Misconduct and Vicarious Liability under NRS 87.150

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UNITED STATES DISTRICT COURT

FOR THE DISTRICT OF NEVADA

CASE NO. 2:14-cv-00111-JCM-NJK

                         

MEMORANDUM OF POINTS  AND AUTHORITIES                                             OPPOSITION TO FREDERICK HIPWELL’S MOTION TO DISMISS AMENDED COMPLAINT                                             
 

Plaintiff, W. A. Sokolowski (“Plaintiff”), by and through his
undersigned counsel, respectfully submits this Memorandum of Points and
Authorities in Opposition to the Motion to Dismiss the Amended Complaint (“Motion
to Dismiss” or “Motion”) filed by Defendant, Frederick Hipwell (“Hipwell”).  For the reasons stated below, Hipwell’s Motion to Dismiss should be denied in its entirety.

  1. I.
    PERTINENT FACTS AND PROCEDURAL HISTORY

This shareholder’s action is brought by Plaintiff derivatively on behalf of Sands,
asserting claims of, inter alia, proxy fraud and the cover-up of criminal and other investigations of bribery, money laundering and other illegal activities, in violation of the Foreign
Corrupt Practices Act (“FCPA”), the Bank Secrecy Act, the Securities Exchange
Act, and applicable state and other laws, all with the knowledge or
acquiescence of Sands’ Board of Directors (the “Board”), its Audit Committee,
and the Company’s former auditor, Pricewaterhouse Coopers, LLP (“PWC”),
subjecting Sands and its shareholders to presently incalculable damages.

Sands and its subsidiaries have been the subject of long-running criminal and civil
investigations by the U.S. Department of Justice (“DOJ”), the Securities and
Exchange Commission (“SEC”), and various regulatory bodies in the U.S. and
China.  Any finding of violations of the FCPA could have a material adverse effect on the Company’s financial condition.  Such violations of law also
jeopardize Sands’ gaming license pursuant to rules of the Nevada Gaming Control
Board (“NGCB”).

On June 10, 2011, the Board authorized its Audit Committee, composed of three Board
directors, Defendants Irwin Siegel, Jason Ader, and Jeffrey Schwartz, to
respond to an SEC subpoena and DOJ inquiry concerning the Company’s operations
in Macau.  Am. Complt. ¶¶ 67, 151.  The Audit Committee “retained” Richard Grimes
and Daniel Bookin, partners at O’Melveny & Myers, LLP (“O&M”), as its
counsel.  Am. Complt. ¶¶ 67, 148, 151.

On July 26, 2011, the Board designated the Audit Committee as a “special litigation
committee” (“SLC”) and expanded its powers to include investigating the
allegations raised in Moradi v. Adelson et al., Case Nos. 2:11-cv-490.  Am. Complt.
¶¶
146, 151.  Moradi, a shareholder action pending in this Court, is related to a pending state court action entitled, Kleinschmidt v. Adelson, et al., Case No. A-12-658749B;
both cases are currently stayed.

In August 2012, the Audit Committee, with the aid of O&M, prepared a report for the NGCB
that stated the Company’s “controls and books and records were not sufficient.”  Am. Complt. ¶ 73.  On March 1, 2013, the Company disclosed that it informed the SEC in its December 31, 2012 filing, that an internal review found the Company “likely violated” the books and records and internal control provisions of the FCPA.  Am. Complt. ¶¶ 74, 147.  Despite substantial evidence of violations by Defendant Adelson and other Board members, steps were not taken to
remedy the wrongdoing.  Am. Complt. ¶ 155.  To the contrary, it is alleged that
the Board delayed the conclusion of the Audit Committee investigation and
refuses to produce its final report or act upon its recommendation due to the
request of Defendant Adelson and his interest to minimize sanctions that would
be imposed by the DOJ and/or the SEC against Sands or him.  Am. Complt. . ¶ 77.

As part of its annual audits of Sands’ financial statements,it was PWC’s responsibility to
evaluate the Company’s internal controls, which it repeatedly failed to do,
before and throughout the period of Plaintiff’s stock ownership.  Defendant Hipwell had supervisory and/or oversight responsibility for PWC’s audits of Sands’ year-end financial
statements.  Despite knowing otherwise, PWC repeatedly and falsely stated in its annual opinion letters that the Company maintained effective internal controls.
Am. Complt. ¶¶ 125, 128, 129.   Defendant Hipwell knew or should have known
that these “clean” opinion letters were false and misleading.  Am. Complt. ¶ 126, 130.  Had PWC conducted its year-end audits of Sands’ financial statements in conformity with Generally Accepted Auditing Standards (“GAAS”), as it was contractually obligated to do, and as an expert in auditing of casino businesses, it and Hipwell would have known that the
Company’s internal controls were materially deficient.  Am. Complt. ¶ 126.

