Former General Re CEO Ronald Ferguson asserted his Fifth Amendment privilege rather than testify in the SEC and DOJ investigation of AIG-General Re reinsurance transactions, and promptly lost his consulting contract with Berkshire Hathaway. Ferguson was CEO of General Re when Berkshire Hathaway acquired the company in 1998, and left that position in 2001 when the company suffered substantial underwriting losses. A press release issued by Berkshire Hathaway (here) states that Ferguson had been subpoenaed to testify in the investigation. He now joins, among others, former AIG CEO Maurice Greenberg and former AIG CFO Howard Smith as one of the senior executives to have invoked the Fifth Amendment to resist answering questions in the investigation. As discussed in an earlier post (here), New York Attorney General Eliot Spitzer’s office is conducting a grand jury investigation that has already heard from one AIG executive, Joseph Umansky. The pace is quickening as another one rides the Fifth Amendment privilege bus. (ph)
Category: Securities
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A Wall Street Journal article (here) reports that N.Y. Attorney General Eliot Spitzer’s office has begun presenting evidence to grand jury about possible criminal violations by former American International Group executives in connection with accounting issues at the insurance company. The targets of the investigation at this point are most likely former CEO Maurice Greenberg and former CFO Howard Smith, although other AIG executives have left the company after asserting the Fifth Amendment and their conduct probably will be part of the grand jury’s investigation. Joseph Umansky, who is head of AIG’s reinsurance division that is a principal focus of the investigation, has testified before the grand jury and received immunity (see earlier post here).
Under New York law, a witness who testifies before a grand jury automatically receives immunity (subject to certain exections), which is quite different from the federal system that requires a witness to testify and assert the Fifth Amendment if there is possible incrimination, but immunity is solely at the discretion of the Department of Justice. Another important difference is that the immunity granted under New York law is transactional immunity, i.e. the state cannot prosecute the person for any crime discussed in the testimony, while the federal government pretty much only grants the more limited "use/fruits" immunity that prohibits the use of the testimony in a subsequent prosecution and (more importantly) any information derived from it to prosecute the witness — unless one happens to be dealing with the Ken Starr Independent Counsel’s office, but that’s another story. New York CPL 190.40 (here) provides:
1. Every witness in a grand jury proceeding must give any evidence legally requested of him regardless of any protest or belief on his part that it may tend to incriminate him.
2. A witness who gives evidence in a grand jury proceeding receives immunity unless:
(a) He has effectively waived such immunity pursuant to section 190.45; or
(b) Such evidence is not responsive to any inquiry and is gratuitously given or volunteered by the witness with knowledge that it is not responsive.
(c) The evidence given by the witness consists only of books, papers, records or other physical evidence of an enterprise, as defined in subdivision one of section 175.00 of the penal law, the production of which is required by a subpoena duces tecum, and the witness does not possess a privilege against self-incrimination with respect to the production of such evidence. Any further evidence given by the witness entitles the witness to immunity except as provided in subparagraph (a)
and (b) of this subdivision.What remains unclear is whether there is any coordination between Spitzer’s office and the U.S. Attorney for the Southern District of New York on the investigation. A "race to the courthouse" could have a negative effect on any prosecution ("act in haste" and all that). (ph)
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The Florida jury that awarded Ronald Perelman damages of $604.3 million for being defrauded by Morgan Stanley (see earlier post here) in connection with his sale of Coleman Co. to Sunbeam — a Morgan Stanley investment banking client at the time — has added another $850 million as punitive damages. (See AP story here) Thus concludes phase one of the case, which Morgan Stanley has already said it plans to appeal the judge’s ruling entering a default judgment on the fraud issue. Look for the company’s stock to take a hit tomorrow, amidst all the other turmoil it is facing from a revolt against current CEO Phil Purcell. When it rains . . . (ph)
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The internal investigation at Delphi, the large auto parts supplier, is coming to a close, with more executives being dismissed for their involvement in improper accounting. In early March, the company announced the dismissal of its CFO, Alan Dawes, and two other accounting executives (see earlier post here), and Delphi’s Form 8-K filing (here) on May 16 adds to the list of those losing their jobs over the accounting problems:
As previously reported, the independent investigation by the Company’s Audit Committee of the Board of Directors is substantially complete and the Company is in the process of preparing restated financial statements for audit and review by its independent auditors, Deloitte & Touche LLP. At the same time as management has been preparing the restatement, the Audit Committee is finalizing its review of the conduct of various individuals who had supervisory authority for others involved in or were directly involved in certain of the principal transactions under investigation. Certain lower and middle level executives in the Company’s finance staff will be resigning from the company.
