Risk Update

Client Due Diligence — Perspectives on Risk, Costs and Concerns Tied to Law Firm New Business Intake and CDD

Due Diligence Missteps Are Costly, and Smaller Firms Are Often Less Prepared” —

  • “Skimping on due diligence when it comes to working with new clients can bear heavy consequences for law firms, such as Eckert Seamans Cherin & Mellot, which is in the midst of negotiating a $45 million settlement to make up for a former attorney’s alleged role in helping a merchant cash loan business and an investment services firm defraud investors of nearly $500 million.”
  • “The law firm and former partner John Pauciulo are in hot water for their representation of an investment firm that solicited investors for Par Funding, a Philadelphia lending outfit whose owners are now subject to a raft of criminal charges. In the process of going after Par and investment firm A Better Financial Plan, the Securities and Exchange Commission censured Pauciulo for omitting details of risks in materials he prepared for potential investors.”
  • “Meanwhile, the owner of the investment firm says in a malpractice suit that Eckert Seamans was negligent in its oversight of Pauciulo, who himself was allegedly negligent in either knowing and not disclosing or else not knowing about the criminal history and shady business practices of the owner of Par.”
  • “However, not every firm has the same resources available to conduct proper and thorough due diligence when it comes to clients or affiliated businesses; according to law firm leaders and consultants, smaller firms have fewer resources to dedicate to diligence efforts, often resulting in added risk for the firm. Eckert Seamans, ranked No. 187 in the most recent Am Law 200 rankings, declined to comment on its own due diligence approach for this report.”
  • “The firm is also fighting a long-running breach-of-fiduciary-duties lawsuit brought by a former gaming client in Pennsylvania federal court, which alleges it also represented a competitor in matters where the two had adverse commercial interests.”
  • “Conversations with consultants and law firm leaders indicated that there is no set industry standard when it comes to law firms conducting due diligence.”
  • “Even with fewer resources, there are several warning signs early on in an interaction with a client that might flag future problems for the firm, including one’s ‘Spidey sense’ about a client and its legal needs.”
  • “Eileen Garczynski, senior vice president and equity partner at business insurance and risk management firm Ames & Gough, added that she felt ‘firms should be using checklists’ to make sure they address all concerns with a client.”
  • “Her checklist of red flags included lack of information about an organization or client, a client having inexplicable revenue growth, a client’s refusal to provide information, stalling tactics, including rescheduling meetings early on, and having an advisory board full of people who don’t actually play a real role in the business.”
  • “Garczynski also said that a client having frequent changes in professional relationships, such as switching counsel on a regular basis, might be an indicator of an issue.”
  • “Even when attorneys are well-versed in spotting these red flags, however, things might still be missed when firms conduct due diligence. Garczynski pointed to a desire for speed as a possible reason behind neglecting or skipping thorough intake procedures.”
  • “‘[There’s] a lot of motivated reasoning that can prevent the lawyer from seeing the warning signs,’ she said. But even larger firms are subject to missteps too. Levin pointed to the stress of the ‘eat-what-you-kill model,’ flagging it as a reason why attorneys may look the other way when red flags pop up.”
  • “‘The problem with intake is it’s always so early… there may be a rush to it, so you might not get as much information as you really need,’ [University of Connecticut School of Law professor Leslie] Levin said. ‘Every firm in this country, big, little, no exceptions, has been unpleasantly surprised by a client engaging in fraudulent activity.'”