Case 9:11-ap DS Doc 297 Filed 06/18/18 Entered 06/18/18 14:57:56 Desc Main Document Page 1 of 42 1

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1 Main Document Page of 0 0 JOHN P. REITMAN, SBN 0 LARRY W. GABRIEL, SBN ALEKSANDRA ZIMONJIC, SBN 0 STEVEN T. GUBNER, SBN COREY R. WEBER, SBN 0 0 Century Park East, Suite 00 BRUTZKUS GUBNER Los Angeles, CA 00 0 Oxnard Street, Suite 00 Telephone: (0) -000 Woodlands Hills, CA Facsimile: (0) -00 Telephone: () jreitman@lgbfirm.com Facsimile: () -0 azimonjic@lgbfirm.com lgabriel@bg.law cweber@bg.law Special Litigation Counsel for Plaintiff, Bradley D. Sharp, Trustee of the Estate Financial Mortgage Fund Liquidating Trust In re Special Litigation Counsel for Plaintiff, Thomas P. Jeremiassen, Trustee of the Estate Financial, Inc. Liquidating Trust UNITED STATES BANKRUPTCY COURT CENTRAL DISTRICT OF CALIFORNIA - NORTHERN DIVISION ESTATE FINANCIAL, INC., Debtor. THOMAS P. JEREMIASSEN, CHAPTER TRUSTEE FOR ESTATE OF ESTATE FINANCIAL, INC., vs. Plaintiff, BRYAN CAVE, LLP, a professional limited liability partnership, and KATHERINE M. WINDLER, an individual, In re Defendants. ESTATE FINANCIAL MORTGAGE FUND, LLC, Debtor. BRADLEY D. SHARP, Chapter Trustee, Plaintiff, vs. BRYAN CAVE, LLP, a California professional limited liability partnership; and KATHERINE M. WINDLER, an individual, Defendants. Case No. :0-bk--DS Chapter Adv. No. :-ap-0-ds Case No. :0-bk--DS Chapter Adv. No. :-ap-0-ds OPPOSITION BY PLAINTIFFS THOMAS P. JEREMIASSEN, AND BRADLEY D. SHARP, LIQUIDATING TRUSTEES, TO MOTION FOR PARTIAL SUMMARY JUDGMENT BY DEFENDANT BRYAN CAVE LLP ON GROUNDS OF UNCLEAN HANDS AND/OR IN PARI DELICTO; MEMORANDUM OF POINTS AND AUTHORITIES IN SUPPORT THEREOF [See, Trustees' Notice of Filing of Unredacted Version of the Opposition by Plaintiffs Thomas P. Jeremiassen, and Bradley D. Sharp, Liquidating Trustees, to Motion for Partial Summary Judgment by Defendant Bryan Cave LLP on Grounds of Unclean Hands and/or In Pari Delicto; Originally Served and Filed Under Seal On May, 0, Docket No. ] Hearing: Date: July, 0 Time: :00 p.m. Place: Courtroom 0 State Street Santa Barbara, CA 0

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3 Main Document Page of 0 0 TABLE OF CONTENTS I. INTRODUCTION... II. SUMMARY OF RELEVANT FACTS... III. i Page A. EFI/EFMF s Corporate History and Prior Legal Representation... B. Bryan Cave s Compliance Review and Audit Retention, Securities Filings with the DOC, and Knowledge of EFI EFMF s Business Affairs... C. Defendants Preparation and Filing of EFI/EFMF s 00 Application for a Permit to Sell EFMF Membership Interests and Legal Services from March to July, D. Defendants Analysis of Stein & Lubin s Representation of EFI/EFMF... E. Defendants Activities on Behalf of EFI Between July 00 and 00; EFI s Bankruptcy and Guth and Yaguda s Arrest and Convictions... GENUINE ISSUES OF MATERIAL FACT EXIST AND INFERENCES MUST BE VIEWED IN THE LIGHT MOST FAVORABLE TO THE TRUSTEES... 0 A. The Motion Does Not Prove That EFI/EFMF Ran a Ponzi Scheme or That Their Conduct in Following Defendants Advice Is Obviously Wrongful... 0 B. Bryan Cave Has Not Demonstrated That EFI/EFMF Operated as a Ponzi Scheme... C. The Ponzi Scheme Argument is an Argument of Convenience for Bryan Cave... D. The Magnitude of Properties Subject to EFI Loans, the Number of Loans that Successfully Closed Pre-Petition, and the Substantial Recovery from the Trustee s Liquidation of these Properties All Contradict the Ponzi Scheme Argument... E. Focusing on Three Isolated Projects, Bryan Cave Improperly Relies on the Court Making an Inference That the Issues Are the Same for EFI s Entire Business... F. Bryan Cave Makes Erroneous Assertions Regarding Loan Defaults and EFI s Required Actions under its Offering Circular and Operating Documents... H. Bryan Cave s Erroneous Assertions about EFI s Failure to Properly Record Deed Assignments... I. The Issues Were Fully Disclosed to Bryan Cave... J. Windler Recognized That There Were Securities Issues But Was Not Competent to Conduct the Compliance Review... K. Windler Took the Position that Securities Counsel Is Required to Do All of the Things that Bryan Cave Failed to Do...

