You Can't Cheat an Honest Man - James Walsh [139]
The lawsuits started in early 1990. Angry investors sued every person and entity connected to Great Rings—the company itself, Zak, the other general partners and CNB. The bank turned around and sued many of the investors, holding them personally liable for loans taken against the worthless Great Rings partnership units.
One of the most important ruling on these cases was the 1993 Connecticut state court decision Connecticut National Bank v. Robert A. Giacomi et al. Clearly astounded by CNB’s actions, the court wrote:
Bankers are regarded in popular folklore as shrewd, tightfisted individuals, unwilling to lend money to anyone unable to prove that he doesn’t need the money in the first place. This case involves bankers of a very different description.... [CNB] made a deal with the promoters of a speculative real estate scheme to give unsecured loans to the investors in that scheme. [R]ather than employing the traditional close scrutiny of a lending bank, it dished out loans to investors it had never seen with a cursory abandon that left the recipients slack-jawed with astonishment.
Of course, there’s no law against loaning money with cursory abandon. But the court was troubled by the shady histories of people like Kenneth Zak. It went on to write:
The promoters here were, essentially, common criminals, who engaged in numerous acts of fraud, forgery, and outright theft of the invested funds. The bank openly allied itself with the promoters and, in effect, became a promoter. ...[T]he general atmosphere of fraud and betrayal in this case [and] the fact that no satisfactory accounting of funds has ever been made...irresistibly lead to the conclusion that the investors’ money was simply stolen.
The court acknowledged that some of the investors had criminal backgrounds themselves—and may have been looking for an easy profit from a sleazy deal. But the argument against CNB—namely, that the bank was a part of the scheme—held up. CNB was in trouble.
The court cited Learned Hand’s statement that, in order to be held as an aider-and-abettor, a person or entity must “associate himself with the venture, participate in it as something that he wishes to bring about, [and] seek by his action to make it succeed.”
CNB associated itself with the venture, participated in it as something it wished to bring about, and sought by its actions to make it succeed. Its involvement was “affirmative, substantial and wrongful.” The court concluded that CNB should not be permitted to recover against the investors. “In a case like this, when the bank went out of its way to act as bait, it cannot complain that the fish were eager to bite.”
When Stockbrokers Push People into Ponzi Schemes
More often than banks, stock brokerages will end up promoting Ponzi schemes. But stock brokerages aren’t always linked so closely with the investments they sell; the key to establishing a brokerage’s liability is proving that it was a “control person.” The 1992 federal appeals court decision Harrison v. Dean Witter Reynolds held one brokerage liable on these grounds.
The Ponzi perps in the case had used Dean Witter’s office space, telephone services, and employee trading accounts in order to perpetuate their scheme. The local management failed to enforce Dean Witter’s own rules to prevent such fraudulent practices.
The same appeals court later upheld a jury finding of liability in a related case, based on the brokerage firm’s:
failure to detect and halt its employees’ fraudulent activities, the complete lack of supervision over their abnormal trading activities, and the firm’s refusal to investigate the obvious rule violations committed by its agents.
In that later decision, the court noted the existence of :
[ S]ufficient evidence for a reasonable jury to determine that had Dean Witter not shut its eyes to the various fraud signs available to it, as it did, the whole scheme could have been detected and shut down by Dean Witter far earlier than when it collapsed.
The problem with the investment world