San Diego 'The law is a ass, a idiot," pointed out Mr. Bumble, a minor church functionary in Charles Dickens's Oliver Twist. Bumble squeezed his hat emphatically while making the perspicacious observation. These days, his hat would be completely shredded if he saw the bankruptcy process in action.
More than 2000 investors in Pioneer Mortgage, a $180 million scam that went bankrupt more than a dozen years ago, have already torn up their hats and pulled out their hair, as they received pitifully minuscule returns while the heads of the court-approved the successor company, Pioneer Liquidating Corp., and its lawyers raked in millions of dollars.
Throughout this ordeal, the law -- bankruptcy court, the Bankruptcy Appellate Panel, Ninth Circuit Court of Appeals, District Court -- ruled against Pioneer Liquidating time and again. But these court rebukes didn't stop Pioneer Liquidating and its lawyers from filing endless lawsuits and appeals, thereby gobbling up even more in salaries and legal fees, as the courts have pointed out in unusually frank decisions.
One week ago (June 12), bankruptcy court judge James W. Meyers heard a case designed to kick the law's ass. The Pioneer bankruptcy trustee -- supported by the office of the U.S. Trustee, a federal agency monitoring bankruptcies -- asked that two law firms disgorge part of the fees they allegedly raked in at the expense of Pioneer investors. Meyers will render a verdict later.
Pioneer Mortgage was a hard-money lender: People desperate for loans would put up mainly second-rate real estate as collateral on high-interest-rate loans. Investors would buy pieces of the loans, getting 14 percent interest. But this game only works in a robust real estate market. As low-quality real estate fell apart in the late 1980s and early 1990s, Pioneer became a Ponzi scheme. Its architect, Gary Naiman, went to prison, as have a number of other San Diego hardmoney lenders.
In 1992, the investors were told they would get 35 cents on the dollar if they approved a reorganization plan under Chapter 11 bankruptcy. Pioneer Liquidating would liquidate the assets and distribute proceeds to investors. If investors voted for Chapter 7, or immediate liquidation, they would get only 12 cents. Eleven years later, they still have received a little under 12 cents. In intervening years, they could not learn where their money was going because Pioneer Liquidating took the preposterous position that it owed no fiduciary duty to the investors and didn't have to give them information, even though courts emphatically said otherwise.
If there is a hero in the case, it is attorney Jerome E. (Jay) Eggers. He lost only $25,000 in the scam but has spent much more than that demanding an accounting from Pioneer Liquidating. He pointed out to the court that Pioneer Liquidating's chief, Michael Dorazio Jr., was feeding endless lawsuits to a firm headed by his former law partner, Howard Barnhorst. (They had founded Dorazio & Barnhorst in 1977.) In late 1997, Eggers asked the bankruptcy court to appoint an examiner who would go over the books. Last month, Eggers told the court that Barnhorst's now-defunct law firm "drafted and filed nearly a dozen lengthy applications, appellate briefs, and appendices in the Bankruptcy Appellate Panel of the Ninth Circuit, the Ninth Circuit itself and even the U.S. District Court, all in a series of futile challenges by Pioneer Liquidating to the...order appointing an examiner."
When told that the whereabouts of his money "was none of my business, I went on a jihad," he says. He wrote a letter to Barnhorst, blasting "PLC management's 'screw you' attitude." He noted that Barnhorst "may welcome more litigation as a vehicle for additional siphoning of PLC assets."
Barnhorst, who last year bought a La Jolla house assessed at $1.48 million, wrote back that such remarks were "scurrilous, uncivil, unprofessional, insulting, and unnecessary." Later, however, the courts and the Chapter 7 trustee's lawyers would use similarly tough language to describe how Pioneer Liquidating and its law firms allegedly stalled the bankruptcy to steer big bucks to themselves, thus depriving investors of rightful funds.
In late 1998, a frustrated Judge Meyers -- prodded by the U.S. Trustee -- tossed the whole case into Chapter 7 liquidation bankruptcy. True to form, Pioneer Liquidating appealed and appealed. Early this year, the bankruptcy trustee, Richard Kipperman, filed a suit against two law firms that had aided Pioneer Liquidating -- Milberg & De Phillips and the now-defunct Barnhorst, Schreiner & Goonan -- for disgorgement of certain legal fees they received in support of Pioneer Liquidating's breach of fiduciary duty to Pioneer investors.
Last week, Meyers listened to both sides. However, under the law, unfortunately, this groundbreaking case could have tough sledding, although Eggers was optimistic after the hearing. A year ago, Kipperman had outlined in a filing why the law firms could legally contest such a suit and concluded that there was only a 50 percent chance of success. So he decided not to push it.
Later, the U.S. Trustee, along with Pioneer investors, persuaded Kipperman to file the suit. In their answers to the trustee's suit, the two law firms used Kipperman's own words to help make their case, along with other arguments, such as that the statute of limitations had long passed.
No matter how the judge rules, the Kipperman suit is instructive for those studying why the U.S. bankruptcy process is -- well -- bankrupt. Pioneer Liquidating's handling of the bankruptcy "cost too much and yielded too little," says the suit, excoriating Pioneer Liquidating's "scorched earth policy." The suit outlines how "PLC breached its fiduciary duties by, among other things, repeatedly failing to account to investors and by causing unreasonable delay that increased the costs of administering PLC, thereby depleting assets available for distribution."
The suit relates how Pioneer Liquidating filed appeals to block the naming of an examiner and did the same to block the Chapter 7 motion. Pioneer Liquidating kept claiming that it would be harmful to give information because it was pursuing two lawsuits -- a fraud suit against a bank and a malpractice suit against one of its law firms. It refused reasonable settlements of both lawsuits while it was filing motions to extend its own tenure. A disgusted Meyers declared Pioneer Liquidating had "lost its way." When Kipperman settled the bank and malpractice suits, Pioneer Liquidating once again appealed to the courts.
The trustees' suit charges that the money shoveled to the two law firms "was paid from funds that would otherwise have been available to investors," flaying "the lawyers' gravy train." The suit refers to a statement in one court filing that was "disingenuous and deliberately misleading" and "beyond ludicrous."
Earlier, the bankruptcy panel had used similar language, castigating Pioneer Liquidating for displaying "only a paramount sense of self-preservation and arrogance." Pioneer Liquidating "circled the wagons" and adopted a "take it or leave it" attitude toward investors. "PLC's refusal to provide a financial accounting" may be, in effect, "a concealment of assets," said the bankruptcy panel.
Pioneer Liquidating then appealed to the Ninth Circuit, which also punched Pioneer Liquidating in the nose. As Pioneer Liquidating "continued to stall," the costs "continued to mount, depleting the assets available for distribution," said the appellate court, also ruling that Pioneer Liquidating owed a fiduciary duty to investors and must provide them with information.
A final accounting on just how much these law firms raked in while allegedly helping Pioneer Liquidating breach its fiduciary duty is under seal. However, an earlier court filing showed the Barnhorst firm getting paid almost $600,000 in one 12-month period and almost $500,000 in a later 17-month period. Dorazio, who hangs his hat in Rancho Santa Fe, enjoyed a salary of $350,000 a year plus very generous fringes. A court filing shows him bringing home $1.15 million cash from July of 1996 through January 10 of 1999.
Barnhorst, Dorazio, and the Milberg firm did not respond to calls for comment.
"The whole bankruptcy system is a fraud in itself," says Stanley Kaufman, former head of the investors committee.
Whether the law is "a ass" or "a idiot," or both, it is rigged to make lawyers rich. Meyers could at least slow that gravy train.