4 Main Document Page of IV. THE TRUSTEES ARE NOT COLLATERALY ESTOPPED FROM PURSUING CLAIMS AGAINST DEFENDANTS... 0 V. FURTHER DISCOVERY IS REQUIRED... VI. CONCLUSION ii

5 Main Document Page of 0 0 CASES TABLE OF AUTHORITIES Accord, Vigilant Ins. Co. v. Chiu, Cal. App. th, (00)... Bateman Eichler, Hill Richards, Inc. v. Berner, U.S., 0 0 ()..., Bradley Co. v. Bradley, Cal., ()... Chitkin v. Lincoln Nat'l Ins. Co., F. Supp., (S.D. Cal.)... Collins v. D. R. Horton, Inc., 0 F.d,, n. (th Cir. 00)... Diaz v. Eagle Produce Ltd. Partnership, F.d 0, 0 (th Cir. 00)..., 0,, 0, Donell v. Kowell F.d (th Cir. 00)..., Eli Lilly & Co. v. Gitmed, 0 WL 0, at * (at FN ) (E.D. Cal. 0)... F.D.I.C. v. O Melveny & Myers, F.d, ( th Cir. )... FDIC v. O Melveny & Myers, F.d (th Cir. )... Felts v. National Account Sys. Assoc., Inc., F.Supp., (N.D. Miss. )... In re Agric. Research & Tech. Group, F.d, (th Cir.0)... In re Estate Financial Mortg. Fund, LLC, Fed.Appx., 0 (th Cir. 0)... 0,, In re United Energy Corp., F.d, 0 n. (th Cir.)..., Jay Bharat Developers, Inc., v. Mindis, Cal. App. th,... Jones v. Halekulani Hotel, Inc., F.d 0, 0 (th Cir.)... 0 Kendall-Jackson Winery, Ltd. v. Superior Court, 0 Cal. Rptr. d, (Ct.App. )... iii Page

6 Main Document Page of 0 0 Kochler v. Pulvers, F.Supp., (S.D. Cal. )... Magill v. Lewis, P.d, (Nev. )... Martin v. Kehl, Cal. App. d, 0 ()... Matsushita Elec. Indus. Co., Ltd. v. Zenith Radio Corp., U.S. ()..., 0,, Montana v. United States, 0 U.S., ()... Nationwide Mut. Fire Ins. Co. v. George V. Hamilton, Inc. (d Cir. 00) F.d, 0... New Hampshire v. Maine, U.S., (00)... Norwood v. Judd, Cal. App. d, ()... Peregrine Funding, Inc. v. Sheppard Mullin Richter & Hampton LLP, Cal.App.th (00)... Republic Molding Corp. v. B.W. Photo Utilities, Fed. d, 0 (th Cir. )... Richards v. Jefferson County, Ala., U.S., ()... Tri-Q Inc. v. Sta-Hi Corp., Cal. d, ()... Unilogic v. Burroughs Corp., 0 Cal. App. th, ()... United States v. Diebold, Inc., U.S., S.Ct., L.Ed.d ()... 0 United States v. Shumway, F.d 0, 0-0 (th Cir.)... 0 RULES Fed. R. Civ. P. (a)... 0 Fed. R. Civ. P. (d)..., iv

7 Main Document Page of 0 0 Plaintiffs Thomas P. Jeremiassen and Bradley D. Sharp, in their capacities as liquidating trustees (together, the Trustees ) for the liquidating trusts of, respectively, debtors Estate Financial, Inc. ( EFI ) and Estate Financial Mortgage Fund, LLC ( EFMF ), hereby oppose defendant Bryan Cave, LLP s ( Bryan Cave ) motion for partial summary judgment (the Motion ). MEMORANDUM OF POINTS AND AUTHORITIES I. INTRODUCTION Bryan Cave and Katherine M. Windler ( Windler and together with Bryan Cave, Defendants ) attempt to extinguish the Trustees breach of fiduciary duty and malpractice claims upon their theory that EFI s principals Karen Guth ( Guth ) and Joshua Yaguda ( Yaguda ) (Guth, Yaguda, EFI and EFMF together, the EFI Parties ) were engaged in a Ponzi scheme or misconduct that is obviously wrongful that a lay person could not be confused about its impropriety. However, Defendants theory that EFI/EFMF was a Ponzi Scheme or were engaged in other fraudulent activities and that their conduct constitutes unclean hands falls short of the mark, as the Motion is not supported by sufficient admissible evidence (or indeed any admissible evidence) that establishes the factual underpinnings of such a claim. As a substitute for credible evidence, Bryan Cave examines three carefully selected projects which includes about 0 loans and ignores thousands of other loans brokered and serviced by EFI - to cherry pick purported improper activities, while disregarding the rest of EFI/EFMF s business. Bryan Cave also falsely claims that the EFI Parties intentionally hid the true facts from them when, in fact, the EFI Parties honored all of Defendants requests for access to EFI/EFMF s books and records and, in return, Defendants negligently failed to perform the legal services for which they were retained. Not surprisingly, Bryan Cave also ignores the Trustees significant evidence of Defendants breaches of their fiduciary duties to EFI/EFMF as Motion, p. of, lines -; see also, id., p. of, lines -. There are more than,00 loans for which EFI brokered land acquisition and construction financing since its inception in. DMF.

8 Main Document Page of 0 0 their clients. In sum, without submitting an expert declaration of a forensic accountant or other competent and sufficient evidence, Bryan Cave inappropriately relies on the Court making the inference that EFI/EFMF s entire business, or a substantial portion of it, was a Ponzi scheme or other fraudulent enterprise. But, such an inference in favor of Bryan Cave as the moving party is not permitted at the summary judgment stage. See Diaz v. Eagle Produce Ltd. Partnership, F.d 0, 0 (th Cir. 00) and Matsushita Elec. Indus. Co., Ltd. v. Zenith Radio Corp., U.S., (). Had Bryan Cave and Windler accomplished what they were supposed to do with respect to the compliance review and audit (the Compliance Review ) which they agreed to undertake for EFI/EFMF, Defendants would not be addressing the claims presented against them by the Trustees. Indeed, had Defendants fulfilled their professional and fiduciary obligations after they had concluded that EFI/EFMF were violating California real estate and securities laws, then Defendants should have recognized and advised EFI/EFMF that they must cease all activities until those legal issues had been fully addressed and resolved. And, in light of those instructions either EFI/EFMF would have followed them, in which case Defendants would have no exposure; or EFI/EFMF would have fired Bryan Cave. In either case, even if Bryan Cave would have only performed even the basics of due care, Defendants would not be before this Court. Based on the grounds stated in this Opposition, and the other documents filed with and in support of this Opposition, the Trustees respectfully request that the Court deny the Motion. II. SUMMARY OF RELEVANT FACTS A. EFI/EFMF s Corporate History and Prior Legal Representation EFI was a subprime mortgage loan broker that funded, serviced and managed real estate acquisition, development and construction loans. DMF No.. EFI raised funding for those loans through offerings to potential investors pursuant to permits issued by the California Department of Corporations ( DOC ). DMF No.. Guth and Yaguda together owned % of EFI and were its directors and officers. DMF No.. Each EFI brokered loan was evidenced by a promissory note secured by a first deed of trust on the real property for which theloan was made, and that the

