Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 1 of 30 PageID #:391

IN THE UNITED STATES DISTRICT COURT FOR THE NORTHERN DISTRICT OF ILLINOIS EASTERN DIVISION THE UNITED STATES OF AMERICA, ex rel. KENNETH CONNER, Plaintiff, vs. PETHINAIDU VELUCHAMY; AMRISH MAHAJAN; JOHN BENIK; THOMAS PACOCHA; JAMES MURPHY; RIC BARTH; PARAMESWARI VELUCHAMY; ARUN VELUCHAMY, ANU VELUCHAMY; JAMES ROTH, RONALD TUCEK, PATRICK McCARTHY; JAMES REGAS; THE VELUCHAMY FAMILY FOUNDATION; ADAMS VALUATION CORPORATION; and DOUGLAS ADAMS Defendants. ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) )

CASE NO. 11 CV 4458 QUI TAM LAWSUIT Hon. Sharon Johnson Coleman

JURY TRIAL DEMANDED

RELATOR KENNETH CONNERS COMBINED RESPONSE TO MOTIONS TO DISMISS FILED BY JOHN BENIK, ET AL, PATRICK MCCARTHY AND RONALD TUCEK, AND DOUGLAS ADAMS AND ADAMS VALUATION CORPORATION Pursuant to leave previously granted by this Court to file a single response, relator Kenneth Conner, by and through his attorneys, Matthew J. Sullivan and Joseph T. Gentleman, states as follows in response to the three pending motions to dismiss filed by defendants John Benik, et al, Patrick McCarthy and Ronald Tucek, and Douglas Adams and Adams Valuation Corporation:

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 2 of 30 PageID #:392

INTRODUCTION This is a case about a bank systematically hiding risky loan decisions from the FDIC through its sweetheart relationship with an appraiser who, wherever necessary, inflated appraisals to make loans made by the bank appear to conform to the 80 percent or lower loan-to-value ratio supervisory limit set forth in the FDICs regulations. Why would a bank want to do this? Banks pay premiums to the FDIC for their deposit insurance, and those premiums are based on the banks risk category. When a bank discloses to the FDIC a significant number of loans that do not conform to the FDICs supervisory limits for loan-to-value ratio, a disclosure that is required under banking regulations, its risk category goes up and it pays significantly more for its deposit insurance. Mutual Bank of Harvey, as a result of the scheme described herein, was assigned the lowest possible risk level by the FDIC and paid the lowest possible deposit insurance premiums in the years leading up to the banks collapse and an estimated (by the FDIC) loss to the FDICs insurance fund of $656-775 million. This is also a case about Kenneth Conner, a whistleblower who worked in appraisal review for Mutual Bank from 2005-2007. Most of the key allegations in

Conners Amended Complaint simply are not mentioned in the three motions filed by defendants. Much more detail is provided below, but Conner repeatedly brought to the attention of Mutual Banks management gross overvaluations of commercial real estate collateral by Adams Appraisal Corporation and when he did so he was rebuffed, upbraided, and instructed to just approve the appraisals. When he refused, he was 2

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 3 of 30 PageID #:393

told to stop work on the appraisal reviews. In certain instances he was told he could not put his appraisal review criticizing Adamss work in the loan file. Mutual Bank management variously told Conner that the inflated appraisals were necessary because [bank president] Amrish Mahajan] and the Board want to do the deal anyway and because if [bank chairman Pethinaidu] Velu[chamy] wanted good appraisals, you would be reviewing good appraisals. Instead of addressing what is actually alleged in the Amended Complaint, defendants see fit sling mud at Conner. Benik, et al, for example, find it so significant that Conner graduated college relatively recently (in 1999) 1 that they look to a pleading from another case in another court to incorporate that fact into their motion. Benik, et al, at 2. Although not within the papers, Benik, et al, and Adams likewise go out of their way point out that Conner is not a licensed appraiser (apparently without appreciating the irony that they themselves put him in charge of appraisal review for Mutual Bank). Id. Perhaps strangest of all, Benik, et al, spend almost as much time in their statement of facts discussing a 2008 state court complaint for retaliatory discharge, a case that was dismissed for want of prosecution after the bank collapsed, as they do the case before the Court. 2 That they take this tact even though they are unable to point out a single discrepancy between the two complaints (filed by different counsel) is particularly baffling. Finally, they falsely state that Conners case was filed after the

1 2

To the extent that it is at all relevant to a motion to dismiss, Conner also earned an MBA in 2004. Benik, et al, do not, as they cannot, contend that the state court retaliatory discharge case erects res judicata bar to the present action. In U.S. ex rel. Lusby v. Rolls-Royce Corp., 570 F.3d 849, 852 (7th Cir. 2009) the Seventh Circuit explicitly held that the resolution of personal employment litigation does not preclude a qui tam action, in which a relator acts as a representative of the public.

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 4 of 30 PageID #:394

federal government itself sued the Banks officers and directors, where in fact Conners lawsuit preceded that FDICs lawsuit by several months. Id. at 1. None of this should distract from what is actually before the Court, which is the specific facts pleaded in the Amended Complaint. FACTS Relator Kenneth Conner was tasked with reviewing commercial real estate appraisals at the Mutual Bank, starting shortly after his transfer to the main branch of the bank located in Harvey, Illinois, in fall 2005 until his termination in October 2007. Amend. Compl. at 22-23. Although it is well understood in the banking industry that having a high concentration of appraisals done by any one company puts a bank at risk by failing to diversify, more than half of the appraisals that Conner reviewed at Mutual Bank were conducted by defendant Adams Valuation Corporation (Adams Valuation Corporation and its principal Douglas Adams are referred to collectively herein as Adams.). Id. at 25-26. Although defendants omit it from their statement of facts, Conner repeatedly brought the inflated appraisals to the attention of Mutual Bank management only to be rebuffed, upbraided, told to stop work and eventually terminated. Id. at 37-38, 42, 45, 51, 53-54, 56-57, 59-61. In the just over two years that Conner was at the Harvey branch of Mutual Bank, Conner identified to Mutual Banks management approximately 75 commercial real estate appraisals that were significantly inflated, the vast majority of which were conducted by Adams. Id. at 52. Except where Mutual Bank management specifically instructed him not to do so (discussed below), Conner 4

