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United States v. Gibson

United States District Court, D. Delaware

February 20, 2018

UNITED STATES OF AMERICA, Plaintiff,
v.
DAVID R. GIBSON, ROBERT V.A. HARRA, WILLIAM B. NORTH, and KEVYN RAKOWSKI, Defendants.

          MEMORANDUM ORDER

         The Government filed a motion regarding defense expert witnesses. (D.I. 379). Defendants filed a response. (D.I. 395).[1] The Court held oral argument. (D.I. 539). Following Wilmington Trust Co.'s dismissal from the case on October 12, 2017 (D.I. 583), the Government filed a second motion regarding defense expert witnesses (D.I. 628), to which Defendants responded (D.I. 642). The Court held oral argument on February 12, 2018. (D.I. 655).

         The Government's original motion raised two general arguments, the second of which was that Wilmington Trust's[2] disclosures of expert testimony did not comply with Federal Rule of Criminal Procedure 16(b)(1)(C). (D.I. 379 at 1). That rule requires a defendant to disclose a "written summary" of intended expert testimony, to include "the witness's opinions, the bases and reasons for those opinions, and the witness's qualifications." Fed. R. Crim P. 16(b)(1)(C). The Government submitted that the opinions and the bases and reasons for those opinions were inadequately disclosed. (D.I. 379 at 1). In particular, at issue were the disclosures related to experts Pelagatti, Siefert, and Lawrence.[3] The Government now argues in its second motion that the supplemental disclosures related to Pelagatti remain deficient. (D.I. 628 at 5). In particular, the Government maintains that those disclosures "(1) fail to confine the universe of relevant auditing standards, as directed by the Court; and (2) introduce a large list of peer banks whose unspecified disclosures Mr. Pelagatti will testify about at trial." (Id.).

         As to the Government's first argument, I explained on February 12th that I think the supplemental disclosure, which identifies thirty-six auditing standards, is generally consistent with Wilmington Trust's previous representations in regard to narrowing the universe of relevant standards. (See D.I. 655 at 88:16-25). The Government indicated that it may request additional disclosures related to those standards depending upon how I rule on the substantive issues presented by Pelagatti's proposed testimony. (See Id. at 88:3-6, 89:1-8, 10-12).

         As to the Government's second argument, Defendants agreed at the hearing to narrow their disclosure in regard to the sixty-seven peer banks Pelagatti may discuss to support his opinions. (Id. at 95:10-13). Defendants agreed to narrow that disclosure by February 26, 2018. (See Id. at 95:20-25).

         In terms of Pelagatti's opinions, I see four in the September 2, 2016 written disclosure. (D.I. 379-1, Exh. A). I would summarize them as: (1) authoritative audit guidance can be found in the generally accepted auditing standards of the Public Company Accounting Oversight Board (United States); (2) a bank could reasonably rely on the opinions of its external auditor regarding whether SEC filings appropriately applied generally accepted accounting principles and "predominant banking practices;" (3) authoritative accounting and audit guidance relevant to SEC filings can be found in U.S. GAAP, FASB Accounting Standards Codifications, rules and interpretive SEC releases, U.S. GAAS, and "predominant practices;" and (4) under GAAP and other "authoritative accounting and financial reporting disclosures guidance, " there were "multiple reasonable interpretations" as to how to report "matured, current for interest loans that are in the process of renewal or extension, " and that it was "reasonable not to report such loans as past due."

         At argument on September 23, 2017, Wilmington Trust said Pelagatti's testimony would include: (1) how audits work (D.I. 539 at 64:13-16)[4]; (2) customs and practices with respect to reporting past due loans (id. at 64:16-19)[5]; (3) customs and practices with respect to dealing with the external auditor (id. at 66:5-17; 78:1-80:19)[6]; (4) how the KPMG audit of the Bank worked specifically (id. at 76:1-3)[7]; and (5) relevant changes to GAAP during the relevant time period (id. at 96:22-98:22).[8]

         I think three issues remain in regard to Pelagatti.[9] The first is to what extent he has to explain the bases of his opinions about what other banks do. The second is whether he can testify as to what is reasonable for Defendants to infer from KPMG's silence on an issue. The third is whether he can testify about whether Defendants' interpretation of "past due loans" is a reasonable interpretation.

