Ronald R. Peterson, Not Individually But for the Bankrupt Estates of Lancelot Investors Fund, L.P. v. Eide Bailly, LLP

Decision Date05 April 2016
Docket NumberNo. 10 C 8038,10 C 8038
PartiesRONALD R. PETERSON, not individually but as chapter 7 Trustee for the bankrupt estates of Lancelot Investors Fund, L.P., Lancelot Investors Fund II, L.P., Lancelot Investors Fund Ltd., Plaintiff, v. EIDE BAILLY, LLP, Defendant.
CourtU.S. District Court — Northern District of Illinois

Judge Sara L. Ellis


This is one of several suits brought by Ronald Peterson (the "Trustee") as the bankruptcy trustee for Lancelot Investors Fund, L.P., Lancelot Investors Fund II, L.P., and Lancelot Investors Fund Ltd. (the "Lancelot Funds"), in which the Trustee seeks to recover the Lancelot Funds' losses resulting from a Ponzi scheme perpetrated by Thomas Petters.1 In this action, the Trustee seeks to recover from Eide Bailly, LLP ("Eide Bailly"), an accounting firm that was hired in 2008 to audit the financial statements of Thousand Lakes, LLC ("Thousand Lakes"), a special purpose vehicle through which the Lancelot Funds loaned money to Petters' scheme. The Trustee alleges that, in performing the audit, Eide Bailly made negligent misrepresentations that are actionable under Minnesota law. Eide Bailly has moved for summary judgment based on the in pari delicto defense—"the idea that, when the plaintiff is as culpable as the defendant,if not more so, the law will let the losses rest where they fell." Peterson v. McGladrey & Pullen, LLP (McGladrey II), 676 F.3d 594, 596 (7th Cir. 2012). Eide Bailly contends that the court in the McGladrey action already decided the relevant issues and issue preclusion bars the Trustee from relitigating them here. Because the Court finds that issue preclusion applies, establishing the in pari delicto defense, the Court grants Eide Bailly's motion for summary judgment [109].

I. The Present Action
A. The Second Amended Complaint's Allegations

Because Eide Bailly's summary judgment motion relies on issues decided in the McGladrey action, for background purposes, the Court takes the following allegations from the Trustee's second amended complaint: Gregory Bell formed the Lancelot Funds in 2002 to invest in collateralized short-term trade finance notes ("SPV notes") issued by Thousand Lakes. Bell represented and managed the Funds through his management company, Lancelot Management. Thousand Lakes, along with other Petters-controlled entities, purportedly engaged in the business of acquiring and reselling consumer electronics to retailers such as Costco. Thousand Lakes' inventory of electronics stored in warehouses and accounts receivable from Costco and its subsidiary, National Distributors, were to collectively serve as collateral for the SPV notes. All transactions were well-documented, although it later turned out that the documents were fabricated. Petters also put in place a lockbox arrangement giving the Funds control over the bank account into which Costco was to wire payments for the goods, a mechanism intended to provide the Funds with further investment protection.

In December 2007, Thousand Lakes did not make scheduled payments on the SPV notes. Petters represented this was a temporary delay caused by Costco being late in paying ThousandLakes' invoices. In January 2008, as the delay continued, Petters offered to exchange collateral with the Funds, taking past due SPV notes collateralized by Thousand Lakes' accounts receivable from Costco and exchanging them for current SPV notes collateralized by Thousand Lakes' accounts receivable from Walmart or other retailers. Bell agreed to this proposal conditioned on an audit. In February 2008, Petters agreed, retaining Eide Bailly to audit Thousand Lakes. Bell then purchased new SPV notes, with Thousand Lakes using that money to repay the past due SPV notes, engaging in what have been referred to as "roundtrip transactions" between the Funds and Thousand Lakes.

On June 5, 2008, Eide Bailly issued an unqualified audit opinion, representing that the 2006 financial statements fairly represented Thousand Lakes' then financial position and that at the time of the audit, Thousand Lakes was a going concern. The Trustee seeks to hold Eide Bailly liable for "failing to uncover that Thousand Lakes was a sham with no sales, no inventory and no accounts receivable." Doc. 73 ¶ 15. Specifically, the Trustee alleges that Eide Bailly negligently represented to the Funds that "(1) Thousand Lakes' financial statements fairly presented its financial position as of December 31, 2006—a company with over $2 billion in sales revenue and over $1 billion of collateral; and (2) Thousand Lakes was, as of June 5, 2008, a real (not sham) company with substantial sales, inventory and accounts receivable." Id. The audit allegedly caused the Funds to continue making collateralized loans to Thousand Lakes after June 5, 2008, totaling $326.15 million, filing UCC statements reflecting their secured collateral, paying insurance premiums totaling $985,200.03 to insure their collateral, paying Swiss Financial $124,055.94 for investment-related services, and paying Lancelot Management $12,624,276 to manage the Funds.

