FALLOUT FROM THE DREXEL CASE : The SEC : Agency May Ask Curbs on Office in Beverly Hills
The Securities and Exchange Commission is expected to demand that Drexel Burnham Lambert rein in its highly profitable, Beverly Hills-based “junk bond” operations as part of any agreement to settle SEC charges against the investment firm, sources said Thursday.
Drexel announced Wednesday that the firm had agreed to plead guilty to six felony counts and pay a record $650-million penalty as part of a settlement agreement reached with the U.S. Attorney’s Office in Manhattan.
However, that agreement is contingent upon Drexel’s reaching a settlement with the SEC by Jan. 10 to dispose of charges brought by the agency. In September, the SEC accused Drexel, its Beverly Hills-based financier Michael Milken and other employees of engaging in a massive securities fraud scheme with former stock speculator Ivan F. Boesky.
Sources familiar with the SEC complaint said top officials at the agency are convinced that a major cause of Drexel’s problems is that its Beverly Hills office functioned too much like a separate securities firm, without adequate supervision from the firm’s New York headquarters.
Milken moved from Drexel’s New York headquarters to the West Coast to set up new offices about 10 years ago. In the decade since, the firm’s growth, profitability and prominence has been credited to the Beverly Hills operation, which has raised billions of dollars for growing companies and corporate takeovers through the sale of high-yielding junk bonds.
Sources said SEC officials may require Drexel to fold certain operations that the firm carries out in Beverly Hills into other departments.
Michael Milken, who has received a letter indicating that he is likely to be charged with criminal violations, his brother Lowell Milken and other Drexel officials charged by the SEC are still employed by the firm.
The Milken brothers have denied wrongdoing and have vowed to fight both criminal and civil charges.
Meanwhile, prosecutors in U.S. Atty. Rudolph W. Giuliani’s office in Manhattan recently subpoenaed numerous Drexel junk bond buying clients and are focusing on possible violations involving the firm’s sale of junk bonds.
Rather than insider stock trading, investigators are focusing on possible manipulation and fraudulent trading in the $175-billion junk bond market, where Drexel has been the dominant trader.
Sources said prosecutors are looking for signs of two kinds of abuses in that trading: sham bond trades designed to produce tax losses and fraudulent marketing of hot new issues of junk bonds.
Sources said the new-issue investigation involves the sale of bonds by Drexel to clients who may have promised to sell a portion of the bonds back to Drexel at a price and date agreed upon in advance. The purpose of such transactions, investigators believe, would be to guarantee Drexel a supply of bonds that it could profitably sell to others.
Prosecutors are examining whether certain Drexel clients agreed to participate in such a scheme to guarantee themselves a steady supply of the firm’s hot new issues.
As an underwriter handling the initial distribution of bonds, Drexel may have been prohibited by law from engaging in unrestricted trading until all of the bonds had been placed at a fixed price.
Sources said investigators want to determine if Drexel would enter into arrangements with certain clients so that the firm could place the bonds initially and then receive a steady supply of bonds for unrestricted, profitable trading once the bonds rose in price.
