Paper trails and trials

The massive scale of the Madoff fraud has affected investors the world over. Philip Kite reports on liquidator Irving Picard’s attempts to claw back funds in Cayman and BVI

Through his company Bernard L Madoff Investment ­Securities (BLMIS), Bernard Madoff perpetrated probably the largest fraud of all time from the very heart of Wall Street.

The fraud has had huge repercussions across the world, affecting thousands of ­victims, including a significant number of investment funds in the Cayman Islands and the British Virgin Islands (BVI).

The figures are truly enormous. Investors who thought funds into which they had ploughed capital were worth billions in November 2008 discovered in December 2010 that those same funds would in all ­likelihood be worth a mere fraction of their expected value.

Hole digging

Since he was appointed in December 2008, the liquidator of BLMIS Irving Picard has been busy filing claims in the US in an attempt to fill the huge hole left in the BLMIS accounts.

In many cases Picard has concentrated on the investors themselves, in particular those who redeemed some of their investments, on the basis that they should be clawed back under the US Bankruptcy Code and be available for distribution to other investors who may not have redeemed.

Picard has also brought proceedings against parties whom he accuses of having ­constructive knowledge of Madoff’s activities. For example, banking institutions have been accused of being wilfully blind to the Madoff fraud and therefore enabling it.

Some of the targets have settled, ­including the enormous $7bn (£4.29bn) payment recently made by the Picower estate. Others, though, are fighting back.

Picard has also sued those close to Madoff who he alleges were closest to the centre of the fraud and who benefited most from it.

Who to sue

Of course, Madoff needed victims, many of whom invested through offshore funds in BVI and Cayman. Many of these funds are now in liquidation, and these liquidators are reviewing how they can maximise recoveries.

In the Madoff-affected liquidations all that remains are mostly small pots of cash, and so liquidators are looking at litigation options against many parties, including directors, investment advisers and auditors.

For example, the liquidators of Fairfield Greenwich Group have filed many claims in New York, Cayman and the BVI based on alleged mistakes. In brief, the liquidators allege that when investors redeemed (which is of course a very usual practice in the funds industry) Fairfield paid out based on a net asset value that itself was based on a value of BLMIS that was thought right at the time. As the value of BLMIS is now known to be a lot less, the liquidators are attempting to claim the ’mistaken’ redemptions back from investors.

In the New York proceedings, the ­’mistake’ claims are supplemented with BVI Insolvency Act ’unfair preference’ and ’transactions at an undervalue’ claims. These claims are being defended by investors who include a who’s who of ­international financial institutions.

Picard has also tried his luck in the BVI, but so far with limited success. Among other things, he sought recognition in the BVI as a foreign representative; an entitlement to apply to the BVI court for orders in aid of the foreign proceeding; and an entitlement to require any person to deliver up to him any property of BLMIS.

Status stasis

The BVI Commercial Court judge, Mr ­Justice Bannister, rejected the application, holding that the common law concept of recognition has no place under the BVI ­legislation, having been expressly provided for and codified in the Insolvency Act 2003.

Part XVIII of the Insolvency Act has not yet been brought into force and therefore, Bannister J held, foreign representatives are confined to relying upon part XIX, which he said operates on an “application by application” basis.

The key difference between the two is that, whereas part XVIII confers status on foreign representatives through recognition of the foreign proceedings, part XIX merely gives the foreign representative express rights to apply to the court for orders in aid, but without conferring status. Picard’s applications were accordingly ­dismissed.

Cayman obliges

In Cayman there is a number of mistake-type claims and a significant number of feeder funds in liquidation, as well as ­exposure for funds and institutions through investments made on a derivative basis, for example funds investing in total return swaps based on notional
and actual investments in classic feeder funds.

Picard has sought and obtained ­recognition through the Cayman court and practitioners are now watching closely to see his next move.
One thing is certain: there is no end in sight to the litigation fallout from the ­Madoff fraud.

Philip Kite is global head of litigation at Harneys