Sunday, March 22, 2009

It Takes a Team to Commit Billion Dollar Fraud

Prosecutors Charge Madoff's Accountant With Fraud

David Friehling, accountant to Bernard Madoff, leaves Federal Court in New York after arrest on fraud charges. (File) AP

Bernard Madoff's longtime accountant was arrested on fraud charges Wednesday as authorities blamed him for failing to make the most basic auditing checks that would have exposed an epic fraud that cost investors billions of dollars.David Friehling is the first person to be arrested in the scandal since Madoff turned himself in, and his prosecution signals that the government is intent on bringing Madoff's associates to justice as they try to figure out who helped him carry out the fraud.Prosecutors say the 49-year-old Friehling essentially rubber-stamped Madoff's books for 17 years, serving as Madoff's auditor from 1991 through 2008 while operating from a discreet building in suburban New York. Authorities said that if Friehling had done his job, Madoff's financial statements would have shown his company owed tens of billions of dollars to his customers and was insolvent."Mr. Friehling's deception helped foster the illusion that Mr. Madoff legitimately invested his clients' money," said acting U.S. Attorney Lev L. Dassin. The relationship between the accountant and Madoff was so cozy that Friehling and his family pulled $5.5 million from accounts with Madoff since 2000 and had a balance of more than $14 million as recently as November. Prosecutors said:

"'s a conflict for accountants to have such large sums invested with clients."

Friehling did not comment as he left the courthouse after being released on bail, and his lawyer, Andrew Lankler, also declined comment.Madoff, 70, confessed to his sons in early December that his investment empire was actually a giant Ponzi scheme in which he paid off old investors with money from new ones. Though he reported to 4,800 investors that they had $65 billion in November, investigators have found only about $1 billion.He pleaded guilty last week and could spend the rest of his life in prison after he is sentenced in June.Prosecutors now believe that Madoff received help from Friehling as he carried out his fraud, although Friehling is not charged with knowing about his Ponzi scheme.The government says Friehling did not meaningfully audit Madoff's business or confirm that securities purportedly held by Madoff's company on behalf of its customers even existed.The Securities and Exchange Commission said Friehling instead...

"pretended to conduct minimal audit procedures"

...of certain accounts to make it seem he was conducting an audit and then failed to document his purported findings and conclusions as he was required to do.Prosecutors said he even failed to examine a bank account through which billions of dollars flowed."He did little or no testing, no verification of the `facts' he certified," said Joseph M. Demarest, head of New York's FBI office. "His job was not merely to rubber-stamp statements he didn't verify. "The SEC said Friehling took steps to hide his personal investment with Madoff, including replacing his own name on his Madoff account with his wife's name and later naming the account the "Friehling Investment Fund" to conceal the conflict of interest.The SEC also accused Friehling of lying to the American Institute of Certified Public Accountants for years, denying he conducted any audit work, because he was afraid that his work for Madoff would be subject to peer review.He was paid a tidy sum by Madoff: Prosecutors said he made between $12,000 and $14,500 a month from 2004 to 2007, amounting to $144,000 to $174,000 annually. If convicted, Friehling faces up to 105 years in prison.

He is charged with securities fraud, aiding and abetting investment adviser fraud and four counts of filing false audit reports with the SEC.The fraud charges against Friehling come just days after the founder of his auditing firm, Jerome Horowitz, died of cancer last week at the age of 80, a family friend said. Horowitz handled Madoff's books for many years before turning the business over to Friehling, who is his son-in-law. The single glass door in Friehling's Rockland County office bears the name "Friehling & Horowitz."Horowitz's lawyer, Latour "L.T." Lafferty, declined to immediately comment on his death or Friehling's arrest Wednesday, but had previously described the two accountants as victims of the scam who were unaware that fraud was taking place.The strain of the Madoff scandal on Friehling began to show in recent months as he put his luxury home in Rockland County on the market.A listing posted on the Web site of Prudential Rand Real Estate said the family is seeking $995,000 for the five-bedroom Colonial. The home was built in 1990 and has a swimming pool and 4,437 square feet of space.It's unclear how the sale will fare because he had to put up his home to make bail.Madoff pleaded guilty to securities fraud, perjury and other charges on Thursday. During his plea, Madoff said he began a Ponzi scheme in the 1990s in response to the pain of a recession — around the time that Friehling took over his accounting. He said he never recovered, though, and knew prison awaited him.Investigators have said they believe investors may have originally put $17 billion or less into accounts with Madoff but that Madoff falsely told them in their financial statements that it had grown to as much as $65 billion.

(© 2009 The Associated Press. All Rights Reserved. This material may not be published, broadcast, rewritten, or redistributed.)

Related Stories:
S. Fla. Madoff Victims Auctioning Off Belongings (3/18/2009)
Madoff Victims Get Relief From IRS (3/18/2009)
Madoff Probe Turns Focus To Wife, Family (3/16/2009)
Documents: Madoff Had Net Worth Of $823 Million (3/14/2009)
Madoff's Lawyers Appeal Ruling On Bail (3/13/2009)

What You Can't See Can Still Hurt You

Trial attorney's have an obligation to protect confidential and proprietary information of our clients from inadvertent publication. With the communication age in full swing, there is a bit of a learning curve, however, which caused at least one law firm to accidentially give up redacted information. It sounds as though a Sharpie would have been a better idea than digitial black boxes. Reporter Doug Malan's tells the instructive metadata tale...

