law . . . . . . . . . . . . . . . . . . . . 56 ii

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B. C. III.

Sterling's Model Is Invalid As A Matter Of Finance . . . . . . . . . . . . . . . . . . . . . . 59 Sterling's Assertions Are Demonstrably Wrong And Unavailing . . . . . . . . . . . . 60

THE COURT SHOULD REJECT STERLING'S ALLEGED WOUNDED BANK CLAIMS AS A MATTER OF LAW . . . . . . . . . . . . . . . . . . . . . . . 63 A. Sterling's Claim For Damages Associated With The CJ-4 Loan Fails As A Matter Of Law .. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 65 Sterling's Claim For Excess Supervision Costs Fails As A Matter Of Law .. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 66 Sterling's Claim For The Costs Of the 1989 Offering Fails As A Matter Of Law . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67 Sterling's Claim For The Costs Of Acquiring The Great American Branch Fails As A Matter Of Law . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 68 Sterling's Belated Claim For Damages For Failing To Bid On RTC Sales Fails As a Matter Of Law . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 69

B.

C.

D.

E.

CONCLUSION. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 70

iii

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TABLE OF AUTHORITIES Page(s) CASES Am. Fed. Bank, FSB v. United States, 68 Fed. Cl. 346 (2005). .......................................................................................................... 13, 41 Bank of America, FSB, v. United States, 67 Fed. Cl. 577 (2005), aff'd, 495 F.3d 1366 (Fed. Cir. 2007). ......................................... 4, 10, 62 Bank United of Texas v. United States, 50 Fed. Cl. 645 (2001), aff'd in part & rev'd in part, 80 Fed. Appx. 663, 2003 WL 22177282 (Fed. Cir. 2003), cert. denied, 543 U.S. 916 (2004). ........................................................................................ passim Bluebonnet Sav. Bank v. United States, 266 F.3d 1348 (Fed. Cir. 2001)................................................................................................ 4, 41 California Fed. Bank, FSB v. United States,, 43 Fed. Cl. 445 (1999), aff'd in part, 245 F.3d 1342 (Fed. Cir. 2001), cert. denied, 534 U.S. 1113 (2002). ............................................................................... 3, 5, 10, 61 California Fed. Bank v. United States, 54 Fed. Cl. 704 (2002), aff'd, 395 F.3d 1263 (Fed. Cir. 2005), cert. denied, 126 S. Ct. 344 (2005). ...................................................................................... passim Castle v. United States, 48 Fed. Cl. 187 (2000), aff'd, 301 F.3d 1328 (Fed. Cir. 2002). ....................................... 25, 39, 40 Chapman Law Firm v. United States, 490 F.3d 934 (Fed. Cir. 2007)...................................................................................................... 33 Citizens Fin. v. United States, 64 Fed. Cl. 498, aff'd, 170 Fed. Appx. 129 (Fed. Cir. 2006). .................................................................................................................................... passim Citizens Fin. v. United States, 57 Fed. Cl. 64 (2003). .................................................................................................................. 57 Columbia First Bank, FSB v. United States, 60 Fed. Cl. 97 (2004). ...................................................................................................... 13, 41, 45

iv

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Comcation, Inc. v. United States, 78 Fed. Cl. 61 (2007). .................................................................................................................. 27 District of Columbia v. United States, 67 Fed. Cl. 292 (2003). ................................................................................................................ 42 Dura Pharmaceuticals, Inc. v. Broudo, 544 U.S. 336 (2005)..................................................................................................................... 61 Estate of Berg v. United States, 687 F.2d 377 (1982)....................................................................................................................... 5 Fifth Third Bank of Western Ohio v. United States, 402 F.3d 1221 (Fed. Cir. 2005).................................................................................... 4, 56, 57, 63 Fifth Third Bank v. United States, 55 Fed. Cl. 223 (2003). ......................................................................................................... passim First Federal Sav. and Loan of Rochester v. United States, 76 Fed. Cl. 106 (2007), appeal docketed, No. 07-5161 (Fed. Cir. August 17, 2007). .................................................................................................. 39, 40 Glendale Fed. Bank, FSB v. United States, 239 F.3d 1374 (Fed. Cir. 2001)...................................................................................................... 3 Glendale Fed. Bank, F.S.B., v. United States, 378 F.3d 1308 (Fed. Cir. 2004)...................................................................................................... 4 Granite Management Corp. v. United States, 58 Fed. Cl. 766, aff'd in part and remanded in part on other grounds, 416 F.3d 1373 (Fed. Cir. 2005)............................................................................................. passim Herman Schwabe, Inc. v. United Shoe Machinery Corp., 297 F.2d 906 (2d Cir. 1962)......................................................................................................... 64 Kalvar Corp. v. United States, 543 F.2d 1298 (1976).................................................................................................................... 33

LaSalle Talman Bank, FSB v. United States, 64 Fed. Cl. 90 (2005), aff'd, 462 F.3d 1331 (Fed. Cir. 2006). ............................................. passim LaSalle Talman Bank v. United States, 45 Fed. Cl. 64 (1999), aff'd in part and vacated in part, 317 F.3d 1363 (Fed. Cir. 2003).................................................................................. 56, 57, 61, 62 v

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Library of Congress v. Shaw, 478 U.S. 310 (1986)..................................................................................................................... 42 Long Island Savings Bank, FSB v. United States, 60 Fed. Cl. 80 (2004). .................................................................................................................... 7 Long Island Savings Bank, FSB v. United States, 67 Fed. Cl. 616 (2005), rev'd, __ F.3d___, WL 2685640 (Fed. Cir. Sept. 13, 2007)......................................................................................... 7 Midwest Indus. Painting v. United States, 4 Cl. Ct. 124 (1983). ..................................................................................................................... 10 Northern Helex Co. v. United States, 634 F.2d 557 (1980)........................................................................................................................ 6 Old Stone Corp. v. United States, 450 F.3d 1360 (Fed. Cir. 2006)................................................................................................ 4, 68 Precision Pine & Timber, Inc. v. United States, 72 Fed. Cl. 460 (2006). .......................................................................................................... 11, 15 Quiman v. United States, 39 Fed. Cl. 171 (1997), aff'd, 178 F.3d 1313 (Fed. Cir. 1999). ..................................................... 5 R.E. Chemical Corp. v. Diasonics, Inc., 826 F.2d 678 (7th Cir. 1987). ................................................................................................ 10, 11 Reynolds v. Roberts, 207 F.3d 1288 (11th Cir. 2000). .................................................................................................. 36 Ross-Simons of Warwick, Inc. v. Baccarat, 182 F.R.D. 386 (D.R.I. 1998). ..................................................................................................... 36 S. Cal. Fed. Sav. & Loan v. United States, 57 Fed. Cl. 598 (2003), aff'd in part, rev'd in part, and remanded on other grounds, 422 F.3d 1319 (Fed. Cir. 2005)....................... 4, 13, 41, 49 S. Nat'l Corp. v. United States, 57 Fed. Cl. 294 (2003). ......................................................................................................... passim Southern Pacific Communications v. AT&T, 556 F. Supp. 825 (D.D.C. 1982). ................................................................................................. 64 vi

