Madoff Trustee Set to Make Initial $312 Million Distribution to Victims on Wednesday

Victims of Bernard Madoff's massive Ponzi scheme are set to receive their first distribution of funds recovered in the wake of the fraud on Wednesday, five days after the initial distribution date was delayed.  Irving Picard, the court-appointed trustee, had originally intended to make the distribution by September 30th to investors holding claims as of September 15th.  However, the distribution was delayed after a federal judge dismissed most of Picard's claims against several owners of the New York Mets last week.  Along with the dismissal of nearly all of Picard's claims, United States District Judge Jed S. Rakoff also made several rulings that could potentially threaten the magnitude of any future recoveries in the approximately 1,000 cases filed by Picard thus far. Ponzitracker covered Judge Rakoff's ruling in greater detail here.  In a statement late last week, Picard announced that out of an abundance of caution, his legal team was delaying the scheduled distribution to evaluate the impact of the rulings.

The majority of lawsuits filed by Picard have sought to "claw back" false profits from investors who withdrew more funds than they invested with Madoff.  Based partly in equity, this procedure seeks to pool all recovered funds and make pro rata distributions to all investors, rather than allowing some investors, usually those that were able to invest in the scheme earlier on, to keep their profits while ignoring others who had invested later and had not received as many purported interest payments to offset their principal investment losses.  Because of the duration of Madoff's scheme, which Picard argues spanned several decades, thousands of investors had accounts with Madoff.  Some who were fortunate to invest in the early days of the scheme have since recouped their original investment by many times.  Picard's largest single recovery to date comes from the estate of one of these early investors, Jeffrey Picower, who agreed to return over $7 billion of false profits received during his relationship with Madoff.  

In the ruling last week, Judge Rakoff dismissed nearly all of Picard's claims asserted against several principals of the New York Mets.  Picard had taken the rare step of not only asking for any false profits, but also for the return of the original principal investment, arguing that the mens' close relationship with Madoff and investing knowledge should have alerted them to the fraud.  Judge Rakoff's ruling severely limited Picard's reach, holding that a "Safe harbor" provision in the U.S. Bankruptcy Code forbade Picard from seeking any false profits received over two years from the date Madoff's brokerage filed for bankruptcy.  This safe harbor provision restricts a bankruptcy trustee's power to recover payments that are otherwise avoidable under the Bankruptcy Code, and represents the interplay between bankruptcy and securities law.  While Picard had argued that the "safe harbor" provision did not apply, Judge Rakoff held otherwise.  

In his statement issued today, Picard stated that additional settlements had allowed him to increase the amount of the initial distribution from $272 million to $312 million.  This distribution would account for roughly 4.6% of allowed investor losses.  Picard also stated that the total funds recovered for victims thus far had increased to $8.694 billion - approximately 50% of the $17.3 billion amount Picard had estimated was lost by Madoff's victims.  Of the nearly $2.4 billion available for distribution, most remains tied up by pending litigation.  

Investors with allowed claims have also received over $700 million in total cash advances from the Securities Investor Protection Corporation ("SIPC"), a federally-mandated non-profit that protects investors if a broker-dealer fails.  Nearly all broker-dealers registered with the Securities and Exchange Commission are members of SIPC.  Under SIPC guidelines, investors holding securities or cash in accounts of failed broker-dealers are entitled to receive up to $500,000 in cash advances to cover their losses.

A copy of the Statement issued today by the Trustee is here.

Ruling Limits Liability of Madoff 'Net Winners'; Interim Distribution to be Delayed?

Irving Picard, the trustee appointed to liquidate the now-defunct brokerage firm of convicted Ponzi schemer Bernard Madoff, was dealt yet another significant setback in his quest to collect funds for distribution to Madoff's defrauded investors.  On Tuesday, a federal judge rejected many of the claims in Picard's ongoing suit seeking $1 billion from owners of the New York Mets baseball team.  In addition to the dismissal of nearly all claims, United States District Judge Jed S. Rakoff narrowed the standard under which Picard could proceed in the case going forward.  Additionally, in the wake of the ruling, which many observers warned could severely limit Picard's potential recovery in the nearly 1,000 cases he has filed against those who withdrew more than they invested with Madoff, a lawyer for Picard stated that the first interim payment scheduled to be distributed to investors this month could likely be delayed.