9 Main Document Page of 0 0 investors funding the loan received a fractionalized interest in the promissory note and deed of trust. DMF No. -. In 00, Guth and Yaguda formed EFMF, a limited liability company, as a vehicle to raise money to fund the loans generated by EFI. EFI was the sole manager of EFMF. DMF No. -. To raise funds for EFI loans, membership interests EFMF were sold to potential investors pursuant to permits issued by the DOC but who did not want to directly participate in such loans. In or around 00-00, a dispute arose between EFI and one of its borrowers, Matthew Locati and entities controlled by him, in relation to a $0 million loan EFI made to finance Locati s purchase and development of an -lot subdivision known as Creekside Estates, which dispute was referred to arbitration (the Locati Arbitration ). In that proceeding, Locati claimed EFI had violated various California real estate laws and regulations, which caused damage to Locati. Stein & Lubin represented EFI in the Locati Arbitration until August 00, when they disclosed to EFI a potential conflict of interest. Because of that issue, on or about October, 00, EFI retained Bryan Cave to act as its counsel in the Locati Arbitration. DMF No. -. As part of its representation of EFI, Bryan Cave retained the services of Guy Puccio ( Puccio ), a former DRE commissioner, as a consultant and expert. DMF No.. The Bryan Cave attorneys primarily involved in that representation were Windler and John W. Amberg ( Amberg ), a partner at Bryan Cave. DMF No.. B. Bryan Cave s Compliance Review and Audit Retention, Securities Filings with the DOC, and Knowledge of EFI EFMF s Business Affairs Prompted by Locati s allegations, on November, 00, EFI retained Bryan Cave to conduct a compliance review and audit (the Compliance Review ) of EFI/EFMF s business operations and securities offerings. DMF No.. On the same day, Windler wrote to Therese Pritchard, a partner in Bryan Cave s Washington, D.C. office, asking for a securities lawyer to Prior to Defendants representation of EFI/EFMF, those entities were represented by the Stein & Lubin law firm. Stein & Lubin acted as both litigation and securities attorneys for EFI/EFMF and, through 00, prepared securities offering documents and obtained DOC permits for the clients offer and sale of those securities.

10 Main Document Page 0 of 0 0 work on the project. DMF No.. Pritchard recommended a lawyer in Bryan Cave s St. Louis office; but that lawyer did not participate in the engagement. DMF No Windler did not engage any other securities lawyer to assist her with the Compliance Review or with the preparation of securities offering materials until March 00, when she involved Randolf Katz ( Katz ), a partner at Bryan Cave, for the limited purpose of reviewing of the EFMF offering circular she prepared, with the review taking place just days before the current DOC permit for EFI expired. DMF No. 0. On November, 00, Windler wrote to Guth and Yaguda that she and Puccio would be at EFI s offices on November, 00 to commence the Compliance Review and requested that Guth and Yaguda provide certain documents for review, including, but was not limited to, borrower loan files, securities offering memoranda, loan origination and loan servicing documents, trust fund records for loan funding, escrow and loan servicing trust accounts, and reports filed with the DRE, DOC and any other federal or state agency. DMF No.. By no later than November, 00, Bryan Cave and Windler knew that EFI/EFMF s business operations and operative documents were in violation of California securities and real estate laws. DMF No.. In an to Windler, Amberg states: I agree that you and Guy [Puccio] need to address the regulatory requirements immediately. I understand that the way to get the DRE to go easy on our clients is for them to admit error and cooperate fully. There is a risk if they do since the DRE could still sanction them, but a greater risk if they don t. These risks, from what you ve told me, include losing broker licenses and criminal penalties. DMF No.. On November, 00, Windler and Puccio met with Guth and Yaguda at EFI s offices and commenced the Compliance Review. DMF No.. Windler spent. hours reviewing EFI s business model, files and offering documents. DMF No.. Windler spent additional time on November, reviewing the EFI materials and documents she previously requested. DMF No.. Windler, Guth, Yaguda and Puccio also met in December 00, as part of Windler s Compliance Review. DMF No.. Based on the information she obtained at these meetings and her document review, Windler determined that most of EFI/EFMF s business operations and that their securities offerings violated California real estate or securities laws and

11 Main Document Page of 0 0 disclosure requirements. DMF No.. On December, 00, Windler sent the following to Guth responding to her request for advice on how to proceed with EFI/EFMF s business operations: If you don t have any investors right now who are complaining, or you don t have any loans that are in default that you are having to roll over because of defaults, this is not yet urgent for you. I d prefer that we file the CFL and business plan together... The entire process... takes about months, and during this time I am expecting that you will continue conducting business as you have in the past...we are fairly confident right now that the DOC or DRE won t look at you while you are in the process of fixing things up even if you conduct business as usual until then. DMF No.. In a January, 00, memorandum from Puccio to Guth and Yaguda and copied on Windler, Puccio wrote: I am confident we can accomplish a business plan and model that will suit your objectives while at the same time bring you into substantial compliance with the statutory and regulatory scheme we discussed when KW [Katherine Windler] and I were at your office on November and. DMF No.. Defendants advice to EFI/EFMF that they need not change their business practices, notwithstanding knowledge of the clients significant regulatory violations, was bolstered by Puccio s opinion that the DRE and DOC were waiting for EFI/EFMF, Defendants and Puccio to correct the outstanding issues: DMF No I believe, in response to my discussions along with KW discussions with them, neither the DRE nor the DOC are moving aggressively to knock on EFI s door. Each are waiting for EFI, its counsel, and consultant to correct the outstanding issues, structure and implement our mitigation plan, refine EFI s business plan/model, and submit an application for a new offering to be permitted by the DOC. C. Defendants Preparation and Filing of EFI/EFMF s 00 Application for a Permit to Sell EFMF Membership Interests and Legal Services from March to July, 00 The DOC permit for the offer and sale of EFMF membership interests for the year 00 expired on March, 00. DMF No.. On March, 00, Windler again counseled EFI/EFMF to continue their business operations without modification, expressing her opinion that EFI could get an extension of its 00 EFMF permit issued by the DOC, which she previously