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Standard Fed. Bank v. United States, 62 Fed. Cl. 265 (2004). ......................................................................................................... passim Sterling Sav. Ass'n v. Ryan, 751 F. Supp. 871 (E.D. Wash., 1990). ......................................................................................... 34 Sterling Sav. Ass'n v. United States, 72 Fed. Cl. 404 (2006). .................................................................................................... 20, 23, 24 Sterling Sav. Assn. v. United States, 53 Fed. Cl. 599 (2002). .................................................................................................... 37, 38, 64 Suess v. United States, 52 Fed. Cl. 221 (2002). .................................................................................................................. 6 Sun Cal, Inc. v. United States, 25 Cl. Ct. 426 (1992). ................................................................................................................... 10 T&M Distribs., Inc. v. United States, 185 F.3d 1279 (Fed. Cir. 1999).................................................................................................... 33 United States v. Burton Coal Co., 273 U.S. 337 (1927)....................................................................................................................... 5 STATUTES, RULES, AND REGULATIONS 12 C.F.R. § 567.1 (1990). ............................................................................................................ 26 12 C.F.R. § 567.5 (1990). ............................................................................................................. 26 12 C.F.R. §567.8 (1989). ............................................................................................................. 22 12 C.F.R. Part 3, Appx. A, § 2(c)(1)(I)................................................................................... 18, 37 28 U.S.C. § 2516(a) (2000).......................................................................................................... 42 Financial Institutions Reform, Recovery, and Enforcement Act of 1989, Pub. L. No. 101-73, 103 Stat. 183. .................................................................................. 7 MISCELLANEOUS Restatement (Second) of Contracts § 347 (1981). ......................................................................... 4 Restatement (Second) of Contracts § 351 (1981). .......................................................................... 4 vii

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Restatement (Second) of Contracts § 351 cmt. e. ........................................................................ 65 Restatement (Second) of Contracts § 352 (1981). .......................................................................... 4

viii

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IN THE UNITED STATES COURT OF FEDERAL CLAIMS STERLING SAVINGS ASSOCIATION, a state chartered savings association, STERLING FINANCIAL CORPORATION, a Washington corporation, Plaintiffs, v. UNITED STATES OF AMERICA, Defendant. ) ) ) ) ) ) ) ) ) ) ) )

No. 95-829C (Judge Wheeler)

DEFENDANT'S POST-TRIAL REPLY BRIEF Pursuant to Paragraph 191 of Appendix A of the Rules of the United States Court of Federal Claims, and this Court's Order dated July 24, 2007, defendant, the United States, respectfully submits the following Post-trial Reply Brief in response to Plaintiff's Post-trial Memorandum Of Contentions Of Fact And Law, dated September 21, 2007.2 Sterling, in its opening brief, fails to establish that the thrift is entitled to lost profits or that it incurred out-of-pocket costs, over and above transaction costs, in mitigating its damages by replacing its contractual goodwill in 1991. With respect to Sterling's lost profits claim, the initial brief only highlights the insurmountably speculative and counterfactual nature of Dr. Paul Horvitz's model. First, Sterling acknowledges, again, that it mitigated when it raised capital in 1991. Pl. Br., p. 86; see also Tr. 18:22-25, 20:25-21:5 (Weatherhead). Nonetheless, Sterling
1

In our opening brief, we inadvertently cited to Paragraph 11 of Appendix A, rather than Paragraph 19. Pl. Br. refers to plaintiff's Post-trial Memorandum Of Contentions Of Fact And Law, while PFF refers to plaintiff's individually numbered proposed findings of fact. Gov. Br. refers to our post-trial proposed findings of fact and law, while DFF refers to our individually numbered proposed findings of fact.
2

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maintains, incredibly, that it is entitled to lost profits, contrary to black-letter law precluding an award of lost profits in the event of mitigation. Second, in relying almost exclusively upon its track record of growth to support its lost profits claim, Sterling tacitly acknowledges that its model is merely a "money machine" that assumes that additional capital equates with profits. Pl. Br., p. 82-83. This Court, however, has rejected that assumption on eight separate occasions, and Sterling has provided no facts that merit a different outcome here. Finally, Sterling acknowledges that its lost profits model relies upon the inclusion of wounded bank costs in the "but-for" capital calculation, yet Sterling fails to provide a single citation supporting this virtually unprecedented approach to damages. Each of these flaws, combined with other flaws addressed below or in our opening brief, mandate dismissal of Sterling's lost-profits claim. With respect to its claim for the actual cost of replacing the contractual goodwill, Sterling acknowledges that Dr. Christopher James's model does not measure out-of-pocket costs incurred by the thrift in raising replacement capital. Pl. Br., pp. 96-97; see Granite Management Corp. v. United States, 58 Fed. Cl. 766, 777-79, aff'd in part and remanded in part on other grounds, 416 F.3d 1373 (Fed. Cir. 2005) (plaintiff's failure to measure the out-of-pocket costs attributable to the replacement capital resulted in rejection of the claim). This failure requires rejection of the claim as a matter of law. Finally, Sterling has not met its burden of proof with respect to each of its wounded bank damages claims.3
3

Sterling, at a status conference held on December 15, 2006, abandoned claims for restitution as a remedy and reliance. Nonetheless, in its contentions of fact, PFF ¶¶ 240-242, Sterling alleges that, "by acquiring Lewis Federal and Tri-Cities, [it] saved the Government $26.7 in liquidation costs. . ." PFF ¶ 243. This allegation, which is completely unsupported, would be relevant, if at all, only to claims for restitution or reliance, which Sterling has 2

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ARGUMENT Sterling's lost-profits claim is counterfactual and speculative as a matter of law. The hypothetical premise of Sterling's claim for alleged mitigation costs, other than $900,204 in transaction costs, is contrary to well-established precedent, and Sterling's "wounded bank" damages fail to satisfy the prerequisites of an expectancy damages claim. I. STERLING'S LOST-PROFITS CLAIM IS BASELESS Sterling's admission that it mitigates undermines the thrift's lost-profits claim. Pl. Br., pp. 86-87. When a claimant mitigates in a breach of contract case, it cannot simultaneously argue that it is a "lost volume seller," as alleged by Sterling. Pl. Br., pp. 74-78. In addition, Sterling failed to demonstrate that its claimed lost profits were foreseeable, caused by the breach, or reasonably certain. To the contrary, Dr. Horvitz admitted that the lost profits he modeled were not foreseeable. Tr. 2964:7-13 (Horvitz). Further, elimination of the noncontractual Central Evergreen goodwill from regulatory capital was sufficient to render Sterling noncompliant with minimum regulatory capital requirements, thus precluding a finding of causation. Finally, Dr. Horvitz's model, which assumes, like eight similar models already rejected by this Court, that capital always generates profits, cannot meet the reasonable certainty test.

