Garth Drabinsky faces the music in Canada's first major prosecution of alleged corporate accounting fraud
Theresa Tedesco, Chief Business Correspondent, Financial Post Published: Saturday, May 03, 2008
One of the longest-running legal productions in Canadian history is entering its final act as the criminal-fraud case against Garth Drabinsky and Myron Gottlieb, the co-founders of now-defunct Livent Inc., begins playing out in an Ontario courtroom next week.
Mr. Drabinsky, 58, and Mr. Gottlieb, 64, each face three counts of fraud in connection with the spectacular collapse nearly a decade ago of the Toronto-based company, at the time North America's largest producer of live theatre. The former business partners are accused of deliberately misrepresenting the company's financial health during a nine-year period that led to its bankruptcy in November, 1998.
Charged by the RCMP in 2002 with defrauding investors of $500-million after a four-year investigation, the former executives of Livent, which produced musicals such as The Phantom of the Opera, Ragtime, Showboat and Kiss of the Spider Woman, are themselves the lead actors in Canada's first major prosecution into alleged corporate accounting fraud.
Presiding over the trial, which starts on Monday and is expected to last four months, is Superior Court Justice Mary Lou Benotto, the judge in the controversial tainted-blood trial, one of the biggest public-health scandals in Canadian history. Acting for Mr. Drabinsky and Mr. Gottlieb, who chose to be tried by a judge instead of a jury, are prominent defence lawyers -- and brothers -- Edward and Brian Greenspan, respectively.
What's notable is that the high-profile demise of the Toronto-based theatre company predates a series of stunning multi-billion-dollar accounting frauds -- at Enron, Worldcom, Tyco and Adelphia-- that led to criminal convictions against prominent corporate executives in the United States who are already serving prison sentences.
In Canada, the track record of prosecuting suspected corporate malfeasance has been spotty. For example, it took seven years to sputter through a trial that resulted in an acquittal on insider-trading charges for John Felderhof, formerly of Bre-XMinerals Ltd., a decade after the gold-mining company's implosion. Andrew Rankin, the once-promising investment banker from RBC Dominion Securities, walked away from a conviction for tipping after he appealed the decision. And despite well-publicized RCMP investigations into the activities of a handful of executives at Nortel Networks Corp. and Royal Group Technologies Ltd. dating back to 2004, no official charges have been laid.
"If we're trying to create any sort of deterrence in white-collar crime in Canada, I don't think that what we've done and what the whole system has done in Livent has helped that," said a senior Canadian law-enforcement official who asked not to be named. "I don't think Canadians think it's a satisfactory situation that it took almost six years to move a case through the court system."
Mr. Drabinsky founded Livent in 1990 with business partner Myron Gottlieb, but lost control of the company in June, 1998. As part of an investment deal, Mr. Drabinsky and Mr. Gottlieb agreed to step down from their executive positions to assume purely creative roles, and signed over voting control of their shares in return for a US$20 -million infusion from Michael Ovitz, the former Hollywood talent agent and Walt Disney Co. executive
Almost immediately, the new managers faced the possibility the company was imploding and began bringing the curtain down on some of Livent's money-losing shows.
Robert Webster, Livent's executive vice-president, informed some of the company's investors that it was closing down some of the shows in which they had invested millions.
By the time Mr. Webster made the rounds to those who had purchased royalty rights -- they included Wood Gundy Inc. (now CIBC World Markets), the brokerage arm of Canadian Imperial Bank of Commerce; Dundee Realty Corp.; and the trustees of the estate of the late Andrew Sarlos, the Canadian financier who had been a director at Livent since its inception -- he knew the company had problems few could have scripted. Most of the deals appeared to have strings attached that included a hefty outlay of cash by Livent, which the company could not afford.
Livent's new managers initiated an internal investigation on Aug. 7, 1998. Five of the company's former financial employees led Mr. Webster and others through a maze of alleged accounting irregularities that would eventually reveal massive hidden losses.
Four days later, Livent's board of directors -- among them James Pattison, chairman of the Jim Pattison Group in Vancouver; Alfred Taubman, then-chairman of Sotheby's Holdings Inc.; Conrad Black, former chairman and chief executive of Hollinger Inc.;
Garfield Emerson, ex-president and chief executive of NM Rothschild & Sons Canada Ltd.; and Thomas Lee, a Boston-based leveraged-buyout specialist -- suspended Mr. Drabinsky and Mr. Gottlieb.
The company announced that KPMG had been hired to conduct a forensic audit of the company's books.
The reaction was swift: The Toronto Stock Exchange and NASDAQ, the two exchanges on which Livent's shares traded, suspended the stock, while the Ontario Securities Commission issued a cease-trade order.