Additionally, Hipwell and PWC failed to provide to the Company the independent auditing services it was well-compensated to provide.  Am. Complt.
¶ 132.  For approximately 25 years, PWC was beholden to Defendant Adelson, providing him and entities he controlled, with auditing, consulting and other services.
At times when it was providing non-audit services to Sands and or entities
controlled by Defendant Adelson, PWC was not independent insofar as Sands,
despite its false representations otherwise.  Id.  For example, PWC was
paid more than $200,000 in 2008 for consulting services on the Richard Suen
lawsuit.  This payment was made while PWC served as Sands’ outside auditor.  As
Hipwell and PWC undoubtedly were aware, it is a violation of the auditor
independence rule to advocate for an audit client in court while opining on the
client’s books and records.  Am. Complt.
¶ 81.

It is alleged that PWC resigned as Sands’ auditor due to its concerns about potential
exposure from the re-trial of the Suen case, as well as the Company’s public disclosure
of likely FCPA violations.  Am. Complt. ¶¶
79-81.  Such known facts compromised PWC and was evidence that its audits of
Sands financial statements, including the one completed on or about February
29, 2012, after Plaintiff became a Sands stockholder, were not carried out in
conformity with GAAS.[1]  Am. Complt. ¶ 81.

In an April 2013 SEC filing, Sands reported that PWC resigned as the Company’s auditor
after working for Defendant Adelson and companies he controlled for 25
years.  Am. Complt. ¶¶ 79, 134.  Even after the resignation, PWC and Defendant
Hipwell allowed the Individual Defendants to cover up their wrongdoing.  Complt. ¶ 135.

Plaintiff made a pre-suit demand on the Board, pursuant to Federal Rule 23.1, on January 22,
2013 (“Demand Letter”), prior to PWC’s resignation as auditor.  Am. Complt. ¶ 142.  Richard Sauber, Esq., counsel for defendants in Moradi, responded in the guise of acting for Sands’ Board, that the Demand Letter was referred to the Audit Committee, despite the fact that the
wrongdoing described in the Demand Letter involved fundamental failures and
legal culpability of the members of the Audit Committee.  Am. Complt. ¶¶ 149, 150.

The Board has been disingenuous as to its actual response to Plaintiff’s pre-suit Demand
Letter.  In fact, most of Plaintiff’s claims therein have been completely ignored.
Only Plaintiff’s FCPA allegations have been explored in the context of
the already pending Audit Committee investigation.  Am. Complt. ¶¶ 146, 149, 153, 156.  Given that these claims deal with the entire accounting and controls at Sands, they presumably encompass the wrongdoing of PWC and Hipwell.  However, the details
about this claimed investigation into Sands’ practices and violations of the
FCPA have been closely guarded and not disclosed to shareholders, to the SEC or
otherwise.  Am. Complt. ¶ 76, 161.  Plaintiff’s counsel repeatedly sought to
learn from  Daniel Bookin, Esq. , counsel
to the Audit Committee as well as his colleague, Richard Sauber, Esq., counsel
for all defendants, material facts relating to the purported investigation of
Plaintiff’s demands by the SLC, and he was repeatedly stonewalled.  Am. Complt. ¶ 163.

The Company spent years representing in court that the claimed Audit Committee
investigation into the Company’s FCPA violations was purportedly ongoing.  As of March 2014, the Company announced that the investigation had been completed.
Am. Complt. ¶ 75.  Nevertheless, notwithstanding its materiality, no report by the SLC, the Audit Committee or the Board has been made public or communicated to Sands’ shareholders.    Am. Complt. ¶¶ 76, 161, 164.  It is believed that the timing of the
conclusion of the investigation and issuance of a final report has been delayed
at the request of Defendant Adelson or counsel representing his interests in negotiations
with the SEC and DOJ investigators.  Am.
Complt. ¶ 77.

The Board acted in bad faith by refusing to investigate most of Plaintiff’s claims, other
than the FCPA allegations which already were part of the Audit Committee
investigation. Am. Complt. ¶ 156.  Despite the years spent investigating Plaintiff’s FCPA allegations, there is no indication that the SLC ever made a determination or recommendation
to the Board as to any of Plaintiff’s demands.  Am. Complt. ¶ 77. Certainly, none was ever communicated to Plaintiff or his counsel.