In his suit, Picard had sought nearly $1 billion from various executives of the New York Mets baseball club, consisting of $300 million in principal investment and $700 million in so-called false profits. Consistent with the nearly 1,000 cases filed to date by Picard, the majority of which are the "clawback" actions, Picard has sought the return of funds withdrawn by the aptly-named net-winners within the six years prior to the filing date of the Madoff bankruptcy.  While federal bankruptcy laws only permit this lookback to seek funds withdrawn up to two years before the bankruptcy filing date, Picard has relied on the interplay between federal and state bankruptcy laws, which often permit a longer lookback period. Section  544(b) of the Bankruptcy Code defines this interplay, stating that the applicable state law can also be considered in expanding this lookback period.  Under section 213(8) of the New York Debtor and Creditor Law, fraudulent transfers can be avoided if they occurred within six years of the bankruptcy filing.

Under most bankruptcies and receiverships that parallel bankruptcy law, the use of state law to enlarge the applicable lookback period is routinely used and rarely challenged.  However, Judge Rakoff relies on the "safe harbor" provision codified in section 546(e) of the Bankruptcy Code that comes into play in the case of a registered securities brokerage firm and securities contracts.  This safe harbor restricts a bankruptcy trustee's power to recover payments that are otherwise avoidable under the Bankruptcy Code, and represents "the intersection of two important national legislative policies on a collision course - the policies of bankruptcy and securities law." In re Enron Creditors Recovery Corp., 2011 WL 2536101, *5 (2d Cir. June 28, 2011).  Section 546(e) covers an extremely broad definition of "settlement payments", which Judge Rakoff likens to a transfer made in connection with a securities contract, and "clearly includes all payments made by Madoff Securities to its customers."  Thus, by its "literal language," the Bankruptcy Code prohibits Picard from bringing any clawback action against Madoff customers except those paid in the case of actual fraud. 

Understandably, Picard argued that section 546(e) was inapplicable in the present situation, since its application would be inconsistent with the statute's purpose.  However, Judge Rakoff cites the purpose of section 546(e) in seeking to "minimize the displacement caused in the commodities and securities markets in the event of a major bankruptcy affecting those industries."  Here, Judge Rakoff relies on Picard's own characterization of the extent of Madoff's fraud in theorizing that the undoing of the transfers involving nearly 5,000 Madoff customers would have a substantial and similarly negative effect on the financial markets.  

However, it is the disparity between the current situation and the context in which that reasoning was previously invoked, the Enron fraud, that may serve as ammunition for the trustee's appeal.  Whereas Enron involved publicly traded shares of stock, which play a direct role in the interplay of the financial markets, Madoff customers invested in a private brokerage firm that was neither publicly traded nor a prominent market participant. The unwinding of transfers to potentially millions of Enron shareholders would have involved a complicated intertwining of numerous market participants.  Some will argue that the sheer volume of Madoff's purported trading qualifies it as a major participant in financial markets, but that purported trading, according to the trustee's extensive analysis of Madoff's business records, was as fictitious as the returns supposedly being generated.  But Judge Rakoff also bolsters his opinion using the constitutional principles of checks and balance by stating that, regardless of the legislative history, the judicial branch must only interpret what Congress has said, and may not deviate from what Congress clearly states.

The decision, arguably the most important legal decision in recent memory by Judge Rakoff, has immediate and severe ramifications for Picard.  Just as seen in the wake of Judge Rakoff's decision dismissing common law claims against HSBC, after which a plethora of 'piggback' motions were filed by similarly-situated financial institutions, one can expect the targets of Picard's current clawback suits to file motions on a much larger scale seeking the limiting of Picard's reach.  This limiting would be significant, in that it would effectively permit Picard to only seek funds withdrawn from Madoff in the two, rather than six, years prior to the unraveling of the scheme.  While many have struggled to estimate the true scope of these two scenarios, a lawyer for Picard estimated that up to $6 billion could be off the table if the ruling is upheld.  As noted by Allison Frankel in her excellent column, some high-profile beneficiaries of such a scenario would include Madoff's children, whose liability would decrease by $83.3 million, Bank Medici founder Sonja Kohn, whose clawback exposure would decrease by $27 million, and Frank Avellino and Michael Bienes, several principals behind a large feeder firm to Madoff, whose clawback liability would decrease by nearly $40 million.

Under an order issued the following day by Judge Rakoff, the decision cuts the possible liability of the Wilpons from nearly $1 billion to $386 million,  the total of all transfers made during the two-year period prior to the filing of the bankruptcy petition.

The ruling also affects the scheduled interim first distribution to victims scheduled to occur by the end of September.  According to Diana B. Henriques of the New York Times, who has authored a book on Madoff, an attorney for Picard stated that the initial distribution to victims would likely be delayed until the trustee has had an opportunity to determine the impact of the ruling on amounts owed to other victims of the fraud.  Victims were scheduled to share a pro rata portion of the first payment, which totaled $272 million.  

