New York Attorney General Andrew Cuomo on Monday sued J. Ezra Merkin, a prominent financier who sat on the boards of many well-known charities, for feeding his investors' money into the "largest Ponzi scheme in history."
Cuomo's complaint, which raises six civil claims under the state's securities and not-for-proft laws, tallies the losses at $2.4 billion and accuses Merkin of collecting $470 million in fees for placing with Bernard L. Madoff, in whole or in part, assets from three funds Merkin managed.
In a 54-page complaint seeking damages and disgorgement, Cuomo accuses Merkin of duping his customers into believing he was investing their money when in fact he was funneling the money to Madoff to handle.
The complaint described Merkin as holding himself out as an "investing guru" when "in reality" he was nothing but "a master marketeer." The complaint quoted one investor as saying that Merkin was a "glorified mail box."
According to the complaint, Merkin "did not disclose, and actively obscured, that Madoff was actually managing some or all the funds they invested."
Cuomo did not suggest that Merkin knew about Madoff's fraud. However, the complaint said he should have been aware of "red flags" raised by Madoff's activities and was guilty of "deceit, recklessness, and breaches of fiduciary duty."
Merkin's lawyer, Andrew J. Levander of Dechert, called the suit "hasty and ill-conceived." He said the evidence shows that Cuomo's lawsuit is "without merit."
Investors in a group of funds Merkin established in 1992 were "well aware that the money was being invested with Madoff," Levander said in a statement.
In addition, investors in all of Merkin's funds "expressly authorized Mr. Merkin to allocate assets to third party managers such as Madoff without giving them notice or obtaining their consent."
Also Monday, Mortimer B. Zuckerman, the publisher of the Daily News, sued Merkin for $40 million in losses in his funds that Merkin had given to Madoff to invest.
Previously, Merkin had been sued in state court by New York University for the loss of $24 million, and New York Law School has filed a federal class action in the Southern District of New York, seeking to recoup $3 million it placed with Merkin.
NYU's case is before Manhattan Justice Richard B. Lowe, and it is likely the attorney general's case, People v. Merkin, will be assigned to him as a related case. The matter has yet to be assigned an index number, according to the Office of Court Administration.
Harry Susman of Susman Godfrey, who represents Zuckerman, called the attorney general's lawsuit an "important development" that "hopefully will augment" other investors' suits.
It is "100 percent consistent with everything I've heard from people and I've talked to dozens and dozens of investors," Susman said.
Yeshiva University and Bard College, both institutions where Merkin had been a board director, have publicly claimed losses of $15 million and $3 million, respectively. The attorney general's complaint did not name the institutions.
Merkin, whose father donated millions to build Yeshiva University and Merkin Hall in the Lincoln Center area, served on the board of many of the non-profit groups whose funds he invested.
The complaint describes Merkin as having set up three groups of investor funds, one of which, the Ascot funds, was formed in 1992 and was turned over entirely to Madoff's firm, Bernard L. Madoff Investment Securities, to manage.
About 25 percent of his investors' money in two earlier funds, Gabriel and Ariel, also was placed with Madoff, according to the complaint. The net result, the complaint asserted, was that Merkin's' investors lost $2.4 billion of the $4.4 billion they had given to him.
Of the $1.7 billion under the control of the Ascot funds as of May 2008, according to the complaint, $215 million, or about 12 percent, belonged to about 35 non-profit groups. More than half of that amount ($115 million) belonged to groups where Merkin sat on the boards of directors, the complaint states.
"Merkin embedded himself in charitable boards and used those positions to solicit new investments," the complaint stated.
The Attorney General's Office also accused Merkin of commingling his personal funds with the funds of his management company, GCC. Merkin used GCC funds, according to the office, to make purchases for his apartment, including $91 million in artwork.
LAW GIVES STATE EDGE
The attorney general has a substantial advantage over private investors and even the Securities and Exchange Commission in its ability to assert securities fraud claims under the Martin Act, New York General Business Law §352, experts in securities law said.
Under the Martin Act, the attorney general does not need to prove scienter, or guilty knowledge, and that provides him with "a unique advantage," said John C. Coffee Jr., a Columbia University School of Law professor and New York Law Journal columnist whose field is securities law.
By its terms the Martin Act can only be enforced by the attorney general and does not give rise to a private cause of action.
In a recovery action brought by a private investor against a "feeder" fund like Merkin's, in a case involving a Ponzi scheme, the lack of scienter was the stumbling block that caused Southern District Judge Colleen McMahon to dismiss the suit, South Cherry Street v. Hennessee Group, 06-CV-2943. An appeal of that ruling was argued in the 2nd U.S. Circuit Court of Appeals on Jan. 16 and a decision is pending.
Meanwhile, investors and regulators are beginning to go after other feeder funds in an effort to recoup losses from the Madoff scandal.
The top securities regulator in Massachusetts last week brought an administrative proceeding against an alleged feeder fund, Fairfield Greenwich Group. In addition, Boies, Schiller & Flexner has filed a class action in the Southern District against Fairfield Greenwich claiming losses from funds the firm placed with Madoff.
Cuomo said there were "glaring red flags" that should have alerted Merkin to problems with Madoff's investments.
Cuomo said that "two of Merkin's most trusted colleagues repeatedly told Merkin that Madoff's returns were too good to be true."
The complaint also suggested that Merkin did not have confidence in Madoff's work.
"Although Merkin entrusted billions of his investors money to Madoff, and told one investor (Investor A) that the Ascot fund was so safe he 'would put his own mother in it,' Merkin's confidence in Madoff does not appear to have extended to his own investments," the complaint stated.
From 1995 to 2007, the complaint averred, Merkin earned $169 million for work done for the Ascot funds that he did not reinvest in Ascot.
Aside from those fees, the complaint asserted, Merkin invested $7 million in personal and family funds in the first six years after the Ascot funds were formed and "less than $2 million in the following decade."
Levander defended his client on that count, stating that "Mr. Merkin performed extensive due diligence on Madoff and his trading strategy."
"Mr. Merkin's due diligence," Levander added, "just like the detailed investigations performed by countless others, including regulators, was thwarted" by Madoff's "intricate fraudulent scheme."
Madoff, after pleading guilty to 11 felony counts that could bring him a maximum 150 years in prison, has been denied bail and is incarcerated at the Metropolitan Correction Center pending sentencing on June 16.