TBW Plan Trustee v. PwC: A Look at What Led To It and What’s Next

On August 26, the US member firm of PricewaterhouseCoopers LLP settled a $5.5 billion lawsuit mid-trial, after about three weeks of testimony by the plaintiff’s witnesses and before the defense presented its case. The case was brought over PwC’s alleged failure to catch the massive fraud at Taylor Bean & Whitaker Mortgage Corp., while acting as auditor of TBW’s most important business partner, Colonial Bank Group.

The settlement terms were confidential — as has been the case for three other recent large cases brought by bankruptcy trustees against Big 4 auditors—but the lawyer for TBW, Steve Thomas, told the Wall Street Journal that the lawsuit was resolved “to the mutual satisfaction of the parties.”

On August 12 I wrote about the start of the TBW trial and two others PwC is facing in the near future. All of the cases make claims on the PwC US firm and the US firm alone for US only audits, with no other global member firm named as a defendant. The story is probably the most widely read and circulated of any of my stories since I have been at MarketWatch, except for one I wrote about KPMG and the FIFA scandal.

The focus of my story on August 12, at the beginning of the trial, was not on the widely reported stories of the firm’s defense to the allegations or some of the surprising things PwC partners and staff said to support that defense, but on the three car pile-up that was three trials in such a short time, any one of which or in combination could result in verdicts that could put the viability of the U.S. firm and therefore the global franchise at serious risk.

From my MarketWatch story:

The bankruptcy trustee for Taylor Bean & Whitaker Mortgage Corp., once the 12th-largest U.S. mortgage lender, sued PwC for $5.5 billion in damages in 2012 after the bank went bankrupt in August 2009. Federal regulators, not the bank’s auditor, Deloitte, uncovered a $3 billion fraud involving fake mortgage assets. The bankruptcy trustee for Taylor, however, alleges that PwC was negligent in not spotting the fraud from its perch as auditor of Colonial Bank, which bought the allegedly fake mortgages that Taylor Bean had originated and that made Taylor Bean’s losses worse.

Colonial Bank, a Montgomery, Ala., institution with $25 billion in assets, also filed for bankruptcy in 2009. The Colonial Bank bankruptcy trustee and the Federal Deposit Insurance Corp. brought a lawsuit in 2012 against PwC for negligence as the auditor of Colonial Bank, claiming $1 billion in damages.

The FDIC suit against PwC for its Colonial audit was the first FDIC suit against an auditor for a financial crisis fraud or failure. The suit against PwC , and Colonial’s internal audit co-sourcer Crowe Chizek, which comes with a $1 billion damages claim, is scheduled to go to trial in early 2017.

I wrote about the FDIC v PwC suit more than once in late 2012 and my analysis was cited extensively at the time. Deloitte was scheduled to go to trial in the case brought against it as auditor of TBW in June 2013, unless they were willing to pay enough to get out of it.

Alison Frankel of the Thomson Reuters On The Case blog was kind enough in 2012 to point out that I started looking for FDIC suits against auditors in 2011, based on an article written by two lawyers who are typically in the defense side of these cases.

Way back in February 2011, the crackerjack blogger Francine McKenna of re: The Auditors asked an interesting question in a column for Forbes: Given the widespread failures of small and regional banks in the financial crisis, why hadn’t the Federal Deposit Insurance Corporation brought any lawsuits against the audit firms that signed off on reports that turned out to be materially misleading? McKenna noted that two private lawyers had predicted such suits were coming in a column for the Legal Intelligencer, but said so far none had been filed. By then the FDIC was actively pursuing directors and officers of failed banks, but auditors seemed to be off the hook.

The trial TBW v. Deloitte was delayed more than once and Deloitte did eventually pay up to settle in October 2013 shortly before it started.  “The cases were settled to the mutual satisfaction of the parties,” said Taylor Bean Plan Trustee attorney Steven Thomas.

It’s a statement he is getting quite used to using.

The November 2012 Forbes article linked to above also talks about a lawsuit for $ 1 billion in damages against PwC by the MF Global Plan Trustee that is now also scheduled to go to trial in February 2017. You remember MF Global…

On Aug. 5 U.S. District Judge Victor Marrero in Manhattan rejected PwC’s request to dismiss MF Global’s lawsuit alleging professional malpractice that contributed to the October 2011 bankruptcy of the brokerage firm once run by former New Jersey Gov. Jon Corzine.

