CIBC should restate earnings: expert National Post - Wednesday, August 11, 2010 By Jim Middlemiss Canadian Imperial Bank of Commerce breached Canadian accounting standards by failing to properly disclose its exposure to subprime mortgages, says expert testimony filed in Canada's biggest lawsuit to stem from the credit crisis. Gordon Richardson, the KPMG professor of accounting at the Rotman School of Management in Toronto and a PhD, writes in his 65-page review of the bank's subprime disclosure that "CIBC failed to comply with GAAP disclosure requirements... and the information provided to pertaining credit risk was, prior to December 6, 2007, wholly misleading to the market in general and to class members who invested in CIBC." The lawsuit covers the period of May 31, 2007 to February 28, 2008, a tumultuous period in the capital markets when credit started freezing up and investment firms scrambled to understand their exposure to subprime investments. Mr. Richardson said, "CIBC substantially overstated its income for the last three quarters of fiscal 2007 and the first quarter of 2008 and income for these periods should be restated in order to comply with GAAP." The overstatement resulted from "indefensible assumptions" related to its hedge fund exposure. A second expert witness report from a noted securities valuation firm in the United States pegs CIBC investor losses at a maximum of $6.6-billion. The filings are made in preparation for the mammoth class-action suit, which is expected to come before the Ontario Court for certification in March 2011. CIBC spokesman Rob McLeod said, "CIBC denies these allegations and plans to vigorously defend this action. CIBC is confident that, at all times, its conduct was appropriate and that its disclosure met applicable requirements." The bank is expected to file its response by the end of August. Joel Rochon, who is representing Thornhill, Ont., investor Howard Green in the lawsuit, which was filed on July 22, 2008, declined to comment on the expert testimony reports. The lawsuit claims CIBC misrepresented the bank's exposure to subprime investments and failed to implement appropriate risk-management controls related to billions of dollars in investments in collateralized debt obligations and U.S. subprime mortgages. A similar investor lawsuit in the United States covering CIBC disclosures between May 2007 to May 2008 was dismissed in March. Judge William Pauley of the Manhattan Federal Court wrote, "CIBC, like so many other institutions, could not have been expected to anticipate the crisis with the accuracy [the] plaintiff enjoys in hindsight." However, the laws between the two countries differ and CIBC is being sued in Canada under a new section of the Ontario Securities Act, which makes it easier for the investors to sue corporations for misrepresentations. An investor class action against Imax Corp. over disclosure about the status of theatre construction was certified by an Ontario judge in February. Mr. Richardson's extensive report examined CIBC's exposure to various tranches of subprime residential mortgage-backed securities and collateralized debt obligations tried to subprime mortgages, including its hedged and unhedged position. He makes some damning conclusions. "In a nutshell, investors needed to be told by no later than April 30, 2007 that CIBC's maximum exposure to credit risk was $11.4-billion. Instead CIBC misled its shareholders by remaining silent and by misstating and minimizing its exposure." He writes that it wasn't until Dec. 6, 2007 that the bank "stunned the investment community" and revealed the $11.4-billion exposure. He said based on the TABX and ABX indexes, which tracked the value of credit default swaps tied to subprime mortgage bonds, the bank should have realized that its main $3.5-billion hedge with counterparty ACA Financial was in trouble. "CIBC had to have known that its hedge of $3.5-billion with ACA had collapsed by April 30, 2007 and by no later than July 2007." He said that should have resulted in fair value write-downs of $769-million, $2.38 -billion and $3.82-billion for the second and third quarters of fiscal 2007 versus the $273-million and $747-million hit the bank declared. He examined two other hedges involving XL Capital and FGIC Corp. and concluded that "CIBC should have recorded cumulative U.S. subprime fair value writedowns between $6.54-billion and $6.95-billion by the end of the first [fiscal] quarter of 2008, rather than the $4.14-billion cumulative U.S. subprime write down it did take..." While the CIBC suit is one of the few pieces of subprime litigation in Canada, in the United States there have been more than 400 lawsuits filed in federal courts related to the credit crisis, according to NERA Economic Consulting, which tracks such suits. Elaine Buckberg, a senior vice-president at NERA in New York said her firm has identified 74 cases relating to collateral debt obligations, 10 of which were filed in 2010 and the others filed between 2007 and 2009. Overall, U.S. credit crisis lawsuits have resulted in US $2.1-billion in settlements involving a number of parties. Mortgage lender Countrywide Financial Corp. agreed to pay US $600-million to shareholders who accused it of misleading investors about its lending practices. Mortgage loan originator New Century Financial settled with investors for $125-million. Merrill Lynch settled its subprime litigation for $475-million. Charles Schwab paid out $225-million over allegations of misrepresentation related to one of its mutual funds. It isn't the first investor class action CIBC has been at the centre of. In 2005, it settled a claim by Enron Corp. shareholders for US $2.4-billion.