         First, as I understand it from the argument in September, Pelagatti would testify that it was a custom and practice of banks during the relevant time period to report loans as past due, or not to report them as past due, based on some set of criteria. The basis for his opinions was said to be solely from experience as an outside auditor auditing banks in this region during that time period. (Id. at 95:7-19). He has not disclosed any banks whose practices are the basis for his conclusions about what banks generally did. (Id. at 96:6-7; 98:23-99:4). Subsequent to the argument, and showing some flexibility in approach, Wilmington Trust submitted a supplemental memorandum stating that Pelagatti could offer the same opinions without relying upon his experience as an outside auditor. (D.I. 555 at 7).[10] The Bank also suggested that he could testify based upon experience but refuse to identify his clients on cross-examination. (Id. at 5).

         I do not think having a dispute before the jury about what Pelagatti has to disclose is a good idea. It would be an irrelevant and confusing sideshow. I also do not think that having an opinion based on nothing but confidential information that cannot be disclosed to the jury is admissible expert testimony. It is the essence of ipse dixit testimony. There is no way effectively to test its reliability. On the other hand, I think it is possible he can base his opinions on the other grounds upon which he now relies. In any event, I stated at the February 12th hearing that I thought it would be helpful to hold a Daubert hearing in regard to Pelagatti's proffered customs and practice testimony. That hearing is now scheduled for February 27, 2018. (D.I. 653).

         The second and third issues relate to Pelagatti's opinions on reasonableness. The parties generally agree that Pelagatti can testify about the interactions between the Bank and its auditor, and what the expectations of the Bank would be from its auditor. The point of dispute is whether Pelagatti can testify that it would be reasonable for Defendants to conclude from KPMG's lack of an audit finding that faulted the Bank's handling (including the "waiver practice" and the "mass extension") or reporting of past due loans that there was no issue with the way the Bank handled or reported past due loans. (D.I. 539 at 84-85). The Government says that such testimony would be inadmissible under Rule 704(b), which states, "In a criminal case, an expert witness must not state an opinion about whether the defendant did or did not have a mental state . . . that constitutes an element of the crime charged or a defense. Those matters are for the trier of fact alone."

         His other reasonableness opinion is that Defendants could have reasonably concluded that the way the Bank handled past due loan reporting would comply with reporting requirements. (Id. at 91-92). The Government says the proposed testimony is inadmissible under the authority of Berckeley Investment Group, Ltd. v. Colkitt, 455 F.3d 195 (3d Cir. 2006).[11] The take-away that the Government has from Berckeley is that an expert's testimony that "in light of the . . . routine industry practice it was reasonable for [plaintiff] to have believed that it was entitled [to an exemption under the securities laws] is inadmissible because it concerns [plaintiffs] legal duties resulting from the various SEC pronouncements." Id. at 218. In its briefing, Wilmington Trust did not seem to disagree with the Government's view, arguing instead that Berckeley required the exclusion of various Government experts' opinions as well as Pelagatti's opinion that '"the accounting for and recognition of matured, current for interest loans that are in the process of renewal or extension for banks was subject to multiple reasonable interpretations.'" (D.I. 379 at 3). (I have separately excluded the Government experts' opinions about the interpretation of "past due loans." (D.I. 559 at 1-2)). Further, at argument, Wilmington Trust recognized that it could obtain much of what it seeks without testimony about the legal duties arising from industry practices.

         I think the two "reasonableness" opinions present different issues. As to the first, I expect that the jury will be able to decide whether Defendants could, or could not, infer something from KPMG's actions or inactions. There is going to be substantial evidence, and, I expect, disputes about what was, or was not, told to KPMG. This will include Pelagatti's testimony about the nature of a bank/auditor relationship, including what an auditor is supposed to do. It will be up to the jury to sort out, from what is likely to be a complex and disputed set of facts, what Defendants might have inferred. I do not think it would be helpful for the jury to be told generally that a bank could take silence from an auditor to mean approval, or lack of disapproval. See Fed. R. Evid. 701(b). Thus, Pelagatti is PRECLUDED from testifying that a bank in general, or Defendants in particular, could rely upon the silence of an auditor in general, or KPMG in particular, to reach a conclusion about the appropriateness of the conduct that was not commented upon. Of course, Defendants can make that argument to the jury, based on Pelagatti's expected testimony about what "an auditor's obligations are, " "what it means for [an auditor] to sign on the financials and what under the auditing standards their obligations are before they do that." (D.I. 539 at 86; see Id. at 85:1-4).

         As to the second "reasonableness" opinion, based on Berckeley, I think the Government has the better of the argument. Thus, assuming Daubert requirements are met, Pelagatti can testify as to what the customs and practices of the banking industry were in relation to reporting past due loans, but he cannot opine on whether the customs and practices were legal or reasonable. Pelagatti is PRECLUDED from testifying that the Bank's reporting of past due loans was a reasonable ...


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