(Bloomberg) Ernst & Young LLP took Bernie Madoff at his word when it signed off on audits of a fund that helped feed the biggest Ponzi scheme in U.S. history.

The firm must now defend that decision at the first trial of an auditor over losses tied to Madoff, who’s serving a 150-year prison term for stealing billions of dollars from thousands of investors.

FutureSelect Portfolio Management Inc., which lost $112 million in its investment in the feeder fund, says Ernst & Young was reckless in its review. The purported assets weren’t just exaggerated; they didn’t even exist, FutureSelect says.

Ernst & Young calls its sign-off reasonable based on generally accepted auditing standards, which the firm “scrupulously” followed. The case boils down to second-guessing a review that can provide only “reasonable assurance” that a client’s financial statements are correct, the firm says.

“No audit of a Madoff-advised fund could have detected this Ponzi scheme,” Amy Call Well, an Ernst & Young spokeswoman, said in an e-mailed statement. “EY was not the auditor of any Madoff entity; we were among the many auditors of funds that chose to use Madoff as their investment adviser.”

Opening Statements

The state court jury in Seattle will hear the case this week, with opening statements scheduled for Wednesday. The trial comes as the Public Company Accounting Oversight Board, the lead U.S. audit regulator, warns that one in three audit opinions in the U.S. lack appropriate supporting evidence.

Ernst & Young audited Rye Funds, which were managed by Tremont Group Holdings Inc. and invested with Madoff. The accounting firm audited Rye from 2000 to 2003 and performed surprise audits of Tremont from 2000 to 2008, FutureSelect said in court documents.

Tremont was the second-biggest feeder into Madoff’s multibillion-dollar fraud after Fairfield Greenwich Group. Tremont and the liquidator of Madoff’s brokerage agreed in 2013 to a $1 billion settlement, freeing up money to repay some investors. FutureSelect, based in Redmond, Washington, opted out of that deal and pursued its own case, said its lawyer, Steven Thomas.

Confidential Settlements

FutureSelect invested about $195 million from 1998 to 2007 in feeder funds managed by Madoff, according to court documents.

In 2010, FutureSelect sued Ernst & Young along with Tremont, its parent Oppenheimer Acquisition Corp. and Oppenheimer’s parent Massachusetts Mutual Life Insurance Co. Ernst & Young’s co-defendants were dismissed from the case last month after reaching confidential settlements.

FutureSelect alleges Ernst & Young failed to perform audit procedures that tested the existence of assets on Rye’s financial statements. Rye “outsourced everything”—from investment decisions to record keeping—to Madoff, according to court documents.

One of Rye’s financial statements showed $853 million in Treasury bills and Ernst & Young signed the audit opinion that it was reasonable those existed, Thomas said.

“It’s not that they were off by $10 million or $100 million,” Thomas said in a phone interview. “It was completely fake. There were no T-bills. They just wrote that on the financial statement.”

‘Fake Assets

“Ernst & Young certified $4.2 billion in fake assets,” he added.

Ernst & Young blames the losses on FutureSelect’s principal, Ronald Ward, who the accounting firm said in court papers “received tens of millions of dollars in management fees” from the Madoff investments.

“Ward promised his investors he conducted extensive, hands-on due diligence of Madoff’s operations, investment strategy and returns,” Ernst & Young said in court papers filed Oct. 15.

In contrast, the accounting firm said its role was “clearly defined and limited” to performing audits of Rye during the years it reviewed FutureSelect’s investment.

“EY had no obligation to investigate Madoff, his investment strategies, or his affiliated broker-dealer at Bernard L. Madoff Investment Securities,” the firm said.

FutureSelect said it was solicited to invest in Rye and relied on Ernst & Young’s audit opinion in its decision. FutureSelect alleges that the accounting firm was negligent in making “material misstatements” and omitting information about Rye’s true financial condition. It’s seeking damages under the Washington State Securities Act.

Washington Act

Most of the investments came from investors within the state of Washington, Thomas said in an interview. The state’s law provides broad protection for investors within its boundaries, Thomas said.

FutureSelect’s lawsuit was dismissed by a trial judge before being reinstated by an appeals court in August 2013. The case made its way to the Washington State Supreme Court, which ruled last year that a trial judge must determine whether Ernst & Young’s acts substantially contributed to FutureSelect’s decision to continue investing in the funds.

The top court said in its opinion that the Washington Act is “unique” and places “special emphasis” on protecting investors from fraudulent schemes, more-so than similar state and federal statutes.

Under Washington’s law, FutureSelect would be entitled to compensation for lost investments plus prejudgment interest on that amount at a rate of 8 percent, Thomas said. That amount would roughly total $197 million, he said.

The case follows Ernst & Young’s agreement in April to pay $10 million to settle New York’s lawsuit accusing it of helping Lehman Brothers Holdings Inc. hide financial problems in the years leading to its 2008 collapse.

The case is FutureSelect Portfolio Management Inc. v. Ernst & Young, 10-2-30732-0, Superior Court of the State of Washington for King County (Seattle).

—With assistance from Dave Michaels in Washington and Steven Church in Wilmington, Delaware.