12 Main Document Page of 0 0 acknowledged was used in violation of securities laws, pending issuance of a new permit. DMF No.. In an dated March, 00, Windler states: Guy Puccio and I have been working on revising your offering and your loan documents for the securities permit for Estate Financial Mortgage Fund, LLC. The current permit expires on //0. Guy has opened discussions with the DOC regarding an extension of that permit until the new documentation can be completed. We are waiting (and hoping) for confirmation that EFI can extend its permit for 0 days, without modifications, while the new forms of loan agreement and offering circular are completed. The DOC is fully aware of our work with you to revise and amend the offering. In order to get the new permit issued, you will need to be prepared to disclose the following information: [number of nonperforming loans and actions taken to pursue]. DMF No.. During March 00, Windler prepared the new offering documents that EFI and EFMF were to use for the sale of interests in EFMF and forwarding the same to Guth and Yaguda for their review. In her March, 00 transmittal to them, Windler acknowledged that EFI s prior business practices were contrary to applicable rules: With the knowledge we gained from you in our meeting in Paso Robles before Christmas [December 00], we learned some things about your business and those ideas are reflected here, but the majority of the changes reflect my view on what the DOC will allow in the current market and what the law requires. This draft offering describes practices that are substantially different than your past business practices, so we have to schedule some time to discuss the changes and what you can live with and how far you want me to push the DOC. I will send you a redline so you can see the changes we made from your last pool offering. It might not be very helpful, because most of what you were doing wasn t legal and violated the disclosure rules. DMF No. (emphasis added). On March, 00, Windler sent an to Katz, requesting that he review the draft offering circular she had prepared, and noting that EFI s 00 offering circular and operations violated applicable securities laws: The client is... EFI who is the Managing Member and licensed real estate broker acting as a mortgage loan broker for a qualified and registered offering by Estate Financial Mortgage Fund LLC. I have drafted a revised Offering Circular [for EFMF], which is substantially different from what was submitted for last year s permit.... last year the Commissioner didn t notice that there were,0 investors way beyond the rule of 00 max before SEC compliance..... [T]heir business in the past hasn t been based on strict compliance with the law and this newly revised

13 Main Document Page of 0 0 version of the Offering attempts to put them closer to compliance without hoping that the DOC Commissioner will again omit to read it. DMF No. -. On March, 00, EFMF s offering permit expired. DMF No.. The new permit was not issued until May, 00. DMF No.. At or about the same time, Windler, as part of the Compliance Review, started to revise EFI s business forms and loan documents, which were sorely lacking and do not provide for consistent terms, as she stated in a March, 0 e- mail to a Bryan Cave real estate lawyer in Missouri, Bryan Turner. DMF No.. Turner agreed to participate in the task of modifying EFI s construction loan documents, with the caveat that he was not a California lawyer and was not going to check state-specific requirements. DMF No.. On April, 00, Windler, on behalf of EFI as EFMF s manager, submitted an application (the 00 Application ) and proposed offering circular (the 00 Offering Circular ) to the DOC. DMF No.. As presented in her cover letter to the DOC, Windler did not disclose that the 00 Offering Circular was incomplete, misleading, and contained material omissions of fact: The principal change in this Qualification from the Qualification that was filed last year, and for which a permit was issued, has been the revision of the Offering Circular to incorporate the past year s operating results and to respond to the current real estate market. In that regard, the Fund has elected to make disclosures to investors that reflect the risk of investments in the current market environment.... Please note that the Fund s current Permit was scheduled to expire on March, 00. DMF No The 00 Permit was issued on May, 00, based upon the submissions made by Bryan Cave. DMF No.. D. Defendants Analysis of Stein & Lubin s Representation of EFI/EFMF After obtaining the 00 Permit, Defendants turned their attention to developing malpractice claims against EFI/EFMF s former attorneys, Stein & Lubin. In a May, 00 memorandum dated to Windler, Puccio wrote: You have asked that I prepare a brief summary of some of the issues which I believe represent alleged malpractice of EFI s prior counsel.... [The preparation of] offering circulars/prospectuses upon which EFI relied to issue securities to investors in the form of fractionalized note offerings and in the form of LLC Mortgage Funds The proper due diligence of the activities of EFI would not have allowed EFI to proceed with the application for securities permits without correcting the

