Antitrust Law Daily Wrap Up, RICO—S.D. Ind.: Indiana RICO claim proceeds in alleged $31 million check-kiting scheme, (Nov 19, 2013)

By Tobias J. Gillett, J.D., LL.M.

The bankruptcy trustee for a cattle dealer sufficiently alleged a claim under Indiana’s RICO Act against individuals and entities allegedly involved in a check-kiting scheme with the dealer’s principal that caused Fifth Third Bank to extend credit to the dealer, resulting in the transfer of over $31 million from the dealer’s accounts into the principal’s personal account, the federal bankruptcy court in New Albany, Indiana has ruled (In Re: Eastern Livestock Co., LLC, November 15, 2013, Lorch, B.).

Eastern Livestock Corporation (ELC) was one of the largest cattle dealers in the United States until its closure on or about November 2, 2010. ELC had credit and security agreements with Fifth Third Bank that it purportedly used to purchase an average of $10 to $20 million in cattle per day, although ELC allegedly purchased only an average of $3.5 million in cattle per day, with the rest of the volume made up of bogus cattle transactions. Fifth Third extended funds to ELC based, in part, on the value of ELC’s outstanding accounts receivable. ELC also maintained a cash collateral account with receipts from the operation of its business. Those funds were automatically transferred to Fifth Third to make payments against ELC’s line of credit, thus increasing the amount of available funds for use by ELC.

ELC principals Thomas Parish Gibson and Michael Steven McDonald allegedly operated a check-kiting scheme by causing billions of dollars in checks to be issued from various bank accounts in amounts that exceeded the available balances, causing artificially inflated balances in ELC’s cash collateral account. This scheme induced Fifth Third to continue to release funds to ELC under the line of credit. McDonald and Gibson also allegedly created false borrowing base certificates reflecting falsely inflated accounts receivable figures consistent with the amount of check kiting each day.

In furtherance of the scheme, Gibson and Thomas caused checks to be written out of Gibson’s personal account payable to ADM Investor Services, Inc. (ADMIS), a subsidiary of Archer Daniels Midlands Company, care of Rufenacht Commodities, Inc., according to the trustee. Rufenacht then deposited the funds into an ADMIS account owned by Gibson, and ADMIS would wire funds back into Gibson’s personal account. Gibson would then write a check for deposit into ELC’s account at Fifth Third. $31,150,300 of ELC funds were allegedly transferred to ADMIS pursuant to this alleged scheme.

Gibson and McDonald later pleaded guilty to federal mail fraud charges and various Kentucky theft by deception charges, and were sentenced to ten years in prison. In the present action, ELC’s bankruptcy trustee brought a claim against McDonald, ADMIS, Rufenacht, and three other individuals for violation of Indiana’s RICO Act, and also sought recovery of the $31,150,300.

Rule 9(b). The court found that the trustee’s allegations satisfied the heightened pleading requirements of Federal Rule of Civil Procedure 9(b). The court observed that pleading on information and belief was “permissible so long as (1) the facts constituting the fraud are not accessible to the plaintiff and (2) the plaintiff provides the grounds for his suspicions.” Here, the trustee gave grounds for his suspicions and therefore satisfied Rule 9(b).

Indiana RICO

The court found the trustee adequately pled a RICO claim. The court observed that Indiana’s RICO statute is generally patterned after the federal statute, except that the Indiana statute “imposes liability both on persons who conduct the activities of a racketeering enterprise and on those who otherwise participate in the activities of a racketeering enterprise.”

Enterprise. The court explained that a RICO enterprise has “three structural features: (1) a purpose, (2) relationships among those associated with the enterprise, and (3) longevity sufficient to permit these associates to pursue the enterprise’s purpose.” Here, the trustee had alleged a purpose of furthering the check kiting scheme, from which each defendant had profited. The trustee also alleged relationships among the participants in the enterprise by alleging that ADMIS had engaged Rufenacht as an introducing broker and was responsible for its actions, that Rufanacht conspired with Gibson to create the ADMIS accounts that received the transfers, and that the various individual defendants had performed their roles in the enterprise. Finally, the trust properly pleaded longevity by alleging that enterprise operated from December 6, 2008 through December 6, 2010, and resulted in 125 improper transactions.

Proximate cause. The court rejected the defendants’ argument that the trustee did not qualify as an “aggrieved person” under the Indiana RICO statute and could not show that their alleged actions directly or proximately caused harm to ELC, because ELC, through its principal Gibson, was the instigator and mastermind behind the check kiting. The court found cases concluding that the RICO plaintiff had to be the intended target of the RICO scheme to be “simply inapplicable,” because the “Indiana statute provides a cause of action for an aggrieved person and not only the intended target of the RICO scheme.” Proximate cause was generally a question of fact for the jury, and here the trustee had “alleged that the portion of the check kiting scheme involving the Defendants served to increase the cash available to ELC through its line of credit by $20 million daily, resulting in unsustainable debt to ELC.” This was sufficient to allege proximate causation, according to the court.

Bankruptcy Code. The court also found that the safe harbor provision in section 546(e) of the Bankruptcy Code for transfers made by, to, or for the benefit of commodity brokers in connection with commodity contracts did not “preclude the trustee’s attempts to avoid the subject transfers.” If the transfers had occurred in furtherance of a check kiting conspiracy, as alleged by the trustee, and were thus not legitimately related to a commodity contract, “it would hardly serve the purposes underlying the statute” of protecting the stability of financial markets. Moreover, the defendants could not obtain dismissal on the strength of their argument that they were “mere conduits” for the transfers, because the trustee had alleged that the defendants “benefitted from, and were complicit in, the check kiting scheme,” and the court was bound to accept those allegations as true.

Estoppel, laches, waiver. Equitable estoppel did not bar the trustee’s claims, even though the court had determined in another case that funds in the account were the property of the Gibsons’ bankruptcy estate. The operative facts differed significantly between the two cases, and thus estoppel was not warranted. Moreover, the court found no basis for finding that laches barred the claims or that the trustee had waived his claims.

In pari delicto. ELC was found to have knowledge of the scheme because Gibson was its owner and business manager, and had caused billions of dollars of checks to be issued and fraudulent borrowing base certificates to be prepared. Therefore, the defense of in pari delicto could be asserted against the trustee. However, the question of whether the defense would bar the trustee’s claim would be subject to equitable balancing between the parties, and here the trustee had alleged that each of the defendants were involved in planning or perpetuating the scheme. The defense thus did not bar the trustee’s RICO claim at the present stage of the litigation.

The case is No. 10-93904-BHL-11, Adv. Pro. No. 12-59147.

Attorneys: Jay P. Kennedy (Kroger Gardis & Regas) for James A. Knauer. Andrew D. Stosberg (Lloyd & McDaniel, PLC) for Larry Zeien, Jr. John Frederick Massouh (Sprouse Shrader Smith, PC) for Rufenacht Commodities, Inc. C. R. Bowles, Jr. (Bingham Greenebaum Doll LLP) for ADM Investor Services, Inc.

Companies: Eastern Livestock Co., LLC; Rufenacht Commodities, Inc.; ADM Investor Services, Inc.

Cases: RICO IndianaNews