More Charges In The Madoff Scandal, But The Key Question Remains: Who Knew?
The Department of Justice and the SEC brought the next round of cases in the Madoff scandal. New civil and criminal charges were brought against the outside auditors for Bernard L. Madoff Investment Securities LLC, David G. Friehling and Friehling & Horowitz, CPA’s, P.C. U.S. v. Friehling, 1:09-mj-00729-UA (S.D.N.Y. Filed Mar. 18, 2009); SEC v. Friehling, Case No. 09 CV 2467 (S.D.N.Y. Filed Mar. 18, 2009). While the new cases give some insight into the scandal, nothing in these charges suggests the answer to the key question — who else, if anyone, knew about the Madoff Ponzi scheme?
Mr. Friehling and his firm were supposed to be the outside independent auditors of Bernard L. Madoff Investment Securities. The Madoff firm was required to file financial statements audited by an outside independent accounting firm with the SEC. The accounting firm supposedly audited the Madoff firm from 1991 through 2008. In fact, it appears that Mr. Friehling and his firm were not independent and did little if any audit work, thereby facilitating the fraudulent scheme of Mr. Madoff.
The SEC’s complaint claims that from “at least the 1980s until December 11, 2008, Madoff and BMIS [the Madoff firm] conducted a Ponzi scheme through the investment adviser and brokerage services of BMIS.” Because of the Ponzi scheme, the accounts of BMIS should have reflected enormous liabilities to its customers. They did not. Nevertheless Mr. Friehling and his firm, as the outside auditors of BMIS, falsely represented in reports filed with the SEC that the accounts of the brokerage firm were fairly presented in accord with GAAP or generally accepted accounting principles. Defendants also represented in those reports that they had audited the financial statements of BMIS in accord with GAAS or generally accepted auditing principles. This representation was also false, according to the SEC.
Mr. Friehling and his firm, according to the SEC, did virtually nothing except contribute to the fraud with false audit opinions. As the SEC’s complaint states: “Friehling’s failure to conduct essentially any audit testing left BMIS’ purported transactions, balances, financial statements and disclosures altogether unexamined. Perhaps most critically, Friehling did not attempt to confirm that the securities BMIS purportedly held on behalf of its customers even existed, which is a standard and fundamental procedure for broker-dealer audits according to the AICPA’s Audit and Accounting Guide for Brokers and Dealers in Securities.”
In addition, Mr. Friehling and his firm were not independent and they evaded AICPA peer review which may have disclosed his failed audits. Since Mr. Friehling had a multi-million dollar investment account with BMIS, he was not independent. To avoid peer review of his work, he told the American Institute of Certified Public Accountants that he did not conduct audits.
The SEC charged the defendants with fraud in violation of Securities Act Section 17(a), Exchange Act Section 10(b) and with aiding and abetting violations of Section 206 of the Advisers Act and Section 15(c) of the Exchange Act and Rule 10b-3. The criminal complaint filed against Mr. Friehling alleges securities fraud, adding and abetting fraud under the Investment Advisors Act and making false filings with the SEC.
The SEC and DOJ make it clear that Mr. Friehling assisted the Madoff Ponzi scheme. Without the fraudulent audit opinions Mr. Madoff’s brokerage firm would have been out of business and presumably the Ponzi scheme would have been halted and perhaps exposed. As the press release issued by the U.S. Attorney’s Office makes clear however, Mr. Friehling “is not charged with knowledge of the Madoff Ponzi scheme … .” Thus, while we know more about the Madoff fraud, the key question still remains: who, if anyone, knew about the largest Ponzi scheme in history?