COURT REJECTS HEDGE FUND LIQUIDATOR’S CLAIM AGAINST AUDITOR
The New York State Supreme Court granted summary judgment to an audit firm sued by the liquidators of a hedge fund that claimed the audit firm was negligent in failing to detect the fund manager’s fraudulent securities valuations and alert directors. The fund went into liquidation as a result of the precipitous decline in the mortgage-backed securities market and alleged inflated securities valuations. The court essentially accepted the audit firm’s defense that the bankruptcy trustee, which stands in the shoes of the bankrupt itself, cannot bring a claim against a third party for a wrongdoing partially caused by the corporation itself. The court argued that the fund managers did not act outside the scope of their employment because the inflated securities valuation served to benefit the fund by raising capital.
OUR TAKE: This case, if applied generally, would help insulate third parties from alleged liability in fund failures to the extent that the third party did not breach an independent fiduciary or contractual duty. The court is taking the position that a bankruptcy trustee cannot take the position that the fund was an innocent victim when the fund managers firmly controlled the fund.