abandoned. Further, the Federal Circuit has determined that such liquidation cost estimates are not reliable in measuring restitution and reliance claims. Glendale Fed. Bank, FSB v. United States, 239 F.3d 1374, 1382 (Fed. Cir. 2001); California Fed. Bank, FSB v. United States, 245 F.3d 1342, 1351-52 (Fed. Cir. 2000) ("CalFed"); Granite, 416 F.3d at 1380-81. Therefore, the allegation is of no relevance to the theories advanced by Sterling at trial. 3

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A.

Sterling's Mitigation Precludes An Award Of Lost Profits

Sterling seeks expectation damages in this case. To recover expectation damages, Sterling must demonstrate that the damages it seeks "are actually foreseen or reasonably foreseeable, are caused by the breach of the promisor, and are proved with reasonable certainty." Bluebonnet Sav. Bank v. United States, 266 F.3d 1348, 1355 (Fed. Cir. 2001); see also Southern Calif. Fed. Sav. & Loan Ass'n v. United States, 422 F.3d 1319, 1334 (Fed. Cir. 2005); Bank of America, FSB v. United States, 67 Fed. Cl. 577, 584-85, (2005), aff'd, 495 F.3d 1366 (Fed. Cir. 2007); Restatement (Second) of Contracts §§ 347, 351, 352 (1981). Sterling's statement of the legal standard applicable to expectation damages suggests that lost profits are the sole source of expectation damages, and must be awarded in each case. Pl. Br., pp. 78-79. That assumption is contrary to precedent. The Court of Appeals for the Federal Circuit has reviewed many Winstar-related cases and has assessed the ability of plaintiffs to prove claims such as those presented by Sterling. In four opinions, the appellate court has (1) explained the legal requirements applicable to lost-profits claims and the factual circumstances in which these claims arise in Winstar -related cases, and (2) observed that, "given the speculative nature of such a damages claim, . . . experience suggests that it is largely waste of time and effort to attempt to prove such damages" in a Winstar-related case. Glendale Fed. Bank, F.S.B., v. United States, 378 F.3d 1308, 1313 (Fed. Cir. 2004); accord Old Stone Corp. v. United States, 450 F.3d 1360, 1377 (Fed. Cir. 2006); California Federal Bank, F.S.B. v. United States, 395 F.3d 1263, 1270-71, cert. denied, 126 S. Ct. 344 (2005)("CalFed II"); Fifth Third of Western Ohio v.United States, 402 F.3d 1221, 1237 (Fed. Cir. 2005).

4

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This Court, like all courts, applies the least speculative, cost-minimizing methodology for calculating damages in a given case. See, e.g., Quiman v. United States, 39 Fed. Cl. 171, 185 (1997), aff'd, 178 F.3d 1313 (Fed. Cir. 1999). Courts do not seek to "penalize" parties that breach contracts. CalFed, 43 Fed. Cl. 445, 461 (1999), aff'd in part, 245 F.3d 1342 (Fed. Cir. 2001)(punitive damages are "not the purpose of contract remedies"). Instead, the purpose of expectation damages is to put the non-breaching party in the financial position it would have been in had the breach not occurred, subject to the limitations upon these damages. Accordingly, the usual remedy for a breach of contract is "cover," or the difference between the cost of the item under the breached contract and the market price of the item at the time of the breach. See, e.g., United States v. Burton Coal Co., 273 U.S. 337 (1927); Estate of Berg v. United States, 231 Ct. Cl. 466, 469-74, 687 F.2d 377 (1982) (damages for the Government's breach of its obligation to redeem bonds at par value is the difference between the par value of the bonds and their market value at the time of breach). In 1991, Sterling acquired more than $23 million in new regulatory capital, which far exceeded the $15.557 million in contractual goodwill that it would have possessed absent a breach. In its opening brief, Sterling admits that this capital raising resulted in mitigation. Pl. Br., pp. 86-87. Sterling also admits that it "attempted" to mitigate by shrinking and obtaining a district court injunction prohibiting the Government from taking action inconsistent with its contracts. Pl. Br., pp. 23-31, PFF ¶¶ 114-155.4 Nonetheless, Dr. Horvitz's lost-profits claim assumes that none of the $15.557 million in goodwill has been, or ever will be, replaced,
4

In section I.C.3 below, as well as pages 67-71 of our opening brief, we demonstrate that the injunction precludes a finding of causation in this case, and that the shrink, even if deemed mitigation, is not accounted for in Dr. Horvitz's model. 5

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notwithstanding Sterling's mitigating acts, over $500 million in capital raising since 1991, and capacity to raise additional capital. Id. at 51, 87; P-454, tables 1, 8; P-534. In support of this remarkable assumption, Sterling offers the wildly speculative claim that, had it not raised capital in 1991, the thrift would be entitled to over $1.5 billion in damages. Pl. Br., p. 87. The $1.5 billion number is not the subject of any analysis. Instead, at trial, Dr. Horvitz merely offered the bald assertion that Sterling's current market value is $1.5 billion, and its damages would be equal to that value if it had been closed by the Government after the breach. Tr. 2115:18-2116:4 (Horvitz). Even assuming Sterling could support the $1.5 billion claim, there is no legal basis for such an assertion. In the sole Winstar-related case in which a closed thrift's market value was awarded, the Court awarded the market value at the time of the breach, not almost 20 years later. Suess v. United States, 52 Fed. Cl. 221, 231-32 (2002).5 In this case, however, Sterling was not closed, and it remains under the ownership of its shareholders. Therefore, its market value at any time is irrelevant to Dr. Horvitz's lost-profits model. Indeed, that model is premised upon the loss of contractual goodwill, yet ignores the replacement of that goodwill with tangible capital. Moreover, Sterling's claim that damages are warranted even in the event of mitigation is only partly right. Pl. Br., p. 87. Sterling is entitled to the recover the costs associated with taking reasonable steps, in mitigation, to avoid greater loss. Northern Helex Co. v. United States, 225 Ct. Cl. 194, 634 F.2d 557 (1980). The costs Sterling incurred in mitigating do not exceed in $900,204. Tr. 4097:20-4098:10; 4264:6-4265:1 (Bajaj); P-672. Sterling, however, is not also
5

