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Ponzi Scheme Victims Unite, Steer Bankruptcy to Help Each Other

May 27, 2021, 10:01 AM

California real estate mogul Kenneth Casey swindled more than 1,300 investors out of hundreds of millions of dollars in a Ponzi scheme. Now his victims are taking control in a Chapter 11 so collaborative it has veteran bankruptcy attorneys stunned.

“It’s been a process that I’ve never seen before,” said Michael I. Goldberg of Akerman LLP, who specializes in Ponzi schemes and is involved in the case. “The victims here really are sort of amazing.”

The scheme, which didn’t come to light until Casey’s death in May 2020, sparked a Chapter 11 case when seven defrauded investors forced one of Casey’s companies into involuntary bankruptcy. An affiliate filed voluntarily ten days later, and eventually dozens of related entities’ bankruptcy cases were consolidated.

On Thursday, the U.S. Bankruptcy Court for the Northern District of California will consider a “single pot” bankruptcy plan that would pool all assets and distribute proceeds equally among victims, regardless of the type of investment made.

Creditors in bankruptcy often square off against each other to get as much as they can from limited assets. In this case, the investors coordinated early on and decided that they’d all benefit more by working together.

Their initiatives provide a template in other bankruptcies involving crime victims, bankruptcy professionals said. One law firm already has adopted the investors’ methods to change its engagement with abuse survivors in the Boy Scouts of America’s bankruptcy.

The investors in Casey’s scheme have driven every step of the bankruptcy process. Meeting weekly on Zoom calls with as many as 700 attendees, they’ve held votes to hire professionals, filed court objections, and insisted on strategies that prioritized cooperation over conflict.

“The idea was that the victims took care of each other,” said Robbin Itkin of Sklar Kirsh LLP, an attorney for one of two ad hoc committees that represent investors. The objective was that “no one should be further devastated.”

Investors expect to recover from 35% to 50% of the estimated $300 million they are owed, according to attorneys and court filings. Some of the recovered amount may be subject to clawbacks if investors unwittingly got more from the Ponzi scheme than what they put in. So far 99.8% of creditors have voted in favor of the plan.

Predictable Returns

Casey offered a variety of ways to invest in his two Novato, Calif.-based companies, Professional Financial Investors Inc. and Professional Investors Security Fund Inc.

Investors could use several different vehicles to put money into one of 40 business entities that owned some 70 apartment and office buildings in Marin and Sonoma Counties in Northern California.

Returns were so predictable that investors relied on them like Social Security payments, said Cecily A. Dumas of Baker & Hostetler LLP, who represents an ad hoc group of victims who invested by buying deeds of trust. Those investors thought their money was safely secured by liens on real estate, Dumas said.

In reality, Casey—who previously spent time in prison for tax evasion and bank fraud—was co-mingling all of the funds he took in.

“No matter what property was generating the money, they used whatever cash was available to pay the obligations,” Dumas said. “There was no rhyme or reason as to how they used that cash.”

In a plea deal reached in December, PFI’s former CEO Lewis Wallach admitted to helping Casey run the scheme, plus embezzling $26 million for himself.

‘Shared Advantage’

The scheme unraveled when Casey died and his ex-wife, who was named as trustee, hired a law firm to transition the business. Recognizing financial irregularities, the firm notified the Securities and Exchange Commission and sent a letter to investors.

“It was a scary letter,” said Keith Merron, a 64-year-old investor who lost nearly all of his retirement savings.

Merron didn’t want to wait to see how things would unfold. Within 24 hours, he was hosting a Zoom call with several dozen investors.

“As we pooled our knowledge, it became clear to me pretty quickly that there was a high danger we would shoot each other in the foot,” Merron said. “There was a risk that we would all hurt each other if we all lawyered up. I said, ‘Let’s not do that. Let’s think about our shared advantage.’”

The investors leveraged the community’s professional expertise, forming groups of volunteers to vet attorneys, research property values, analyze the business, and track down other investors.

They created a website, multiple Facebook groups, and a Joinit.org database that accumulated more than 950 names.

To mitigate conflict, they formed ad hoc committees for different types of investments so that everyone would have an advocate in the bankruptcy case. Then they only hired attorneys who committed to working with each other, Merron said. In bankrtupcy cases, ad hoc committees are usually formed independently by groups of like-minded creditors who want their interests heard.

“We wanted them to be collaborators,” he said. “That was the strategy right from the get-go.”

In addition to forming the ad hoc committees, investors volunteered to serve on the official committee of unsecured creditors, which is selected in a formal process and has a fiduciary duty to all creditors in a bankruptcy case.

Hundreds of Investors

One investor reached out to Goldberg, who leads Akerman’s fraud and recovery practice.

“I get on a Zoom call a couple of days later and I’m shocked. There are about 400 of them,” said Goldberg, who spent three hours answering questions.

The U.S. Trustee’s Office, the Justice Department’s bankruptcy watchdog, moved to appoint a trustee in the case. But investors opposed it and sought to appoint Goldberg as an independent director of the bankrupt companies. After the investors filed a petition with 868 signatures, the court denied the U.S. Trustee’s motion.

Volunteers screened investor questions from the website weekly and passed them on to committees. The attorneys representing the three investor committees met weekly to coordinate efforts and prep for questions they planned to take on the evening call.

Debra Grassgreen of Pachulski Stang Ziehl & Jones LLP, who represents the official committee of unsecured creditors, never imagined she’d do weekly Q&As to answer hundreds of investors’ questions “on the fly.”

“My initial instinct was to pull back,” Grassgreen said. Then she realized that the transparency was helping everyone work through the process.

The format inspired her firm, which also represents abuse survivors in the Boy Scouts bankruptcy, to set up online town hall meetings that drew thousands, she said. The format gives victims a safe place to share and get questions answered while maintaining anonymity, she said.

Some PFI investors on a recent Zoom call looked deflated when Grassgreen told them they wouldn’t need to meet as often once the firm’s Chapter 11 plan gets confirmed, she said. “One woman called it out: ‘I have a little abandonment syndrome,’” Grassgreen recalled.

“They’ve created a community, bonded by this terrible experience they’ve all been through, and they’ve all helped each other,” Grassgreen said. “They started it, we continued it through, and it has worked.”

To contact the reporter on this story: Leslie A. Pappas in Wilmington, Del. at lpappas@bloomberglaw.com

To contact the editors responsible for this story: Laura D. Francis at lfrancis@bloomberglaw.com; Roger Yu at ryu@bloomberglaw.com

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