Impact of the Economic Crisis on Traditional Professionals San Diego, CA ~ April 29 & 30, 2009

Impact of the Economic Crisis on Traditional Professionals Moderator: John Iannotti Everest National Mark Henderson, J.D. Markel Corporation Jeff Day, CPCU CNA Brian E. Cropp V. O. Schinnerer H. Steven Vogel, Esq. Wilson Elser Moskowitz Edelman & Dicker

Moderator: John Iannotti

Everest National

Mark Henderson, J.D.

Markel Corporation

Jeff Day, CPCU

CNA

Brian E. Cropp

V. O. Schinnerer

H. Steven Vogel, Esq.

Wilson Elser Moskowitz Edelman & Dicker

Underwriters’ Perspective Professional Services Firms Accounting Firms Real Estate Professionals Claim Defense Perspective What the economic crunch has changed

Underwriters’ Perspective

Professional Services Firms

Accounting Firms

Real Estate Professionals

Claim Defense Perspective

What the economic crunch has changed

Professionals’ Exposure Changes Driven by the Economy Challenged financial condition of the professional firm Acceptance of work for firm’s survival Lax screening for conflict of interest Lax consideration of firm’s core expertise Lax consideration of locale of work and firm’s knowledge of that locale Lax risk management

Challenged financial condition of the professional firm

Acceptance of work for firm’s survival

Lax screening for conflict of interest

Lax consideration of firm’s core expertise

Lax consideration of locale of work and firm’s knowledge of that locale

Lax risk management

Professionals’ Exposure Changes Driven by the Economy (cont’d) Staff reductions driving down the quality of their work Projects where banks have pulled funding Professional firms and contractors have filed liens Banks are suing lien holders to claim right to property

Staff reductions driving down the quality of their work

Projects where banks have pulled funding

Professional firms and contractors have filed liens

Banks are suing lien holders to claim right to property

Professionals’ Exposure Changes Driven by the Economy (cont’d) When Professional firms file for bankruptcy: Projects/clients left in the lurch Owners bringing legal action - Professional Liability Insurance Limits of Liability become an asset of the bankruptcy estate

When Professional firms file for bankruptcy:

Projects/clients left in the lurch

Owners bringing legal action - Professional Liability Insurance Limits of Liability become an asset of the bankruptcy estate

Professionals’ Exposure Changes Driven by the Economy (cont’d) Financial condition of clients Insolvency/bankruptcy of a client Large damage backdrops Potential for liability to owners, shareholders and other constituents The longer the relationship had been, the larger the potential exposure

Financial condition of clients

Insolvency/bankruptcy of a client

Large damage backdrops

Potential for liability to owners, shareholders and other constituents

The longer the relationship had been, the larger the potential exposure

Professionals’ Exposure Changes Driven by the Economy (cont’d) Professional Services: trustee in bankruptcy Lucrative but highly contentious Target for class action litigation

Professional Services: trustee in bankruptcy

Lucrative but highly contentious

Target for class action litigation

Professional Liability Underwriting Impact Need to analyze the professional firm’s financials Monitor press on major publicly held clients Need ever greater integration of business intelligence sources Less underwriting intelligence means higher risk level

Need to analyze the professional firm’s financials

Monitor press on major publicly held clients

Need ever greater integration of business intelligence sources

Less underwriting intelligence means higher risk level

Impact of the Economic Crisis on Accountants Sub-prime Credit crisis, recession and Ponzi schemes Going concerns Business bankruptcy Tax enforcement & collection activity

Sub-prime

Credit crisis, recession and Ponzi schemes

Going concerns

Business bankruptcy

Tax enforcement & collection activity

Impact of the Economic Crisis on Accountants Timing Impact to CPA firms delayed due to “trickle down” effect Full impact won’t start to be felt until after tax season

Timing

Impact to CPA firms delayed due to “trickle down” effect

Full impact won’t start to be felt until after tax season

Impact of the Economic Crisis on Accountants Effect on Areas of Practice Consulting work likely to decline Exceptions: Bankruptcy, Business Valuation, Litigation Support Many small businesses will fail Loss of bookkeeping, compilation & tax services Tax and audit work remain core services However, clients looking to “trade down” to review

