Business Busts Pose Risk for Lawyers, Accountants
law.com | 4/23/08 |The National Law Journal
The past decade has seen a significant rise in lawsuits brought by bankruptcy trustees or receivers against an insolvent company's former accountants and attorneys. Trustees and receivers presiding over the estate of a failed company victimized by -- or, more often, utilized for -- fraud or other misconduct are now routinely looking to causes of actions against the debtor's professionals as the estate's primary, if not the only, assets.
Questioned about the recent rise, one often-appointed federal receiver, Lewis B. Freeman, offered two explanations in a recent discussion with the author: "That's where the money is" and, in the recent years of "growth at any cost, some lawyers and accountants have put growth and billing before quality and ethics."
This article reviews a sample of such actions and considers how courts and litigants are responding to them -- including the in pari delicto doctrine against plaintiffs recovering for their own wrongdoing, and the mixed reviews being given to "deepening insolvency" as a cause of action. The article also will look at the ways professionals (and their insurance companies) are dealing with the potentially increased exposure.
PROTECTING ONESELF
Given the number of actions against professionals by bankruptcy trustees and the uncertainty that exists as to the viability of causes of action and affirmative defenses, what should professionals do to protect themselves from being targeted for such an action?
The Attorney's Liability Assurance Society Inc. (ALAS), a leading mutual insurance company for law firms, has advised that "the key is to look for red flags" during the course of the engagement. Brian J. Redding and Deborah G. Shortridge, "The "Zone of Insolvency," "Deepening Insolvency" and "Lawyer Liability -- Where Are We and Where Might We Be Going?" ALAS Loss Prevention J. (Fall 2004).
For example:
• Is there anything that suggests that there might be something wrong here?
• Is this transaction with an affiliated entity?
• Is the author of the appraisal or fairness opinion someone closely connected to the transferor?
• Are outdated financials being used?
• Are relevant factors not discussed in the fairness opinion?
• Is the transaction one that qualifies as self-dealing on the part of the controlling shareholder?
• Are there indications that the sale price seems to be a bargain for the purchaser?If these or other indications of problems exist, the lawyers need to stop and ask questions, if not as a matter of law, then at least as a matter of prudence and good loss prevention.
In short, the best protection for the professional seems to be continued ethical vigilance, and a steadfast enforced commitment to avoiding risk, even at the cost of losing a client. Particularly in today's litigious climate and the economic downturn, losing a client because of a commitment to high professional standards may benefit the law firm or accountant in the long run. Even if the professional would ultimately prevail against a claim by the trustee, the economic, business and reputational costs of defending such a claim are likely to be significantly greater than the business of any single client.