Further, it is pure speculation to assume that, absent Sterling's lawsuit, it would have been closed. Pl. Br., p. 51. Had Sterling not filed suit, it is possible that it would have been sold or merged, resulting in the same or higher market value than it currently enjoys. 6

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entitled to lost profits. Actual mitigation or a "failure to take steps to avoid damages" precludes recovery of damages "even if shown to be foreseeable and (if avoided) reasonably certain." Bank United of Texas v. United States, 50 Fed. Cl. 645, 654 (2001), aff'd in part & rev'd in part, 80 Fed. Appx. 663, 2003 WL 22177282 (Fed. Cir. 2003), cert. denied, 543 U.S. 916 (2004). Further, the sole authority Sterling cites for its contention that lost profits are the only appropriate damages in this case, Long Island Savings Bank, FSB v. United States, 60 Fed. Cl. 80, 89-90 (2004), is inapposite. Pl. Br., pp. 86-87. In Long Island, the Government argued, in a motion for summary judgment, that a capital plan providing temporary forbearance from FIRREA's6 provisions precluded the plaintiff thrift from seeking damages attributable to certain acts taken to replace the goodwill, including a shrink and a capital infusion from the thrift's parent company. Long Island, 60 Fed. Cl. at 89-90. In rejecting the argument, the Court held only that the thrift was entitled to prove damages attributable to the mitigating acts themselves. Id. at 90. The Court did not hold that Long Island was entitled to ignore its mitigation and instead seek expectancy damages, as Sterling has done in this case. Moreover, the Court held that, in light of the plaintiff's mitigation through replacement of goodwill with tangible capital, an award of lost profits, including profits allegedly lost as a result of a pre-replacement shrink, would result in a "windfall" to the plaintiff. Id. at 650.7 In light of Sterling's mitigation, a lost profits award in this case would also result in a windfall.

"FIRREA" is the Financial Institutions Reform, Recovery, and Enforcement Act of 1989, Pub. L. No. 101-73, 103 Stat. 183. Long Island was ultimately awarded only its cost of replacing the goodwill eliminated by FIRREA, although the award was ultimately reversed because fraud rendered the contract void ab initio. Long Island Savings Bank, FSB v. United States, 67 Fed. Cl. 616, 648 (2005), rev'd, __ F.3d ___, WL 2685640 (Fed. Cir. Sept. 13, 2007). 7
7

6

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Sterling also boasts that it has raised capital or received infusions from its holding company, Sterling Financial Corporation ("SFC") in "1991, 1993, 1994, 1995, 1996, 1997, 1999, 2001, 2003, 2004, 2006 and 2007." Pl. Br., p. 87. Nonetheless, it claims, without citation and in an apparent effort to demonstrate that it has not replaced the $15.557 million in contractual goodwill eliminated by FIRREA,8 that it "has always needed more capital, and could have utilized the capital taken away for profit." Id. This bald assertion is contrary to the evidence of record. Sterling's investment banker, Mr. Welch, testified that capital is always available for pursuit of profitable opportunities, Tr. 1593:17-1594:1, 1631:1-8 (Welch), and Mr. Gilkey acknowledged that Sterling could obtain capital for profitable activities. Tr. 615:22-24 (Gilkey). Similarly, Sterling's contemporaneous financial documents reveal that SFC had the ability to downstream additional funds to Sterling, if needed. DX 197, p. 2183 (SFC's operating plan for 1998 stated that the holding company had "capacity to make additional capital contributions in 1998 if the capital can be profitably invested."); see also P-96, p. 3221, note 11, ¶ 14 (capacity to borrow an additional $34 million in 1999). Indeed, between 1992 and September 30, 2006, SFC added, in total, $633.3 million in new debt and capital, but downstreamed only $492.4 million to Sterling. DFF ¶¶ 71-87.9

Even a cursory review of Sterling's contentions of law (Pl. Br., pp. 74-100) reveals that it is largely devoid of citation to the record and, consequently, not obviously based upon application of law to fact. This glaring omission, standing alone, demonstrates the weakness of Sterling's claimed entitlement to damages in excess of transactions costs. In a single proposed finding of fact, Sterling offers the following conclusory statement about its excess capital: "Capital in excess of required level is not an indication that Sterling did not have profitable opportunities to pursue." PFF ¶ 295. In support, Sterling cites to testimony by Mr. Welch and Mr. Byrne that is irrelevant or fails to support the conclusion. Mr. Welch stated that, if Sterling had supervisory goodwill and available capital at the holding company level, there would be no relationship between the supervisory goodwill and the capital available 8
9

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Further, Mr. Byrne, upon cross-examination, when confronted with his 2000 deposition testimony, conceded that, between 1993 and 2000, Sterling had access to additional capital. Tr. 1783:24-1792:25 (Byrne). In fact, Sterling has been unwilling to raise capital in the form of common stock out of fear that "[a]ny capital issuance in advance of settling the goodwill claim would unfairly penalize the existing shareholders." DX 233, p. 0718; see also Tr. 1627:211628:15 (Welch). Each of these facts reveal the falsity of Sterling's unsupported statement that it could not replace the $15.557 in contractual goodwill eliminated by FIRREA because it has "always needed more capital." Given Sterling's capacity to raise capital when needed, its failure to mitigate precludes an award of lost profits.

at the holding company. Id. (citing Tr. 1646:17-1647:4 (Welch)). This testimony has no bearing on our point, which is that, in a world in which FIRREA eliminated goodwill, but Sterling had profitable loans available to it, it could have and would have availed itself of the capital available at the holding company level. Its decision not to access that capital shows that no such opportunities were available, and the goodwill would not have resulted in increased profits. Similarly, Mr. Byrne's testimony that Sterling and SFC accumulated capital in 1997 and 1998 in anticipation of an acquisition ignores the fact that Sterling failed to meet its own asset target in 1997, notwithstanding the availability of capital to support such loans. PFF ¶ 295; Tr. 4318:224319:6 (Byrne); DX 196, p. 3242 (shortfall of $131,069,000). Finally, Mr. Byrne's general statement that lenders placed limitations upon the amount of debt that would be issued to Sterling at given points in time is misleading. PFF ¶ 295; Tr. 4324:24-4325:19 (Byrne). The document relied upon by Mr. Byrne to support that testimony expressly states that SFC possessed the capital to borrow $34.3 million over and above the $30 million it actually borrowed in 1999. P96, p. 3221, note 11, ¶4 ("At December 31, 1999, Sterling could incur an additional $34.3 million in debt. . ."). 9

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B.