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 5 of 30 PageID #:395

generated an appraisal review report, that was placed in the loan file, explaining why he believed Adams appraisal was inflated. Id. at 53. The complaint provides myriad specific examples that make clear that the fact that Adams appraisals were inflated was well known to Mutual Bank management and directors and was not accidental. In 2006, Conner was asked to review an appraisal, conducted by Adams, for the proposed Venturella Resort and Spa to be located in Orlando, Florida. Amended Compl. at 29. The Venturella was to be a renovation of an existing hotel a little over a mile from Walt Disney World. Id. at 30. Rather than relying on comparables that were nearby, Adams instead relied solely upon room price and occupancy rates from an extreme high-end property called the Peabody Hotel that was by a wide margin the most expensive hotel in the wider Walt Disney/Convention Center area. Id. at 31. Whereas the Peabody is located directly adjacent to Orlandos convention center, the Venturella was to be located half a block from a busy intersection near a highway interchange, adjacent to a Dennys, an Olive Garden, a Burger King and a Holiday Inn Express. Id. Likewise the Peabody was located in a 27-story building with landmark appeal and balconies off of its rooms. Id. at 34. By contrast, the proposed Venturella was to be located in a standard six-story hotel building without balconies and with significantly smaller rooms than the Peabody. Id. Even though all of the other hotels in the areaand especially the ones located near the proposed Venturellaall had average daily room rates less than $300, Adams assumed for purposes of its valuation that the Venturella would, like the Peabody, have an average daily room rate in excess of $400. Id. at 35. 5

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 6 of 30 PageID #:396

Reviewing Adams appraisal, Conner conservatively estimated that Adams, which had valued the Venturella property at $22 million, had inflated the appraisal by at least $9.7 million. Amended. Compl. at 36. Adams told bank Senior Vice President James Murphy, Conners immediate supervisor who was in charge of loan review for the bank, that Adams had overvalued the Venturella property by around $10 million. Id. at 13,37. Murphy responded that [Bank President] Amrish [Mahajan] and the Board want to do the deal anyway because the borrower is going to get the bank out of trouble with other properties. Id. at 37. Shortly thereafter, Conner was instructed by Murphy to cease work on the Venturella appraisal review and not to put the work that he had completed in the appraisal presentation. Id. at 39. In 2007, Conner reviewed an appraisal for a two-story retail/office building in Mount Olive, New Jersey. Amended Compl. at 40. The appraisal, which was

unsigned and appeared to be an incomplete rough draft, appraised the property for approximately $2.5 million. Id. However, the draft appraisal failed to articulate any reasonable basis for the $2.5 million figure. Id. Conner reviewed the other comparison properties that were presented in the incomplete appraisal and found that they justified a value of only about $1.5 million. Id. Conner thus informed Murphy that he could not approve the appraisal because it was an incomplete draft that significantly overvalued the property. Id. Shortly thereafter, Mutual Banks Chief Lending Officer John Benik called Conner into his office. Amended Compl. at 42. Benik was visibly angry. Id. Benik upbraided Conner for interfering with a deal that he said the Board wanted to do. Id. 6

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 7 of 30 PageID #:397

Conner explained to Benik that the appraisal was just a rough draft and that it appeared to overvalue the property by almost 70 percent. Id. Benik responded: What are you doing? You are causing problems. Id. Benik told Conner to just go ahead and approve the appraisal. Id. When Conner refused, Benik ordered Conner to cease work on the appraisal review. Id. Adams also systematically inflated its appraisals of gas stations. Amended

Compl. at 48. Here Adams entire methodology for value gas stations was faulty because they used a market capitalization rate that was for retail buildings rather than for gas stations. Id. All other appraisers used a much higher capitalization rate that was specific to gas stations that resulted in much lower valuations. Id. at 49. Because gas stations were a particular area of concentration for Mutual Bank, this systematic error infected a substantial amount of Mutual Banks portfolio. Id. at 50. Conner informed Murphy of the issue three or four times and, likewise, informed Benik and former Bank senior vice president Ric Barth. Id. at 16, 51. All three were dismissive and

responded to the effect that Adams is an approved appraiser. Id. In late 2006, a second appraisal, by a different appraisal firm, was conducted of a hotel property in Evansville, Indiana, that Adams had previously valued at $21 million. Amended Compl. at 47. The second firm determined that the value of the property was only $12 million, stabilizing at $13 million, or some $9 million less than the inflated figure Adams had come up with. Id. The new valuation was presented to the entire Board of Directors, as well as Murphy and Tom Pacocha. Id. The members of the Board of Directors were thus all aware that Adams had overvalued the property by nearly 100 7

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 8 of 30 PageID #:398

percent. Id. Nonetheless, Mutual Bank continued to use Adams for more than half of its appraisals. Id. The Amended Complaint provides other specific examples of properties that were overvalued by Adams and brought to the attention of Mutual Bank management by Conner: A two-story retail property in the Beverly neighborhood of Chicago; an empty lot on the south side of Chicago; a Holiday Inn in Rolling Meadows; and a loft condo conversion in Logan Square (valued on par with similar buildings in the, at the time, more affluent neighborhoods of Bucktown and Wicker Park). Amended Compl. at 44-46. Notably, Conner provides all of this detail without access to the

approximately 75 appraisal reviews he created criticizing various inflated appraisals, which presumably remain in Mutual Banks loan files. See id. at 52-53. On at least six occasions, Murphy scolded Conner for criticizing Adams appraisals. Murphy instructed Conner: Your job is to approve these appraisals, not to question Adams conclusions. Amended Compl. at 56. These conversations would occur when Conner pointed out that an Adams appraisal had been inflated. Id.

