Bayou Group Estate Wins $13 Million From Hedge Funds for Fraud Investors

The estate of hedge-fund firm Bayou Group LLC, which turned out to be a Ponzi scheme, won a jury verdict requiring hedge funds that redeemed their money before Bayou collapsed to pay investors $13 million, a lawyer said.

Today’s victory in federal court in Manhattan follows the estate’s previous recovery of $5.4 million in “fictitious profits,” bringing the total recouped to more than $60 million, said Gary Mennitt, a lawyer representing the estate for the benefit of its investors.

The estate sued to recover the amounts withdrawn by hedge funds Redwood Growth Partners and Heritage Hedged Equity, investment company D. Canale & Co., two trusts and an endowment fund, Mennitt said in a phone interview. The jury found the funds failed to prove that they had, in good faith, conducted a diligent investigation of the Bayou fraud before withdrawing their principal investment, he said.

“This is first time that a Ponzi scheme estate has been successful at trial in defeating an investor’s good-faith defense and thus recovering the full principal, or amount paid to the redeeming investor,” the lawyer said.

David Baum, a lawyer representing the defendant hedge funds, said in a phone interview he was disappointed by the verdict and that the funds will appeal.

In 2009, Samuel Israel, the convicted founder of Bayou Group LLC, was sentenced to two additional years in prison for faking his suicide and running away the day he was to begin a 20-year term for a $400 million fraud.

Israel founded Bayou in 1995 with James Marquez. After the company lost money in 1998, Marquez and finance chief Daniel Marino created a sham accounting firm to serve as the company’s external auditor, Israel admitted. Rather than disclose modest losses, Bayou reported profits, Israel said. Bayou filed for bankruptcy in May 2006.

The estate recovery case is In Re Bayou Group, LLC, 09- 2313, U.S. District Court, Southern District of New York (Manhattan). The Bayou fraud case is U.S. v. Israel, 1:05-cr- 01039, U.S. District Court, Southern District of New York (Manhattan).

To contact the reporter on this story: Joel Rosenblatt in San Francisco at jrosenblatt@bloomberg.net

To contact the editor responsible for this story: Michael Hytha at mhytha@bloomberg.net

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