In re: Sunpoint Securities

Filing 16

MEMORANDUM AND OPINION, and ORDER affirming the Bankruptcy Court's April 23, 2007 Amended Judgment and Amended Findings of Fact and Conclusions of Law. Signed by Judge Michael H. Schneider on 12/3/2008. (gsg)

IN THE UNITED STATES DISTRICT COURT F O R THE EASTERN DISTRICT OF TEXAS T Y L E R DIVISION R O B E R T G. RICHARDSON, Trustee o f the Estate of Sunpoint Securities, Inc. Appellant, v. C H E S H IE R & FULLER, L.L.P., KING B O U R L A N D , JEFF CHESHIER, JACK S P R A W L S , JAMES CONNER, JACK S A V A G E and BRET ROBERTSON A p p e lle e . § § § § § § § § § § § § §

C a u se No. 6:07-cv-256

M E M O R A N D U M OPINION AND ORDER B e f o re the Court is an appeal from the United States Bankruptcy Court for the E astern District of Texas, Tyler Division. Appellant Robert G. Richardson, Chapter 7 T ru s te e of the Bankruptcy Estate of Sunpoint Securities, Inc. (the "Trustee") challenges th a t court's April 23, 2007, Amended Judgment and Amended Findings of Fact and C o n c lu s io n s of Law, which was entered in a liquidation proceeding pursuant to the p rov isio n s of the Securities Investor Protection Act, 15 U.S.C. §78aaa, et seq. This Court h a s jurisdiction over the matter pursuant to 28 U.S.C. § 158(a). Having carefully re v ie w e d the submissions of the parties and in light of the record on appeal, the c irc u m s ta n c es of this case, and the applicable law, the Court AFFIRMS the decision of th e Bankruptcy Court.

I.

S T A T E M E N T OF THE APPEAL A t the core of this appeal and cross appeal is the assertion that the Bankruptcy

C o u rt erred in its apportionment of liability in an adversary proceeding pursuant to the liq u id a tio n of Sunpoint Securities, Inc. ("Sunpoint"). In the adversary proceeding, the T ru s te e and the Securities Investor Protection Corporation ("SIPC") alleged that Cheshier & Fuller L.L.P. ("C&F"), an accounting and auditing firm, and its general partners (the " C & F partners") negligently conducted audits of Sunpoint's financial statements for S u n p o in t's 1997 and 1998 fiscal years. The Trustee and the SIPC contended that C&F w as negligent, because it failed to discover that property belonging to Sunpoint customers h a d been stolen. The theft of over 25 million dollars of Sunpoint customer funds was o rc h e stra te d by Van Lewis ("Lewis"), Sunpoint's largest shareholder, sole director, and c h ie f executive officer.1 Subsequent to the filing of the adversary proceeding, C&F filed a third party complaint and counter-claim against Sunpoint and Sunpoint's executives. T h e Bankruptcy Court's April 23, 2007, Amended Judgment and Amended F in d in g s of Fact and Conclusions of Law addressed both the claims of the Trustee and the c o u n te r-c la im s of C&F and its partners. The Bankruptcy Court found that C&F was not lia b le for any harm resulting from Sunpoint's 1997 audit. However, the Bankruptcy C o u rt did find that C&F and its partners were 5% responsible for the harm resulting from

Prior to filing the adversary proceeding at issue, the Trustee filed a separate a d v e rs a ry proceeding against Lewis for the misappropriation of customer property. That p ro c e e d in g resulted in a 25 million dollar judgment against Lewis. 2