The SEC and criminal investigations should now move to center stage as the case shifts into the next phase with individuals tied to the accounting problems identified. With CEO J.T. Battenburg slated to leave the company by the end of the year, Delphi will look to settle any civil and criminal cases as soon as possible so the new CEO starts with a clean slate. (ph)
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With American International Group caught up in a widening federal and state investigation of its accounting practices, the company took steps to protect its directors by entering into indemnification agreements on May 9 with them that contractually obligates AIG to advance all costs — most importantly, attorney’s fees — in connection with the investigation and any related criminal, regulatory, shareholder derivative suit, and securities class action litigation. AIG filed a Form 8-K (here) today (May 16) that states:
Each of the following members of American International Group, Inc.’s ("AIG") board of directors entered into an agreement relating to the advancement of expenses by AIG: M. Bernard Aidinoff; Pei-yuan Chia; Marshall A. Cohen; William S. Cohen; Martin S. Feldstein; Ellen V. Futter; Stephen L. Hammerman; Carla A. Hills; Frank J. Hoenemeyer; Richard C. Holbrooke; George L. Miles, Jr.; Morris W. Offit; and Frank G. Zarb.
The indemnification agreement (here) essentially mimics Delaware General Corporation Act Sec. 145 in granting full rights to reimbursement to the directors, including of course the attorney’s fees. Each director could require separate counsel to avoid any conflict of interest problems, which means the cost to AIG from this agreement may be significant on top of the costs of providing counsel to current and former officers and directors (assuming they have indemnification agreements, too). While indemnification agreements are standard fare in the corporate world, it is interesting that AIG apparently did not have such an agreement with its board until this time. Perhaps former CEO Maurice Greenberg, who largely hand-picked the board members, did not believe one was necessary for directors. The company looks like it is battening down the hatches in the face of the coming storm. Thanks to Stephanie Martz, Director of the White Collar Crime Project for the NACDL, for the information about the AIG filing.(ph)
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Federal Reserve Chairman Alan Greenspan endorsed the changes in business practices mandated by the Sarbanes-Oxley Act in the commencement address (here) delivered to the graduates of the Wharton School at the University of Pennsylvania on May 15. In a speech that stressed the need for trust and honesty in business, Greenspan said:
The Sarbanes-Oxley Act of 2002 appropriately places the explicit responsibility for certification of the soundness of accounting and disclosure procedures on the chief executive officer, who holds most of the decisionmaking power in the modern corporation. Merely certifying that generally accepted accounting principles were being followed is no longer enough. Even full adherence to those principles, given some of the imaginative accounting of recent years, has proved inadequate. I am surprised that the Sarbanes-Oxley Act, so rapidly developed and enacted, has functioned as well as it has. It will doubtless be fine-tuned as experience with the act’s details points the way.
Corporations have been pushing back at the internal controls requirements imposed by Section 404 of the Act, arguing that the costs are too great for the benefit provided (see earlier post here). For example, the U.S. Chamber of Commerce argues (here):
The unintended expansion of corporate governance rules and excessive compliance demands will cost the nation’s 17,000 public companies billions of dollars this year. Entire industries have been consumed by multiple, sweeping demands from competing regulators for their data, e-mails, and correspondence. These excesses have discouraged bold business decision making, have sent both domestic and foreign companies fleeing from public markets, and have hurt efforts to attract strong board members and executives to public companies.It will be interesting to see how Greenspan’s support for the law affects the debate over whether its stringent internal controls certification provision will be eased. (ph) -
As expected, TIAA-CREF CFO Elizabeth Monrad has stepped down temporarily from her position because of the Wells notice she received from the SEC about its current intention to file securities law charges against her related to the AIG-General Re reinsurance transaction (earlier post here). A Wells notice is the term for the notification provided by the SEC’s Enforcement Division staff that it plans to recommend to the full Commission that a civil action be filed naming the person (or company) as a defendant for a violation of the federal securities laws. A press release issued on May 10 (here) states: "TIAA-CREF today said that Elizabeth A. Monrad, Executive Vice President and Chief Financial Officer, has requested, and has been granted, an unpaid leave of absence without day-to-day responsibility at the company." A third General Re executive involved in the transaction, John Houldsworth, who supervised Monrad and Richard Napier, has received a Wells notice (see Wall Street Journal story here). These are the three principal officers involved on General Re’s side of the transaction.
