After Dewey firm’s collapse, lawyers and execs face criminal and SEC charges

“Too many criminal lawyers become lawyer criminals.”

Decades ago, Senator Estes Kefauver said these words alluding to the challenges of investigating organized crime in the United States. A current case involving top executives of the New York law firm Dewey & LeBoeuf evokes the late Senator’s words.

In 2007, Dewey & LeBoeuf was flying high. Newly created from the merger of two firms, it had rapidly become one of biggest law firms in the United States. At its peak, the firm employed about 1,300 attorneys in 26 offices around the world. Its clients included financial institutions and major corporations, such as JPMorgan Chase, Barclays, Dell and BP.

By 2012, Dewey & LeBoeuf was the largest law firm to ever declare bankruptcy. What came between that rapid rise and precipitous fall were years of accounting tricks, falsified records and fraudulent financial statements perpetrated and created by some of the firm’s highest executives, according to the Manhattan District Attorneys’ Office in a 106-count indictment returned on March 6.

The criminal charges allege that Dewey’s Chairman Steven Davis, Chief Financial Officer Joel Sanders, Executive Director Stephen DiCarmine and Zachary Warren, a clerical employee who dealt with client relations, went to great lengths to hatch and hide a four-year “Master Plan” to distort by millions of dollars the firm’s financial standing through deceptive practices.

They were charged with fraud, conspiracy, grand larceny and falsifying business records. If convicted, they could face heavy prison sentences.

Lessons emerge on role of lawyers in financial crime

On the same day, the US Securities and Exchange Commission filed a parallel civil case focusing on an allegedly fraudulent $150 million bond that the offered in April 2010 in an attempt to refinance its debt.

Along with Davis, Sanders and DiCarmine, the SEC also charged the firm’s finance director, Frank Canellas, and controller, Thomas Mulikin. It is seeking civil monetary penalties to be distributed to the victims of the alleged fraud, which include thirteen insurance companies and two banks.

The indictments and the civil suit comes at a time when the role of lawyers in financial crime compliance and control is under greater scrutiny from US enforcement agencies and international bodies like the Financial Action Task Force, in Paris. As gatekeepers to the financial system, lawyers play key roles in financial crime functions, from compliance work at financial institutions to drafting laws and regulations and white collar litigation.

The Dewey case may demonstrate that financial pressures or greed may drive some lawyers to switch sides from representing clients accused of financial crime to committing crime themselves. Attorneys at Dewey & LeBoeuf, for example, once defended high-profile clients, such as billionaire sports mogul Mark Cuban in SEC securities fraud cases. Now, the men who led the firm are in the crosshairs of prosecutors.

Firm’s chieftains’ emails provide important evidence

The 2008 financial crisis devastated the finances of many law firms, Dewey & LeBoeuf included. The firm was struggling to meet revenue expectations and hemorrhaging cash just a year after its merger. On the eve of 2009, top executives knew the firm’s finances would soon run out if it did not meet the provisions of its outstanding credit extensions from its bank.

“We need 50M dollars tomorrow to meet our covenant,” firm CFO Joel Sanders wrote to Chairman Davis and Executive Director DiCarmine in one of many telltale emails.

“Ugh,” Davis replied.

Emerging from this and other exchanges that reveal terms like cooking the books, fake income, and clueless auditor is a lesson that has been learned, un-learned and relearned-the-hard-way in recent times by lawyers, executives, politicians and others accused of financial crime: emails rarely lie.

Jennifer H. Arlen, an attorney and law professor at New York University, said the Dewey & LeBoeuf case is classic example of accounting fraud.

“These are people who are desperate and taking heroic and allegedly illegal measures to try and survive another quarter,” she said.

She said the brazenness of the emails could shed light on how Dewey employees might have justified the alleged actions in a moment of crisis.

Candid emails detail ‘accounting tricks’

The indictment aired frank email exchanges of the smoking gun sort that have capsized many financial crime schemes – from the “Subprime Meltdown” notes that exposed Morgan Stanley executives last January to messages from JPMorgan employees concerning ties to Bernie Madoff that led to a $2 billion penalty on the institution this year.
On one occasion, Dewey Finance Director Canellas sent Sanders an email that called a $7.5 million line item reduction as “Accounting Tricks.”

“Investors were led to believe they were purchasing bonds issued by a prestigious law firm that had weathered the financial crisis and was poised for growth,” said Andrew J. Ceresney, director of the SEC’s Division of Enforcement in a press release.

“Fraud is not an acceptable accounting practice,” Cyrus Vance, Manhattan District Attorney, said at a March 6 press conference.

Despite the accounting distortions, the financial obligations piled up. The firm had grown too rapidly and, with a shrinking client base, could not afford to pay its lawyers. By May 2012, the firm had accumulated $550 million in claims against its estate and entered bankruptcy proceedings.

Lawyers leave trail of evidence, but numbers may decide case

For the accused attorneys, the loose email banter reflects a disregard for a key rule that lawyers tell their clients – never put incriminating matters in an email.

One exchange ridicules the auditor at Ernst & Young who vetted the books. In 2009, Sanders, referring to a completed inspection by the auditor, said in an email, “Can you find another clueless auditor for next year?”

“That’s the plan. Worked perfect this year,” said the response.

While the emails may make it easier for the prosecution to prove criminal intent, but Jacob Frenkel, an attorney at Shulman Rogers, in Potomac, Maryland, says the lengthy indictment could backfire. The former federal prosecutor and SEC counsel say the jury will want a simple story.

“The defense will likely use that to their advantage,” Frenkel said.

He added that the bankruptcy trustee and investigators most likely discovered evidence of the fraud while combing through records to find funds to recompense the creditors.

“It’s strictly a quantitative and dispassionate obligation,” Frenkel said about the investigation. “There are no heroics when the allegations are about $550 million dollars of bankruptcy.”
Davis, DiCarmine, Sanders and Warren pleaded not guilty last Thursday and released on bail. Vance has said the District Attorney’s Office has received guilty pleas from seven other Dewey employees who are cooperating.