This action exposes the Board’s bad faith handling of shareholder complaints about and
government investigations into the Company’s FCPA violation and other very
serious wrongdoing.  Plaintiff sheds light on the Board’s waste of corporate funds, by, inter alia,
designating the Audit Committee as a SLC and directing its purported investigation solely to benefit the Individual Defendants who are exposed to serious
personal liability for operating Sands without adequate controls and in
violation of laws fundamental to the responsible conduct of the Company’s
business.

It is undisputed that the Board refused to disclose to Sands’ shareholders the Audit
Committee report and has provided no formal response to Plaintiff’s Demand
Letter. The only action taken by the Board in response to Plaintiff’s Demand
has been to file a motion to dismiss this litigation including the claims
against Hipwell.  Such motion provides further evidence that Plaintiff’s demands have been de facto rejected, and that a specific demand for Sands to sue Hipwell would have been futile.

II.        ARGUMENT

In attacking Plaintiff’s claims against Defendant Hipwell, two basic arguments are asserted,
neither of which are persuasive.  At the outset, Plaintiff asserts that the claims asserted against Hipwell are based upon numerous examples of wrongful conduct which occurred after he became a Sands shareholder, including the false and misleading “clean” opinion
issued in February 2012, and the participation, before and after PWC’s
resignation in April 2013, in the cover-up of the Individual Defendants’
wrongdoing.   Thus, any objection
to Plaintiff’s allegations based on Rule 23.1’s contemporaneous and continuous
ownership requirement fails.

  1. A.    Defendant Hipwell is Not Shielded by the Nevada Statute

Defendant Hipwell incorrectly asserts that he is shielded from liability by virtue of the
Nevada statute, NRS 87.150.  While limited partners in a foreign registered limited liability partnership, such as PWC, are partially shielded from personal liability, Defendant Hipwell, as the managing partner of PWC, loses his limited liability protection, as discussed
more fully below.

Generally, partners are jointly and severally liable for all obligations of the
partnership.  The Nevada statute provides that all partners are liable “Jointly and severally for everything chargeable to the partnership” and “Jointly for all other debts and
obligations of the partnership.”  NRS 87.150 (1)(a) and (b).

In a registered limited liability partnership (“LLP”), such as PWC, the Nevada
statute affords a partial shield to partners, protecting them from personal
liability for debts of the entity or wrongful conduct of other partners.  Specifically, the statute states as follows:

[A] partner in a registered limited-liability partnership is not liable directly or
indirectly, by way of indemnification, contribution, assessment or otherwise,
for debts, obligations or liabilities of or chargeable to the partnership,
whether in contract, tort or otherwise, arising from omissions, negligence,
wrongful acts, misconduct or malpractice committed while the partnership is a
registered limited-liability partnership and in the course of the partnership
business by another partner or an employee, agent or representative of the
partnership.”  NRS 87.150(2).

 Notwithstanding the general rule of limited liability, the partners of an LLP remain responsible for commercial and other general business obligations of the partnership, as well as for their own misconduct and for the misconduct of those partners and employees under their supervision.  The Nevada statute contains an express provision to that effect:

Subsection 2 does not affect the liability of a partner in a registered limited-liability partnership for his or her own omissions, negligence, wrongful acts, misconduct or malpractice or that of any person under his or her direct supervision and control. NRS 87.150 (3).

 

It is undisputed that Hipwell serves as one of PWC’s managing partners.  In this capacity, he exercises supervisory authority over all the partnership activity, is active in the daily management of PWC’s Las Vegas office, and oversees the operation of professional services
rendered to the gaming industry.  Undoubtedly,
as alleged in the Complaint, he directly participated or directly supervised
those who participated in the audit of Sands’ financial statements, which
generated so much lucrative business for PWC.   However, the exact nature of Hipwell’s
involvement in the Sands’ audit, as well as his knowledge about the account,
are factual questions which should not be resolved on a motion to dismiss.  Lynch v. Rawls, 429 Fed. Appx. 641, 644 (9th Cir. 2011) (overturning derivative action dismissal where the district
court “drew inferences in favor of defendants rather than plaintiffs, resolved
factual inconsistencies without discovery, and analyzed plaintiffs’ allegations
individually rather than collectively”).