Murphy further made clear that he did not want Conner to make determinations of how much an appraisal was overvalued: We dont need you spending all this time figuring out what the property is worth. We just need you to approve them. Id. at 57. Conner nonetheless continued to conduct full reviews of the appraisals, as he believed it was necessary to competently complete his job duties. Id. at 58.

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 9 of 30 PageID #:399

Conner likewise had an encounter with Bank president Amrish Mahajan3 concerning the inflated appraisals. It was Mahajans practice to walk the office and talk to the employees. Amended Compl. at 59. In Fall 2006, during one of Mahajans walk-throughs, Conner approached Mahajan to inform him of the inflated appraisals. Id. Conner explained to Mahajan that many of the appraisals that he was reviewing were overvalued by 20-30 percent. Id. Mahajan replied, I heard there was a problem with some of the appraisals. Ill set up a meeting with you and Jim [Murphy]. Id. The meeting never occurred. Id. On multiple occasions, Conner reminded Murphy that there was to be a meeting with Mahajan regarding the appraisal problem. Id. at 60. Murphy would simply change the subject. Id. Finally, Conner told Murphy that he was thinking approaching Mutual Banks chairman Pethinaidu Veluchamy regarding the appraisal issue. Id. at 61. Murphy snapped back: Velu does not need you to tell him that the appraisals are bad. If Velu wanted good appraisals, you would be reviewing good appraisals. Id. Conner asked Murphy if he was sure Veluchamy was aware of the issue. Murphy responded: Yes. Do you think he is an idiot. Id. Conner was terminated in October 2007 about one week after the meeting with John Benik where he refused Beniks order to approve the incomplete appraisal of the Mount Olive, New Jersey property. Amended Compl. at 62. In July 2009, Mutual Bank failed. Id. at 63. When the Office of Inspector General conducted its loss review of Mutual Bank, examiners noted concerns with the appraisal company most

Mahajan filed an answer to the Amended Complaint wherein he avers that he lacks sufficient information to admit or deny almost all of the allegations in the Amended Complaint, including those concerning his encounter with Conner.

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 10 of 30 PageID #:400

commonly used by the bank, including the companys questionable support for comparables, capitalization rates, and final values and the potential lack of objectivity and diversification of the appraisal work in general. Id. at 64. However, nothing about the Inspector Generals report, in itself, showed that Mutual Bank knew that Adams appraisals were inflated or that this was deliberate rather than negligent conduct. According to the Inspector Generals report, the FDIC insurance fund

sustained an estimated loss of $656 million from Mutual Banks failure. Id. at 66. That figure has since been revised upward to $775 million. As explained in much greater detail in the Amended Complaint, the FDIC has promulgated a risk-based assessment system for determining deposit insurance premiums. See Amended Compl. 67-75 (explaining system). In essence, based on a banks risk profile, it is assigned a risk category from I-IV based on the quality of its loan portfolio. Id. at 68,71-72. The risk category assigned makes an enormous

difference in a banks assessment for deposition insurance premiums. Id. at 73-74. For example, depending on the particular year, a bank assigned Risk Category I would pay between 2 and 4 basis points as its insurance premium whereas a bank assigned Risk Category IV would pay 40 basis points, as much a twenty-fold difference. Id. at 73. During the time that Conner was at the bank, Mutual Bank was assigned Risk Category Ithe lowest risk category possibleand therefore paid at or near the lowest possible assessment rates to the FDIC for its deposition insurance. Id. at 75. Mutual Bank was only able to receive the lowest possible risk category and therefore pay the miniscule rates for its deposit insurance through a systematic fraud of 10

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 11 of 30 PageID #:401

which Adams inflated appraisals were the lynchpin.

In substance, the inflated

appraisals allowed Mutual Bank to hide risky loans, i.e., loans with high loan-to-value ratios,4 from the FDIC. The FDIC provides minimum standards for loan-to-value ratios for commercial real estate lending. 12 C.F.R. 365.2; Amended Compl. at 78. In particular, the FDICs supervisory limit for commercial real estate loans is an 80 percent loan-to-value ratio. 12 C.F.R. 365, App. A; Amended Compl. at 78. Within certain limits, the FDIC permits exceptions to this rule for credit-worthy borrowers who do not fit within the FDICs loan-to-value ratio limit. However, for each loan in excess of these limits, the FDIC requires that the bank create a lending policy exception report (hereinafter exception report) identifying the loan and setting forth all the relevant credit factors that support the underwriting decision. 12 C.F.R. 365, App. A;

Amended Compl. at 79. Exception reports are specifically reviewed by the FDIC during annual bank examinations and an excessive volume of exceptions to an institution's real estate lending policy may signal a weakening of its underwriting practices, or may suggest a need to revise the loan policy. 12 C.F.R. 365, App. A;

Amended Compl. at 80 Further, the FDIC further had a hard cap on loans in excess of the supervisory loan-to-value limits for all commercial, agricultural, multifamily or other non-1-4 family residential properties of 30 percent of total capital. 12 C.F.R. 365, App. A; Amended Compl. at 81.

