Editors’ Note: This article has been updated to reflect a Correction.
Cadwalader Wickersham & Taft has won dismissal of a claim that it committed malpractice by failing to give appropriate advice to a Japanese asset management firm about a mortgage securitization, though it must still face a claim that it failed to do due diligence.
The company, Nomura Asset Capital Corp., claimed that Cadwalader failed to advise it of rules that the mortgages had to satisfy to qualify for a federal tax benefit, ultimately causing Nomura to pay a $67.5 million settlement.
But a 3-1 Appellate Division, First Department, panel ruled Thursday in Nomura v. Cadwalader, 116147/06, that Cadwalader had shown that it did, in fact, advise Nomura about the rules, partially reversing Manhattan Supreme Court Justice Melvin Schweitzer (See Profile). The majority said that only one allegation, that Cadwalader failed to do due diligence before providing an opinion about the securitization, could go forward. Justice Rosalyn Richter (See Profile) wrote the majority opinion, joined by Justices John Sweeny (See Profile) and Dianne Renwick (See Profile).
Justice David Friedman (See Profile), dissenting in part, said that the entire suit should have been dismissed.
The case centers on a pool of 156 commercial mortgages, worth about $1.8 billion, that Nomura securitized in 1997.
Nomura was an “industry leader” in originating and securitizing commercial mortgage loans in the 1990s, according to the First Department’s decision. Nomura typically securitized its mortgages through a type of trust called a “real estate mortgage investment conduit,” or REMIC, which was eligible for federal tax benefits. To qualify for REMIC, a mortgage loan must be secured by real property worth at least 80 percent of the loan’s value. The valuation, for REMIC purposes, counts only the land and buildings on it, not the value of any going concern occupying the property. It may include equipment belonging to a business if that equipment is a structural component of a building, but not if it is an accessory to business operations.
One of mortgages in the 1997 securitization, called the D5 Securitization, was a $50 million loan Nomura made to Doctors Hospital of Hyde Park, an acute care facility in Chicago. Nomura’s appraiser valued the hospital at $68 million, more than satisfying the REMIC rules. However, the valuation incorrectly included the value of the hospital business. The appraised value of the land and hospital building alone was only about $31 million. Even assuming that all of the hospital’s equipment was REMIC-eligible, the property would have barely cracked the 80 percent minimum.
Nomura hired Cadwalader as counsel to advise it in the D5 Securitization. On the closing date of the securitization, the firm issued an opinion letter saying, among other things, that the mortgages were REMIC compliant. The letter identified the documents the firm relied on, including Nomura’s appraisal documents, in reaching its conclusion.
After the securitization was completed and sold to investors, the hospital went bankrupt and defaulted on its mortgage. LaSalle Bank National Association, acting as trustee for the investors, sued Nomura, alleging that Nomura had to repurchase the Doctor’s Hospital loan because it breached a warranty saying that it was REMIC-eligible. Nomura settled that case for $67.5 million in 2006.
In 2006, Nomura sued Cadwalader for malpractice. It alleged that the firm failed to advise it of the REMIC rules, and failed to do due diligence before issuing its opinion letter. Schweitzer denied Cadwalader’s summary judgment motion in January 2012 (NYLJ, Jan. 17, 2012). Cadwalader appealed.
Richter, in Thursday’s opinion, said that Cadwalader had shown, during discovery, that it gave the appropriate advice. She pointed to the testimony of a former Nomura vice president, Perry Gershon, who testified that the firm properly advised it about REMIC before the securitization. Richter said that Schweitzer wrongly doubted Gershon’s testimony because Gershon did not remember the details of the REMIC rules during his deposition, and because Gershon is married to a Cadwalader attorney who worked on the case, Lisa Post.
“Contrary to the motion court’s conclusion, we find nothing inconsistent in Gershon’s testimony,” Richter wrote. “Gershon’s alleged inability to succinctly articulate the REMIC rules during his deposition, which took place more than 10 years after the advice was given, does not refute his unrebutted testimony that Cadwalader advised him of the relevant rules at the time of the D5 Securitization. Nor does the fact that Gershon is married to one of the Cadwalader attorneys who worked on the transaction, standing alone, raise an issue of fact.”
Richter also said that Nomura relied on “isolated sections” of testimony from some of its employees saying that they weren’t told the REMIC rules.
“Merely because a Nomura employee may have failed to understand certain REMIC principles, does not, absent more, raise an issue of fact as to whether the advice was given in the first place,” she wrote.
She ruled, therefore, that the part of the suit alleging that Cadwalader failed to advise Nomura about REMIC must be dismissed.
However, she said there was an issue of fact as to whether the firm did due diligence before issuing its opinion letter because a document sent by Nomura to the firm shortly before the closing, titled “Deal Highlights,” referred to the hospital as being secured by its “operations” in addition to the real property. This may have been enough to raise a “red flag” that should have prompted Cadwalader to inquire further, she said.
Friedman, in his dissent, said that all of the loans in the securitization had commercial operations on the underlying properties, and therefore “the same could be said of every one of the 156 loans.”
Since it is undisputed that Cadwalader had no duty to review every loan, he said, the Deal Highlights document did not create a duty to review the Doctor’s Hospital loan.
Friedman also noted that the Deal Highlights document was barely mentioned by the parties during the litigation, and not at all at oral argument.
“I cannot fault the parties for having failed to anticipate the epochal significance with which the majority invests the Deal Highlights document,” he said.
Cadwalader is represented by David Marriott and Evan Chesler, partners at Cravath Swaine & Moore.
Cadwalader said in a prepared statement that the firm was pleased with the decision.
Nomura is represented by Amianna Stovall, a partner at Constantine Cannon, and Joel Chernov, of counsel at that firm. They could not be reached for comment.
@|Brendan Pierson can be contacted at firstname.lastname@example.org.