14 Main Document Page of 0 0 violations of existing law and to the extent required, without making a repurchase offer to their investors in accordance with Corporations Code Section 0 et seq. DMF No.. The issues set forth in this memorandum are not disclosed in the 00 Application, the 00 Offering Circular, or the other documents prepared by Defendants and sent to the DOC on April, 00. DMF No. -. Windler then prepared a draft of the claims she believed could be appropriately brought against Stein & Lubin regarding that firm s prior offering circulars and advice and counsel to EFI/EFMF and stated in her to Yaguda that she obtained the information from the first Compliance Review meeting with the EFI Parties on November -, 00. DMF No.. The issues presented in Windler s memorandum are also not disclosed in the 00 Application, the 00 Offering Circular or the other documents Windler sent to the DOC on April, 00. DMF No. -. Notably, although Windler admits learning of the issues in November 00, Windler did not send the draft of claims to the EFI Parties until more than six months after her November, 00 review of their documents and only after the 00 Permit had been issued. DMF No.. E. Defendants Activities on Behalf of EFI Between July 00 and 00; EFI s Bankruptcy and Guth and Yaguda s Arrest and Convictions On August, 00, Guth wrote to EFI Investors about the current real estate market and specifically the condition of EFI s investment portfolio, specifically disclosing that there were a number of projects for which forbearance agreements had been issued, a number of projects in foreclosure, and that those numbers were likely to increase: In some cases, where builders have completed houses and put them on the market we have issued forbearance agreements for a limited period of time to allow for the suspension of interest payments until the house is sold. There are a number of projects currently in foreclosures and it is likely that this number will increase. DMF No.. On October, 00, Windler sent an application and proposed offering circular for the sale of EFI fractionalized interests in secured promissory notes on behalf of EFI to the DOC to enable EFI to renew its then expired 00 permit to sell such securities. DMF No.. On October, 00, the DOC issued its 00 Permit for the offer and sale of the securities based upon the application and offering circular (the EFI 00 Offering Circular ) prepared by

15 Main Document Page of Defendants. DMF No. 0. Among other things, the EFI 00 Offering Circular represents: 0 0 DMF No.. Since the year 000, EFI through its prior broker and current broker has originated approximately,0 loans for an aggregate principal amount of approximately $,0,,.00. Since 000, EFI has recorded a total of notices of default, and has foreclosed on loans. During this time, no investor of EFI has lost any of his or her principal investment. As of the date of this Offering Circular, EFI has approximately active loans for a total principal amount of approximately $,, On November, 00, EFI wrote to EFMF investors specifically disclosing that: There are projects in the portfolio which are either in forbearance or foreclosure but additionally there are development projects for which interest impounds are exhausted. DMF No.. On or about April, 00, the DOC notified EFI and EFMF that it had summarily suspended their respective 00 Permits to offer and sell securities. DMF No.. On May, 00, Windler sent a letter to Mary Ann Smith, Senior Corporations Counsel for the DOC, stating that she was heartened to learn that the Commissioner is willing to leave open the door to a new permit application by EFI, particularly since we felt the 00 offerings were well written to protect investors.... DMF No. -. In May, 00, the DOC revoked 00 Permits it had issued to EFI and EFMF, for material misrepresentations about the investments and not conducting business as disclosed in the offering circulars. DMF No.. On June, 00, certain creditors of EFI filed an involuntary bankruptcy petition against EFI, which was followed on July, 00 by EFMF s voluntary bankruptcy filing. DMF No.. Meanwhile, on or about June, 00, the DRE sent a Statement to EFI, Guth and Yaguda notifying them that an accusation was filed against them by the DRE. DMF No.. On or about October, 00, the San Luis Obispo County District Attorney s Office filed criminal charges against Guth and Yaguda and they were arrested. On or about October, 00, Guth and Yaguda pled guilty to the charges. /// ///

16 Main Document Page of III. GENUINE ISSUES OF MATERIAL FACT EXIST AND INFERENCES MUST BE VIEWED IN THE LIGHT MOST FAVORABLE TO THE TRUSTEES A party may move for summary judgment, identifying each claim or defense--or the part 0 0 of each claim or defense--on which summary judgment is sought. The court shall grant summary judgment if the movant shows that there is no genuine dispute as to any material fact and the movant is entitled to judgment as a matter of law. The court should state on the record the reasons for granting or denying the motion. Fed. R. Civ. P. (a). A genuine issue of material fact will be absent if, upon viewing the evidence and inferences which may be drawn therefrom in the light most favorable to the adverse party, the movant is clearly entitled to prevail as a matter of law. Jones v. Halekulani Hotel, Inc., F.d 0, 0 (th Cir.). Summary judgment is inappropriate if reasonable jurors, drawing all inferences in favor of the nonmoving party, could return a verdict in the nonmoving party's favor. United States v. Shumway, F.d 0, 0-0 (th Cir.). Diaz v. Eagle Produce Ltd. Partnership, F.d 0, 0 (th Cir. 00). Respondents correctly note that [o]n summary judgment the inferences to be drawn from the underlying facts... must be viewed in the light most favorable to the party opposing the motion. United States v. Diebold, Inc., U.S.,, S.Ct.,, L.Ed.d (). Matsushita Elec. Indus. Co., Ltd. v. Zenith Radio Corp., U.S., (). A. The Motion Does Not Prove That EFI/EFMF Ran a Ponzi Scheme or That Their Conduct in Following Defendants Advice Is Obviously Wrongful The Ninth Circuit Court of Appeals previously determined that, as to Bryan Cave s attempt to dismiss the Trustee s claims based on the doctrines of in pari delicto and unclean hands, [f]or either of those affirmative defenses to apply, however, the plaintiff s conduct must be so obviously wrongful that, notwithstanding the lawyer s erroneous legal advice, no lay person could be confused about its illegality or impropriety. See Blain, Cal. Rptr. at. In re Estate Financial Mortg. Fund, LLC, Fed.Appx., 0 (th Cir. 0). The Court further stated that if Bryan Cave told EFI/EFMF to keep operating as they had in the past while Bryan 0

