How SemGroup trustee survived summary judgment in $1.1 bln PwC case

February 4, 2014

If any law firm out there has learned from bitter experience the difficulty of suing audit firms for supposedly helping companies run themselves into ruin, it’s Quinn Emanuel Urquhart & Sullivan. The firm represented litigation trustees for Refco and the Italian dairy company Parmalat, and though Quinn sued the auditors of both fraud-beset corporations, the trustees’ claims foundered on the doctrine of in pari delicto, which holds that one wrongdoer can’t sue another over their joint misconduct. It’s a weird irony of litigation against audit firms: In pari delicto defenses are most powerful in cases brought by former clients (or the shells that remain of those clients) whose fraud is unequivocal.

So when Quinn Emanuel sued PricewaterhouseCoopers on behalf of the litigation trustee of the private oil transport and storage firm SemGroup, it carefully pleaded around in pari delicto. The complaint, filed in 2010 in state court in Tulsa, Oklahoma, asserted claims for professional negligence and breach of fiduciary duty. It does not argue that PwC enabled Thomas Kivisto, the former CEO of SemGroup, when he lost hundreds of millions of dollars in corporate funds through risky trades in oil price derivatives through a separate company owned by him and his wife, or that PwC abetted Kivisto when his similarly speculative trades for SemGroup drove the company into Chapter 11. Instead, the suit asserted that PwC failed to comply with professional standards when it signed off on SemGroup’s financial statements, homing in on the auditor’s supposed failure to assure accurate reporting and adequate corporate controls.

“Kivisto and others were responsible for SemGroup issuing corporate financial statements that misreported these activities,” the complaint said. “PwC, in turn, audited and ‘blessed’ these financial statements year after year as fair and accurate, even though they were not. Had PwC conducted its audits of SemGroup according to even minimal standards of care, Kivisto’s self-dealing and speculative trading would have been revealed, and the devastating financial consequences of each would have been avoided.” (Kivisto settled a Securities and Exchange Commission case accusing him of misleading SemGroup investors about his risky trading in 2011; he and four other former SemGroup executives settled with the litigation trustee for $30 million in 2010.)

The wisdom of Quinn Emanuel’s framing of the case against PwC was borne out last week, when Judge Dana Kuehn of Tulsa County Court denied the audit firm’s motion for summary judgment on the SemGroup trustee’s negligence claim. (She granted PwC summary judgment on the trustee’s fiduciary duty claim.) Kuehn’s ruling means that the trustee, Bettina Whyte, can proceed to an August trial before an Oklahoma state-court jury with claims that PwC’s negligence resulted in $1.1 billion in damages to SemGroup. “The fact that SemGroup’s collapse – in the height of an oil boom – caught SemGroup’s board and so many of its sophisticated stakeholders by surprise suggests something went terribly wrong in the financial reporting process,” said Brian Timmons of Quinn in an email statement. “As SemGroup’s auditor, PwC had a role in that financial reporting process, and we look forward to holding PwC accountable for its role at trial.”

PwC lawyer Gabor Balassa of Kirkland & Ellis had argued at a Jan. 17 hearing before Judge Kuehn that SemGroup management put Kivisto in charge of a program of derivative trading to hedge the company against oil price fluctuations. The company knew full well what Kivisto was doing, he argued, and can’t now blame its auditor for a failed business strategy. “Your Honor, the imputation of Kivisto’s trading conduct and his knowledge about trading to SemGroup defeats the elements that plaintiff must establish here, reliance and causation,” Balassa said. “SemGroup could not have relied on some allegedly incomplete disclosure about its trading activity in its audited financial statements because SemGroup knew through imputation about the trading activity.”

In response, Timmons of Quinn Emanuel emphasized that the trustee’s case is about PwC’s failure to audit SemGroup properly. “The fundamental disconnect is this is not a case where we are suing PwC as a joint tortfeasor in an intentional tort for fraud,” he told Judge Kuehn. “What we are suing PwC for here is auditing malpractice. The focus of our claim is on the way financial information and financial activity that took place at the company was reported in the financial statements.” Citing a 2001 Oklahoma Supreme Court case, Stroud v. Arthur Anderson, Timmons argued that the issue isn’t what SemGroup knew about Kivisto’s risky trades but how those trades should have been reported in SemGroup’s financial statements. That reporting, he said, is PwC’s responsibility. (Timmons also said there’s no evidence SimGroup actually knew how risky Kivisto’s trades were.)

The judge ruled that there are too many disputed issues of fact to grant PwC summary judgment based on in pari delicto defenses. But she also said that the audit firm can make the same arguments to the jury that it did to her. In an email statement, a PwC representative said the firm certainly intends to do so. “SemGroup’s financial statements were correct and PwC’s audit work complied with professional standards,” the statement said. “The losses at issue in this case resulted from business decisions made by SemGroup management and an unprecedented rise in the price of oil in 2008. PwC looks forward to defending its work at the trial in August.”

And if the jury doesn’t agree with the audit firm, I’d say it’s a good bet that Oklahoma appellate courts are going to be hearing an earful about in pari delicto.

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