Effect on Areas of Practice

Consulting work likely to decline

Exceptions: Bankruptcy, Business Valuation, Litigation Support

Many small businesses will fail

Loss of bookkeeping, compilation & tax services

Tax and audit work remain core services

However, clients looking to “trade down” to review

Impact of the Economic Crisis on Accountants Increased competition: “reverse” cascade effect…..here comes the Big 4! Lost billings will pressure firms on: Expense management Client acceptance and continuance

Increased competition: “reverse” cascade effect…..here comes the Big 4!

Lost billings will pressure firms on:

Expense management

Client acceptance and continuance

Impact of economic downturn on APL How will small firms react? “ My book of business” Owners protective of their clients More likely to allow delinquencies to mount More likely to act as client advocate and attempt to assist with financing More likely to SUE FOR FEES when they hit “crisis” mode Delay in retirement

How will small firms react?

“ My book of business”

Owners protective of their clients

More likely to allow delinquencies to mount

More likely to act as client advocate and attempt to assist with financing

More likely to SUE FOR FEES when they hit “crisis” mode

Delay in retirement

Impact of the Economic Crisis on Accountants Retirements, mergers and acquisitions What retirement? “Work until you drop” Many mid-sized firms will seek to be acquired, but few will be Likely “shakeout” among small regional firms Some will shrink; a few may even break up Some will be acquired by larger regional firms

Retirements, mergers and acquisitions

What retirement? “Work until you drop”

Many mid-sized firms will seek to be acquired, but few will be

Likely “shakeout” among small regional firms

Some will shrink; a few may even break up

Some will be acquired by larger regional firms

Impact of the Economic Crisis on Accountants Summary- Increased frequency Subpoena assistance, potentials, and actuals going up Increased severity Business bankruptcies and ponzi schemes Increased competition; flat or declining billings Competition increases “dabbling”, pressure on client acceptance/continuance, and work quality issues Increased insurance price sensitivity Requests for lower limits, higher deductibles Some small firms have gone bare

Summary-

Increased frequency

Subpoena assistance, potentials, and actuals going up

Increased severity

Business bankruptcies and ponzi schemes

Increased competition; flat or declining billings

Competition increases “dabbling”, pressure on client acceptance/continuance, and work quality issues

Increased insurance price sensitivity

Requests for lower limits, higher deductibles

Some small firms have gone bare

Impact of the Economic Crisis on Real Estate Professionals Real Estate Professional Liability Appraisers Professional Liability Mortgage Broker Professional Liability

Real Estate Professional Liability

Appraisers Professional Liability

Mortgage Broker Professional Liability

Impact of the Economic Crisis on Real Estate Professionals Real Estate Professional Liability Stagnant Housing Foreclosures Bank-Owned Properties

Real Estate Professional Liability

Stagnant Housing

Foreclosures

Bank-Owned Properties

Impact of the Economic Crisis on Real Estate Professionals Real Estate Professional Liability Rating basis Number of Agents/Brokers Gross Commission Income

Real Estate Professional Liability

Rating basis

Number of Agents/Brokers

Gross Commission Income

Impact of the Economic Crisis on Real Estate Professionals Real Estate Professional Liability Rating basis Number of Agents/Brokers Many employees are leaving to find greener pastures Commissions and number of sales are decreasing

Real Estate Professional Liability

Rating basis

Number of Agents/Brokers

Many employees are leaving to find greener pastures

Commissions and number of sales are decreasing

Impact of the Economic Crisis on Real Estate Professionals Real Estate Professional Liability Rating basis Commission Sales Turn in marketplace causing premiums to decrease Writing new business with prior acts will pick up exposures from prior years

Real Estate Professional Liability

Rating basis

Commission Sales

Turn in marketplace causing premiums to decrease

Writing new business with prior acts will pick up exposures from prior years

Impact of the Economic Crisis on Real Estate Professionals Appraiser Professional Liability Rating basis Fees/number of appraisals Exposures- Appraisers pressured to “hit the price” to help sales go through