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S u n p o in t's 1998 audit.2 The Bankruptcy Court allocated the remaining 95% of resp o n sibility for the harm arising out of the 1998 audit to Sunpoint and Sunpoint's e x e cu tiv e s, namely Lewis, Mary Ellen Wilder ("Wilder"), Sunpoint's Chief Financial O f f ice r, Doug Dieter ("Dieter"), another Sunpoint employee, and David Hayslip (" H a ys lip " ), a member of Sunpoint's management. The Trustee appeals the fact that the Bankruptcy Court allocated less than 100% r e sp o n s ib i lity to C&F, while C&F and its partners (collectively, "Appellees") cross a p p e a l the fact that the Bankruptcy Court allocated any responsibility to them. II. S T A N D A R D OF REVIEW O n appeal, the district court reviews the bankruptcy court's findings of fact for c le a r error and its conclusions of law de novo. See In re Hamilton, 125 F.3d 292, 295 (5 th Cir. 1997). Under the clearly erroneous standard, a bankruptcy court's findings of f a ct will be reversed only if, considering all the evidence, the district court is left with the d e f in ite and firm conviction that a mistake has been made. See In re Kemp, 52 F.3d 546, 5 5 0 (5th Cir. 1995). III. T H E APPEAL T h e Trustee contends that the Bankruptcy Court erred in allocating less than 100% re s p o n s ib ility to C&F and its partners for the harm arising out of Sunpoint's 1998 audit. In particular, the Trustee argues that the Bankruptcy Court should not have designated The Bankruptcy Court held that the C&F partners were jointly and severally liable for any judgment awarded against C&F in favor of the Trustee arising out of Sunpoint's 1998 audit. 3
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S u n p o in t and its executives as responsible third parties. The Trustee also argues that the B a n k ru p tc y Court should not have reduced the liability of the C&F partners by the liab ility allocated to responsible third parties, because those responsible third parties were o n ly sued by C&F. Finally, the Trustee argues that the Bankruptcy Court should have d e sig n a ted C&F's general partner, Jeff Cheshier ("Cheshier"), as a responsible third party in d e p e n d e n t of his derivative liability as a partner. The Trustee first argues that the Bankruptcy Court should not have designated S u n p o in t and its executives as responsible third parties. The Trustee contends that, in a c c o rd a n c e with the audit interference rule, an auditor can only use the negligence of its em p loyer as a defense when that employer's negligence has contributed to the auditor's f a ilu re to perform its contract and to report the truth. The Trustee argues that because the B a n k ru p tc y Court did not find that the conduct of Sunpoint and its executives interfered o r prevented C&F from properly performing its duties, their conduct should not have re d u c ed C&F's percentage of liability. However, Chapter 33 of the Texas Civil Practice a n d Remedies Code, not the audit interference rule, applies in this case. Chapter 33 of the T e x a s Civil Practice and Remedies Code requires the trier of fact to determine the p e rc e n tag e of responsibility of each claimant, defendant, settling person, or responsible th ird party who caused or contributed to the harm for which recovery of damages is s o u g h t. TEX. CIV. PRAC. & REM. CODE ANN. § 33.003 (Vernon 1997). Because the B a n k ru p tc y Court properly applied Chapter 33 of the Texas Civil Practice and Remedies

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C o d e , it did not err in reducing C&F's percentage of responsibility by the percentage of r e sp o n s ib i lity allocated to Sunpoint and Sunpoint's executives. S e c o n d , the Trustee argues that, even if the audit interference rule does not apply, th e Bankruptcy Court erred by allocating a percentage of responsibility to Lewis, who w a s joined by C&F in the adversary proceeding as a responsible third party. The Texas C iv il Practice and Remedies Code allows the trier of fact to determine the proportionate re sp o n s ib ility of, among others, "each responsible third party who has been joined under S e c tio n 33.004." Section 33.004(a) provides that a defendant may seek to join a re sp o n s ib le third party "who has not been sued by the claimant." The Trustee points out th a t he already sued Lewis in a prior adversary proceeding. According to the Trustee, this p rio r lawsuit should have prevented Lewis from being joined as a responsible third party. However, the Court agrees with the Appellees that this is a strained reading of the statute th a t defeats its very purpose. The statute merely states the obvious; that is, a defendant c a n n o t join a responsible third party who has already been named by the claimant in that sa m e lawsuit. To forbid a defendant from joining a responsible third party simply b e c a u se that person has already been sued by the claimant in a separate lawsuit would p re v e n t courts from fairly apportioning liability amongst all parties responsible for that c laim a n t's harm. Accordingly, the Bankruptcy Court did not err in holding that Lewis w a s properly joined as a responsible third party and in allocating a percentage of r e sp o n s ib i lity to Lewis.

