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Jenkens & Gilchrist is trying to put its tax shelter nightmares to rest by settling with former clients for $75 million. But the scandal we wrote about in our December 2003 cover story won’t be easy to shake. For starters, the controversy has left the firm in precarious financial shape. Plaintiffs counsel David Deary of Shore Deary in Dallas investigated Jenkens’ finances before agreeing to the settlement; he describes the firm as “very fragile.” Jenkens’ lawyer, Rod Phelan of Baker Botts in Dallas, says that the controversy has been “very hard” on the firm. Competing firms have tried to use the deluge of bad publicity to poach clients, although none have been successful to date, says firm chair Thomas Cantrill. After months of scandal and Internal Revenue Service scrutiny, Jenkens put a stop to the tax shelter work done by Paul Daugerdas, a partner in the firm’s Chicago office. At its peak, his business was extraordinarily profitable — sources at the IRS and the U.S. Department of Justice estimate that Daugerdas earned hundreds of millions of dollars in fees since joining Jenkens in 1998. The firm is suffering internal turbulence as well. In January, William Durbin resigned as chair, only two months after being re-elected to the position. That move was caused, at least in part, by what Cantrill describes as “unrest” following the jettisoning of some unprofitable shareholders. And a throng of lawyers has left voluntarily, dropping the firm’s head count from more than 600 lawyers in 2001 to 466 today. Cantrill says the situation is calming. The firm is “evaluating” Daugerdas’ status, according to Cantrill. Neither Daugerdas nor his lawyer, Larry Black of Austin, returned phone calls seeking comment. The settlement calls for Daugerdas himself to pay about $4 million. Jenkens will pay $5.25 million, and tax partners Donna Guerin and Erwin Mayer will pay a total of about $2 million. Jenkens’ malpractice carriers will pay the rest. The firm’s primary insurer, Executive Risk Indemnity Inc., had previously disclaimed coverage for the litigation, arguing that Jenkens had already drawn on its policy to settle an earlier tax shelter case, and that the policy doesn’t cover reimbursement of clients for fines imposed by the IRS. The insurer has agreed to abate a pending declaratory judgment action if the settlement is approved. The litigation was started by former Jenkens clients who got opinions from the firm about tax shelters. They claim that the shelters were scams and that Daugerdas knew it. They are seeking to recover fees paid to Jenkens, as well as any fines imposed by the IRS. The agreement requires Jenkens’ lawyers to sit for interviews and to produce documents showing how the shelter schemes were put together and sold. Deary will then use the information to make cases against Jenkens’ codefendants, a long list that includes Sidley Austin Brown & Wood; Ernst & Young, L.L.P.; and Deutsche Bank Securities Inc. How dire is the firm’s situation? It’s hard to tell, since Jenkens has an incentive to cast doubt on its chances of survival. The settlement could fall apart if any of the former clients opt out. One way to prevent that is to send the message that the firm won’t survive a blizzard of individual suits. One such suit could come from Blair Fensterstock, a lawyer in New York who has a shelter case pending against Jenkens, has retainer agreements with about 10 more shelter clients, and has spoken to dozens more. “I don’t know how you could arrive at a fair dollar figure without knowing the size of the class or the amount of fines those people will have to pay,” says Fensterstock. “Fensterstock should consider the consequences of a free-for-all,” responds Phelan. “How many verdicts does he think Jenkens — or any law firm — can sustain?” Deary’s interest is aligned with Jenkens’: “I’d expect the firm to implode if one of these cases goes to trial and the jury returns a big verdict. That would leave everybody else without a remedy,” he says. But firm chair Cantrill finds it hard to play that game, instead focusing on the great things to come if and when the firm can move beyond the shelter controversy. There’s no resolution in sight on the government side of the controversy. In February the IRS and Justice revved up their attempt to find Jenkens’ tax clients, arguing that their identity wasn’t privileged because communications between them and the firm were done “for the purpose of committing a crime or a fraud.” Meanwhile, the threat of criminal prosecution looms. Jenkens worked with KPMG on shelters. The U.S. Attorney’s Office in New York is investigating KPMG. What about Jenkens? The Justice Department won’t say. Phelan says the firm hasn’t received any communication from that office. Stay tuned.

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