Ecurities Investor Prot. Corp. v. Bernard L. Madoff Inv. Sec. LLC

• Decision Date: 15 May 2012
• Docket Number: No. 12 MC 115 (JSR).,12 MC 115 (JSR).
• Citation: 476 B.R. 715
• Parties: SECURITIES INVESTOR PROTECTION CORPORATION, Plaintiff, v. BERNARD L. MADOFF INVESTMENT SECURITIES LLC, Defendant. In re Madoff Securities. Pertains to the Following Cases: Picard v. Greiff, 11 Civ. 3775; Picard v. Blumenthal, 11 Civ. 4293; Picard v. Goldman, 11 Civ. 4959; Picard v. Hein, 11 Civ. 4936; and cases listed in Appendix A.
• Court: U.S. District Court — Southern District of New York

476 B.R. 715

SECURITIES INVESTOR PROTECTION CORPORATION, Plaintiff,

v.BERNARD L. MADOFF INVESTMENT SECURITIES LLC, Defendant.

In re Madoff Securities.

Pertains to the Following Cases:

Picard v. Greiff, 11 Civ. 3775;

Picard v. Blumenthal, 11 Civ. 4293;

Picard v. Goldman, 11 Civ. 4959;

Picard v. Hein, 11 Civ. 4936;

and cases listed in Appendix A.

No. 12 MC 115 (JSR).

United States District Court,

S.D. New York.

April 30, 2012.

Supplementing Opinion May 15, 2012.

Oren J. Warshavsky, Nicholas J. Cremona, Tatiana Markel, Baker & Hostetler, New York, NY, for Plaintiff Irving H. Picard, Trustee.

Helen Davis Chaitman, Becker & Poliakoff, LLP, New York, NY, for Greiff Defendants.

Jonathan M. Landers, Jennifer Young, Milberg LLP, New York, NY, for Blumenthal Defendants.

Richard J. Levy, Jr., David C. Rose, Pryor Cashman LLP, New York, NY, for Blumenthal Defendants.

Carole Neville, SNR Denton US LLP, New York, NY, for Hein Defendants.

OPINION AND ORDER

JED S. RAKOFF, District Judge.

A “Ponzi” scheme, by definition, involves the use of funds received from new victims to pay monies transferred to prior victims who seek to withdraw the promised returns on their investments. A perennial issue when the scheme topples is whether and to what extent such transferred funds can be recaptured by a representative of the debtor's estate or otherwise. See generally In re Bernard L. Madoff Inv. Sec. LLC, 654 F.3d 229, 231 (2d Cir.2011). Often, moreover, the resolution of this issue is partly a function of just what kind of Ponzi scheme was involved and what specialized laws were applicable thereto. Thus, in the case of the massive Ponzi scheme perpetrated by Bernard L. Madoff through the instrument of his securities brokerage business, Bernard L. Madoff Investment Securities (“Madoff Securities”), the issue of how to apportion the monies already paid to innocent investors raises complicated questions involving the interaction of federal securities laws, federal bankruptcy laws, and New York State debtor and creditor laws.¹

In the instant four cases—and eighty other cases listed in Appendix A to this Opinion and Order, to which these rulings are, on consent, also made applicable—Irving Picard, the trustee for the Madoff Securities estate appointed under the Securities Investor Protection Act (“SIPA”), 15 U.S.C. § 78aaa et seq., seeks to “avoid” (and thereby recapture), pursuant to 11 U.S.C. §§ 548(a)(1)(A) & (B), § 550(a), and comparable provisions of New York law incorporated by reference under § 544(b), various prior transfers made by Madoff Securities to these defendants. The defendants, in turn, move to dismiss these claims.

The complaints in these cases, of which the Amended Complaint in Picard v. Blumenthal, 11 Civ. 4293, dated December 2, 2011 (“AC”) is typical,² each set forth the following allegations. For many years prior to filing for bankruptcy, Madoff Securities—a securities broker-dealer registered with the Securities and Exchange Commission (“SEC”) under § 15(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78o(b)—purported to operate three business units: an investment advisory unit, a market making unit, and a proprietary trading unit. AC ¶ 19. Clients investing in the investment advisory unit, including the defendants here, signed either a “Customer Agreement,” an “Option Agreement,” a “Trading Authorization Limited to Purchases and Sales of Securities and Options,” or some combination of the three (collectively, the “account agreements”). Id. ¶ 35.³ Pursuant to these agreements, Madoff Securities purported to make securities investments on the clients' behalf. Id. ¶ 36. Accordingly, Madoff Securities sent monthly or quarterly statements to each of its investment advisory clients showing the securities that Madoff Securities claimed to hold for the client and the trades that it claimed to have executed on the client's behalf during the applicable period. Id. ¶ 22.

In reality, the investment advisory unit of Madoff Securities never, or almost never, made the trades or held the securities described in the statements it sent to investment advisory clients, at least during all years here relevant. Id. ¶ 22.⁴ Instead, Madoff Securities operated its investment advisory division as a Ponzi scheme. Id. ¶ 25. Thus, when clients withdrew money from their accounts with Madoff Securities, they did not actually receive returns on successful investments, but instead only the very money that they and others had deposited with Madoff Securities for the purpose of purchasing securities. Id.