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T h e Trustee next argues that the Bankruptcy Court should not have allocated any p e rc e n ta g e of responsibility to Hayslip. According to the Trustee, no evidence d e m o n stra tin g that Hayslip was a responsible third party was introduced at trial. But a re v ie w of the record, including the Trustee's own testimony, demonstrates that there was s u f f ic ie n t evidence to support a finding that Hayslip was partially responsible for the h a rm for which recovery was sought. Therefore, the Bankruptcy Court did not err in a llo c a tin g a percentage of responsibility to Hayslip. The Trustee further argues that the Bankruptcy Court should not have allowed the In d iv id u a l Defendants to benefit from C&F's designation of Lewis, Wilder and Dieter as re sp o n sib le third parties. The Trustee argues that each defendant is required to separately jo in responsible third parties. In this case, only C&F designated Lewis, Wilder and Dieter a s responsible third parties. However, nothing in Chapter 33 of the Texas Civil Practice a n d Remedies Code requires each defendant to separately join responsible third parties in a lawsuit when another defendant has already done so. The simple fact that C&F joined L e w is, Wilder and Dieter as responsible third parties required the Bankruptcy Court to co n side r the joined defendants in its apportionment of liability. Therefore, the Court f in d s no error in the Bankruptcy Court's allocation of responsibility. F in a l ly, the Trustee argues that the Bankruptcy Court erred when it failed to assess lia b ility against Cheshier independent of his derivative liability as a C&F partner. The T ru ste e contends that pursuant to Article 6132b-3.08 of the Texas Revised Partnership

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A ct, the Bankruptcy Court should have found Cheshier individually liable for the harm c a u se d by Sunpoint's 1998 audit. While the Bankruptcy Court entered a finding of fact s ta tin g that "Cheshier was directly involved in the specific activity constituting errors, o m iss io n s, negligence, or malfeasance of C&F in the 1998 Audit," the Bankruptcy Court, in its discretion, did not find that Cheshier's involvement warranted a finding that he was in d iv id u a lly responsible for any of the Trustee's damages. The Court holds that the B a n k ru p tc y Court did not err in this finding. For all of the reasons stated above, for all of the reasons stated by Appellees in th e ir briefing on the Trustee's appeal, and for all of the reasons stated by the Bankruptcy C o u rt in its April 23, 2007, Amended Judgment and Amended Findings of Fact and C o n c lu s io n s of Law, the Court AFFIRMS the Bankruptcy Court on all issues raised in the T ru ste e 's appeal. IV . T H E CROSS APPEAL In their cross appeal, Appellees contend that the Bankruptcy Court should not have a llo c a ted any responsibility to C&F. Appellees first argue that the Bankruptcy Court should h a v e found that the actions of Lewis, Wilder, and Dieter were a superceding cause that d e stro ye d any causal connection between C&F's negligence and the damages suffered by the T ru s te e . First, the Bankruptcy Court was correct in finding that the Lewis, Wilder, and D ie te r's fraudulent conduct did not meet at least three of the six factors required to make that co n d u ct rise to the level of a superceding cause under Phan Son Van v. Pena, 990 S.W.2d

