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It appears that the rule of law has not completely died out in the United States. In a 3-0 decision, the 2nd Circuit overturned a judgment against McKinsey and a group of its affiliates in the bankruptcy of Jay Alix, founder and major shareholder of bankruptcy boutique Jay Alix & Co. Perjury and fraud in bankruptcy court, which Alix says has harmed him commercially.1
We’ve embedded the 2nd Circuit decision at the end of this article, which is highly recommended for you to read in its entirety. In addition to being very well drafted, it will help readers understand why filing a civil RICO lawsuit is not a hot idea, so it is not often done despite the potential for triple damage. We’ve mentioned before that they have a high standard of proof and the filing is a little bit about how courts assess civil RICO claims.
While the decision also provides a succinct review of Alix’s allegations, we thought we would turn the microphone over to The ever-active Dealbreaker, which wrote the original case:
Being a trustee is really tiring, ask the asset management industry, which one try like hell To avoid such designation, but now who labor under its onerous terms.
At least fund managers only need to balance their own monetary interests with those of their clients! Advisors must do the same, but also balance the client’s competing interests, also known as “conflicts of interest.” It’s really hard to be a huge consulting firm without that. However, if a consulting firm wants to do some lucrative bankruptcy counseling, great! This is a trustee. That’s why, on average, Chapter 11 bankruptcy filings contain hundreds of pages of disclosure about potential conflicts of interest of the professional firms engaged in these reorganizations. By comparison, McKinsey & Company, one of the largest such firms, averaged all five disclosures per filing. five! His average was 117; one company disclosed more than 1,000 potential conflicts in a 2011 filing by American Airlines.
It doesn’t sound right to a person. Or rather, it did. Because that man is Jay Alix, founder and namesake of consulting firm AlixPartners, which has been losing ground at McKinsey for years. Jay Alix suspects that McKinsey’s precious few disclosures are not the result of McKinsey’s almost complete absence of potential conflicts, but rather the result of McKinsey’s decision not to disclose McKinsey’s potential conflicts. Among other misconduct, even!And now, Jay Alix says so Litigation form.
Mr. Alix, founder of consulting firm AlixPartners, filed a lawsuit under the federal Racketeering Influence and Corrupt Organizations Act, alleging that McKinsey “willfully and under oath made false and materially misleading statements” when it was hired as bankruptcy counsel.
The claims allowed McKinsey to “unlawfully conceal many of its important ties to ‘stakeholders'” in the bankruptcy case. It said McKinsey would not have been able to handle the cases if the links were known.
The complaint also accuses McKinsey of offering “paid” deals to various bankruptcy lawyers, in which McKinsey will offer them “referrals to its vast network of advisory clients” in exchange for referring bankruptcy clients to McKinsey’s restructuring practice.
It gets better. Alix met with McKinsey’s managing partner Dominic Barton. The second time, Barton told Alix that he was shocked, shocked, that he found out that the bankruptcy team was playing naughty, and volunteered that McKinsey was also working with the bankruptcy law firm, which McKinsey’s own lawyers told him was illegal.
Then Barton told Alix to be patient, the managing director election was approaching, and he would deal with it once Barton was (presumably) back in office. When Alix didn’t hear from Barton and asked to meet again. Patton relented and offered Alix a bribe in the form of a recommendation for bankruptcy work.
The ruling touched on a tricky area of ??law, but even so, some experts condemned the trial court’s decision. For example, An article in Emory Law Journal It has argued that courts need to clear up the criteria for determining disinterest in representing parties in bankruptcy proceedings and who takes those tests. Even so, and unlike normal law journal practice, one of its four recommendations is that “the court should … rule in the Jay Alix v. McKinsey & Company case.”
Note that Elizabeth Warren also cleared her throat for more McKinsey bankruptcy shenanigans, when its fund management arm held Puerto Rico bonds, McKinsey engaged in apparent self-dealing as Puerto Rico’s lead bankruptcy counsel… Benefiting from the deal Shallow McKinsey cuts. Please find her letter at the end of the post.
Alix was initially dismissed for failing to show a link between McKinsey’s alleged wrongdoing and Alix’s lost revenue. The Court of Appeal disagreed:
The district court ruled that Alix failed to satisfy RICO’s proximate cause requirement. We disagree. We believe that the amended complaint reasonably claims McKinsey filed misrepresentations as a direct cause of all 13 bankruptcy cases and pay-to-play programs. Therefore, we withdrew and moved back for further proceedings.
