​Stakeholders in the Madoff Scandal and Their Need to Act Promptly and Proactively – Installment 2

January 21, 2009Articles White Collar Compliance & Defense Blog

This is the second in a series of installments on this blog that will discuss some of the threshold issues that face the manifold stakeholders who have been materially affected by the Bernard L. Madoff scandal, allegedly the longest, most widespread and financially devastating Ponzi scheme on record. All potential stakeholders should consult professional advisors promptly to have their positions evaluated.

We will begin by discussing further Direct Individual Investors (“DII”) and then move on to Direct Entity Investors (“DEI”).

Direct Individual Investors (“DII”) (continued)

Those who are DIIs and were “fortunate” enough to have secured distributions through redemptions from Madoff in the past may believe that they were lucky or brilliant to have withdrawn money before his arrest. However, they may confront efforts by trustees or regulators to “claw back” such distributions to the extent they were materially disproportionate to the withdrawals of the average investor. The likely theory for a “claw back” would be that all of the investors were engaged in a unitary integrated failed enterprise and that no single investor should have fared better proportionately than the average investor, whether wittingly or unwittingly. To a certain degree, the energy that will be undertaken to pursue a DII will depend on (i) the absolute amount in dollars of the disproportionate distribution to such DII, (ii) how long ago the redemption(s) took place and/or (iii) the relative level of disproportion. The “claw back” process may become complex and could even be affected by state law, which may differ from state to state. Competent professional advice for DIIs is a necessity in this area.

There may be some DIIs that have been so adversely affected by the aftermath of the Madoff scandal that they could be considering bankruptcy, selling their residences to raise funds or other precipitous measures. For example, housing prices are deeply depressed in many areas, which can greatly limit the recovery on a sale, especially if there is a mortgage present. Moreover, in some states, there are strong homestead laws that exempt houses from being included in bankruptcy or other insolvency procedures. Again, competent professional advice for DIIs is a necessity in this area.

Direct Entity Investors (“DEI”)

There are many types of potential DEIs that may have invested with Madoff. These include trusts, hedge funds or other investment managers and vehicles, charitable organizations, etc. This blog will endeavor to cover some of the DEIs that have been most prominent in recent publications.

Hedge funds, investment managers and other investment vehicles (“Funds”) have surfaced as major victims of investing with Madoff. While such Funds may be victims, the managers of these Funds may have their own problems in that they charge their own investors a management fee, generally tied to the level of assets under management (1% to 2%) and/or a performance fee that may be as much as 20% of returns or returns above a specified threshold (“Fees”). In cases where such Funds simply turned over substantial assets to Madoff for investment by him and such Funds took their standard Fees on such assets, investors in the Funds may have a legitimate objection that such Fees should be disgorged in light of the fact that the managers of such Funds did not perform investment management services that warranted the Fees. Additionally, depending on the publications by the Funds of their purpose, investment style and other disclosures, there may be a potential cause of action against the managers of such Funds for investing outside of the stated investments for the Funds or even negligence or breach of fiduciary duty in the selection of an investment with Madoff. The issues are complex for both the Funds and their managers and individuals who invested in the Funds and became indirect victims of Madoff.

[To be continued in Installment 3]