Interestingly, neither General Re nor Berkshire Hathaway have made any public disclosure yet (as of 10:30 a.m. on May 11) about Houldsworth receiving the Wells notice, although Berkshire Hathaway’s quarterly earnings statement and 10-Q both reference the notice given to Napier that he received on May 2. If prior practice is any indication, the SEC probably Wellsed [like any area of law, terms of art become verbs] the three recipients (and their counsel) at the same time, and it is unlikely that one received it well in advance of the others. Its puzzling to me why the disclosures by General Re have been so slow regarding the second executive to receive an identical Wells notice. Moreover, while Ms.Monrad has stepped down temporarily from her position at a private company, there is no word yet whether Napier or Houldsworth will also be put on leave by General Re. This one seems to be playing out in slow motion, with corporate disclosures following up on the press. (ph).
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Saks Inc. announced the results of a previously disclosed internal investigation into accounting for vendor allowances for marked down inventory, and has fired three executives from its Saks Fifth Avenue division (I resisted using the term "Sacked" in the title, just barely). Saks had conducted an internal investigation in 2002 into the same issues, and apparently the problem has continued. According to a company press release (here):
The Audit Committee’s investigation concluded that during the Company’s 1999-2003 fiscal years, the total markdown allowances improperly collected from vendors was approximately $20 million. Amounts of markdown allowances improperly collected during this period were previously disclosed in the Company’s press release dated March 3, 2005. No improper collections during the 2004 fiscal year were identified. Now that the Audit Committee’s investigation is completed, management is undertaking its work to confirm the amount of total vendor markdown allowances determined to have been improperly collected and to determine if any markdown allowances were improperly collected before fiscal 1999. As previously disclosed, the Company intends to reimburse or otherwise compensate the affected vendors for any improper allowances.
The terminated executives are Donald Watros, former COO of Saks Fifth Avenue, Brian Martin, former general counsel for the company during the 2002 internal investigation and then a senior executive with the retail division, and Donald Wright, Saks’ Chief Accounting Officer. Brian Martin’s brother, Brad, is CEO of Saks, so you know this can’t have been an easy decision. The internal investigation also criticized senior Saks management for the "quality of communication" and monitoring of the vendor allowances, and bonuses will be withheld — at least for this year.
The company will have to restate its earnings for the relevant period, and has not filed its annual report yet for the past fiscal year. The cascade of suits should commence shortly, with the SEC, stock purchasers, and shareholders all jumping into the fray. Perhaps more ominously for the individuals, Saks also disclosed that the U.S. Attorney for the Southern District of New York has made an "inquiry" about the matter — look for the launch of grand jury subpoenas very soon, if they haven’t gone out already. (ph)
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As expected (see earlier post here), the SEC has sent a Wells notice to another person connected to General Re’s side of the reinsurance transaction with AIG, which that company did not properly account for to inflate its insurance reserves. After the disclosure that General Re executive Richard Napier received a notice last week, now a former executive, Elizabeth Monrad, has also been notified that she is likely to be sued for securities law violations. Monrad is the CFO of TIAA-CREF, the large pension and insurance company [Full disclosure yet again: I still have retirement funds with the company — darn it]. Although TIAA-CREF is a private company, so it is not subject to the disclosure rules under the federal securities laws, I suspect she may have to step down from her position, at least temporarily, until any SEC action is resolved. A New York Times article (here) discusses the General Re-AIG transaction, which includes the alteration of documents by General Re. Additional General Re officials involved in the transaction are likely to receive Wells notices of their own, if they haven’t already. (ph)
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Bristol-Myers Squibb Co. announced yesterday that it had increased the reserves related to the government’s investigation of the company’s accounting by $110 million, indicating that the matter may be coming to a head soon. The company’s press release (here) states rather cryptically: ""In today’s Form 10-Q, pre-tax earnings were reduced by $110 million, reflecting litigation reserves for previously disclosed matters recorded after the issuance of the earnings release. The previously disclosed matters are wholesaler inventory issues and certain other accounting matters. Together with the $30 million reserve previously recorded for such matters, of which $14 million had been reflected in the previously announced first quarter results, total reserves for these matters reported in the Form 10-Q are currently $140 million." The "previously disclosed matters" involve civil and criminal investigations of alleged channel stuffing by the company, a method to prop up revenue when a corporation’s sales begin to slide unexpectedly (see earlier post here about Coke’s settlement of similar charges). A New York Times article (here) notes that the company is represented by former Southern District U.S. Attorney Mary Jo White, so it certainly has brought in the first team. Whether Bristol-Myers is able to achieve a global settlement that will not cost it more money is still up in the air, and look for the government to seek a substantial penalty. (ph)
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