The Trustee alleges that Bell was never a co-conspirator in Petters' fraud and was unaware of any significant problems, only learning of Petters' scheme when the FBI raided Petters' office in September 2008. The Trustee admits, however, that Bell pleaded guilty to wire fraud in 2009 because the roundtrip transactions concealed from the Funds' investors that Thousand Lakes' payments were delayed by Costco's payment delay.

B. Procedural History

The Trustee filed this action on December 17, 2010. Eide Bailly moved to dismiss the complaint based in part on the in pari delicto defense, but the Court declined to do so, finding disputed issues of fact at the pleading stage. Doc. 36. Eide Bailly then filed an answer, asserting in pari delicto among other affirmative defenses, specifically arguing that the Trustee could not recover because the "Funds, by and through their management, engaged in fraudulent and/or negligent acts or omissions in regard to the Funds' investments, and thereby are at fault for their own alleged injuries," which conduct Eide Bailly contended is imputed to the Trustee. Doc. 37 at 20-21. The Trustee filed a Second Amended Complaint on December 19, 2013. The parties agreed that Eide Bailly did not have to file an answer to the Second Amended Complaint. See Doc. 76 at 2 n.1; Doc. 77 ¶ 4. The parties stipulated that Eide Bailly's answer to the Amended Complaint stands as the answer to the Second Amended Complaint and that Eide Bailly adopted the affirmative defenses it raised in that answer as affirmative defenses to the Second Amended Complaint. See Doc. 122. The Court stayed the proceedings pending the outcome of the appeal in the McGladrey action, which the parties agreed would shed light on the application of the in pari delicto doctrine in this case. See Doc. 95. After the Seventh Circuit's decision in the McGladrey action, the Court granted Eide Bailly leave to file the motion for summary judgment that is the subject of this Opinion.

II. The McGladrey Action

In the McGladrey action, the Trustee sued three related accounting firms (collectively, "McGladrey"), alleging that, in audits McGladrey performed in 2007 and 2008, McGladrey failed to uncover Petters' fraud between 2003 and 2007. See Peterson v. McGladrey & Pullen, LLC (McGladrey III), No. 10 C 274, 2014 WL 1389478, at *1 (N.D. Ill. Apr. 8, 2014), aff'd, Peterson v. McGladrey LLP (McGladrey IV), 792 F.3d 785 (7th Cir. 2015). McGladrey initially filed a motion to dismiss based on the in pari delicto defense, which Judge Bucklo granted. Peterson v. McGladrey & Pullen, LLP (McGladrey I), No. 10 C 274, 2010 WL 4435543 (N.D. Ill. Nov. 3, 2010). In doing so, she found that the defense could be asserted against a bankruptcy trustee. Id. at *3. She also refused to apply the "adverse interest" exception to the in pari delicto doctrine, finding that the exception applies "only where the corporate officers 'act entirely for their own interests and the actions do not benefit the corporation.'" Id. at *4 (quoting Grede v. McGladrey & Pullen LLP, 421 B.R. 879, 886 (N.D. Ill. 2009)). Because the Trustee's complaint alleged that the Funds benefitted from the alleged misconduct, Judge Bucklo concluded that the adverse interest exception did not apply. Id. The Seventh Circuit vacated Judge Bucklo's decision, however, finding that the allegations of the complaint were sufficient to avoid dismissal at the pleading stage. McGladrey II, 676 F.3d at 597. But in doing so, the Seventh Circuit noted that "[t]he Trustee's claims are subject to the same defenses that McGladrey could have asserted had the Funds themselves filed suit," including the in pari delicto defense, which was not superseded by federal bankruptcy law. Id. at 596, 598-99. Additionally, the Seventh Circuit reached the same conclusion as Judge Bucklo with respect to the adverse interest exception, noting that "Bell was not stealing from the Funds, whether or not he was using them to snooker people who had money to invest." Id. at 599.

Back in the district court, after the Trustee amended the complaint, McGladrey sought summary judgment on the in pari delicto defense, contending that Bell's "misconduct as the Funds' manager—including making false representations to potential investors about the 'flow of money' among the entities involved in the investment program, and, later, engaging in a series of fraudulent banking transactions in an effort to conceal Thousand Lakes' delinquency on notes held by the Funds—contributed to the Funds' alleged losses." McGladrey III, 2014 WL 1389478, at *3. The Trustee argued that in pari delicto was not applicable because Bell's misconduct amounted to "a different fraud" than the one he alleged McGladrey missed finding. Id. But Judge Bucklo rejected this argument, determining that as long as McGladrey could show that Bell "bears equal fault for the...

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