For Solera National Bancorp (SLRK) in Lakewood, Colo., an unresolved proxy battle could be more dangerous than an outright loss to an activist investor.
Six members of the $168 million-asset company's board resigned last week, leaving Chief Executive John Carmichael as the only remaining director. The resignations came less than a month after a contentious annual meeting where Solera's shareholders voted overwhelmingly to replace the board.
Solera contested the results, which resulted in a victory for Michael Quagliano, who had promoted his own slate of nominees. The board's fate now rests with a Colorado District Court judge.
Regulators tend to avoid such disputes, but Solera's shake-up will draw attention, several banking lawyers say. Federal regulation requires banks to have at least five directors to hold a charter.
Banks with fewer directors "don't have a duly constituted board under the charter," says David Baris, a partner at BuckleySandler. "So all the actions taken by the board would be voidable, and there's considerable pressure applied to reconstitute the board so they can take the actions required by the bank to function properly."
For Solera, the problem is that Quagliano has refused all of its offers to compromise, including a recent offer to join Carmichael on a two-member board. Quagliano, an Illinois restaurateur and real-estate developer, owns about 23% of Solera's stock.
Quagliano, who has claimed that Solera's board overpaid itself while the company lost money, has stated in regulatory filings that he wants to cut costs and improve its product offerings. Solera has lost about $3.5 million in the last five years, including $369,000 in the first quarter. The company's stock is down about 45% since its 2007 initial public offering.
Efforts to reach Quagliano through his lawyer, Moye White, were unsuccessful.
"We have tried for the past year-and-a-half to negotiate, to sit down and have direct talks" with Quagliano, says Solera spokesman Andy Boian. "The bank tried to arrive at a resolution that would be best for customers and shareholders."
One of the six directors, David Roberts, later rejoined the board at Carmichael's invitation. Solera said in a press release Tuesday that it would look "to rebuild the board to a more customary size in the near future," though its bylaws allow it to have a smaller board temporarily.
The board issue will not impact Solera's operations, Boian says, though the Office of the Comptroller of the Currency has told the company to "get this fixed as quickly as possible."
Recruiting new directors could prove challenging for Solera.
"Would you want to go on that board of directors? Why go on the board until there has been a resolution?" says Ernest Panasci, a partner at law firm Stinson Leonard Street. The directors that resigned are "either frustrated and would like to leave it behind them or are very concerned about their exposure and liability."
The OCC, Solera's primary regulator, had already been on the alert over Solera's proxy fight, and may not have much patience. The OCC does not comment on specific institutions, a spokeswoman says.
Panasci, who is not involved with Solera, estimates that regulators could give Solera 30 to 60 days to address the board issue.
Banking lawyers say it is highly unlikely that the dispute could cause Solera to fail, but the company could face added oversight through an enforcement action. Solera was freed from a consent order by the OCC in mid-2012.
The May 22 annual meeting showed that Quagliano had the votes to force change. His nominees, which included himself, his fiancee and his college-age daughter, were declared unqualified by an independent proxy-advisory firm. Yet each won about 1.2 million votes, compared to roughly 690,000 for Carmichael, who received the most support among incumbent directors.
The legal dispute over Solera's decision to invalidate the vote shows no sign of nearing an end. The parties plan to meet on July 1 to determine a schedule for the lawsuit, court filings show.
The director resignations could further complicate the shareholder issues because some company bylaws require a shareholder vote to replace more than a couple of directors a year, says Stephen Klein, a partner at Seattle law firm Graham & Dunn.
Klein, a former OCC regulator, says agencies like to stay out of shareholder issues, but could reluctantly get involved. Klein says he hopes Solera is being proactive and has been keeping regulators informed, but he warns that management must be quick to come up with solutions.
"With regulators, you don't want to go to them with a problem, you want to go with a problem and your solution," Klein says. Regulators "are loath to get involved with shareholder issues, but they must balance that with their worries over continuity and the bank having an effective board."