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When temptation bites

Cover Story
|Written By Bruce Livesey
When temptation bites

Sometime prior to 7 a.m. on Oct. 26, 2009, a man stood on a road bridge overlooking the Don Valley in east-end downtown Toronto. Apparently wracked with despair and shame, he climbed up and over and leapt into oblivion. The 39-year-old lawyer died in the gravel down below, leaving a slew of unanswered questions in his wake.

The origins of this suicide go back nearly 20 years, when Stanko Grmovsek and Gil Cornblum met during their first week at Osgoode Hall Law School in 1990. They quickly became friends, spoke to one another nearly every day, even lived together for a time, with Cornblum being the best man at Grmovsek’s wedding. Cornblum found Grmovsek “interesting and amusing and loud and brash,” while Grmovsek thought Cornblum was “very quiet” with a dry sense of humour.

Tragically, their friendship also spawned an insider-trading scheme — a plan that germinated while Grmovsek was a summer student at Osler Hoskin & Harcourt LLP in 1993. It was an idle remark from another student sporting a pair of white driving shoes that started things off. The student told Grmovsek the spiffy footwear was due to buying a car “with the money he made from a deal he was working on” — whereby it soon dawned on Grmovsek that some articling students were trading stock based on inside information they gleaned from law firms’ corporate files.

Grmovsek and Cornblum decided to copy this method and for eight years, during two different stretches of time, ran a very clever get-rich scheme. As Cornblum became a successful corporate lawyer — becoming a member of the Law Society of Upper Canada and New York State Bar; moving from one big law firm to another in both Canada and the United States; eventually landing a partnership with Dorsey & Whitney LLP, a Minneapolis-based global business law firm — he fed inside information from his firms’ files to Grmovsek. He, in turn, used the information to buy and sell stock, primarily in offshore accounts, working out of an office in his northern Toronto home. And it worked magnificently; the two men raked in nearly $10 million, making it by far the biggest insider case in Canadian history and one of the largest in North America. “If you look at Martha Stewart — hers was only a $45,000 insider-trading case,” points out Kevin Harrison, the lawyer and superintendent in charge of the RCMP’s Integrated Market Enforcement Team in Toronto, who investigated Cornblum and Grmovsek. “This one is alleging $10 million in profits. So it’s fairly significant in size.”

But later the pair grew reckless with their trading, and in April 2008 the scheme was uncovered by American authorities. This past October, days before they were to appear in court to plead guilty, Cornblum jumped to his death off the bridge in Toronto. His wife, Marilyn, told The Globe and Mail her husband’s suicide was the “culmination of a lifelong battle with severe depression.” Grmovsek, 40, called it a “tragedy,” especially in light of the fact Cornblum would have spent barely a handful of months behind bars. This winter, Grmovsek was sentenced to 39 months in jail and ordered to pay $1.1 million in penalties to the Ontario Securities Commission — although he’ll be out of prison this year.

In one respect, the arrests of Grmovsek and Cornblum are a fin de siècle moment, coming as they did in the midst of the Great Recession that was triggered by the devil-may-care behaviour of investment bankers selling rotten financial products. In fact, no one should be surprised that, alongside bankers and traders, some corporate lawyers stand accused of engaging in related white-collar shenanigans. Just look at Marc Dreier, a hotshot New York litigator who ran a 270-lawyer Park Avenue firm, Dreier LLP. Last year, Dreier was sentenced to 20 years in prison for stealing US$380 million from a bunch of hedge funds. He was arrested in Toronto in late 2008 under bizarre circumstances, having attempted to impersonate a Canadian pension-fund lawyer as part of a scheme to sell bogus securities. Drier decided to rob his clients’ money simply because he wanted to be a success story. Indeed, with his stolen loot he accrued two waterfront homes in the Hamptons, condominiums in the Caribbean, a 120-foot yacht moored in St. Martin, a $200,000 Aston Martin, an oceanside condominium in Santa Monica, his own Los Angeles sushi restaurant, plus a collection of modern art that included works by David Hockney and Pablo Picasso.

Other cases have also come to light. Last year, the U.S. Securities and Exchange Commission charged a pair of lawyers, along with six Wall Street traders, for tipping inside information in exchange for kickbacks as part of a US$20-million insider-trading scheme. One of the accused attorneys, Arthur J. Cutillo, worked for Ropes & Gray LLP, an old and storied Boston-based international law firm. In 2007, husband and wife lawyers Christopher and Randi Collotta were charged along with 11 Wall Street brokers and traders for being involved in a US$14-million insider-trading scheme. “We have clearly seen a number of lawyers charged with breaking security laws or who’re under investigation, probably as a byproduct of the entire sub-prime crisis,” maintains Steven Caruso, a partner with the New York law firm Maddox Hargett & Caruso PC, which specializes in suing Wall Street banks over investment fraud. “I sense greed was one factor in what we are now seeing.” This is echoed by Linda Chatman Thomsen, the SEC’s former director of enforcement, who said in a speech last year that she found it “depressing” and “inexplicable” that nine American lawyers had been sued by the regulator for trading in stocks ahead of significant news.