A loan-to-value ratio expresses the ratio of the first mortgage lien as a percentage of the total appraised value of real property.
4

11

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 12 of 30 PageID #:402

Mutual Banks commercial real estate loans were substantially all twenty-percent down loans. Amended Compl. at 82. By using inflated appraisals, Mutual Bank was able to mask the fact that the loans actually had loan-to-value ratios that were considerably in excess of the eighty percent limit. Id. at 83. In substance, the inflated appraisals artificially increased the loan-to-value ratio denominator in order to make the loan-to-value ratios appear much lower than they really were. Id. Thus, the

appraisals enabled Mutual Bank to conceal from the FDIC the fact that its loans did not conform to the FDICs loan-to-value limits because the required exception reports were never generated. Id. at 84. Likewise, the inflated appraisals enabled Mutual Bank to hide from the FDIC that the aggregate value of its commercial real estate loans that had loan-to-value rations higher than 80 percent was exponentially in excess of the FDICs limit of 30 percent of total capital. Id. at 85. The Amended Complaint alleges that all of the individual defendants had knowledge of the inflated appraisals and that the principals of the two corporate entities (of which, only Adams Appraisal Corporation is at issue in the present motions) had knowledge that the appraisals were inflated. Amended Compl. at 94. Further it alleges that, in violation of 31 U.S.C. 3729(a)(1)(g), defendants knowingly caused to be submitted to the FDIC false records and knowingly caused to be concealed from the FDIC material information concerning the collateral on its commercial real estate loans, including but not limited to the fact that the loan-to-value ratios on its loans were in excess of FDIC limits. Id. at 96.

12

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 13 of 30 PageID #:403

ARGUMENT A. The Complaint Is Timely Because It Was Filed Within Six Years of The Date the Violations Were Committed. The various defendants contention that the action is time-barred grossly misreads the applicable statute of limitations. Section 3731(b) sets forth what is in essence a six-year statute of limitations with a three-year discovery rule and a ten-year statute of repose: (b) A civil action under section 3730 may not be brought (1) more than 6 years after the date on which the violation of section 3729 is committed, or (2) more than 3 years after the date when facts material to the right of action are known or reasonably should have been known by the official of the United States charged with responsibility to act in the circumstances, but in no event more than 10 years after the date on which the violation is committed, whichever occurs last. 31 U.S.C. 3731(b). The key phrase in the statute relative to the issue before the Court is whichever occurs last. Analyzing that phrase, courts in this Circuit have repeatedly held that the three-year discovery rule set forth in section (b)(2) only comes into play if the six-year statute of limitations in section (b)(1) has expired. See, e.g., Goldberg v. Rush University Medical Center, 2013 WL 870651, *15-16 (N.D. Ill. March 6, 2013) (six-year statute of limitations applies to relators claim if it is longer than three -year discovery rule); U.S. ex rel. Dismissed Relator v. Lilwani, 2012 WL 4739922, *5 (C.D. Ill. 2012) (threeyear statute of limitations in subsection (b)(2) does not apply where case is filed

13

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 14 of 30 PageID #:404

within six-year statute of limitations in subsection (b)(1) under plain reading of Section 3731(b), which provides whichever occurs last is applicable.) Here, relators complaint was filed on June 30, 2011.5 Defendants do not claim that Conner has failed to allege violations that continued after June 30, 2005. In fact, Conner was not even transferred to the Harvey branch of the bank until fall 2005. Thus, this case was clearly filed within the six-year statute of limitations set forth in Section 3731(b)(1). Because Conner has no need to claim the benefit of the three-year discovery rule set forth in subsection (b)(2), it is irrelevant to this case. Defendants arguments to the contrary evince an obvious misunderstanding of both the plain language of the statute and case law cited in their briefs, which has nothing to do with the issue at bar. The fundamental problem is that their argument pretends that the statute says whichever occurs first, where it in fact says the opposite. None of the defendants attempt to explain why they apparently believe that the whichever occurs last language of the statute does not apply to make the six -year statute of limitations of subsection (b)(1) applicable here. McCarthy and Tucek,

shamefully, avoid the issue entirely by selectively quoting Section 3731(b) to omit entirely the six-year statute of limitations set forth in subsection (b)(1) and the whichever occurs last language. McCarthy & Tucek Memo at 6. Both the Adams defendants and Benik, et al, fully quote the applicable statute, but nonetheless do not undertake to explain how the language of the statute supports the self-serving
Plaintiffs Amended Complaint, filed October 24, 2011, relates back to the initial June 30, 2011 filing date under Rule 15(c)(2) because the amendment asserts a claim or defense that arose out of t he conduct, transaction or occurrence set outor attempted to be set outin the initial pleading. FRCP 15(c)(2).
5

14

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 15 of 30 PageID #:405

conclusion that they reach. Nor do they address the above-cited case law in this Circuit that holds that the three year discovery rule in subsection (b)(2) applies only where the six year statute of limitations in subsection (b)(1) has run. Furthermore, the case law cited by defendants relates to a wholly different issue, namely whether a relator, or only the Government, can claim the benefit of the threeyear discovery rule set forth in Subection (b)(2) (and, if so, whether the relevant date is the Governments knowledge or the relators knowledge). See Goldberg, 2013 WL at 15 (discussion of split between the circuits on this issue). This line of authority, which holds that, contrary to the rule in some other circuits, relators, in addition to the Government, may claim the benefit of the three-year discovery rule to extend the otherwise applicable six-year statute of limitations does not stand for the proposition that only the three-year discovery rule applies to relators. For example, in U.S. ex rel King v. F.E. Moran, Inc., 2002 WL 2003219, at *13 (N.D. Ill. Aug 29, 2002) (relied upon by McCarthy & Tucek and Adams), the relator sought to amend its complaint to add new claims related to different projects more than six years after the date of the violations. The Court held that, even though the Government had been aware of the violations more than three years prior, the relevant date for purposes of the three-year discovery rule was the date that the relator found out about the violations. Thus, the Court allowed the claims to proceed because the discovery rule in section (b)(2) extended the statute of limitations. U.S. ex rel Hudalla v. Walsh Cost. Co., 834 F.Supp.2d 816, 824 (N.D. Ill. 2011) (relied upon by Benik, et al and Tucek & McCarthy), which cites King as its basis, is of similar 15

