A giant of the Richmond legal scene has quietly become entangled in the ongoing bankruptcy of a once-fast-rising local biotech firm.
The trustee overseeing the Chapter 11 liquidation of Health Diagnostic Laboratory is in ongoing mediation negotiations with LeClairRyan over malpractice claims sought by the bankruptcy estate related to the law firm’s work for the company prior to its collapse, court records show.
Details of the mediation are scant, as the process is confidential and largely kept out of the court record, and specific mentions of LeClairRyan by name are also few. However, passages in the more than 1,400 docket entries in the case show the two sides have been in a back-and-forth since at least this spring, in an effort by the trustee to potentially place some of the blame for HDL’s downfall on the shoulders of LeClairRyan, which represented and advised the lab company from its inception.
Founded in 2009, HDL toppled into bankruptcy in June 2015 after a damning Wall Street Journal exposé and a lawsuit filed by the federal government over allegations that the company paid kickbacks to doctors to use its lab services.
The direct link to LeClairRyan and the mediation is in 533 pages of ledgers from the Cooley law firm that it submitted for its nearly $4 million worth of hourly work on the case. The firm is representing HDL’s liquidating trustee, Richard Arrowsmith of Washington, D.C., firm Alvarez & Marsal.
While no formal lawsuit related to HDL has been filed in the court record against LeClairRyan, the documents indicate that the trustee was considering filing a complaint alleging legal malpractice against LeClairRyan, which then led into mediation.
Notes in the ledgers show that at least some of the trustee’s investigations and discussions related to the mediation with LeClairRyan pertained to so-called “processing and handling fees,” the term HDL used for payments it made to doctors who used its blood tests. The federal government has contended in suits against HDL and its former top executive that those payments amounted to kickbacks in violation of federal laws.
The legality of HDL’s initial desire to pay those fees to doctors, and its subsequent standard practice of doing so, would likely have been vetted by the company’s legal counsel at some point. It’s unclear whether LeClairRyan would have been involved in any such vetting, and whether advice regarding the legality of the fees is the crux of the mediation.
The records reference a letter prepared by LeClairRyan related to a “P&H fee agreement,” timelines related to LeClairRyan’s involvement in processing and handling matters, and a letter regarding LeClairRyan’s “anti-kickback analysis” for the company. The ledgers also show that the trustee’s attorneys were keying in on “damages sustained by LeClairRyan negligence.”
Another direct reference to LeClairRyan is in HDL’s confirmed liquidation plan, which included a provision preserving the trustee’s right to go after LeClairRyan, namesake and cofounder Dennis Ryan, and others, specifically for malpractice.
Dennis Ryan represented HDL in its early years while still at the law firm, ultimately leaving the firm in March of 2012 to join the then-booming downtown lab company.
Messages left for LeClairRyan’s in-house counsel, Bruce Matson, were not returned by press time.
An attorney for the trustee declined to comment.
Mentions of LeClairRyan in the Cooley ledgers go back as far as August 2015, and the documents show discussions of mediation between the two sides began late last year.
Mediation sessions took place March 3 and 4 of this year, to no avail. Other passages show the sides haven’t been on the same page throughout the process, with mentions of a malpractice complaint against LeClairRyan being in the works at one point, along with discussions of a potential settlement between the two sides.
At a hearing in late July in Richmond bankruptcy court, Cooley attorney Richard Kanowitz said the trustee’s camp was in settlement discussions with a “pre-petition legal advisor,” not naming LeClairRyan specifically.
“I’m optimistic, but not sure, that we’re going to get to a deal with the legal advisor, but we went through mediation, we went through second mediation,” Kanowitz said, according to a transcript of the hearing.
“We’re still speaking, which is a good thing, and now the new date is Aug. 15. So it’s anticipated that either we’ll have a deal by Aug. 15 with the legal advisor or we won’t. If we don’t settle and we’re forced to file a complaint, we are prepared to file both a legal advisor complaint as well as an omnibus D&O (directors and officers)/BlueWave complaint.”
That latter complaint mentioned by Kanowitz is a far-reaching lawsuit being prepared by the trustee’s camp that would seek damages from former HDL insiders, including executives and directors, as well as its former sales contractor, BlueWave Health.
Other recent court filings include several mentions of the broader lawsuit. It mentions the potential for dozens of defendants and more than 70 counts such as breach of fiduciary duty, fraud, waste and unjust enrichment.
In a letter to Judge Kevin Huennekens earlier this month, an attorney in the case said: “HDL’s former directors and officers will soon be defendants in a threatened $600 million lawsuit by the liquidating trustee.”
Kanowitz, at last month’s hearing, said of the lawsuit: “We’re ready to go.”
In addition to trying to place blame and extract money for the bankruptcy estate directly from any defendants, the potential $600 million lawsuit and the claims made in mediation could likely trigger insurance policies held by the various parties to protect them in such instances.
Records do not indicate a dollar amount of the claims the trustee was eyeing against LeClairRyan. Local lawyers who were asked about the situation said a law firm the size of LeClairRyan would typically have malpractice insurance coverage as much as $100 million.
Meanwhile, attorneys representing former HDL executives, such as co-founder Tonya Mallory, have been bickering over how – and how much of – millions of dollars’ worth of insurance money can be used by those executives in their defense of any HDL-related litigation.
Any settlement reached between the trustee and LeClairRyan through mediation would have to be approved by the bankruptcy court.
No distributions of money have yet been made to HDL’s unsecured creditors. Its main secured creditor and lender, BB&T, has since been paid out.
LeClairRyan is among the unsecured creditors owed money by HDL.
The next hearing in the HDL bankruptcy case is set for Aug. 18 at 10 a.m. in the Richmond federal courthouse.
It is unfortunate but not surprising that a company that lived a short life will be the source of litigation for years to come. Did HDL just push the envelope too far? Did it ignore the advice of its professional advisors? Was it misled into believing its business model was well within the bounds of applicable law? It will be interesting to see if any of these questions are addressed in a public forum or just “amicably” resolved through confidential settlements. As usual, great reporting by the Richmond BizSense team!