YET THE ISSUE of corporate lawyers behaving badly is far more nuanced than one might expect. For starters, you have to draw a distinction between an insider-trading scheme or stealing from a client’s trust fund, and corporate lawyers simply making poor judgment calls that end up scarring their reputations and costing their firms scads of money. In Canada, this latter type of cock-up seems more commonplace, and is far more interesting, at least according to Philip Slayton, a former Bay Street lawyer, Canadian Lawyer columnist, and author of the book Lawyers Gone Bad. “What’s going to move a young ambitious Bay Street lawyer’s career along is bringing in clients and billing lots of money and adding to the coffers of his firm,” observes Slayton. “What’s not going to make his career is being a moral beacon. It’s a business. ‘It’s a business stupid’ should be engraved on the portico of these law firms. So it would be very unusual for a lawyer to say, ‘You know what, I don’t think you should do that.’”

Canadian corporate lawyers are not immune to scandal. There was immigration lawyer Martin Pilzmaker hired at Lang Michener LLP in 1985 and gone less than two years later. By 1990, he’d been arrested and charged with more than 50 counts of forgery, theft, conspiracy, and fraud in a scheme to help Hong Kong businessmen immigrate to Canada illegally. Lang Michener and some of its senior partners were also charged with failing to promptly warn the Law Society of Upper Canada about Pilzmaker’s transgressions. Just prior to going to court, Pilzmaker killed himself in a hotel room. In 1991, one of Manitoba’s top tax lawyers, Richard Shead, a managing partner with the Winnipeg law firm Buchwald Asper Gallagher Henteleff, was arrested and later convicted for helping a client defraud people of their life savings in phony real estate transactions. Shead was convicted of 10 counts of fraud and sentenced to five years in prison.

Julius Melnitzer, a London, Ont., lawyer, was brilliant in the courtroom and had a stable of powerful clients, including some of the province’s biggest landlords. Thanks to a tip from an observant middle manager at a bank, the police discovered Melnitzer had printed up more than $100 million worth of stock certificates bearing blue-chip names like Exxon Corp. and used them to secure around $67 million in loans from several banks. He also bilked several friends out of more than $14 million by getting them to invest in a bogus property deal in Singapore. In 1992, Melnitzer pleaded guilty to 43 counts of fraud. He was sentenced to nine years in jail but was out on day parole after a couple of years and full parole in 1995. Melnitzer is now a well-known and respected Canadian legal affairs writer.

And now Grmovsek and Cornblum can be added to the list, although their crime was more enduring. How it worked, according to the agreed statement of facts in the case, was that Cornblum was the mole, Grmovsek the trader on the outside. Grmovsek practised law until 1997 but dropped out, then dabbled in film school and gambling. He married and had a typical home life, while making his money on Cornblum’s tips.

Cornblum, meanwhile, pursued the well-worn career path of a corporate lawyer, articling in Toronto at Fraser Milner Casgrain LLP, then joining the New York firm of Sullivan & Cromwell LLP, before moving to Schulte Roth & Zabel LLP, also in New York. He returned to Toronto in 1999, worked at Meighen Demers LLP before opening the Toronto office of Dorsey & Whitney two years later. The insider-trading scheme he and Grmovsek ran stretched over two separate periods, from 1994 to 1999 and 2004 to 2008.

Cornblum collected information of pending corporate transactions from the files of his law firm. He invariably went to work very early, wandering the halls, looking at other lawyers’ work or documents left in fax or photocopy rooms, on desks, and elsewhere, seeking clues about mergers. This is called “spelunking.” In fact, Grmovsek used to give Cornblum 4 a.m. wake-up calls to make sure Cornblum would be in the office early enough to freely pilfer. Cornblum also accessed electronic files and picked up information from conversations with other lawyers.

The information he culled would then be relayed to Grmovsek in Toronto who made stock purchases using accounts he had set up in the Bahamas and Cayman Islands. Accounts were disguised with names like “I Need Money” or “Through God All Things Are Possible” to hide any connection to the two schemers. Some of their 46 transactions included Office Depot Inc.’s proposed takeover of Staples Inc., Onex Corp.’s takeover of Labatt Brewing Co. Ltd., and Norwest Corp.’s buyout of Wells Fargo & Co. By the late 1990s, they’d amassed more than US$6 million from their trading.