Sterling Is Not A "Lost Volume Seller"

Sterling's demonstrated ability to raise capital, combined with its failure to employ all of the capital available to it in the actual world, also undermines its claim that mitigation was impossible because it is a "lost volume seller." Pl. Br., pp. 74-78.10 While courts have held that the mitigation defense may be defeated in certain circumstances because the contractor is deemed a "lost volume seller," see, e.g., R.E. Chemical Corp. v. Diasonics, Inc., 826 F.2d 678, 685 (7th Cir. 1987), that doctrine has never been invoked by this Court in the Winstar-related cases, and certainly never validated by the Federal Circuit. Instead, this Court and the Federal Circuit have determined that the loss of goodwill can be mitigated by replacing the goodwill with tangible capital. See, e.g., CalFed., 245 F.3d at 1350; Bank United, 50 Fed. Cl. at 654-55. As noted in our opening brief, to date, "[n]umerous courts have indeed allowed recovery based on the cost to an injured thrift of mitigating its damages, specifically, the cost incurred by the thrift in replacing its lost goodwill." Bank of America, 67 Fed. Cl. at 580 (2005). Even if the concept of lost volume sales can be applied to capital in a Winstar setting, a position for which there is no support, Sterling cannot meet its burden of proving that it satisfies the test applied in determining whether a plaintiff is a "lost volume seller." Sterling claims that it satisfied the following prerequisites to recognition as a "lost volume seller:" (1) it possessed the
10

In attempting to invoke the "lost volume seller" rule, Sterling first offers the unclear contention that "the Government is not entitled to claim credit for Sterling's actual profits in mitigation of the losses it caused." Pl. Br., p. 74. We do not "claim credit" for Sterling's profits; we have instead demonstrated, consistent with black-letter law, that Sterling's replacement of the goodwill eliminated by FIRREA forecloses a claim for lost profits. Bank United, 50 Fed. Cl. at 654 (2001); Sun Cal, Inc. v. United States, 25 Cl. Ct. 426, 432 n.10 (1992); Midwest Indus. Painting v. United States, 4 Cl. Ct. 124, 133 (1983); Gov. Br., pp. 43-44, 49. 10

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capacity to make additional sales; (2) it would have been profitable to make an additional sale; and (3) it probably would have an additional sale absent the breach. Diasonics, 826 F.2d at 685. This Court has held that a plaintiff seeking "lost volume seller" status must also show that the profits on the additional sales would have been at least equivalent to the profits it earned on actual sales. Precision Pine & Timber, Inc. v. United States, 72 Fed. Cl. 460, 497 (2006) While Sterling's brief includes a lengthy discussion of the "lost volume seller" doctrine, concluding with its contention that it satisfies the first three prongs of the test articulated above, Pl. Br., pp. 74-77, Sterling neglects to cite a single fact or piece of evidence supporting the statement. Pl. Br., p. 74-77.11 This is not surprising, because the evidence of record solidly establishes the contrary. Although Sterling possessed the capacity to take on additional assets, it did not prove that the breach had any impact on its ability to acquire assets. In at least five years since late 1991, when it achieved capital compliance, Sterling has failed to meet its budgeted growth targets, notwithstanding the fact that it held sufficient capital to support the target. Tr. 759:11-22 (Gilkey); Tr. 1155:23-1156:9 (Page); DFF ¶ 92; see also Bank United, 50 Fed. Cl. at 662-63 (lost-profits claim unsupported when thrift could not find profitable use for capital in actual

At paragraphs 202 through 206 of its proposed findings of fact, Sterling attempts to support the assumptions in Dr. Horvitz's lost-profits model with testimony by its officers that Sterling would have been bigger absent the breach. PFF ¶¶ 202-206. The testimony, however, establishes only that the officers' personal assumptions, with absolutely no documents or facts to provide the "missing elements" of Dr. Horvitz's model, including the type of assets and liabilities that would have been acquired absent the breach, the source of the assets and liabilities, how the assets and liabilities would have been acquired, the assets' risk rating, the duration of the assets and liabilities, the yield of the assets, and the cost of the liabilities. Tr. 3560:2-3561:16 (Hamm); DX 3007; see Fifth Third Bank v. United States, 55 Fed. Cl. 223, 242 (2003). 11

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world).12 Further, at all times between 1991 and the present, Sterling has had access to capital from its holding company to fund profitable opportunities, but it has not taken full advantage of that capital, as demonstrated above. See Bank United, 50 Fed. Cl. at 662 (no lost profits when thrift had access to capital for pursuit of profitable opportunities). Indeed, SFC was formed in order to achieve more flexibility in capital raising due to its ability to raise debt and downstream it to Sterling in the form of regulatory capital. Tr. 1743:1-10 (Byrne). Moreover, notwithstanding its "aggressive" growth strategy, Pl. Br., p. 87, Sterling has consistently maintained excess regulatory capital, and has utilized less profitable wholesale assets and higher cost wholesale liabilities to fill out its balance sheet because there were inadequate amounts of profitable retail assets and lower costing retail liabilities available in the marketplace. Tr. 3772:18-3775:14, 3775:24-3778:3 (Hamm); DX 3012; DX 3013. Finally, Sterling acknowledged, in 1992, after its capital raising, that it expected to maintain its capital in excess of fully-phased in capital requirements, and did "not foresee limitations on its ability to increase total assets." DX 228, p. WON884 1563. This contemporaneous statement demonstrates Sterling's recognition that, after it replaced its goodwill in 1991, capital adequacy would not be a future impediment to growth. See also Tr. 1635:10-12 (Welch). Second, Sterling did not prove that it had unlimited access to profitable assets, as required by the second prong of the Diasonics test. Dr. Horvitz's model is, in essence, a "money machine" that assumes each additional dollar of capital yields four dollars in profit. Tr. 4114:214116:10 (Bajaj); DX3546; DX 3577. Dr. Horvitz failed to identify the assets and liabilities that
12

In a proposed finding of fact in our opening brief, we inadvertently stated that Sterling failed to meet its growth targets in six years, rather than five years. PFF ¶ 91; compare Gov. Br., p. 83 (accurately reflecting that Sterling failed to meet its growth targets in five years). 12

