MCA Financial Corp. v. Grant Thornton, LLP

• Decision Date: 29 September 2004
• Docket Number: Docket No. 244972.
• Citation: 687 N.W.2d 850,263 Mich. App. 152
• Parties: MCA FINANCIAL CORPORATION, MCA Mortgage Corporation, Mortgage Corporation of America and Rimco Realty and Mortgage Company, Plaintiffs-Appellants, v. GRANT THORNTON, L.L.P., and Doeren Mayhew & Company, P.C., Defendants-Appellees.
• Court: Court of Appeal of Michigan — District of US

687 N.W.2d 850

263 Mich. App. 152

MCA FINANCIAL CORPORATION, MCA Mortgage Corporation, Mortgage Corporation of America and Rimco Realty and Mortgage Company, Plaintiffs-Appellants, v. GRANT THORNTON, L.L.P., and Doeren Mayhew & Company, P.C., Defendants-Appellees.

Docket No. 244972.

Court of Appeals of Michigan.

Submitted July 20, 2004, at Detroit.

Decided July 29, 2004, at 9:00 a.m.

Released for Publication September 29, 2004.

Bodman, Longley & Dahling LLP (by James J. Walsh, Alan N. Harris, and Matthew T. Jane), Ann Arbor, for the plaintiffs.

Law Offices of John A. Libby, P.C. (by John A. Libby) and Cohen & Grigsby, P.C. (by Richard R. Nelson, II, and Larry K. Elliiott), Pittsburgh, PA, for Grant Thornton, L.L.P. Troy.

Young & Susser, P.C. (by Rodger D. Young, Steven Susser, and Terry Milne Osgood), Southfield, for Doeren Mayhew & Company, P.C.

Before: SAWYER, P.J., and GAGE and OWENS, JJ.

SAWYER, P.J.

In this case, we are asked to address the question whether a corporation may recover damages from its auditors where the auditors certified what proved to be false financial statements and the corporation subsequently went into bankruptcy. We agree with the trial court that the wrongful conduct of individual corporate officers may be imputed to the corporations, thus precluding the corporations from maintaining an action against the auditors. Because it is undisputed that various corporate officers engaged in such wrongdoing and plaintiffs present no evidence to establish a genuine issue of material fact to support application of the adverse interests exception to the imputation rule, we affirm the trial court's grant of summary disposition in favor of defendants.

Plaintiff MCA Mortgage Corporation, a mortgage bank, was founded in the mid-1980s. In the 1990s, plaintiff MCA Financial Corporation was created to serve as the holding company of MCA Financial and subsidiaries, including plaintiffs Mortgage Corporation of American and RIMCO Realty and Mortgage. Although started as a traditional mortgage banking business, the MCA group expanded into subprime mortgage lending, land contract syndication, loan servicing, and real estate sales. According to plaintiffs, by the end of 1998, the MCA group had over 900 employees and branch offices in ten states, and was the largest owner of residential real estate in Detroit other than the city itself.

In addition to investments by shareholders, MCA formed investment "pools" for investments in land contracts. Investment certificates were sold through securities dealers that sold interests in a group of land contracts and made quarterly distributions to the investors as the land contract payments were received. According to plaintiffs, over 150 such pools, most with an initial value of $1 million, had been organized by the time of the corporation's collapse.

The MCA group ceased operations on January 22, 1999, and terminated its employees and officers. The following week, the Financial Institutions Bureau seized plaintiffs and appointed a conservator. Thereafter, MCA filed voluntary petitions in bankruptcy court. The instant action was instituted by the liquidating agent. According to plaintiffs' brief, the losses of the investors and lenders approach $200 million.

Both state and federal law enforcement officials brought criminal charges against various officers of plaintiffs, alleging various securities fraud and other charges arising out of plaintiffs' operations. Some, but not all, of MCA's board members have been implicated in the wrongdoing. These investigations have resulted in criminal convictions.

At the risk of oversimplifying the factual background, the improprieties in this case arise out of how transactions between MCA and its subsidiaries were reflected on the financial statements, resulting in a misstatement of plaintiffs' financial condition. At the heart of plaintiffs' allegations against defendants is the claim that defendants were aware of, or should have discovered, the accounting irregularities in the financial statements and should have disclosed these irregularities to MCA's board of directors. Plaintiffs further argue that, had the irregularities been exposed earlier by defendants, MCA's insolvency would have been detected no later than 1994, which would have reduced the magnitude of the financial losses suffered by MCA's collapse.

Given the procedural posture of this case, we shall assume, without deciding, that plaintiffs can, in fact, factually establish that there were accounting irregularities, that defendants knew of (or could have detected) those irregularities, and that, had defendants disclosed these irregularities upon discovery, the financial losses suffered by the MCA insolvency would have been less. But even with these assumptions, we are not persuaded that the trial court erred in granting summary disposition in favor of defendants.