17 Main Document Page of 0 0 Cave fixed securities and real estate violation issues, EFI/EFMF could accept that advice without implicating the doctrines of in pari delicto and unclean hands: Although Bryan Cave advised EFI and EFMF that some of their conduct was unlawful, Bryan Cave encouraged the principals to continue operating while Bryan Cave helped them correct the problems. Given the nature of the violations involved, the principals could have accepted that advice without violat[ing] conscience, or good faith, or other equitable standards of conduct. Kendall-Jackson Winery, Ltd. v. Superior Court, 0 Cal. Rptr. d, (Ct.App. ). In re Estate Financial Mortg. Fund, LLC at 0. The Trustees alleged in their Complaints against Defendants that EFI/EFMF were not in compliance with applicable securities and real estate laws. DMF No.. After considering those allegations, although the Court stated that if EFI/EFMF operated a Ponzi scheme, that would be misconduct so obviously wrongful that a lay person could not be confused about its impropriety, the Court also stated that the alleged misuse of investor funds could reflect negligent accounting practices in the course of an otherwise legitimate business enterprise, rather than outright fraud. In re Estate Financial Mortg. Fund, LLC at 0. Bryan Cave contends that while the Ninth Circuit previously would not dismiss the Trustees complaints at the pleadings stage, [n]ow, however, the undisputed facts developed in discovery put to rest any reasonable inference that Guth and Yaguda were simply negligent in their accounting practices. However, as discussed herein, Bryan Cave has not proven that EFI/EFMF was a Ponzi scheme, and the doctrines of in pari delicto and unclean hands do not apply to the Trustees claims. The doctrine of in pari delicto requires that the parties participate in the same wrongdoing. Memorex Corp. v. Int'l Bus. Machs. Corp., F.d, (th Cir.). It also requires that they must be [e]qually at fault. Black's Law Dictionary at 0; Bateman Eichler, Hill Richards, Inc. v. Berner, U.S., 0 0 (). The ultimate purpose of in pari delicto is not to shield defendants from liability, but rather to protect the public. E.g., Magill v. Lewis, Motion, p. of, lines -.

18 Main Document Page of 0 0 P.d, (Nev. ). Courts have long recognized that the equitable doctrine should not apply where it would frustrate its intended purpose. E.g., Bateman Eichler at 0-. In recognizing this principle, the California Supreme Court has cautioned courts to not be so enamored with the [L]atin phrase in pari delicto that they blindly extend the rule to every case where illegality appears somewhere in the transaction. Norwood v. Judd, Cal. App. d, (); see Tri-Q Inc. v. Sta-Hi Corp., Cal. d, () ( Tri-Q ). In Tri-Q, the California Supreme Court stated that the doctrine of in pari delicto does not necessarily apply to both parties to the agreement unless both are truly in pari delicto. Tri-Q, Cal. d at. As discussed below, EFI and EFMF on the one hand, and Bryan Cave and Windler on the other hand, were not equally at fault in EFI/EFMF following the advice and counsel of its securities and real estate counsel, Bryan Cave. Locati had alleged in his arbitration proceeding that EFI had violated California real estate laws and EFI was concerned by those allegations. For that reason, EFI/EFMF retained Bryan Cave to perform a Compliance Review to identify any violations by EFI/EFMF of California real estate and securities laws and regulations and to assist them in fixing those problems, including by preparing new securities offering documents to renew their DOC permits for the offer and sale of securities. DMF No.. EFI/EFMF did not retain and pay Bryan Cave to perpetrate or facilitate a fraud, but rather to identify and correct outstanding securities and real estate compliance issues. DMF No.. In addition, Bryan Cave has not demonstrated that the doctrine of in pari delicto applies to bankruptcy trustees in the Ninth Circuit. In FDIC v. O Melveny & Myers, F.d (th Cir. ) ( O Melveny ), the Ninth Circuit rejected the application of that defense as to a receiver, and specifically comparing a receiver with a trustee, stated that [w]hile a party may itself be denied a right or defense on account of its misdeeds, there is little reason to impose the same punishment on a trustee, receiver, or similar innocent entity that steps into a party's shoes pursuant to court order or operation of law. Id.at. There is no Ninth Circuit authority holding, contrary to O Melveny, that the doctrine of in pari delicto applies to bankruptcy trustees. The Ninth Circuit did not rule on this issue during the prior appeal in these adversary cases, stating that [g]iven our disposition, we need not resolve the trustees arguments that the in pari delicto and unclean hands

19 Main Document Page of 0 0 defenses may never apply to bankruptcy trustees or to claims brought by trustees that arise postpetition. In re Estate Financial Mortgage Fund, LLC at 0. As to the unclean hands doctrine, [t]he misconduct that brings the unclean hands doctrine into play must relate directly to the cause at issue.... The misconduct must prejudicially affect... the rights of the person against whom the relief is sought so that it would be inequitable to grant such relief. Jay Bharat Developers, Inc., v. Mindis, Cal. App. th, (citation omitted). A person is not placed forever entirely outside the protection of the law in a particular transaction, because, forsooth, sometime in the distant past he was guilty of an improper act.... The defense of unclean hands only applies if [t]he misconduct infects the cause of action before the court.... Unilogic v. Burroughs Corp., 0 Cal. App. th, () (citations omitted). The defense of unclean hands also does not apply in every instance where the plaintiff has committed some misconduct in connection with the matter in controversy, but applies only where it would be inequitable to grant the plaintiff any relief. Bradley Co. v. Bradley, Cal., (); Martin v. Kehl, Cal. App. d, 0 (). The court must consider both the degree of harm caused by the plaintiff's misconduct and the extent of the plaintiff's alleged damages. Republic Molding Corp. v. B.W. Photo Utilities, Fed. d, 0 (th Cir. ). Further, courts do not apply the doctrine where the plaintiff's actions did not cause the defendant to suffer serious harm. Chitkin v. Lincoln Nat'l Ins. Co., F. Supp., (S.D. Cal.). Here, the doctrine of unclean hands is not applicable because EFI and EFMF s actions did not cause Bryan Cave or Windler to suffer any harm whatsoever. Id., at. B. Bryan Cave Has Not Demonstrated That EFI/EFMF Operated as a Ponzi Scheme It is no secret that EFI/EFMF had issues regarding their compliance with securities and real estate laws, and funds were not always used in a proper manner - the allegations in the Trustees complaints outlined those issues in detail. DMF. Indeed, Defendants were specifically retained to identify and help fix any such issues. DMF, -. Having failed to provide competent legal advice in furtherance of their clients goal of complying with law, Defendants now contend that EFI/EFMF were not entitled to any such advice in the first place because Bryan Cave asserts that