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would yield the assumed profits, a flaw that has resulted in rejection of "forgone assets" models in eight cases. Tr. 2616:2-2619:25 (Horvitz); Tr. 3620:19-3622:4, 3622:23-3623:7 (Hamm); DX 3007; Am. Fed. Bank, FSB v. United States, 68 Fed. Cl. 346, 358 (2005) ("AmFed"); Citizens Fin. Servs. v. United States, 64 Fed. Cl. 498, 514, aff'd, 170 Fed. Appx. 129 (Fed. Cir. 2006) (model presented by Dr. Horvitz); LaSalle Talman Bank, FSB v. United States, 64 Fed. Cl. 90, 101-06 (2005), aff'd, 462 F.3d 1331 (Fed. Cir. 2006)(model presented by Dr. James); Standard Fed. Bank v. United States, 62 Fed. Cl. 265, 279-81 (2004); Columbia First Bank, FSB v. United States, 60 Fed. Cl. 97, 115 (2004); S. Cal. Fed. Sav. & Loan v. United States, 57 Fed. Cl. 598, 625-27 (2003), aff'd in part, rev'd in part, and remanded on other grounds, 422 F.3d 1319 (Fed. Cir. 2005) ("SoCal") (model presented by Dr. Horvitz); S. Nat'l Corp. v. United States, 57 Fed. Cl. 294, 304-06 (2003); Fifth Third, 55 Fed. Cl. at 241-42. Similarly, Sterling's investment banker, Mr. Welch, who specialized in thrift financing for many years, stated unequivocally that asset size is not an indicator of profitability. Tr. 1648:16-1649:6 (Welch). Further, Sterling's failure to access all of the capital available to it, coupled with its acknowledgment that capital adequacy would not be an impediment to growth, demonstrate that the retention of the contractual goodwill on its balance sheet would not have resulted in additional profits. If, in fact, the "money machine" model created by Dr. Horvitz reliably estimated the profits that could be made simply by adding additional capital, then Sterling could have, and should have, raised additional capital to replace it. Mr. Welch, the investment banker called by Sterling at trial, testified that capital is always available for the pursuit of profitable opportunities. Tr. 1593:17-1594:1, 1631:1-8 (Welch).

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In addition, as our expert, Dr. Bajaj, pointed out, three major banks, Wells Fargo, Bank of America, and Washington Mutual, are located within a block of Sterling's headquarters. Tr. 4146:20-4147:2 (Bajaj). If there was any truth to Dr. Horvitz's model, Sterling "could get the capital from just around the block. Actually people would be knocking on Sterling's doors to want to give it all the capital in the world." Tr. 4147:8-13 (Bajaj). Sterling's alleged failure to take advantage of these opportunities to replace the contractual goodwill demonstrates not that it is a "lost volume seller," but that the profits generated by Dr. Horvitz's model are speculative and unreliable, and cannot be awarded. Similarly, Sterling cannot meet the third prong of the "lost volume seller" test, which required it to demonstrate that it would have taken on more assets absent the breach. Sterling's failure to utilize its capacity in the actual world renders it impossible for it to show that it would have profitably employed even more capacity in its "but-for" world. If Sterling was a lost volume seller and could have generated profits as easily as Dr. Horvitz's assumes in his model by the mere addition of goodwill to regulatory capital, it had ample opportunity to demonstrate that, while the district court injunction was pending, by actually generating profits at the rate projected by Dr. Horvitz. Instead, Sterling claims lost profits for the period that the injunction was in place.13 Sterling also did not demonstrate that the profits it would have made on the incremental assets assumed in Dr. Horvitz's model would have been as profitable as its actual assets. Consequently, it cannot meet the fourth prerequisite to "lost volume seller" status applied by this

Our response to Sterling's claim that the Government violated the injunction is set forth below in Section I.C.3. 14

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Court in Precision Pine, 72 Fed. Cl. at 497-98. As we previously explained, the law of diminishing marginal returns renders it virtually impossible for a financial institution to assume that incremental assets will be as profitable as actual assets. Gov. Br., pp. 78-79. This was acknowledged by Sterling's former chief executive officer, Mr. Gilkey, who conceded that Sterling obtained the best assets first, and that there was no guarantee that additional assets would perform as well as assets previously acquired. Tr. 489:23-490:14 (Gilkey); see also Tr. 505:14-506:7 (Gilkey); DX 738 at WON935 1503; DX 709 at WON920 1291; DX 711 at WON935 2211; DX 710 at WON935 2182; P-81, pp. 6, 7, 37; P-83, pp. 7, 34; P-85, pp. 2, 3, 24; see also DFF ¶¶ 93-99. Even Dr. Horvitz acknowledged that Sterling's filings with the Securities and Exchange Commission ("SEC") demonstrated that, as Sterling sought out additional assets and liabilities, it was forced to take on more costly liabilities and lower yielding loans. Tr. 2653:7-14; 2653:25-2654:10 (Horvitz); P-95, p. 34 (Sterling 10-k providing financial information for 1995-1998); Tr. 2647:6-2648:6, 2654:11-2658:17 (Horvitz). Further, our expert, Dr. Hamm, showed that Dr. Horvitz's model failed to account for the effects of competition upon a thrift's ability to obtain incremental profitable assets. Sterling provided no evidence that, absent the breach, it would have been able to acquire assets that were actually acquired by other thrifts without taking steps that substantially reduce, or eliminate, its profit margin. Tr. 3631:14-3632:17, 3635:6-3643:5, 3643:6-3644:2 (Hamm); Gov. Br., pp. 7980. Indeed, Sterling's internal documents, as well as testimony by its executives at trial, demonstrate Sterling has consistently faced strong competition that has limited its ability to acquire profitable assets. DFF ¶¶94-99; DX 706. Moreover, Dr. Hamm established that Sterling's status as a relatively small player in some of its markets would not make it easier to 15

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obtain additional profitable assets, because large thrifts do not give small thrifts a "free pass," but instead will take steps to protect their market share by monitoring the activities of competitors and pricing accordingly. Tr. 3791:2-3794:6 (Hamm); DX 3014.14 Finally, Sterling contends that it is entitled to lost profits because "the value of leverage is the potential for profit," quoting Bank United, 50 Fed. Cl. at 655 n. 11. The key word in that quote is "potential." In Bank United, the Court denied the plaintiff's claim for lost profits notwithstanding the elimination of substantial amounts of contractual regulatory capital by FIRREA and its observation that leverage holds the potential for profits. Id. at 664. Indeed, the Federal Circuit has deemed the assertion that leverage creates wealth a "fallacy," CalFed II, 395 F.3d at 1271, and none of the plaintiffs seeking lost profits in the Winstar-related cases has been deemed a "lost volume seller." As previously shown, Dr. Horvitz's model, like many lost-profits models rejected in prior cases, is a "money machine" that assumes each additional dollar of capital yields four dollars in profit, and he has acknowledged the falsity of that assumption by conceding that the profits estimated by his model could not be foreseen by potential investors with capital to pursue those profits. Tr. 4114:21-4116:10 (Bajaj); DX3546; DX 3577; Tr. 2694:7-13 (Horvitz). Moreover, the "lost volume seller" concept is inconsistent with Dr. Horvitz's view of the thrift industry. He testified that, at the time FIRREA was enacted, he wrote an article espousing his view that increased capital requirements are not harmful to thrifts. DX 919, pp. 1-3; Tr. 2571:18-2573:5, 2572:22-2573:16 (Horvitz). If, in fact, thrifts can always yield additional profits
14