The trial court's grant of summary disposition is based on two principles. First, that the wrongful conduct of some of MCA's officers can be imputed to the corporation and, second, that the corporation cannot recover based on its own wrongful conduct. We agree with the trial court that the officers' conduct may be imputed to the corporation and, therefore, defendants may successfully raise the wrongful conduct defense.

As the Supreme Court explained in Orzel v. Scott Drug Co,¹ Michigan follows the wrongful-conduct rule, which precludes a plaintiff from recovering on a claim that is based on the plaintiff's own wrongdoing:

When a plaintiff's action is based, in whole or in part, on his own illegal conduct, a fundamental common-law maxim generally applies to bar the plaintiff's claim:

"[A] person cannot maintain an action if, in order to establish his cause of action, he must rely, in whole or in part, on an illegal or immoral act or transactions to which he is a party. [1A C.J.S. Actions, § 29, p. 386. See also 1 Am. Jur. 2d, Actions, § 45, p. 752.]"

When a plaintiff's action is based on his own illegal conduct, and the defendant has participated equally in the illegal activity, a similar common-law maxim, known as the "doctrine of in pari delicto" generally applies to also bar the plaintiff's claim:

"[A]s between parties in pari delicto, that is equally in the wrong, the law will not lend itself to afford relief to one as against the other, but will leave them as it finds them. [1A C.J.S. Actions, § 29, p. 388. See also 1 Am. Jur. 2d, Actions, § 46, p. 753.]"

Orzel² went on to explain the rationale behind the wrongful-conduct rule:

The rationale that Michigan courts have used to support the wrongful-conduct rule are [sic] rooted in the public policy that courts should not lend their aid to a plaintiff who founded his cause of action on his own illegal conduct. Manning [v Bishop of Marquette, 345 Mich. 130, 133, 76 N.W.2d 75 (1956)]. Glazier [v. Lee, 171 Mich.App. 216, 220, 429 N.W.2d 857 (1988)]. If courts chose to regularly give their aid under such circumstances, several unacceptable consequences would result. First, by making relief potentially available for wrongdoers, courts in effect would condone and encourage illegal conduct. [Miller v.] Radikopf [394 Mich. 83, 89, 228 N.W.2d 386 (1975)]. Second, some wrongdoers would be able to receive a profit or compensation as a result of their illegal acts. Third, and related to the two previously mentioned results, the public would view the legal system as a mockery of justice. Fourth, and finally, wrongdoers would be able to shift much of the responsibility for their illegal acts to other parties.

See also Ameriwood Industries Int'l Corp

v. Arthur Andersen & Co³ (applying the in pari delicto doctrine under Michigan law in an accounting malpractice case).

In the case at bar, plaintiffs' claims are based on the wrongful conduct of certain officers of the corporation. Indeed, that conduct has resulted in criminal convictions. Therefore, if that illegal conduct of the officers can be imputed to the corporation itself, then the wrongful-conduct rule could apply to bar recovery by plaintiffs against defendants. Before reaching the question whether that illegal conduct can be imputed to the corporation, plaintiffs offer other arguments why the wrongful-conduct rule should not be applied.

First, plaintiffs argue that this case differs from Orzel with respect to the nature of the conduct of the defendants in the two cases. In Orzel, the defendant acted negligently in filling otherwise valid prescriptions; that is, that the defendant's pharmacist should have recognized that the plaintiff was abusing a drug that had been prescribed and should have either refused to fill the prescription or at least alerted the plaintiff's family to the situation. In the case at bar, plaintiffs argue that defendants affirmatively told plaintiffs' management that it was proper to report, as plaintiffs' brief describes it, "sham assets" and "bogus revenues" in the financial statements. That is, plaintiffs argue that defendants in this case affirmatively engaged in wrongdoing, while in Orzel the defendant was merely negligent in failing to act. We disagree with plaintiffs' argument for two reasons.

Initially, we note that, while plaintiffs' brief argues that defendants affirmatively told plaintiffs' management that it was proper to report the transactions with the subsidiaries as they did, that is not how the matter was pleaded in the complaint. That is, while plaintiffs now argue a theory of liability based on what defendants allegedly did, the complaint speaks in terms of what defendants failed to do. The failure to act theory contained in the complaint is essentially the same theory of liability as in Orzel that liability is premised on the failure to do something. Thus, while plaintiffs correctly note that it was not alleged in Orzel that the defendant had affirmatively urged the plaintiff to use the prescribed drug, or even reported to the plaintiff's family that...