As such, Defendant Hipwell is directly liable for his own misconduct and
vicariously liable for the misconduct of the partners and employees under his
supervision, as well as for any failure on his part to exercise appropriate
supervision or to take appropriate actions once he was apprised of the issuance
by PWC of false and misleading audit opinions regarding Sands’ financial statements
and financial controls for fiscal years 2011 and 2012, issued after Plaintiff
became a stock owner.[2]

None of the cases cited by Hipwell support a different result.  Indeed, Hipwell does not cite to one case involving a Nevada corporation.  The
cases cited invoke New York and California law, whereby the LLP statutes
contain language that is different than that which is contained in the Nevada
statute, and which are, in any event, inapplicable here. 

B.        Plaintiff Adequately Pleads Demand Futility

Under Delaware law, there are two types of tests applied to claims of demand futility under
Rule 23.1.  The two-prong test articulated in Aronson v. Lewis, 473 A.2d ___, 814-815 (             ), applies to the majority of actions.  As the Delaware court explained
in Kaplan v. Peat, Marwick, Mitchell & Co., 540 A.2d 726, __ (Del.
1988), a case cited by Hipwell, “[t]he application of the demand futility
test articulated in Aronson presupposes that the corporation has taken a
hostile position regarding the derivative litigation.”  Likewise, in this case, motions to dismiss
have been brought by Hipwell, a third party, as well as by Sands and the
Individual Defendants.

Nonetheless, Hipwell argues that this case falls outside the scope of the demand futility
test enumerated in Aronson.  According to Hipwell, Rales v. Blasband, 834 A.2d 927 (Del. 1992) governs since the challenged transaction(s) at issue here involves the actions
of a third party in fulfilling his duties to the subject corporation.

In the case at bar, it does not matter whether Aronson or Rales applies.  Under either approach, demand is excused if Plaintiff’s particularized allegations create a reasonable doubt as to whether a majority of the Board faces a substantial likelihood of personal liability
for breaching the duty of loyalty by acting in bad faith. See, e.g., In re
SAIC Inc. Derivative Litig
., 948 F. Supp. 2d 366, 382 (S.D.N.Y. 2013)
(“[T]he difference between Rales and Aronson may blur in
cases like this one, since the particularized allegations essential to creating
reasonable doubt as to a substantial likelihood of personal liability for
breach of fiduciary duties may also implicate the question whether the Board
can avail itself of business judgment protections.”),  aff’d sub nom. Welch v. Havenstein,
553 F. App’x 54 (2d Cir. 2014).

While Hipwell is correct that many cases involving demand futility analyze each individual director to determine whether demand is excused, it is appropriate for this Court to
evaluate the Board as a whole.  See,
e.g., Pfizer
v. _________, 722 F. Supp. 2d at 461 (                           ).

Performing such an analysis, it cannot be disputed that the Amended Complaint asserts a
multitude of specific factual allegations which create a reasonable doubt that,
at the time of filing, the Board could have properly exercised its independent
disinterested business judgment in responding to a demand.  Contrary to Hipwell’s assertion, the fact that PWC resigned (under circumstances that reflected negatively on its
purported independence) does not contravene the fact that the Board could not
impartially evaluate potential claims against PWC.  Such is the case especially in light of the
allegations that PWC continued to cover-up the wrongdoing of Individual Defendants
post-resignation.

Rich ex rel. Fuqi Int’l, Inc. v. Yu Kwai Chong, 66 A.3d 963 (Del. Ct. of Ch. Apr. 25, 2013) is instructive.   There, the plaintiff alleged that the company
took steps to begin an investigation into his demands but did not act on information
uncovered regarding some amount of corporate mismanagement.  The special committee appointed by the Board to investigate the demand became defunct before making a recommendation.  The company deliberated abandoned the
investigation, and took no formal action.  The court found that these allegations were sufficient to raise a reasonable doubt whether the Board acted in good faith.

Likewise, the Board’s refusal to investigate most of
Plaintiff’s demands, along with the delay tactics with respect to Plaintiff’s
FCPA allegations have been so egregious that they can only be characterized as
bad faith.  After years of claiming the
Audit Committee investigation of FCPA violations, as raised by the SEC and DOJ,
was still ongoing, Sands finally admitted the investigation was complete in
March 2014.  Am. Complt. ¶ 161.  Despite the completion of the investigation, any
report generated was not made public, provided to Sands’ shareholders or
submitted to the SEC.