Also, contrary to Sterling's characterization of itself as a small player in its market, Dr. Hamm showed that the thrift is actually a dominant deposit gatherer in many areas in which it operates. Tr. 3787:17-3790:18 (Hamm). 16

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through growth, as assumed by Dr. Horvitz's model in this case, then all thrifts are "lost volume sellers" who would be harmed by increased capital requirements that prevent the thrift from leveraging all of its capital. Consequently, the "lost volume seller" approach embraced by Sterling is directly contrary to the economic principles espoused by its lost profits expert, Dr. Horvitz. Tr. 2602:2-8 (Horvitz). For this reason, as well as the reasons set forth above, Sterling failed to satisfy its burden of proving that additional leverage would have been profitable in this case. Therefore, it cannot circumvent its mitigation by claiming that it is a "lost volume seller." C. Sterling Failed To Prove That The Breach Caused The Lost Profits Alleged In Dr. Horvitz's Model

In our opening brief, we demonstrated that Sterling failed to prove that the breach caused its alleged lost profits, citing the "but for" standard applied by the Federal Circuit in CalFed II, 395 F.3d at 1267-68 (Fed. Cir.); Gov. Br., pp. 41, 52-71. Sterling relies upon the CalFed II decision in reciting the causation standard applicable to this case. Pl. Br., p. 79. Therefore, there is no question that the "but for" standard of causation applies here. At trial, we showed that Sterling failed to establish causation for three reasons. First, the breach did not cause Sterling to fail the tangible and core capital requirements, and Sterling failed to satisfy its burden of proving that the breach caused it to fail the risk-based capital requirements. Gov. Br., pp. 52-67. Second, Dr. Horvitz incorrectly assumes that the breach caused Sterling to suffer lost profits during the period that the temporary restraining order (TRO) and preliminary injunction precluded the Government from taking action inconsistent with Sterling's contracts. Id. at 67-71. Third, the breach did not cause Sterling to forgo profitable opportunities, thus defeating any claim for lost profits. Id. at 71-74.

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In the section of its brief addressing causation, Sterling does not speak to any of these issues. Instead, Sterling offers, again without a single citation to the record, less than two pages of general statements about losses of customers allegedly caused by the breach. Pl. Br., pp. 7980. Sterling does not even attempt to establish a relationship between these alleged losses and the damages assumed in Dr. Horvitz's model, which is to be expected, because no such relationship exists. Later in the brief, Pl. Br., pp. 87-93, Sterling attempts to rebut our demonstration that it would not have satisfied the minimum core capital requirement even absent the breach. Sterling's rebuttal, however, is ultimately based upon a new method of calculating core capital that is inconsistent with Dr. Horvitz's methodology and contrary to the post-FIRREA regulations governing the calculation of regulatory capital. Further, Sterling incorrectly implies, in its proposed findings of fact, that the district court's 1990 issuance of an injunction prohibiting the Government from acting inconsistent with its contracts did not prevent it from incurring lost profits because the Government violated the terms of the injunction. PFF ¶¶ 133-155. Finally, Sterling ignores the fact that, once the thrift converted to a commercial bank, regulations prohibited it from counting supervisory goodwill as regulatory capital. 12 C.F.R. Part 3, Appx. A, § 2(c)(1)(I). 1. Dr. Horvitz's Lost-Profits Model Does Not Measure Harm Attributable To Sterling's Alleged Loss Of Employees, Loans, Customers, And Reputation

Some of Sterling's current and former employees, directors, and officers testified about post-FIRREA harm Sterling allegedly suffered from the loss of employees, loans, customers, and

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reputation. See PFF ¶ 162-175. The evidence does not support such allegations and, even if true, the claims are irrelevant to Sterling's lost-profits model. First, Sterling's witnesses have not provided evidence that the breach caused the thrift to lose employees, loans, customers, and reputation. See, e.g., Tr. 762:15-21 (Gilkey)(witness was not shown any documents demonstrating that Sterling lost a specific customer because of a lack of capital); Tr. 807:18-23 (Harlow)(Intervest was allowed to honor existing loan contracts); Tr. 853:9-15 (Harlow)(witness claims customers were unable to come to Intervest, but could point to no paperwork showing that these customers would qualify for a loan); Tr. 1037:16-1039:18 (Neely)(after leaving Sterling, loan officer became a competitor of Sterling and was motivated to move customers to his new employer); Tr. 1041:5-16 (Neely)(witness did not remember actually turning away any specific customer who wanted loan or deposit products); Tr. 1041:17-20 (Neely)(witness does not recall turning away any new customer that wanted loans for business purposes); Tr. 1042:3-1043:19 (Neely)(discussing various reasons why customers may choose to leave a financial institution); Tr. 1068:24-1069:4 (Crithfield)(witness does not recall any existing customers leaving Sterling or taking their business loans elsewhere); Tr. 1286:25-1287:13 (Stanley)(despite testifying that documents indicated why employees left Sterling, witness was shown no documents). Second, "the breach" that these witnesses discussed was a breach of the Lewis Federal Savings and Loan Association ("Lewis Federal"), Tri-Cities Savings and Loan Association ("TriCities"), and Central Evergreen Savings & Loan Association ("Central Evergreen") contracts. See, e.g., Tr. 874:20-24 (Conerly)(witness claims Intervest lost loan originations because of "FIRREA," but does not know how many); Tr. 1017:19-1019:16 (Neely)(former loan officer 19

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discussing impact of "FIRREA"); Tr. 1202:6-22 (Barnett)(witness's testimony of alleged harm based upon the loss of goodwill from all three transactions); Tr. 1208:4-1209:20 (Barnett)(same); Tr. 1256:13-1257:25 (Stanley)(addressing consequences of "FIRREA" upon human resources, including employee turnover). This Court, however, has ruled that the Government is only liable to Sterling for the breach of the Lewis Federal and Tri-Cities contracts. Sterling Sav. Ass'n v. United States, 72 Fed. Cl. 404, 411 (2006). Sterling's witnesses offered no evidence as to whether the alleged loss of employees, loans, customers, and reputation would have occurred based upon the breach of only the Lewis Federal and Tri-Cities contracts. Third, Sterling failed to quantify the harm resulting from the alleged loss of these employees, loans, customers, and reputation, regardless of its definition of "the breach." See, e.g., Tr. 874:20-24 (Conerly)(witness claims Intervest lost loan originations because of "FIRREA," but does not know how many); Tr. 848:25-850:7 (Harlow)(witness does not know how Intervest would have specifically grown absent the Government's breach); Tr. 850:17-21 (Harlow)(witness does not know how big Intervest would have been absent the Government's breach); Tr. 1067:16-1068:14 (Crithfield)(former loan officer testified he could not make commercial real estate loans to certain customers, but customers never filed loan applications); Tr. 1287:23-1288:5 (Stanley)(witness never attempted to quantify the damage to Sterling's reputation allegedly caused by the breach). Further, while Sterling now alleges that it "attempted to mitigate" by shrinking in response to the breach, Pl. Br., pp. 23, 80, that claim is refuted by contemporaneous documents demonstrating that Sterling was considering a shrink prior to the breach. Prior to FIRREA's enactment, Sterling considered shrinking its asset base to $650 million in an attempt to improve 20