The MF Global suit is seeking $1 billion in damages, bringing the total potential claims PwC faced over a very short period to $7.5 billion.

In my August 12 article in MarketWatch, I document that auditors escaped early, and for minimal cost, from liability for financial crisis era failures and frauds.

PwC and the other Big Four accounting firms all had major clients that failed, were bailed out or were effectively nationalized during the crisis. None of those cases went to trial. Ernst & Young LLP paid $99 million to investors and $10 million to the New York attorney general’s office for its role as auditor of Lehman Brothers Holdings Inc. KPMG settled its exposures early, and within a week of each other in 2010 settled for an undisclosed amount for its audit of New Century, another big mortgage originator, and paid $24 million for its audits of Countrywide Bank, which was distressed when it was sold to Bank of America BAC, -0.51% .

Deloitte settled its exposure as auditor of Bear Stearns for $19.9 million. Bear Stearns was bought for a relative pittance by J.P. Morgan JPM, -0.21%  during the crisis. Deloitte was also the auditor of Washington Mutual and contributed $18.5 million to a settlement with investors for its negligent audits. Deloitte went on to earn hundreds of millions of dollars reviewing J.P. Morgan’s exposure to foreclosure fraud claims for Bear Stearns and Washington Mutual mortgages it inherited as part of those purchases.

In my August 12 MarketWatch article I cite analysis by Jim Peterson, a former in-house attorney for Arthur Andersen and the author of the book “Count Down: The Past, Present and Uncertain Future of the Big Four Accounting Firms,” who has periodically asked the question on his blog: “How big is the ‘worst case’ litigation hit that would disintegrate one of the surviving Big Four?”

Based on the experience of Arthur Andersen, it is unlikely, Peterson told MarketWatch, that PwC’s non-U.S. member firms would pitch in to pay a U.S.-based catastrophic court judgment or a series of them. Peterson’s most recent update of his tipping-point calculation, completed in early 2015, assumes the U.S. firm is left to pay its own way out, as was Andersen’s U.S. firm. The worst-case tipping points for the U.S. practices shrinks from the $3 billion global number down to $900 million for the most financially vulnerable of the four firms.

These numbers matter, according to Peterson, because the loss of another Big Four firm would throw the entire system into chaos.“There is no contingency plan or readiness among the three survivors to stay in an even more risky business or take on the failed firm’s risky clients or outstanding litigation claims,” he said.

Although representatives of the Big 4 audit firms and those supposedly knowledgeable about its business model dismiss Peterson’s analysis in private, none will disagree with it in public because to do so would require them to present facts and figures that show otherwise.

PwC has a lot more going on besides the Colonial and MF Global trials.

Another large case names PwC’s Brazil member firm for its allegedly negligent audits and failure to detect a multibillion-dollar bribery and corruption fraud at the state-sponsored oil company Petrobras.

Those plaintiffs, which include the Bill Gates Foundation, could decide to name PwC U.S. as a defendant or eventually require the U.S. firm to ante up to pay a verdict that would otherwise knock out the Brazilian firm, a key cog in its service network for multinational clients.

Massachusetts Senator Elizabeth Warren asked the Inspector General of the Department of Justice and the FBI to report back to her why none of the referrals for followup criminal investigations made by the Financial Crisis Inquiry Commission were ever followed up on.  I reported at MarketWatch that one of the referrals made related to the former executives of AIG and its auditor, PwC, as a potential “aider and abetter” of the alleged fraud that led to AIG’s takeover by the U.S. government during the crisis.

Finally, Steve Thomas is back in the courtroom representing investors in Fannie Mae and Freddie Mac who are suing Deloitte and PwC, again, respectively for what they say was complicity with the U.S. government to misstate the financial status of those companies.  The auditors’ alleged acquiescence to the federal government’s plans for the two GSE’s made way for  the FHFA conservatorship and an ongoing sweep of all profits from the two to the U.S.  Treasury, causing significant losses for remaining shareholders.