The Board provides no rational excuse for not making
public the highly material Audit Committee report and the results of its
investigation.  If, presumably, the Audit
Committee’s investigation was thorough and proper, and the Board adopted the
recommendations of the Audit Committee to improve the Company’s financial
controls and books and records, then the Company would face no risk in
disclosing the details of the internal investigation.  The very fact that the Board is wary of
providing this highly material information in the face of the still pending
government investigations, and in light of Plaintiff’s allegations that the
Board has been “stonewalling” the government investigations, is further
evidence of bad faith.

As such, not only did the Board know the Company had
insufficient controls, at the time of the filling of the Amended Complaint, but
the Board intentionally refused to fix the problem, and instead, acted in bad
faith in “stonewalling” government investigations and shareholder derivative
litigation.  Under these circumstances,
it would have been futile for Plaintiff to submit an additional demand on the
Board to sue Hipwell for wrongdoing, which is inherently encompassed by the
internal investigation already conducted by the Audit Committee, and for which
the Board in bad faith refused to act upon.

III.       CONCLUSION

For the
reasons stated above, and based on the authority cited, Plaintiff respectfully submits
that Hipwell’s Motion to Dismiss the Complaint should be denied.

Dated: November __, 2014                                        __________________________________

G. Mark Albright

Nevada
Bar No. 1394

William
H. Stoddard, Jr.

Nevada
Bar No. 8679

Albright,
Stoddard, Warnick and Albright

801
S. Rancho Dr. D4,

Las Vegas, NV
89106

(702)
384-7111

gma@albrightstoddard.com

bstoddard@albrightstoddard.com

Ilene
F. Brookler

Richard
D. Greenfield

Marguerite
R. Goodman

Greenfield
& Goodman, LLC

250
Hudson Street, 8th Floor

New
York, NY 10013

917-495-4446

ibrookler@gmail.com

whitehatrdg@earthlink.net

twowhitehats@earthlink.net

Scott
R. Shepherd

SHEPHERD,
FINKELMAN, MILLER & SHAH, LLP

35 E.
State Street

            Media, PA 19063

Tel:
610-891-9880

sshepherd@sfmslaw.com

Rose
F. Luzon

SHEPHERD,
FINKELMAN, MILLER & SHAH, LLP

401
West A Street, Suite 2350

San
Diego, CA 92101

Tel.:
619-235-2416

rluzon@sfmslaw.com

Attorneys for Plaintiff, W.A.
Sokolowski

About the Authors: The law firm of Albright, Stoddard, Warnick & Albright is an A-V Rated Nevada-based full-service law firm having attorneys licensed in Nevada, California and Utah.  Our firm’s practice includes a strong emphasis on construction law, contracts and litigation in the jurisdictions where we are licensed.

Note: This article, and any other information you obtain at this website, is not offered as legal advice, nor should it be relied upon as such, nor is it a solicitation for legal services.  Only a licensed attorney can advise you with respect to your specific legal needs. We welcome your contacting our firm to discuss such representation.  Contacting us does not create an attorney-client relationship. Please do not send any confidential information to us until such time as an attorney-client relationship has been established.



 


[1] Hipwell argues that Plaintiff’s allegations regarding PWC audits being compromised by consulting services performed in 2008 is irrelevant due to the fact that these services
were performed prior to Plaintiff’ become a shareholder.  Such argument misses the point of these allegations.  The key to these allegations, as made clear by the Amended Complaint, was the fact that PWC, even after its resignation, when Plaintiff surely was a shareholder, continued
to cover-up the wrongdoing of the Individual Defendants, in part to protect its
own misconduct, which it feared was about to be exposed.

[2]Additionally, Hipwell may have liability in accordance with any partnership agreement he maintains with PWC.  Nevada courts respect the provisions of partnership agreements. NRS 87.4316.

About the Authors: The law firm of Albright, Stoddard, Warnick & Albright is an A-V Rated Nevada-based full-service law firm having attorneys licensed in Nevada, California and Utah. Our firm’s practice includes a strong emphasis on personal injury accidents. Call us at 702-384-7111.

Note: This article, and any other information you obtain at this website, is not offered as legal advice, nor should it be relied upon as such, nor is it a solicitation for legal services. Only a licensed attorney can advise you with respect to your specific legal needs. We welcome your contacting our firm to discuss such representation. Contacting us does not create an attorney-client relationship. Please do not send any confidential information to us until such time as an attorney-client relationship has been established.

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