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 16 of 30 PageID #:406

tenor. There the Court found that there is no statute of limitations defense because the suit was brought within three years of the relator learning of the suit. In that case, there was no need to analyze whether the case also fit within the six year statute of limitations set forth in section (b)(1) and that court undertook no such analysis. Because the three-year discovery rule of subsection (b)(2) is inapplicable to a case, such as this one, that is filed within the six-year statute of limitations in subsection (b)(1), defendants statute of limitations argument must fail. B. Conner Has Sufficiently Alleged Violations Of The FCA Under Rules 8 and 9(b). All three sets of defendants mistakenly argue that Conners pleading is insufficient under Rules 8 and 9(b). Because these arguments contain common issues of law and both common and individual issues concerning the facts that have been pleaded as to the various defendants at issue here, this section is structured with a general discussion of the law at the outset followed by individual discussions of defendants. As defendants correctly point out, Rules 8 and 9(b) are both applicable to FCA cases. Rule 9(b) requires a pleading to state with particularity the circumstances This ordinarily requires

constituting the alleged fraud. See Fed.R.Civ.P. 9(b).

describing the who, what, when, where, and how of the fraud, although the exact level of particularity that is required will necessarily differ based on the facts of the case. U.S. ex. rel Upton v. Family Health Network, 900 F.Supp.2d 821, 827 (N.D. Ill. 2012). Malice, intent, knowledge, and other conditions of a person's mind may be alleged

16

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 17 of 30 PageID #:407

generally. Id., quoting Fed.R.Civ.P. 9(b). Courts should not take an overly rigid view of this formulation and requisite information may vary on the facts of a given case. Id. at 827-828, see also Pirelli Armstrong Tire Corp. Retiree Med. Benefits Trust v. Walgreen Co., 631 F.3d 436, 442 (7th Cir. 2011) (Yet, because courts and litigants often erroneously take an overly rigid view of the formulation, we have also observed that the requisite information may vary on the facts of a given case.). To say that fraud has been pleaded with particularity is not to say that it has been proved (nor is proof part of the pleading requirement). Upton, 900 F.Supp.2d at 828. A plaintiff merely needs some firsthand information to provide grounds to corroborate its suspicions. Pirelli, 631 F.3d at 446. Accordingly, Rule 9(b) does not require a relator to plead evidence and is to be read in conjunction with Federal Rule of Civil Procedure 8, which requires a short and plain statement of the claim. U.S. ex rel Yarberry v. Sears Holding Corp., 2013 WL 1287058, *2 (S.D. Ill. March 28, 2013). In the Seventh Circuit, a plaintiff who provides a general outline of the fraud scheme sufficient to reasonably notify the defendants of their purported role in the fraud satisfies Rule 9(b). U.S. ex rel. Goldberg v. Rush University Medical Center, 2013 WL 870651, *5 (N.D. Ill. 2013), quoting Midwest Grinding Co. v. Spitz, 976 F.2d 1016, 1020 (7th Cir. 1992). Further, when details of the fraud itself are within the defendant's exclusive knowledge, specificity requirements are less stringent. Under those circumstances, the complaint must plead the grounds for the plaintiffs suspicions of fraud. Id. Section 3729(a)(1)(G) of the FCA provides for liability for a so-called reverse false claim: Anyone who knowingly makes, uses, or causes to be made or used, a 17

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 18 of 30 PageID #:408

false record or statement material to an obligation to pay or transmit money or property to the Government, or knowingly conceals or knowingly and improperly avoids or decreases an obligation to pay or transmit money or property to the Government is liable to the United States Government for civil penalty 31 U.S.C. 3729(a)(1)(G). Under this provision, one who knowingly conceals, information from the Government, as well as one who makes affirmative false statements, violates the FCA. See, e.g., U.S. v. Rogan, 517 F.3d 449, 452 (7th Cir. 2008) (omission of fact that patient referrals were obtained by kickback scheme violated FCA where Medicare only paid for properly referred patients). Likewise, omissions and false statements that decrease an obligation to pay, as in the case of Mutual Banks deposit insurance premiums, are expressly covered by the FCA. 31 U.S.C. 3729(a)(1)(G). 1. Plaintiff Need Not Have Witnessed The Failure To Create Exception Reports And It Is Sufficient For The Failure To Create Exception Reports To Be The Foreseeable Consequence Of Defendants Actions. All three sets of defendants go to great lengths to point out that Conner did not physically witness the creation of (or really the failure to do so) of exception reports for loans in excess of the 80 percent loan-to-value ratio limit. McCarty & Tucek at 8; Benik, et al at 10; Adams at 5. In doing so, they variously misstate both the facts alleged in the Amended Complaint and the law. The Seventh Circuit squarely addressed this issue in U.S. ex rel. Lusby v. RollsRoyce Corp., 570 F.3d 849 (7th Cir. 2009). In Lusby, the relator (in a striking parallel to the present case) had repeatedly told his supervisors that parts being shipped to the Government did not conform to the companys contract with the Government and 18

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 19 of 30 PageID #:409

Rolls-Royce nonetheless shipped the parts. Id. at 853-854. In that case, the trial court dismissed the relators complaint because the relator had no direct knowledge of the specific request for payment, as he had not seen any of the invoices and representations that Rolls-Royce submitted to its customers. Id. at 854. The Seventh Circuit reversed, specifically finding that the submission of a false claim can be inferred at the pleading stage based on surrounding circumstances: We don't think it essential for a relator to produce the invoices (and accompanying representations) at the outset of the suit. True, it is essential to show a false statement. But much knowledge is inferential-people are convicted beyond a reasonable doubt of conspiracy without a written contract to commit a future crime-and the inference that Lusby proposes is a plausible one. Id (emphasis added). The Lusby Court explained the inference in that case: Federal regulations required Rolls-Royce to submit a certification (again, parallel to the present case) that all supplies furnished were in accordance with all applicable requirements. Id. Given that it was unlikely the Government would have accepted and paid for the goods at issue without the required certificate, the Court held that it could be inferred that the false certification was furnished. Id. The Court noted that even a requirement of proof beyond a reasonable doubt need not exclude all possibility of innocence; nor need a pleading exclude all possibility of honesty in order to give the particulars of fraud. It is enough to show, in detail, the nature of the charge, so that vague and unsubstantiated accusations of fraud do not lead to costly discovery and public obloquy. Id. at 854-855.