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7 5 1 ,7 5 4 (Tex. 1990). Second, because the Bankruptcy Court correctly found that the harm su f f e re d by Sunpoint was a reasonably forseeable consequence of C&F's negligently perform e d audit, Lewis, Wilder, and Dieter's fraudulent conduct was not a superceding cause p re v e n tin g a finding of liability on the part of C&F. Accordingly, the Bankruptcy Court did n o t err in assessing a percentage of liability to C&F. A p p e lle e s also argue that the Bankruptcy Court should have imputed the fraudulent a c ts of Lewis, Wilder, and Dieter to Sunpoint, because Sunpoint benefitted from those acts. T h e Trustee notes that, although Lewis used some of the misappropriated funds to further his o w n personal financial agenda, customer funds were also injected into Sunpoint when it was in danger of being closed by the NASD in 1997 due to an insufficient amount of net capital. H o w e v e r, the Court agrees with the Bankruptcy Court that Lewis, Wilder, and Dieter's f ra u d u len t acts were adverse to Sunpoint's interests and, therefore, cannot be imputed to S u n p o in t. After all, the theft of customer property created a liability on the part of Sunpoint th a t ultimately led to its liquidation. And, as the Bankruptcy Court points out, it is clear that L e w is ' infusion of diverted customer funds into Sunpoint to correct its net capital deficiency w a s a ploy to keep Sunpoint from being closed so that Lewis could continue to benefit from h is fraudulent scheme. A p p e l le e s further argue that the Bankruptcy Court erred in allowing the Trustee to o f f er expert testimony by Lisa Poulin ("Poulin") on the amount and timing of the diversion o f customer funds. Appellees state that the Trustee failed to designate Poulin as an expert

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w itn e ss or to comply with expert witness disclosure requirements. However, the Court finds th a t Poulin's testimony was not expert testimony. Rule 1006 of the Federal Rules of E v id e n c e allows the summary of the contents of voluminous writings, recordings, or p h o to g ra p h s which cannot be conveniently examined in court as long as the underlying m a te ria ls upon which the summary is based are admissible. United States v. Pelullo, 964 F .2 d 193, 204 (3d Cir. 1992). Poulin's testimony described the contents of a summary of v o l u m in o u s business records and the methods she used to create the summary, the ad m issib ility of which neither party disputes. Such testimony is not considered expert t e s t i m o n y. See generally United States v. Hevener, 382 F.Supp.2d 719, 728-31 (E.D.Pa. 2 0 0 5 ). Therefore, the Bankruptcy Court did not err in allowing Poulin's testimony. F in a lly, Appellees argue that the Bankruptcy Court erred in rejecting C&F's claims f o r breach of contract, negligent misrepresentation, and fraud against the Trustee. C&F c laim s that misstatements by Sunpoint and its executives caused it to negligently perform its a u d its . First, the Bankruptcy Court properly found that any breaches of the audit engagement le tte r by Sunpoint did not proximately cause C&F to negligently perform its auditing duties. S e c o n d , the Bankruptcy Court properly found that C&F failed to prove any damages p rox im atel y caused by any breach of contract by Sunpoint. Finally, the Bankruptcy Court d id not clearly err when it found that Appellees could not prevail on their negligent m is re p re se n ta tio n and fraud claims, because any reliance by C&F on misrepresentations by S u n p o in t and its executives was not justifiable.

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F o r all of the reasons stated above, for all of the reasons stated by the Trustee in his b rie f in g on the Appellees' cross appeal, and for all of the reasons stated by the Bankruptcy C o u rt in its April 23, 2007, Amended Judgment and Amended Findings of Fact and C o n c lu s io n s of Law, the Court AFFIRMS the Bankruptcy Court on all issues raised in the . A p p e llee s' cross appeal. V. C O N C L U SIO N F o r all of the foregoing reasons, the Court AFFIRMS the Bankruptcy Court's April 2 3 , 2007, Amended Judgment and Amended Findings of Fact and Conclusions of Law. It is SO ORDERED. SIGNED this 3rd day of December, 2008.

____________________________________ MICHAEL H. SCHNEIDER UNITED STATES DISTRICT JUDGE

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