Defendants contend that these allegations fail to state a claim against them. On a motion to dismiss under Rule 12(b)(6), a court must assess whether the complaint “contain[s] sufficient factual matter, accepted as true, to ‘state a claim to relief that is plausible on its face.’ ” Ashcroft v. Iqbal, 556 U.S. 662, 129 S.Ct. 1937, 1949, 173 L.Ed.2d 868 (2009) (quoting Bell Atl. Corp. v. Twombly, 550 U.S. 544, 570, 127 S.Ct. 1955, 167 L.Ed.2d 929 (2007)). Additionally, “[a]n affirmative defense may be raised by a pre-answer motion to dismiss under Rule 12(b)(6), without resort to summary judgment procedure, if the defense appears on the face of the complaint.” Pani v. Empire Blue Cross Blue Shield, 152 F.3d 67, 74 (2d Cir.1998).

The defendants first argue that 11 U.S.C. § 546(e) prohibits the Trustee from avoiding transfers under sections 544 and 548(a)(1)(B), i.e., the provisions that, respectively, incorporate New York law and permit avoidance of constructively fraudulent transfers. The Court has previously concluded that § 546(e) “precludes the Trustee from bringing any action to recover from any of Madoff's customers any of the monies paid by Madoff Securities to those customers except in the case of actual fraud.” Picard v. Katz, 462 B.R. 447, 452 (S.D.N.Y.2011). Under ordinary principles of collateral estoppel, this determination likely bars the Trustee from relitigatingthe issue against these defendants, who are for all relevant purposes similarly situated to the defendants in Katz. See Evans v. Ottimo, 469 F.3d 278, 281 (2d Cir.2006) (“Under New York law, collateral estoppel bars relitigation of an issue when (1) the identical issue necessarily was decided in the prior action and is decisive of the present action, and (2) the party to be precluded from relitigating the issue had a full and fair opportunity to litigate the issue in the prior action.”).

Nonetheless, the Court has considered the matter de novo, and, having done so, again concludes, essentially for the reasons stated in Katz, incorporated here by reference, that the rulings there apply equally to the instant cases. Because the Trustee raises some arguments here that were not raised in Katz, however, a few further words may be in order.

Section 546(e) provides that:

Notwithstanding sections 544[and] 548(a)(1)(B) ... of this title, the trustee may not avoid a transfer that is a ... settlement payment, as defined in section 101 or 741 of this title, made by or to (or for the benefit of) a ... stockbroker ... or that is a transfer made by or to (or for the benefit of) a ... stockbroker ... in connection with a securities contract, as defined in section 741(7)....

The Trustee argues that § 546(e) does not apply in these cases because Madoff Securities was not a “stockbroker” under the Bankruptcy Code and/or because defendants' withdrawals from their accounts were neither “settlement payment[s]” nor payments made “in connection with a securities contract.” The arguments are unpersuasive.

As to whether Madoff Securities was a “stockbroker” under the Bankruptcy Code, section 101(53A) of the Code defines “stockbroker” to include entities that “engage[ ] in the business of effecting transactions in securities.” ⁵ Overall, Madoff Securities, which was registered as a stockbroker with the SEC, clearly engaged in securities transactions. Even though the complaints here allege that Madoff Securities' investment advisory division did not actually engage in securities transactions, see AC ¶ 22, the Trustee's accountant's analysis on which that allegation was based also concluded that Madoff Securities as a whole engaged in “legitimate trading” through its market making and proprietary divisions. Looby Decl. ¶ 28. Indeed, it was only by virtue of such trading and its other trappings of legitimacy that Madoff Securities could maintain its registration with the SEC. See id. ¶ 30 (noting that Madoff Securities' market making and proprietary trading divisions generated “outputs for regulatory review including FINRA [and] the Securities & Exchange Commission (‘SEC’)”). Thus, even assuming the truth of the allegation that Madoff Securities' investment advisory division never traded securities on behalf of clients, Madoff Securities nonetheless qualifies as a stockbroker by virtue of the trading conducted by its market making and proprietary trading divisions. See In re Baker & Getty Fin. Servs., Inc., 106 F.3d 1255, 1262 (6th Cir.1997) (applying § 101(53A)'s definition “not on a customer-by-customer basis,” but instead on the basis of “the underlying business at issue”).

Alternatively, even if one artificially separated Madoff Securities into its component parts for purposes of § 546(e)—so that Madoff Securities could somehow be said to be a stockbroker and not a stockbroker—Madoff Securities clearly held itself out to all its customers, including its investment advisory clients, as a firm engaged in the business of effecting transactions in securities. Those clients, the defendants here, having every reason to believe that Madoff Securities was actually engaged in the business of effecting securities transactions, have every right to avail themselves of all the protections afforded the customers of stockbrokers, including the protection offered by § 546(e).

Turning to the Trustee's argument that defendants' withdrawals from their Madoff Securities accounts did not constitute transfers ...