19

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 20 of 30 PageID #:410

The instant case presents facts remarkably similar to Lusby. At Mutual Banks behest, Adams conducted appraisals that it inflated by 20-30 percent, or more in certain cases. Federal regulations required Mutual Bank to disclose to the FDIC in exception reports loans in excess of the 80 percent loan-to-value ratio limit. Amended Compl. at 76-85; 12 C.F.R. 365, App. A. Because the appraisals were inflated, the loans were booked as if they had loan-to-value ratios below 80 percent. Is it theoretically possible that Mutual Bank management might have, despite having Adams prepare inflated appraisals over a period of years, experienced repeated changes of heart when it came time to disclose the loans to the FDIC as having loan-to-value ratios in excess of 80 percent in exception reports? As in Lusby, any such possibility is a remote one. Lusby, 570 F.3d at 854. This is all the more so because Mutual Bank had the lowest possible risk rating from the FDIC (Amended Compl. at 75) during a time period where it was serially making loans in excess of the FDICs loan-to-value ratio supervisory limits, which in itself makes it impossible that this activity was being disclosed like it was supposed to be. McCarthy and Tucek cite U.S. ex rel. Crews v. NCS Healthcare of Illinois, Inc., 460 F.3d 853, 856 (7th Cir. 2007) for the dubious premise that a [r]elator also must allege specific details about the actual submission of false claims. McCarthy & Tucek at 8. Crews is a case that deals with summary judgment and, hence, has nothing at all to say about what a relator must allege in a complaint. Crews, 460 F.3d at 855. In any event, whether or not he physically witnessed the Banks failure to create exception reports,

20

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 21 of 30 PageID #:411

Conner has described in considerable detail the nature of the submissions at issue, which is more than sufficient under the law. Benik, et al, for their part, confine their analysis concerning submissions to the FDIC entirely to Mutual Banks call reports. Call reports, discussed in paragraphs 8691 of the Amended Complaint, are only one of two ways in which Mutual Bank should have been reporting the loans at issue to the FDIC. As above discussed above, the primary false claim is the failure to provide exception reports for loans with loan-tovalue ratios in excess of 80 percent. Amended Compl. 76-85. Thus, claiming that there is no entry on Call Reports to record appraised values (Benik, et al, at 10) is an entirely moot exercise where Benik offers nothing to dispute that Mutual Bank was required to create exception reports for the loans at issue and failed to do so.6 The Adams defendants, the instrument of the fraud, protest that there is no allegation suggesting that Adams had any part in communicating anything to the United States government. Adams at 7. That the Adams defendants did not

themselves communicate with the Government is a distinction without legal consequence. The U.S. Supreme Court long ago held that the FCA indicates a purpose to reach any person who knowingly assisted in causing the government to pay claims which were grounded in fraud, without regard to whether that person had direct contractual relations with the government. U.S. ex rel. Marcus v. Hess, 317 U.S. 537,

Moreover, this was never Conners point with respect to the call reports. Instead, Conner alleges that Mutual Bank misrepresented the quality of its collateral on its real estate loans to the FDIC on its call repots by inter alia: failing to identify non-accrual loans and failing to book proper loan-loss reserves for loans that it had reason to know had a substantial probability of default . Amended Compl. at 92. a
6

21

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 22 of 30 PageID #:412

544, 63 S.Ct. 379 (1943); see also U.S. v. Bornstein, 423 U.S. 303, 313, 96 S.Ct. 523 (1976) (subcontractor was liable for false submission of prime contractor); U.S. ex rel. Schmidt v. Zimmer, 386 F.3d 285, 245 (3rd Cir. 2004) (third partys conduct merely need be substantial factor in bringing about false claim to be actionable under FCA); Mason v. Medline Industries, Inc., 731 F.Supp.3d 730, 738 (N.D. Ill. 2010) (The wealth of case law supports the proposition that the FCA reaches claims that are rendered false by one party, but submitted to the government by another.). Here there can be little doubt that Mutual Banks failure to disclose the loans in excess of the FDICs 80 percent loa nto-value ratio limits was the natural and foreseeable consequence of Adams inflated appraisals that masked the true loan-to-value ratios for the loans. Mason, 731 F.Supp.2d at 739. 2. Conner Properly Alleged An FCA Claim With Respect To the Director Defendants. Former Mutual Bank directors James Regas,7 Patrick McCarthy and Ronald Tucek claim that Conner has failed to state a claim against them because, they say, Relator makes not a single allegation, nor could he, that the Outside Directors knew of the allegedly inflated appraisals McCarthy & Tucek at 13. This is not so. As a threshold matter, Rule 9(b) itself provides that malice, intent, knowledge, and other conditions of a person's mind may be alleged generally (Fed.R.Civ.P. 9(b)) and Conne r certainly does so (Amended Complaint at 95-96). But he does much more than that.

Despite being referred to in defendants brief as an outside director, Regas was in fact Mutual Banks general counsel. As such, he had substantial dealings with the FDIC on behalf of Mutual Bank. Parenthetically, Regas is currently serving a federal prison term for his activities as a chairman of the board of directors of another defunct bank, Western Springs National Bank & Trust, including his falsification of regulatory documents.