An attorney for Picard has already sought permission from Judge Rakoff to allow expedited review of the decision by the Second Circuit Court of Appeals. 

A copy of the Tuesday ruling is here.

A copy of the Wednesday order is here.

AdSurfDaily Ponzi Scheme Victims Set to Receive $55 Million in Forfeited Funds

The Department of Justice announced that it has begun to return approximately $55 million in forfeited funds to victims of the AdSurfDaily Ponzi scheme that generated more than $110 million from thousands of victims worldwide.  AdSurfDaily was a massive Ponzi cheme that presented itself as an online advertising company, promising investors exorbitant returns in exchange for spending time on certain websites.  The funds are being returned to investors through a process known as "remission," and is the result of civil forfeiture judgments being pursued against nearly $80 million contained in bank accounts seized after the fraud was uncovered.

The DOj indicted Thomas A. Bowdoin Jr., 76, in December 2010, charging him with five counts of wire fraud, one count of securities fraud, and one count of unlawful sale of unregistered securities in connection with the scheme.  Bowdoin allegedly operated the scheme from September 2006 to August 2008, soliciting investments exceeding $100 million by promising extensive returns in exchange for spending small amounts of time daily on certain websites.  Annual returns were advertised that exceeded 100%, in addition to commissions for new member referrals.  In total, more than $31 million of investor funds were used to pay interest and principal redemptions to investors.  Bowdoin has pled not guilty to all of the charges, and is currently awaiting trial.

The DOJ and Secret Service established the website for victims of the scheme, and there provided forms for victims to submit documented proof of their losses.  Investors had faced a claims deadline of January 19, 2011 to submit claims.  According to the website, the U.S. Government seized approximately $79 million from several bank accounts associated with the scheme, and legal efforts to obtain civil forfeiture judgments against the money remain ongoing.  Approximately 8,400 victims stand to receive some form of payout as a result of the remission process.

A copy of the indictment against Bowdoin is here.

Madoff Trustee Sets Record Date of September 15th for Victims Entitled to First Distribution

According to a court filing by the trustee tasked with marshalling assets for the benefit of victims of Bernard Madoff's multi-billion dollar Ponzi scheme, investors holding claims as of September 15th, 2011, will be entitled to receive the $272 million set aside for a first interim distribution.  Additionally, Irving Picard, the court-appointed trustee, also stated that holders of claims that were sold or transferred are eligible to receive a distribution only if the sale or transfer of the claim was made on or before August 25, as such sale or transfer is subject to a 21-day notice and objection period.  As Bloomberg reports, the initial distribution will go out by the end of the third quarter, or September 30th.  

In his Motion for an Order Approving Initial Allocation of Property (the "First Distribution Motion"), filed May 4, 2011 and approved by United States Bankruptcy Judge Burton R. Lifland on July 12, 2011, Picard sought to make an initial distribution of $272 million to Madoff victims, an amount that Picard stated would have been much higher if not for the pending appeals preventing the availability of additional funds.  As explained by Picard,

The reduced amount is the result of various appeals that have been filed, including, but not limited to, the appeal relating to the “net equity” dispute, ... the appeals relating to the $5 billion Picower settlement, ... and the appeal relating to the settlement with the Levy family.

The distributions will be paid on claims relating to 1,224 former accounts at Madoff's brokerage.  According to Picard, the average payment amount to each of those holders will be $222,551.12.

Legal developments since the First Distribution Motion have bolstered the position of investors Picard termed "net losers" whose account losses exceeded any withdrawals.  The most important decision was the August 16th order of the Second Circuit Court of Appeals affirming the method Picard used to determine investor claims.  While some investors argued that they were entitled to recover the market value of the securities reflected on their last account statement before Madoff's scheme collapsed, Picard disagreed, arguing that the class of customers with allowable claims were those who deposited more cash in their investment account than they withdrew.  The Second Circuit agreed with Picard's method, stating that:

Use of the Last Statement Method in this  case would have the absurd effect of treating fictitious and arbitrarily assigned paper profits as real and would give legal effect to Madoff’s machinations. 

This decision was an important victory for Picard, who was forced in his First Distribution Motion to "maintain... significant reserves, which decrease the amount available for distribution from approximately 44% to approximately 13%."  This percentage was further reduced to 4% of claims due to various settlements under appeal.  Assuming that the Second Circuit's order is not appealed to the Supreme Court, it is likely that Picard's next distribution to investors will have significant additional funds available.

A Copy of the First Distribution Motion is here.

A Copy of Picard's filing setting the Record Date is here.

A Copy of the Second Circuit's Order Affirming the Net Investment Method is here.