Appraiser Professional Liability

Rating basis

Fees/number of appraisals

Exposures-

Appraisers pressured to “hit the price” to help sales go through

Impact of the Economic Crisis on Real Estate Professionals Appraiser Professional Liability Severity of claims Some companies are getting out of the market Others are limiting coverage

Appraiser Professional Liability

Severity of claims

Some companies are getting out of the market

Others are limiting coverage

Impact of the Economic Crisis on Real Estate Professionals Broker Price Opinions (BPOs) A cheaper way for banks to get the value of a home instead of using a certified appraiser Legislation in many states are requiring BPOs be performed by certified appraisers

Broker Price Opinions (BPOs)

A cheaper way for banks to get the value of a home instead of using a certified appraiser

Legislation in many states are requiring BPOs be performed by certified appraisers

Impact of the Economic Crisis on Real Estate Professionals Broker Price Opinions (BPOs) could be the cause of decreasing home values. Incentive to undervalue short sales, foreclosures Inherent conflicts of interest: (Want to) sell property fast Want additional BPO and property listings from bank Many sales to investors, at depressed prices, become the comparables for appraisers Washington Post, March 28, 2009

Broker Price Opinions (BPOs) could be the cause of decreasing home values.

Incentive to undervalue short sales, foreclosures

Inherent conflicts of interest:

(Want to) sell property fast

Want additional BPO and property listings from bank

Many sales to investors, at depressed prices, become the comparables for appraisers

Washington Post, March 28, 2009

Impact of the Economic Crisis on Real Estate Professionals Mortgage Broker Professional Liability Rating basis Revenue/number of mortgages

Mortgage Broker Professional Liability

Rating basis

Revenue/number of mortgages

Impact of the Economic Crisis on Real Estate Professionals Mortgage Broker Professional Liability Sub Prime mortgage earlier this decade created some claims No Money Down No Documentation for Loans Mortgagees were under-qualified for mortgages they were offered Buyers not able to afford house for loan size offered by mortgage broker

Mortgage Broker Professional Liability

Sub Prime mortgage earlier this decade created some claims

No Money Down

No Documentation for Loans

Mortgagees were under-qualified for mortgages they were offered

Buyers not able to afford house for loan size offered by mortgage broker

Impact of the Economic Crisis on Traditional Professionals Especially Ponzi Schemes Impact on Accountants and Lawyers Subprime Issues Impacting Accountants and Lawyers

Especially

Ponzi Schemes Impact on Accountants and Lawyers

Subprime Issues Impacting Accountants and Lawyers

Auditors or professional advisors of any Madoff investor stand a good chance of becoming a defendant. Auditors for the numerous feeder funds that invested all or a portion of their investors’ monies with Madoff Are likely to face lawsuits from their fund clients and their clients’ investors WHO IS AT RISK?

Auditors or professional advisors of any Madoff investor stand a good chance of becoming a defendant.

Auditors for the numerous feeder funds that invested all or a portion of their investors’ monies with Madoff

Are likely to face lawsuits from their fund clients and their clients’ investors

Madoff’s auditor- Friehling & Horowitz Three person operation: One active CPA One secretary Third person living in Florida WHO IS AT RISK?

Madoff’s auditor-

Friehling & Horowitz

Three person operation:

One active CPA

One secretary

Third person living in Florida

WHO IS AT RISK? CPAs and lawyers that served as trustees, and personal representatives of estates and foundations that invested with Madoff Any lawyer or CPA who accepted finders fees from Madoff, for soliciting new investors, will have difficulty convincing a jury that their objectivity in giving advice was not compromised

CPAs and lawyers that served as trustees, and personal representatives of estates and foundations that invested with Madoff

Any lawyer or CPA who accepted finders fees from Madoff, for soliciting new investors, will have difficulty convincing a jury that their objectivity in giving advice was not compromised

POTENTIAL PLAINTIFFS Entities that invested directly with Madoff will seek to recoup their losses (educational and charitable organizations and pension plans)

