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Court Revives Grant Thornton Securities Fraud Lawsuit

By Robyn Hagan Cain on July 19, 2012 | Last updated on March 21, 2019

The Second Circuit Court of Appeals revived a securities fraud lawsuit on Thursday accusing Grant Thornton LLP (GT) of defrauding Winstar Communications shareholders and bondholders, reports Reuters. Winstar, a GT auditing client, went bankrupt in 2001.

Winstar was a broadband communications company that provided wireless Internet connectivity to various businesses. GT served as Winstar's independent auditor from 1994 until Winstar filed for bankruptcy in April 2001. GT had regarded Winstar as "one of its largest and most important clients," according to court filings.

GT's audit for 1999 included several "large account" transactions that Winstar consummated in an attempt to conceal a decrease in revenue associated with its core business. Most of the large account transactions involved Lucent Technologies, Inc., Winstar's strategic partner, and all of them were consummated at the end of Winstar's fiscal quarters in 1999. Together, the transactions accounted for $114.5 million in revenue, or approximately 26 percent of Winstar's reported 1999 operating revenues and 32 percent of its "core" revenues that year.

At the time, GT considered the transactions to be "red flags," warranting the accounting firm's "heightened scrutiny." However, GT ultimately approved Winstar's recognition of revenue in connection with each of these transactions.

After the company declared bankruptcy, Winstar investors sued GT, alleging that GT committed securities fraud, and made false and misleading statements in an audit opinion letter. In September 2010, the district court granted summary judgment in favor of GT, dismissing claims arising from GT's audit of Winstar's financial statements.

The district court concluded that the plaintiffs had failed to demonstrate that a genuine dispute of material fact existed as to whether GT acted intentionally or recklessly, and that certain plaintiffs failed to demonstrate that such a dispute existed as to whether they actually relied on GT's audit opinion letter.

The Second Circuit Court of Appeals vacated the district court's decision and reinstated the case, concluding that there were triable questions of fact in the case regarding:

  1. Whether GT acted with scienter in making alleged misrepresentations in its audit opinion letter,
  2. Whether the plaintiffs purchased Winstar's stock in actual reliance on those representations, and
  3. Whether the plaintiffs suffered losses as a result.

Circuit Judge Raymond Lohier noted in his opinion for the three-judge panel, "A jury reasonably could determine that the audit was so deficient as to be highly unreasonable, representing an extreme departure from the standards of ordinary care."

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