It was stress-inducing work, however. Cornblum found all of the snooping “painful and debilitating” — so much so he left New York and returned to Toronto in 1999, and put a halt to providing Grmovsek with information. Nevertheless, he used his profits to buy an $879,000 house in Toronto. Grmovsek, meanwhile, moved north of Toronto and bought himself a $614,900 home. Somehow, though, over the next few years, the men lost much of their nest egg through bad investments.

In 2001, Cornblum joined Dorsey & Whitney in its Toronto office, eventually becoming an equity partner and earning a healthy salary. He later told investigators, “I was a pretty decent lawyer, a family man. I lived within my means.” At Dorsey & Whitney, he worked on advising investment dealers about regulatory practices in the U.S. and on corporate finance.

By 2004, however, Cornblum found his “life cracking open” after some career setbacks, his wife’s diagnosis with breast cancer, and what he claimed was Grmovsek’s push to start making money through insider trading again. So Cornblum resumed his purloining.

The two men often met at Cornblum’s office or ate lunch together in downtown Toronto to plot strategy. They spoke nearly every day and on weekends, sometimes using pay phones. And once again they began to make millions of dollars. They also began to get sloppy. “In the early time period, I don’t believe there was any substantial likelihood they would have been caught by market surveillance or a regulator,” says Toronto securities lawyer Joe Groia, who represented Grmovsek after he confessed. “They were very sophisticated in how they did it, in small tranches and engaged in a myriad of associated trading. So if there is a proposed transaction in gold stock, they would buy other gold companies’ stock. In the later stages, however, they took leave of their senses and began to trade in significant volumes and significant thinly traded stocks. So it was almost inevitable they were going to get caught.”

Indeed, Grmovsek said his trading had become “moronic” by 2008. And sure enough, the U.S. Financial Industry Regulatory Authority caught wind of the trades and began an investigation. The evidence led to Cornblum, who was confronted by Dorsey & Whitney personnel. He initially denied the allegations, but was fired anyway. Soon afterwards, he tried to kill himself on two separate occasions. Investigations by the RCMP and OSC, the SEC and U.S. Department of Justice ensued, with the two men agreeing to co-operate with them. It took more than a year to sort out the whole mess.

STILL, THE GRMOVSEK and Cornblum case was straightforward thievery. Many corporate lawyers get into hot water by simply carrying out their jobs. Just not always very well.

How does it happen? Large corporate law firms are where the worlds of Canada’s business, financial, political, and legal establishments all collide. Canada’s economy is ruled over by dynastic families via holding companies and preferred stock. The Thomsons have Woodbridge Co. Ltd.; the Rogerses have Rogers Communications Inc.; and the Bronfmans have Brookfield Asset Management Inc. The country’s elite lawyers, captains of industry, and bankers live in the same leafy upscale neighborhoods in major cities, such as Toronto’s Rosedale and Forest Hill. They send their children to the same schools and sit on the same non-profit boards. And they work together. Mega law firms regularly represent several related parties in one corporate family.

The ties binding lawyers, the wealthy, and our political elites is why Philip Slayton believes conflicts of interest are the biggest problem facing corporate law firms, especially when they represent both public companies and CEOs, whose interests are often different. “My view is that you can only represent one of that set,” he remarks.

Lawyers who work for big corporate law firms insist these conflicts of interest are manageable. “There are conflicts that arise in those representations from time to time and in my experience they are generally dealt with responsibly by law firms involved,” asserts Gavin MacKenzie, a partner with Heenan Blaikie LLP in Toronto, who is considered the guru of legal ethics in Canada.

Still, one of the cases that best sums up the potential pitfalls for corporate law firms is the Torys-Conrad Black-Hollinger fiasco. Torys LLP’s ties to Canada’s financial and political leadership are profound; it counts client relationships in generations, not years, and includes among its major clients the country’s largest banks and public pension funds. So it was no surprise that Black and his media empire were among the firm’s clientele.

Black and his then-right-hand man David Radler once controlled Hollinger International Inc., a U.S.-listed company that owned newspapers through a holding company, Hollinger Inc., and a management company, Ravelston Corp. Ltd. Yet Torys represented all of these parties to one degree or another. Which was fine until 2000, when Black and Ravelston decided to sell off many of its newspapers to CanWest Global Communications Corp. for US$3.2 billion.

This deal, however, also included US$80 million in non-compete agreements paid by CanWest to Black, Radler, and two other Hollinger executives. These payments would become a focal point of Black’s 2007 fraud trial in Chicago, examining whether he and the other executives were entitled to the money and if the payments had been properly disclosed to shareholders and the SEC.

Two of Torys’ lawyers, Beth DeMerchant and Darren Sukonick, worked on the Hollinger-CanWest deal, including handling the non-compete payments. However, at one juncture, Torys’ lawyers gave Black and the other executives an opinion that the non-compete payments didn’t need to be disclosed to shareholders or the SEC as executive compensation. This one bit of legal advice came back to haunt DeMerchant, Sukonick, and Torys.