Entities that invested directly with Madoff will seek to recoup their losses (educational and charitable organizations and pension plans)

POTENTIAL PLAINTIFFS Individual investors will likely take aim at their accountants who offered investment advice (even if- or especially if- not retained to do so), alleging failure to adequately investigate the Madoff investments

Individual investors will likely take aim at their accountants who offered investment advice (even if- or especially if- not retained to do so), alleging failure to adequately investigate the Madoff investments

WARNING SIGNS Recent lawsuits allege that feeder fund auditors failed to notice red flags: Madoff’s investment strategy was incapable of delivering the returns he reported Option contracts in which Madoff was supposedly invested were not reflected in the trading of the option exchanges Investors had no electronic access to their accounts at Madoff

Recent lawsuits allege that feeder fund auditors failed to notice red flags:

Madoff’s investment strategy was incapable of delivering the returns he reported

Option contracts in which Madoff was supposedly invested were not reflected in the trading of the option exchanges

Investors had no electronic access to their accounts at Madoff

Madoff did not have an independent custodian hold its investment securities Madoff operated under a veil of secrecy and did not allow outside audits by significant investors Madoff went to 100% cash every December 31, irrespective of market conditions WARNING SIGNS (cont’d)

Madoff did not have an independent custodian hold its investment securities

Madoff operated under a veil of secrecy and did not allow outside audits by significant investors

Madoff went to 100% cash every December 31, irrespective of market conditions

HEADWAY INVESTMENT CORP V. AMERICAN EXPRESS BANK Miami Circuit Court – Filed April 6, 2009 Headway sues: American Express Bank Fairfield Greenwich PriceWaterhouse Coopers Citco

Miami Circuit Court –

Filed April 6, 2009

Headway sues:

American Express Bank

Fairfield Greenwich

PriceWaterhouse Coopers

Citco

HEADWAY INVESTMENT CORP V. AMERICAN EXPRESS BANK American Express recommended two Madoff funds $10 million invested Funds managed by Fairfield Greenwich – not disclosed to Headway

American Express recommended two Madoff funds

$10 million invested

Funds managed by Fairfield Greenwich – not disclosed to Headway

The lawsuit includes allegations of: Negligence Breach of fiduciary duty Unjust enrichment PriceWaterhouse Coopers audited the feeder funds HEADWAY INVESTMENT CORP V. AMERICAN EXPRESS BANK

The lawsuit includes allegations of:

Negligence

Breach of fiduciary duty

Unjust enrichment

PriceWaterhouse Coopers audited the feeder funds

GOLDBERG V. NATIONAL CPA FIRM Filed in Miami Circuit Court on March 30, 2009 Plaintiffs lost approximately $100 million in Madoff investments Plaintiffs sue trustees, personal representatives and investment advisors

Filed in Miami Circuit Court on March 30, 2009

Plaintiffs lost approximately $100 million in Madoff investments

Plaintiffs sue trustees, personal representatives and investment advisors

GOLDBERG V. NATIONAL CPA FIRM Plaintiff allegations include: Demand for an Accounting of all funds held by the respective trusts Breach of fiduciary duty against the trustees Removal of trustees/personal representatives

Plaintiff allegations include:

Demand for an Accounting of all funds held by the respective trusts

Breach of fiduciary duty against the trustees

Removal of trustees/personal representatives

NEW CENTURY FINANCIAL CORP V. KPMG INTERNATIONAL AND LLP Filed April 1, 2009 – among the first attempts to blame auditors for the sub-prime mortgage crisis Suit demands $ 1Billion in compensatory and consequential damages

Filed April 1, 2009 – among the first attempts to blame auditors for the sub-prime mortgage crisis

Suit demands $ 1Billion in compensatory and consequential damages

NEW CENTURY FINANCIAL CORP V. KPMG INTERNATIONAL AND LLP KPMG performed financial statement audits of New Century Complaint alleges that KPMG was grossly negligent in performing the audits KPMG is “public watchdog”

KPMG performed financial statement audits of New Century

Complaint alleges that KPMG was grossly negligent in performing the audits

KPMG is “public watchdog”

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