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the negative tangible capital position that resulted from its acquisition of Central Evergreen. Tr. 3671:16-22 (Hedlund); P-404, WON889 0474. Further, on August 3, 1989, when Mr. Byrne believed that Sterling's goodwill would be grandfathered by FIRREA, he submitted a business plan for 1990 that was a "no-growth plan in terms of total assets." DX 358, p. WON879 0180; Tr. 1794:10-25, 1797:14-20 (Byrne). Moreover, our experts, Drs. Hamm and Bajaj, demonstrated that the shrink actually helped Sterling in this case - during the period between 1989 and 1991, Sterling improved its profitability while shrinking its balance sheet. Tr. 4125:6-4126:20 (Bajaj); P-157, p. SG1007276; Tr. 486:1-8 (Gilkey); DX 3502; California Fed. Bank v. United States, 54 Fed. Cl. 704, 713-14 (2002), aff'd, 395 F.3d 1263 (Fed. Cir. 2005), cert. denied, 126 S. Ct. 344 (2005) (plaintiff must prove shrink is harmful in order to demonstrate lost profits). This was possible because Sterling capitalized upon its ability to originate loans and quickly sell them into the marketplace, a strategy that reaped profits but did not require it to hold substantial amounts of capital. Tr. 4128:10-4132:8 (Bajaj); P-81, p. 6; P-83, p. 7; P-85, p. 2. Thus, prior to its recapitalization in 1991, Sterling actually benefitted from shrinking its balance sheet and shifting its focus to buying and quickly reselling residential mortgage loans. For these reasons, Sterling failed to demonstrate that the shrink was caused by the breach or resulted in harm. Finally, even accepting the facts alleged by Sterling as true, such testimony is irrelevant because Dr. Horvitz does not rely upon it in his damages model. Tr. 4309:20-4310:4 (Bajaj); see generally P-454. Dr. Horvitz's model measures profits that allegedly would have been earned upon incremental assets, rather than measuring the income that would have been earned

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on specific loans that Sterling divested or was unable to make.15 This flaw in his model renders it impossible for Sterling to demonstrate that its alleged lost profits would have occurred but for the breach, thus precluding a finding of causation in this case. See Fifth Third, 55 Fed. Cl. at 242 (the fact of the shrink did not provide the "missing elements" of the model, i.e., the business opportunities that would have been pursued absent the breach). 2. Sterling Would Have Failed FIRREA's Core Capital Requirement Even Absent The Breach

At trial, Dr. Horvitz readily acknowledged that his lost-profits damages would be zero if he had not assumed that, absent the breach, Sterling would have raised $10.5 million in new capital in December 1989. Tr. 2757:8-18 (Horvitz). At trial, we demonstrated the fallacy of that assumption. See Gov. Br., pp. 19-21, 114-117, and pp. 43-44, 67 below. We also showed, however, that, even if we assume that Sterling would have raised $10.5 million in 1989 absent the breach, causation was not established, because Sterling would nonetheless have failed to satisfy FIRREA's minimum core capital requirement. Tr. 2745:22-2748:22 (Horvitz); 12 C.F.R. § 567.8 (1989). In addition, if core capital were calculated properly, Dr. Horvitz's model would result in zero damages. See Tr. 2745:22-2753:12 (Horvitz). Sterling does not dispute that Dr. Horvitz's model yields zero damages if the core capital calculation performed by our expert, Mr. Barefoot Bankhead, is incorporated into the model. See generally Pl. Br., pp. 87-93; see also Tr. 2495:17-2497:7 (Horvitz); Tr. 3328:15-3329:17 (Bankhead). Instead, Sterling attempts to discredit our capital calculation by incorrectly

Nor do any of Sterling's other damages claims rely upon such testimony. Therefore, the Court should not award any damages based upon the alleged loss of employees, loans, customers, and reputation. 22

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contending that it is contrary to "law of the case" and by offering a methodology for calculating the core capital ratio that permits Sterling to exceed the maximum amount of goodwill allowed by the regulations in arriving at that ratio. a. Mr. Bankhead's Calculation Of "But-for" Core Capital Correctly Accounts For The Central Evergreen Goodwill

Sterling's attempt to discredit the opinions of Messrs. Bankhead and Hargett on the grounds that they ignore the "contractual" nature of the Central Evergreen goodwill is baseless. Pl. Br., pp. 87-89. First, Sterling erroneously claims that Mr. Bankhead's and Mr. Hargett's shorthand reference to the Central Evergreen goodwill as "noncontractual" goodwill is at odds with this Court's finding that the agreement governing the Central Evergreen acquisition merely shifted the risk of regulatory change to Sterling with respect to the goodwill generated by the acquisition. During the course of his testimony, Mr. Bankhead clearly articulated what he meant by his reference to the Central Evergreen goodwill as "noncontractual." Tr. 3303:23-3304:21 (Bankhead). In using the term "noncontractual," Mr. Bankhead fully recognized that the Central Evergreen goodwill was created when Sterling contracted with the Government to acquire Central Evergreen. Id.; see also Sterling, 72 Fed. Cl. at 411. Moreover, Mr. Hargett testified that he agreed with the views of Mr. Bankhead. Tr. 3413:20-3414:24 (Hargett). In addition, Mr. Bankhead's methodology for calculating core capital does not run afoul of the Central Evergreen contract. Sterling erroneously contends that the Court held that Sterling had a contractual right to count the Central Evergreen goodwill as capital until the regulations changed. To the contrary, the Court expressly recognized that, at the time of the Central Evergreen acquisition, Sterling possessed the right to count goodwill as regulatory capital

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Case 1:95-cv-00829-TCW

Document 286

Filed 11/19/2007

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without Government approval. Sterling, 72 Fed. Cl. 406, n.6. Further, the Court noted that neither the Central Evergreen agreement nor the attached business plan mentions goodwill or provided any forbearance with respect to goodwill. Id. at 410. Ultimately, however, whether the goodwill was contractual or noncontractual is irrelevant because the parties agree that the Central Evergreen goodwill was subject to the po