Indeed, when Hollinger International struck a special committee to examine how Black was spending the company’s money, Torys’ actions came under scrutiny. In 2004, the committee issued a report in which Torys was severely criticized, arguing the law firm had worked hard to ensure Black et al. got the non-compete payments, although this might not have been in the best interest of shareholders. It accused the law firm of a conflict of interest, that it had a duty to Hollinger’s shareholders to ensure the non-compete payments be properly disclosed. Instead, the report said the law firm expressed no concern about the non-compete payments, noting that Black, Radler, and the other executives “strongly resisted public disclosure of these amounts, and Torys, which represented not only Hollinger, but also Ravelston and Hollinger Inc., gave them the legal advice they sought that these inconvenient rules did not apply to large portions of the cash transferred to Black and Radler through Ravelston. The result was to obscure the magnitude of what Black, Radler, and their associates were taking at the expense of Hollinger’s shareholders.”

In 2005, on the verge of Hollinger International suing Torys, the law firm settled the matter for US$30.3 million, although it denied any wrongdoing or conflict of interest. Two years later, during Black’s trial, DeMerchant and Sukonick were grilled about their role. DeMerchant admitted Torys had dropped the ball and made a serious disclosure error. Sukonick went through 14 hours of intense interrogation.

The affair has hurt their careers. DeMerchant quit Torys and is no longer working as a lawyer. And while Sukonick stayed on at the firm, he was shunted aside before resuming his practice after Black’s conviction. He now leads the pro bono efforts for the firm in Toronto. Their ordeal is far from over, however. Last fall, both lawyers were charged with professional misconduct by the LSUC for failing to disclose various conflicts of interest. A hearing on this matter is scheduled to begin April 26. Meanwhile, Torys says it has put in place safeguards to ensure a similar occurrence of this situation won’t happen again but calls to the firm’s managing partner, Les Viner, for this article were not returned.

But Torys is not the only Bay Street megafirm that has suffered major embarrassment due to a miscalculation in recent years — and paid a steep price.

In 1996, former Ontario premier David Peterson, chairman of Cassels Brock & Blackwell LLP, invested $50,000 of his own money and became a director of an obscure eastern European magnet manufacturer, YBM Magnex International Inc. Lawrence D. Wilder, another Cassels Brock partner, became YBM’s counsel. Other reputable people were wooed onto YBM’s board as well. What Peterson, the firm, and other directors didn’t know at the time was that YBM was a Potemkin village of a company — a front for Russian mobsters who planned to use it to defraud investors by inflating the company’s stock by reporting false profit margins. YBM was controlled by Semion Mogilevich, considered the “boss of bosses” of the Russian mafia and who today sits on the FBI’s 10-most-wanted list.

In 1997, YBM filed a prospectus to raise $100 million on the Toronto Stock Exchange, at the very same time it was carrying out an internal investigation to verify if American law enforcement had the company in its crosshairs for ties to organized crime. The OSC approved the prospectus, despite knowing the company was under a cloud. At its peak, YBM had a stock market value of $1 billion. Then, in the spring of 1998, the FBI raided YBM’s American offices. Peterson resigned from the board.

But the former premier’s travails were only just beginning. He and the rest of the board were charged by the OSC for failing to disclose information about the U.S. law enforcement investigation before they raised money from investors. After 124 days of hearings, the OSC determined that Peterson was blameless in the debacle, although it said: “While Peterson meets the legal test of due diligence, the panel remains disappointed that he did not offer more insight and leadership to the board in these circumstances.”

Wilder, however, had to fork over $400,000 to cover OSC costs for its investigation and court appeals. And Cassels Brock and other directors and advisers had to pay a staggering $110 million to settle shareholders’ lawsuits. In spite of the bad publicity and high cost of the YBM fiasco, Cassels Brock remains a thriving law firm and Peterson its chairman as well as a fixture on the Toronto business scene.

However, more bad news emerged for the firm in January when it and two of its partners, Peter Harris and Michael Weinczok, were named in a $750-million class action lawsuit launched by now-shuttered dealerships against General Motors of Canada Ltd. and the firm, accusing them of conflicts of interest. While still in its earliest stages, the suit is already rocking the legal world and could, eventually, rock the political world as well.

Still, these cases show that when it comes to corporate law, one misstep can prove costly. “It takes years to build a reputation and it takes one stupid thing to destroy that, everyone knows that,” explains Carol Hansell, a senior partner in the corporate finance, securities, and M&A practices of Davies Ward Phillips & Vineberg LLP. “Nobody can function in this environment if your counterparts don’t trust you. You are basically done after that — so you can’t afford it.”

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