20 Main Document Page 0 of 0 0 they ran a Ponzi scheme. Defendants invoke the Ponzi theory without submitting a declaration of a forensic accounting expert or other competent evidence to shape these cases in the mold of Peregrine Funding, Inc. v. Sheppard Mullin Richter & Hampton LLP, Cal.App.th, 0 (00) ( Peregrine ) and to fit within the Ninth Circuit comment in these cases that if EFI/EFMF operated as a Ponzi scheme, then that would be obviously wrongful conduct sufficient to support the in pari delicto defense. The Ninth Circuit has described a Ponzi scheme as a a financial fraud that induces investment by promising extremely high, risk-free returns, usually in a short time period, from an allegedly legitimate business venture. Donell v. Kowell, F.d, n. (th Cir. 00). The fraud consists of funneling proceeds received from new investors to previous investors in the guise of profits from the alleged business venture, thereby cultivating an illusion that a legitimate profitmaking business opportunity exists and inducing further investment. In re United Energy Corp., F.d, 0 n. (th Cir.). Because a Ponzi scheme is not a legitimate business operation, but a house of cards facing inevitable collapse, Bryan Cave had to prove that EFI/EFMF operated on a regular and continuous basis such that it would necessarily fail when it could no longer attract enough new investor money to meet its obligations. While EFI/EFMF was a flawed business that was poorly conceived, managed and operated, it was a legitimate business built upon a then widely recognized concept used by subprime mortgage brokers: that loans could be partially funded at the outset with the balance funded by future investors. Defendants own expert, Puccio, explained the business model during his deposition. DMF 0. The EFI Parties did not hide their business practices from Defendants, or anyone else. DMF. For example, in the Locati Arbitration, Yaguda testified in detail about EFI s operations and funding of its loans. Amberg, a senior litigation partner at Bryan Cave who In re Estate Financial Mortg. Fund, LLC, Fed.Appx., 0 (th Cir. 0)

21 Main Document Page of 0 0 defended EFI in the Locati Arbitration, reviewed the transcript of that deposition on October, 00, just days after Bryan Cave was retained. DMF. Bryan Cave asks the Court to conclude, without the benefit of deposition testimony or a declaration by a percipient or an expert witness, that EFI/EFMF was a Ponzi scheme. In an attempt to sway the Court through sheer repetition, Bryan Cave repeatedly invokes the Ponzi label throughout the Motion - and even goes so far as to state that the Trustees have admitted that EFI operated as a Ponzi scheme. Bryan Cave s evidentiary record - including selected employee s taken out of context and an unauthenticated internet posting by a former employee - is neither credible nor admissible. The record suffers from other glaring deficiencies - among other things, it ignores those transactions that do not fit the Ponzi theory, the magnitude of the debtors business operations and the substantial value realized through the Trustees liquidation of real properties. Anecdotal evidence, conclusory opinions and generalizations cannot meet Bryan Cave s burden to demonstrate the existence of a Ponzi scheme as a matter of law. Neither can the Court make any inferences in favor of Bryan Cave s position - as discussed above, all inferences must be made in favor of the Trustees as the non-moving parties. See Diaz v. Eagle Produce Ltd. Partnership, F.d 0, 0 (th Cir. 00) and Matsushita Elec. Indus. Co., Ltd. v. Zenith Radio Corp., U.S., (). C. The Ponzi Scheme Argument is an Argument of Convenience for Bryan Cave Notwithstanding Bryan Cave s repeated argument that EFI/EFMF was a Ponzi scheme, they do not fit within the definition of a Ponzi scheme. The Ninth Circuit described a Ponzi scheme in Agritech as: Motion, p. of, lines 0-. Motion, p. of, lines -. Motion, p. of, lines -. an arrangement whereby an enterprise makes payments to investors from the proceeds of a later investment rather than from profits of the underlying business venture, as the investors expected. The fraud consists of transferring proceeds received from the new investors to previous investors, thereby

22 Main Document Page of 0 0 giving other investors the impression that a legitimate profit making business opportunity exists, where in fact no such opportunity exists. Id. The Court further stated that [d]istributing funds to earlier investors from the receipt of monies from later investors is the hallmark of Ponzi schemes. In re Agric. Research & Tech. Group, F.d, (th Cir.0) ( Agritech ). In Donell v. Kowell F.d (th Cir. 00) ( Donell ), the Ninth Circuit further described a Ponzi scheme as funneling money from new investors to previous investors, cultivating an illusion of profitability: A Ponzi scheme is a financial fraud that induces investment by promising extremely high, risk-free returns, usually in a short time period, from an allegedly legitimate business venture. The fraud consists of funneling proceeds received from new investors to previous investors in the guise of profits from the alleged business venture, thereby cultivating an illusion that a legitimate profit-making business opportunity exists and inducing further investment. In re United Energy Corp., F.d, 0 n. (th Cir.). Id., at fn.. During their representation of EFI/EFMF, Defendants never asserted that the clients ran a Ponzi scheme. Rather, Windler testified that she only concluded that all EFI s business activities were unlawful [w]hen [she] read the summary judgment motion filed by Bryan Cave in these cases. DMF. Windler s recent revelation is contrary to Defendants assertions during their representation of EF/EFMF, and even after EFI/EFMF s DOC securities permits had been suspended, and even after Guth and Yaguda had criminal charges pending against them. DMF -. In fact, during Defendants representation of EFI/EFMF, Windler stated that she would do anything to help EFI and EFMF, even if it meant working for free. DMF -. In August 00, when Windler s colleague Amberg sent an to her, asking that she testify in the arbitration where EFI was suing its former counsel, Amberg wrote:... I suddenly realized that the best way to explain the Locati case and S&L s failings is to have you be the witness. Katherine, you have to do this - you will be even better than Guy [Puccio] because you can explain the case from a lawyer s perspective. It will make all the difference to EFI.