While the Emory Law Journal article rightly points out the rather vague standards of who should be subject to conflict of interest reporting and how stringent those tests should be, that’s not why the Alix case was initially abandoned. This was because the lower court held that he had not brought a case that met the criteria for a civil RICO petition.
The appeals court overturned for two reasons. One is that they found that the lower court did not apply the required standard of interpreting the plaintiff’s factual claims in the most favorable way, and would he prevail if he could show that they were true in his findings? But the second and more interesting part of their analysis is that since McKinsey is accused of committing what does sound like a systemic fraud in court, the RICO damage analysis must also take into account what amounts to a denial of due process. Behavior (lawyers feel free to correct my terminology here). From the ruling:
McKinsey dismissed the complaint under Rule 12(b)(6), and the district court granted the motion, but noted that Alix’s allegations were “really concerning.” Nonetheless, the District Court, in reviewing a body of case law, was cautious that the case law was not sufficiently clear that the allegations were insufficient to satisfy RICO’s requirement of proximate cause…
The court concluded that the “independent intervention decision” of the trustee and bankruptcy court made the causal link between the alleged misconduct and injury “too remote, incidental and indirect to support the RICO claim.” As for the pay-to-play allegations, the court concluded that they also fall short of the pleadings and suffer from the same flaws as the fraudulent disclosure allegations in that they do not adequately close the gap between the alleged fraudulent conduct and the alleged outcome. Injuried….
To establish a RICO claim, a plaintiff must demonstrate: (1) a violation of RICO regulations, (2) damage to business or property, and (3) damage caused by a violation of RICO. Cruz v. FXDirectDealer, LLC, 720 F.3d 115, 120 (2d Cir. 2013); 18 USC § 1962. The appeal involves the causation element, according to which plaintiff must reasonably claim that the RICO violation was (1) “the immediate cause of his injury, which means that there is a direct relationship between plaintiff’s injury and defendant’s enforcement”; and that they are (2) “The non (or transactional) cause of his injury, which means he would not have been injured if there was no RICO violation.” UFCW Location 1776 v. Eli Lilly & Co., 620 F.3d 121, 132 (2d Cir. 2010 ). The decisive question here is whether Alix is ??reasonably claiming recency.
The district court concluded that there were three reasons why Alix did not give a direct cause. First, it concluded that the alleged damage to AlixPartners was a direct result of the respective debtors’ trustees’ decision not to employ AlixPartners, rather than McKinsey’s misconduct. Second, and relatedly, the Court concluded that the existence of several intervening factors made the relationship between alleged fraud and damage too indirect and distant. In the end, the court held that “at least one ‘better position’ party”, such as the U.S. trustee, “could seek appropriate remedies for the most immediate consequences of McKinsey’s alleged misconduct.”
We disagree with the District Court’s analysis and conclusions of the Thirteen Covenants. Overall, we concluded that its analysis conflated evidence of causation with evidence of harm, and that it did not draw all reasonable inferences in Alix’s favor. More specifically (and more importantly), we believe that the district court did not adequately consider the fact that McKinsey’s alleged misconduct was directed against the federal judiciary. Therefore, this case calls our attention to the responsibilities that Article III courts must assume to ensure the integrity of the bankruptcy court and its procedures. Litigants in all of our courts have the right to expect compliance with the rules, necessary disclosures, and court decisions will be based on records containing all information required by applicable laws and regulations. If McKinsey’s conduct undermined the process of hiring bankruptcy counsel, as Alix reasonably claims, the unsuccessful participants in the process would be directly harmed.The fact that this case involves our regulatory responsibilities allows us to resolve stand alone And few, if any, apply to “ordinary” RICO cases where these responsibilities are not primary and central.but
In light of these particular considerations, we believe that Alix reasonably claims proximate causes relating to all 13 engagements.
A ruling underscoring that McKinsey appears to have violated the integrity of the bankruptcy process on a broad basis, and that the court has a duty to stop it, looks set to take root in the company’s filing cabinet and oust the company’s receivers for those pay-to-play arrangements. Pass the popcorn over.
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1 Barrington Parker, a Bush appointee, wrote the 2nd Circuit ruling.
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