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Monday
Apr082013

CPA Firm Facing $250,000 in Sanctions for Discovery 'Shortcomings' In Suit Over Seattle's 'Mini-Madoff'

"A finding of contempt is unusual but entirely appropriate in this case.  Moss Adams and Mr. Kallander failed to produce evidence, allowed other evidence to be destroyed and then attempted to cover it all up. Thankfully, the Court exposed the truth."
- Michael Avenatti, counsel to the bankruptcy trustee
In a stark reminder of the importance of fully complying with discovery obligations, a federal judge found the nation's 12th-largest accounting firm in contempt over its failure to produce thousands of documents to the court-appointed bankruptcy trustee tasked with recovering funds for victims of Seattle's 'Mini-Madoff'.  Moss Adams, which audited the hedge funds operated by convicted Ponzi schemer Darren Berg, was found in contempt of court by United States District Judge Karen A. Overstreet and ordered to pay civil sanctions as a result of a multi-year battle to obtain documents by the bankruptcy trustee, Mark Calvert.  Michael Avenatti, who serves as counsel to the trustee, has estimated that legal fees and costs incurred in enforcing the subpoena could be in excess of $250,000.

Authorities arrested Berg in October 2010, accusing him of operating the Seattle-based Meridian Mortgage funds ("Meridian") as the largest Ponzi scheme in Washington history, with investor losses estimated in excess of $150 million.  Shortly after Berg's arrest, the court-appointed trustee began issuing subpoenas for the production of documents to a number of third-party professionals that provided services to Meridian, including Moss Adams.  The subpoena sought documents for a ten-year period in which Berg and Meridian had been a client of Moss Adams, and was designed to gather documents to allow the trustee to reconstruct and understand Berg's massive fraud.  

Initial Discovery

Upon receiving the subpoena, Moss Adams' general counsel placed a paralegal in charge of coordinating the firm's response to the subpoena and also entrusted the audit partner in charge of the Meridian Funds - who had never responded to a subpoena - with significant responsibilities.  After gathering responsive documents, approximately 12,000 pages of documents were produced to the trustee several weeks after the subpoena was received.  Unbeknownst to all parties, this would mark the beginning of a contentious discovery dispute that would last over two years.

Several months after their initial production of documents, Moss Adams produced over 1,000 pages of billing records that were apparently not included.  Several weeks later, nearly 100 more pages of billing records were produced.  Then, six months later, another 130 pages consisting of Berg's tax returns were produced.  At this point, counsel for the trustee sent correspondence to Moss Adams' general counsel, asking for an affirmation that all responsive documents had been produced.  No response was ever received.

The Lawsuit 

Indeed, just a few weeks later, Moss Adams found itself the target of a $150 million lawsuit filed by the trustee accusing the firm of professional malpractice, negligent supervision, fraud, and violations of Washington's Consumer Protection Act.  According to the suit, Moss Adams issued clean audit/opinion letters that were touted to investors to demonstrate the legitimacy of Meridian.  However, Calvert alleged that Moss Adams failed to follow both internal and industry standards in conjunction with the audits of various Meridian funds, and turned a blind eye to numerous "red flags" associated with Berg's scheme.

More Discovery

Several months after the filing of the lawsuit, one of Calvert's attorneys contacted counsel for Moss Adams and contended that the firm had failed to comply with the subpoena.  In response, counsel for Moss Adams disagreed, calling the allegation a "totally bogus issue."  A subsequent email exchange resulted in Moss Adams' counsel expressing his belief that all responsive documents had been turned over.

In October 2012, Moss Adams produced 70 pages of emails, as well as one voicemail, that had apparently inadvertently not been produced.  Several days later, and over two years since Moss Adams had received the subpoena, counsel for the trustee filed a motion seeking to hold Moss Adams in contempt.  In late October, just before a scheduled hearing concerning the contempt motion, Moss Adams produced hard copies of tax-related emails, as well as additional documents related to billing files.  One month later, Moss Adams produced nearly 600 pages of miscellaneous Microsoft Outlook documents, including appointments, emails, and spreadsheets.  

On three days in early December 2012, over 100 additional pages were produced to the trustee as the result of an exhaustive search spearheaded by the firm's general counsel.  At a hearing on December 7, 2012, the Court found that Moss Adams had failed to comply with the subpoena, and set an evidentiary hearing for February 14 2013 to examine the trustee's request for sanctions and a holding of contempt.  
On January 15, 2013, nearly 2.5 years after the original subpoena was issued and after thousands of documents had been produced in multiple productions, Moss Adams produced another 1,200 pages.  

Sanctions

After conducting an evidentiary hearing, the Court decided that it was appropriate to hold Moss Adams in contempt of court and order sanctions, noting that 

 Moss Adams and its counsel repeatedly assured the Trustee and his counsel that all documents responsive to the Subpoena, including both electronic and paper documents, had been produced, despite the fact that such assurances were incorrect. 

Judge Overstreet found that these shortcomings significantly hampered the trustee's ability to accurately ascertain the financial status of Berg's financial empire.  Additionally, Calvert cited the fact that Moss Adams utilized a document retention system that deleted emails after only several days, which, coupled with what Calvert has alleged was an inappropriate relationship with a Moss Adams employee that may have compromised the integrity of the audit work, could have yielded valuable and useful information.  As Judge Overstreet concluded,

Moss Adams’ failure to fully comply with the Subpoena hampered the Trustee both with regard to his duties to marshal the estates’ assets and his efforts to evaluate the estates’ claims against Moss Adams. 

Other Recent High-Profile Discovery Disputes in Ponzi Litigation

The dispute brings to mind the 'simply incredible' discovery errors cited by a Florida federal judge in a recent lawsuit against TD Bank for its culpability in the $1.4 billion Ponzi scheme perpetrated by Scott Rothstein.  There, TD Bank and its legal counsel, Greenberg Traurig, were sanctioned for the failure to turn over unfavorable evidence that could have led to an even more severe verdict than the $67 million award handed down by a Florida jury.  Attorneys later asked for more than $500,000 in subsequent legal fees incurred as a result of the sanctions.

A copy of Judge Overstreet's Order is here.

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