23 Main Document Page of 0 0 DMF. Windler responded: I would do anything to help Karen and Josh. I want them to get these guys badly enough that I d even do it for cost reimbursement only. So, my answer is yes. DMF. Later in the representation, during 00, and after regulators were seeking to rescind permits, Windler stated that there was no evidence of wrongdoing by EFI/EFMF. DMF. D. The Magnitude of Properties Subject to EFI Loans, the Number of Loans that Successfully Closed Pre-Petition, and the Substantial Recovery from the Trustees Liquidation of these Properties All Contradict the Ponzi Scheme Argument While Bryan Cave contends that EFI/EFMF were a Ponzi scheme, it glosses over the magnitude of the properties for which loans were made by EFI, as well as the sales of the properties and payoff of the loans during the bankruptcy case. The property purchases and loans on those properties do not fit within the concept of an operating front of a Ponzi scheme. See, e.g., In re Bonham, B.R., (Bankr. D. Alaska 000) ( [i]n fact, most Ponzi schemes have at least a semblance, if not a somewhat substantial, operating front. ). Rather, the property purchases, loans, and significant values as demonstrated by the gross sales proceeds received by the Trustee all evidence a real and legitimate business with significant assets, and not an operating front. The significant range of EFI/EFMF s operations is reflected in the Trustees status reports to the Court. DMF. As of the EFI petition date, EFI had open loans with outstanding principal balances totaling approximately $ million secured by real estate funded by direct investors and through investments by EFMF (EFMF itself had investors). DMF. As of the effective date of EFI s plan, the real estate sold by the EFI Trustee resulted in gross proceeds of approximately $ million. DMF. Through the sales of real properties, the EFI Trustee paid over $ million to investor-creditors, including $ million to the EFMF Trustee for the benefit of EFMF s creditors. DMF 0. The magnitude of the real properties subject to EFI s loans, and the value of those real properties, weighs against the conclusion that EFI/EFMF were a Ponzi scheme. Likewise, the magnitude of loans that successfully closed prior to EFI/EFMF s bankruptcies, and with the investors repaid on their investments, also weighs against Bryan Cave s Ponzi scheme assertion. Between and 00, EFI originated and closed,0 loans with loan amounts totaling over

24 Main Document Page of 0 0 $ million funded by over $ million in funding by investors. DMF. Between 00 and 00, EFI originated and closed at over $00 million in loans with over $ million in funding. DMF. Those loans all closed and investors in those loans were paid off. DMF. As of the petition date, loans remained outstanding, with loan amounts of over $ million with over $ million in funding by investors. DMF. That equates to over % of EFI s loans (,0 out of,) closing between and the petition date. DMF. As to the $ million in open loans outstanding at the petition date (with over $ million in funding by investors), the Trustees recovered gross proceeds of approximately $ million ($. Million of which are from liquidation of the properties subject to the loans) by selling the properties subject to those loans, and through other recoveries. DMF. E. Focusing on Three Isolated Projects, Bryan Cave Improperly Relies on the Court Making an Inference That the Issues Are the Same for EFI s Entire Business Bryan Cave cherry-picked three projects (the Three Projects ) with a total of loans out of open loans as of the petition date - () Highwater Estates in Granada Hills; () San Luis Drive in San Luis Obispo; and () Carmel Road in Atascadero - to show that loan funds from other projects were used to pay interest payments on the Three Projects, that loan defaults were hidden from investors, and that land remained undeveloped. Bryan Cave argues that such conduct bars relief under California s unclean hands and in pari delicto doctrines. Notably, Bryan Cave does not submit the declaration of any expert as to interest payments made on the Three Projects, or any other projects; instead, it relies on EFI s books and records to request improper inferences in its favor (which inferences cannot be made in the context of a summary judgment motion), and then characterizes each of EFI s ongoing projects in the same manner despite having failed to submit an iota of evidence about the other projects. Nor does Bryan Cave mention that, although the three properties were undeveloped at the time of bankruptcy, more than $ million of the funded amount for the Three Projects was paid in connection with the early-phase work on those projects (including geotechnical surveys and studies, site inspection and planning, conceptual design, entitlement analysis, landscape work etc.). DMF.

25 Main Document Page of 0 0 The reason for Bryan Cave s careful selection of the Three Projects is obvious: consideration of other projects would belie its assertion that EFI/EFMF were a Ponzi scheme. DMF. The Trustees four examples of projects that were overlooked by Bryan Cave and that are contrary to its Ponzi theory are loans made by EFI to () Steven James Homes LLC ( SJH 0; () Oakshores LLC; () Buelton Industrial Partners, LLC ( BIP ); and () Pannon Design and Development, Inc. ( PDDI ) DMF. The SJH loan was a $,, loan for new construction, with a -month term. DMF Notably, on this loan: () interest was only paid to investors after the loan funded; () once interest reserves were depleted, the borrower made a payment to cover the remaining interest payments made by EFI; () EFI recorded a deed in lieu of foreclosure on January, 00, an example of EFI taking action upon default of the loan; () all investors on the loan eventually received a recorded assignment of construction deed of trust, including EFMF; () there were no transfers to other loans; and () there were significant construction costs incurred to build a home, and the real estate purchase and loan draws/construction costs represent approximately % of the total loan funding. DMF - 0. The Oakshores loan was a -month, $,,000 loan for land acquisition and development. DMF 0-0. On this loan: () interest was only paid to investors after the loans funded, and the total interest payments were approximately $. million less than the contracted interest reserves for the project; () EFI initiated a foreclosure process on May, 00 and recorded a notice of default on May, 00, another example of EFI taking action upon default of the loan; () there were no transfers to other loans; () of (%) of the investors eventually received a recorded assignment of construction deed of trust; and () there were significant construction costs incurred by the borrower, and the real estate purchases and loan draws/construction costs represent approximately % of the total loan funding. DMF 0-0. The BIP loan was a -month, $,,0 loan for new construction. DMF 0-0. On this loan: () interest was only paid to investors after the loan funded; () the borrower made $,0 in interest payments and approximately $. million in loan payoffs, which allowed for the repayment of principal to investors; () there were no transfers to other loans; () of