The next day, Livent's new managers handed over the initial findings of their internal probe to the OSC and delivered the same package to the Securities and Exchange Commission in Washington. On Aug. 13, the U.S. Attorney's Office in the Southern District of New York opened a file. Soon, the Federal Bureau of Investigation became involved.
In late October, the RCMP began investigating Livent's accounting practices. A month later, the company filed for bankruptcy protection in Canada and the United States. At the same time, the new management team, led by Mr. Ovitz, was publicly slinging legal accusations at the co-founders.
Mr. Drabinsky and Mr. Gottlieb were sued by Livent's management for US$225-million, alleging they codirected a massive fraud that fleeced the company out of $97-million. They also alleged the two co-founders received more than $7.5-million in direct "kickbacks." The suit also alleged the duo cooked Livent's books to inflate earnings and bullied staff with a "tyrannical and abusive" management style to keep them from revealing company secrets.
Mr. Drabinsky countered with a $105-million lawsuit against Mr. Ovitz and members of his management team, claiming they were the authors of an elaborate "conspiracy scheme" to discredit and oust him from the company he founded.
In late December, the RCMP raided Livent's mid-town Toronto head office, seizing 1,000 boxes of financial documents.
The U.S. regulators were first out of the gate. In January, 1999, the SEC and the U.S. Attorney's office filed a bevy of criminal and civil charges against Livent's co-founders and six other former employees. The criminal indictment included one charge of conspiracy, 15 counts of securities charges, making false statements to the SEC and other violations of federal securities laws. If convicted,
Mr. Drabinsky and Mr. Gottlieb each faced 140 years in prison and up to US$16-million in fines.
"Tens of millions of dollars in business losses were concealed and revenues were falsely inflated, making Livent appear to the investor, the SEC and the public to be a more profitable company at a time when it's alleged Livent's actual financial condition was poor and deteriorating," the indictment declared.
In its civil suit, the SEC outlined 17 breaches of U.S. securities laws said to have been carried out by Livent's former managers dating back to 1991.
On cue, Mr. Drabinsky held his own audience in Toronto, to which he declared: "I am innocent and have committed no criminal wrongdoing."
Fearing they wouldn't get a fair trial, the Canadian businessmen refused to voluntarily surrender and appear in a New York federal court to be arraigned on the charges. The U.S. government issued international arrest warrants, making the former Livent executives fugitives.
Meanwhile, all eyes were on Canadian law enforcement and regulatory authorities. Not only had their U.S. counterparts moved quickly, they had characterized the alleged frauds at Livent as basic cookie-jar accounting.
"I don't think any case involving the interpretation of accounting records is simple," said a Canadian law-enforcement source who spoke on condition of anonymity. "How much actual investigation did the U.S. actually do prior to the indictments? We have to believe that we have reasonable and probable grounds that a crime has been committed and make sure we've covered most of the bases."
More frustrating for the RCMP were the internal machinations inside the police force as investigators on the file were constantly replaced. A series of preliminary hearings also ate up the clock after the RCMP laid the charges, reducing the number from 19 originally to three.
Meanwhile, both Greenspan brothers became tied up in other lengthy trials.
Jacob S. Frenkel, a Maryland-based securities lawyer and former SEC and U.S. assistant attorney, said delays are often part of a good defence strategy. "It highlights how defendants who can successfully avail themselves of procedural delays can make serious conduct appear ancient when the case finally gets to trial."
As they prepared their defence, Mr. Drabinsky continued producing reality shows, and Mr. Gottlieb attempted to sue a group of prominent lawyers and accountants for an alleged "conspiracy." Both dabbled in business ventures and both opened offices in Toronto's trendy Yorkville area.
Now, with the long-awaited trial set to begin, the Crown is expected to focus on a series of alleged aggressive accounting practices at Livent over a nine-year period that led to its bankruptcy. Veteran Crown prosecutor Robert Hubbard has likely built a case on documentary records, most legal observers agree, given that they do not suffer from the frailties of the passage of time the way testimony can.
"The Crown obviously feels it has a strong case worthy of prosecution and that the passage of time has not diminished it," said Richard Powers, assistant dean at the Joseph L. Rot-man School of Management at the University of Toronto. "Prosecutors are getting very good at these cases because they've learned from their past mistakes, most notably Bre-X. But they are still in tough because of the amount of time that has passed."
The charges against Messrs. Drabinsky and Gottlieb cover a long period of time and numerous activities in an attempt to show the Livent co-founders engaged in questionable conduct to overstate the company's earnings and conceal improper payments.
The strategy for the prosecution is to convince Judge Benotto that there was a systematic pattern of behaviour by which investors were defrauded or deceived, rather than show individual acts of fraud, which if not all proven, could derail the entire case.
James Morton
1100 - 5255 Yonge Street
Toronto, Ontario
M2N 6P4
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