22

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 23 of 30 PageID #:413

For example, the explanation Conner was given by Mutual Bank management for being asked to destroy his work showing that the Venturella property had been overvalued by almost $10 million was that Amrish and the Board want to do the deal anyway because the borrower is going to get the bank out of trouble with other properties. Amended Compl. at 37. With respect to the Mount Olive, New Jersey property

Conner, again before being instructed to cease work on his appraisal review, was accosted and scolded by Mutual Bank management for interfering with a deal that the Board wanted to do. Id. at 42. With respect to Adams valuation of the Evansville hotel property, the new valuationshowing that Adams had overvalued the property by almost 100 percentwas presented to the entire Board. Id. at 47. All of these facts tend to show that the Board well understood that risky loans were being made by the Bank for which the true loan-to-value ratios were being hidden from the FDIC. Like Adams, McCarthy and Tucek too point out that there is no allegation that they physically submitted anything to the FDIC. According to this perverse argument, as directors, these defendants can sit at the apex of a scheme to mask risky loans and escape liability merely because they were not themselves tasked with physically creating the exception reports. Unsurprisingly, this is not the law. The FCA, by its terms, applies to one who causes to be made a false statement or knowingly conceals information from the Government. 31 U.S.C. 3729(a)(1)(G). Accordingly, [t]he FCA places liability not only on persons who cause false claims to be submitted or who cause false statements to be made, but also on those who cause the claims or statements to be false in the first place. Mason, 731 F.Supp.2d at 738. 23

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 24 of 30 PageID #:414

Finally, that Conner had limited personal contact with the Board makes the pleading requirements with respect to these defendants less stringent. Goldberg, 2013 WL 870651 at *5. Under such circumstances, the complaint need only plead the

grounds for the plaintiffs suspicions of fraud. Id. Given what Conner was told by Bank management who were in a position to know and had no reason to lie, Conner has more than met this relatively low standard. 3. Conner Has Properly Alleged An FCA Claim With Respect to the Management Defendants. All of Murphy, Benik, Barth and Pacocha were senior management at Mutual Bank during the time that Conner worked there, all were heavily involved with the Banks commercial real estate loan portfolio and all had interactions with Conner concerning Adams inflated appraisals. As related in the Amended Complaint, Conner has alleged their involvement in a series of specific transactions for which Adams performed inflated appraisals that masked the true loan-to-value ratios for the underlying loans. The Amended Complaint describes how Conner repeatedly brought the inflated appraisals to these individuals attention only to be variously rebuffed, reprimanded and told to stop criticizing the appraisals for deals that the Banks directors wanted to do. Amended Compl. 37-38, 42, 45, 51, 53-54, 56-57, 59-61. These defendants well understand what they are charged with, and Conner has gone considerably beyond the Seventh Circuits requirement of providing some firsthand information to provide grounds to corroborate [his] suspicions. Pirelli, 631 F.3d at 446.

24

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 25 of 30 PageID #:415

4. Conner Has Properly Alleged An FCA Claim With Respect To The Adams Defendants. Adams primary contention, that they did not themselves submit a false claim is dealt with above in subsection 1 (supra at 21-22). Adams also suggests that the Court should disbelieve Conners allegations because, they say, he is not a licensed appraiser. Adams at 8. This argument, to put it mildly, gets it backwards at the complaint stage where the Court must make all reasonably inferences in favor of the plaintiff. Adams asks the Court to assume, despite the fact that Conner, who had an MBA and was put in charge of reviewing appraisals by Mutual Bank, did not know how to review an appraisal and that his allegations are, therefore, factually inaccurate. Notably, this argument is factually undermined by the fact that the FDIC ultimately agreed with Conners analysis, finding concerns with the appraisal company most commonly used by the bank, including the companys questionable support for comparables, capitalization rates, and final values and the potential lack of objectivity and diversification of the appraisal work in general. Amended Compl. 64.

Regardless, this presents a fact question that is clearly inappropriate for the pleading stage. As above, a relator may allege knowledge generally and the FCA sets a fairly low standard of intent that includes recklessness. U.S. ex rel. Chandler v. Cook County, Ill., 227 F.3d 969, 976 (7th Cir. 2002). Even absent this, what can readily be inferred from the fact that Adams was a licensed appraiser is that it would have well understood what it was doing (and certainly met the FCAs standard of acting recklessly) when it

25

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 26 of 30 PageID #:416

repeatedly inflated appraisals relating to Mutual Bank loans by 20-30 percent, or more in the case of many of the loans specifically discussed in the Amended Complaint. Finally, as previously, an FCA defendant is presumed to have intended the natural consequences of its actions, in this case the masking of loan-to-value ratios of Mutual Bank loans based on its inflated appraisals. Mason, 731 F.Supp.2d at 738. For all of these reasons, the defendants arguments that Conner has not adequately pleaded a cause of action under the FCA are without merit. C. The Allegations Set Forth In The Amended Complaint Were Not Publicly Disclosed Prior to Filing. McCarthy and Tucek and Benik, et al, but notably not Adams, argue that this action is barred by Section 3730(e)(4)(A) of the FCA, which provides for dismissal of claims where substantially the same allegations or transaction as alleged in the action were publicly disclosed. 31 U.S.C. 3730(e)(4)(A). This argument fails on multiple independent levels. Section 3730(e)(4)(A) poses three questions: (i) are disclosures of allegations or transactions revealing the fraud in the public domain?; (ii) is the suit based upon those disclosures?; and (iii) if so, is the relator nonetheless an original source of the information? U.S. ex rel. Balthazar v. Warden, 635 F.3d 866, 867 (7th Cir. 2012). The answer to all three of these questions is emphatically no. First, nothing about the Inspector Generals report exposes the transactions as necessarily fraudulent as opposed to negligent. It is Conners information that Mutual Banks management and directors knew about and encouraged the fraudulent appraisals thereby masking true collateral value that makes this fraud. Second, relatedly, Conners suit is based