A Major Redaction Gaffe
GE's sensitive information easy to access behind black veil
By DOUGLAS S. MALAN as published in the Connecticut Law Tribune

Lawyers involved in the class-action sex discrimination case against Fairfield-based General Electric in 2007 would rather you not read passages from various filings. After all, the plaintiffs' firm, Sanford, Wittels & Heisler in Washington, D.C., took the time and effort to black out reams of pages in numerous briefs to make them inaccessible to the public — or so they thought.

But as of late last week, you could download several documents through PACER's federal court filing system, copy the black bars that cover the text on the screen and paste them into a Word document. VoilĂ . Information about the inner-workings of GE's white, male-dominated management and their alleged discriminatory practices against women, which is supposed to be sealed by court order, appears with little technical savvy required.
"I didn't know that," plaintiffs' lead counsel David W. Sanford said from his office early last week.

Neither did Patrick W. Shea of Paul, Hastings, Janofsky & Walker in New York, which serves as GE's outside counsel in the case. Shea said the two sides are in mediation after Judge Peter C. Dorsey in New Haven denied GE's motion to dismiss on May 8. Now, the game may have changed with revelations that there's a large leak of information in the case, though Shea never said as much. He referred all questions to GE, whose spokesman, Gary Sheffer, wouldn't comment on how the course of the case might be altered. "All parties agreed that the documents would be filed under seal," Sheffer said. "We acted under belief that they were filed under seal, and we're concerned." When asked what GE's legal reaction might be, Sheffer said: "We're considering our options." Shea contacted Sanford to discuss the matter. Sanford, the plaintiff's lawyer, then called the Law Tribune to shed more light on the matter. "I wasn't aware of the severity of this problem," he said. "Certain documents have been filed improperly by us. If this redacted material is in the public domain, it becomes a problem for GE and for us.

"We're going to try to take steps to correct that error. We're doing everything we can today (last Thursday)" to make emergency, corrected filings with federal court clerks who are aware of the problem, Sanford said.
PACER account representative Shawn Robledo, who works in PACER's service center in San Antonio, also was unaware of the problem until she was guided through the process of downloading, copying and pasting.
"We need to report this to the court," she said. "We've never had this problem come up. I've been here for years and have never seen [a redaction] done like this." The PACER service center is operated by the Administrative Office of the U.S. Courts in Washington, D.C. Spokesman Richard Carelli said PACER employees do not check filings to make certain that redacted information actually is inaccessible. "The total responsibility rests with the lawyers" to redact properly, he said. Lorene F. Schaefer, a lawyer in the company's Erie, Pa.-based GE Transportation, accused company officials in her lawsuit of giving unfair preference to men in promotions to top-paying legal jobs.

The class-action lawsuit potentially seeks damages of $500 million. It also seeks an injunction to halt GE's pay and promotion policies and practices, and names Chairman and Chief Executive Officer Jeffrey R. Immelt, General Counsel Brackett B. Denniston III and numerous other executives as defendants. Schaefer filed the lawsuit last April after learning that she was to be demoted from her job as GE Transportation's top legal officer. She was placed on paid administrative leave last May after complaining about her demotion. Schaefer had been an entry-level executive since 1997, and a GE employee since 1994. In 2007, she was paid $380,000, including bonuses.

The security breach in her case underscores a hot issue in the legal profession involving uncovered trails of electronic data, known as metadata. Where once a black marker strike on a piece of paper was sufficient, redaction in the digital world requires special software and the know-how to delete the words behind the shield.
Sloppy information management "has been a huge problem" for lawyers ...
said Connecticut Chief Disciplinary Counsel Mark Dubois. "Metadata is a fascinating area of developing law. It is much discussed in the fields of risk aversion and risk management." Dubois said a lawyer or law firm who has insufficiently redacted information in a case could be in violation of a host of ethical rules and an easy target for a malpractice lawsuit. Redaction problems often arise when people use old versions of Adobe software, which turns paper documents into an easy-to-read electronic Portable Document Format (PDF), the format of choice for PACER and many other web sites with multiple documents.
There are ways to hide the text in older versions of Adobe, but the process is "cumbersome" and requires multiple programming steps, said Glastonbury attorney N. Kane Bennett, a member of the Connecticut Bar Association's Legal Technology Committee. "With the newest version of Adobe, it is pretty simple to hide the text with a black box and then scrub the hidden text behind it," said Bennett, who was unfamiliar with problems in the Schaefer case. “This prevents people from copying and pasting into a Word document.” There’s also a popular software program called Redax, manufactured by Appligent Inc., which is a plug-in application for Adobe Acrobat Standard or Professional 6, 7 and 8, according to its web site. It promises to “permanently” remove sensitive information from PDF documents at a starting price of $249. In 2005, the Department of Defense suffered through a similar dispersion of classified information. Redacted segments of an investigative report on the shooting death of an Italian journalist by U.S. soldiers in Iraq could be copied and pasted from a PDF into a Word document. Plaintiff’s attorney Sanford couldn’t say what process or software his law firm used to redact the information in the Schaefer case. “Quite frankly, I’m not involved in the mechanics,” he said.
Paralegals were responsible for redacting the information properly before filing the briefs electronically, but they were out of the office and unavailable for comment last Thursday, Sanford said. He said the firm is not considering any disciplinary action against them. “Anything that happened here was an innocent mistake,” he noted. In terms of electronic filing, “people are learning as they go.”