26

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 27 of 30 PageID #:417

upon his interactions with Mutual Bank management concerning Adams inflated appraisals and his own review of those appraisals as part of his job, not public information. Third, Conner is clearly an original source of information as it has been defined by the Seventh Circuit. The first failing of defendants argument is basic. To be sure, there was public information about Mutual Banks failure and its unsound banking practices. However, [a] public disclosure exists under 3730(e)(4)(A) when the critical elements exposing the transaction as fraudulent are placed in the public domain. U.S. ex rel. Feingold v. AdminiStar Fed, Inc., 324 F.3d 492, 495 (7th Cir. 2002) (emphasis added). Public disclosure that shows only negligence is insufficient. For example, as Judge Easterbrook recently explained, public disclosure of miscoded Medicare submissions would not foreclose a FCA claim because the errors may have been caused by negligence rather than fraud (which means intentional deceit). Balthazar, 635 F.3d at 867. Both defendants rely on a statement in the Material Loan Loss Review that specifically referenced problems with appraisals: Mutual Banks appraisal review process needed strengthening examiners noted concerns with the appraisal company most commonly used by the bank, including the companys questionable support for comparables, capitalization rates, and final values and the potential lack of objectivity and diversification of the appraisal work in general. McCarthy & Tucek at 5; Benik, et al, at 7. This obviously confuses exposing appraisals as being poorly or negligently done for exposing fraud.

27

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 28 of 30 PageID #:418

McCarthy & Tucek also suggest that the critical elements of Relators claims are contained in the banks call reports previously submitted to the FDIC. Mc Carthy & Tucek o at 15. McCarthy and Tucek then (helpfully) invite the Court to read all the call reports at a web address they provide, without ever saying what it is about the call reports that they think publicly discloses the FCA claim. Benik, et al, simply cite Mutual Banks unsound banking practices. Other documents that were publicly disclosed prior to Conners June 20, 2011 qui tam suit include the December 30, 2008 Order to Cease and Desist issued by the FDIC itself , which states that the FDIC and the Division determined that they had reason to believe that the Bank had engaged in unsafe or unsound banking practices. And hazardous lending and lax collection practices, including failing to recognize loss in a timely manner, operating with an inadequate loan policy, operating with inadequate policies to determine loan losses, and operating with an excessive level of adversely classified assets, delinquent loans and nonaccrual loans. Benik, et al, at 7-8. Unsafe banking practices are not necessarily fraud, and Benik, et al, do not explain why they see this as exposing their transactions as fraudulent. Because defendants have not shown that public disclosure prior to the filing of Conners lawsuit exposes their transactions as fraudulent, this argument must fail. Conners FCA suit is likewise not based on allegations that are in the public domain. Where a relators suit provides vital facts that were not in the public

domain, it is not based on publicly disclosed information. Balthazar, 635 F.3d at 869. Furthermore, courts should not interpret public disclosure of allegations or transactions (the statutory language) at a high level of generality because then disclosure of some frauds could end up blocking private challenges to many different

28

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 29 of 30 PageID #:419

kinds of fraud. U.S. ex rel. Goldberg v. Rush University Medical Center, 680 F.3d 933, 935 (7th Cir. 2012) Both sets of defendants making this argument rely on Glazer v. Wound Care Consultants, Inc., 570 F.3d 907, 920-21 (7th Cir. 2009). That case is a far cry from the present facts. There the relator, a former patient of the defendant clinic, learned from her attorney about billing irregularities that the Government had publicly said it was investigating. As the Seventh Circuit put it: The allegations in Gear parroted the GAO report; Gear added nothing to the public disclosure except the name of a teaching hospital, and as the GAO report suggested that all (or almost all) teaching hospitals billed for unsupervised work by residents, Gear had not added anything of value. Goldberg, 680 F.3d at 935 (distinguishing Gear, and reversing dismissal at complaint stage where relator provided genuinely new and material information). A cursory review of Conners complaint makes clear that he has provided genuinely new information relating to his own review of Adams inflated appraisals and his dozens interactions with Mutual Banks management concerning those appraisals. This argument is without merit for this additional reason. Finally, although clearly unnecessary, Conner is an original source of the information as defined by the Seventh Circuit. An original source of information under the FCA must meet two criteria. First, he must be original; i.e., he must have direct and independent knowledge of the information on which the allegations are based. Feingold, 324 F.3d at 496. In other words, he must be someone who would have learned of the allegation or transactions independently of the public disclosure. Id. 29

Case: 1:11-cv-04458 Document #: 88 Filed: 06/14/13 Page 30 of 30 PageID #:420

Second, he must be a source; i.e., he must have voluntarily provided the information to the Government before instituting a suit. Id. The question is whether the relator is an original source of the allegations in the complaint and not whether the relator is the source of the information in the published reports. Balthazar, 635 F.3d at 869. Here, Conner is the original source of the information in the complaint. Additionally,

although not alleged in the Amended Complaint, Conner was interviewed by the FBI concerning Mutual Bank prior to his filing of the Amended Complaint. Accordingly, for all three independent reasons discussed above, this argument fails. CONCLUSION For all of the foregoing reasons, the Court should deny the motions to dismiss filed by defendants Patrick McCarthy and Ronald Tucek, John Benik, et al, and Douglas Adams and Adams Valuation Corporation. Dated: June 14, 2013 Respectfully submitted KENNETH CONNER __/s/Matthew J. Sullivan_______ One of his attorneys The Law Office of Matthew J. Sullivan, LLC 55 W. Wacker Drive, Suite 1400 Chicago, IL 60601 (312) 912-8012 (tel) (312) 962-4955 (fax) matt@sullivanlawchicago.com Joseph T. Gentleman Joseph T. Gentleman, P.C. 33 N. Dearborn Street, Suite 1401 Chicago, IL 60602 (312) 220-0020 (tel) jgentleman@gentlemanlaw.com 30