FDIC Demands Drexel Repay Columbia S
Lawyers for the Federal Deposit Insurance Corp. demanded Thursday that Drexel Burnham Lambert reimburse Beverly Hills-based Columbia Savings & Loan Assn. more than $4.5 billion for alleged fraud.
The amount is in addition to the $6.8 billion that the FDIC announced Wednesday it is seeking from Drexel on behalf of 41 other thrifts, all failed, which it claims that Drexel “plundered.”
But the fate of the FDIC claims was thrown into doubt late Thursday night. Following a marathon hearing, Bankruptcy Court Judge Francis G. Conrad denied an urgent plea from FDIC lawyers for more time to file additional claims and correct the ones they have filed. Thursday was the deadline for filing claims against Drexel, which has been in bankruptcy proceedings since it collapsed in February.
Cravath, Swaine & Moore, the private firm retained to represent the FDIC in suits against Drexel, said many of the claims contained in their voluminous filing were incomplete or inaccurate. But lawyers for Drexel and other creditors argued successfully that the FDIC should be held to the Thursday deadline. A Drexel spokesman said the ruling apparently means that the FDIC will only be able to pursue the specific claims it has already filed.
Unlike the 41 other thrifts, Columbia has not been taken over yet by federal regulators. But the S&L;, which was one of Drexel’s largest buyers of junk bonds, has reported losses of more than $1.4 billion because of the plummeting value of its portfolio of the high-risk, high-yield bonds. Regulators have been overseeing Columbia’s efforts to sell its portfolio. An eventual federal takeover is considered likely.
Columbia was long one of Drexel’s best customers for junk bonds. The S&L;’s chief executive, Thomas Spiegel, who resigned at the end of last year, enjoyed a close business relationship with former Drexel junk bond chief Michael Milken.
Spiegel sought to make huge profits for the thrift by investing federally insured, low-cost deposits in risky junk bonds that paid high interest rates. But the collapse of the junk bond market late last year has made Columbia insolvent. Spiegel has been the target of a federal criminal investigation.
The documents released Thursday disclose the identity of the 41 other thrifts for which the FDIC filed claims. The list includes 12 from Southern California. Among them are Lincoln Savings & Loan Assn., formerly headed by Charles H. Keating Jr.; Gibraltar Savings, which was taken over by Security Pacific after Gibraltar failed; Imperial Savings Assn. of San Diego; Santa Barbara Savings & Loan; Charter Savings Bank of Newport Beach, and Beverly Hills Savings & Loan of Laguna Hills.
Imperial Savings, with 78 offices in California, was the nation’s 16th-largest S&L; when it was seized on Feb. 23. While the S&L;’s failure was driven in part by losses in its consumer loan portfolio, regulators also blamed Imperial’s financial woes on its troubled junk bond holdings.
In early 1989, Imperial held about $1.5 billion in junk bonds, making it the second-largest holder of junk bonds among the nation’s thrifts. The S&L;, which has continued to sell off junk bonds, had about $1 billion of the high-yield bonds when it was seized. It now has about $700 million in junk bonds.
The federal government’s suit appears to mirror allegations made in shareholder suits that linked Imperial to a “daisy chain” that involved Imperial, Drexel and other companies associated with Drexel. The shareholder suits allege that Drexel and Miliken orchestrated junk-bond purchases at Imperial to pump up fees for Drexel.
Imperial entered the junk bond market, as well as the risky consumer loan business, in order to boost its profit margins. While that strategy worked for a while, the S&L; lacked the expertise to manage the troubled consumer loan portfolio. Imperial’s financial troubles were compounded during 1989 when the market for junk bonds fell apart.
ICA Corp., the parent company of Imperial Savings, has sued federal regulators in U.S. District Court in San Diego, alleging that regulators improperly seized the S&L;, ICA’s only substantial asset. That court case is proceeding in federal court.
The suit filed by the federal government also linked Drexel to San Diego-based Central Savings & Loan, which failed in 1985. However, the suit gave no specifics about Drexel’s involvement with Central, whose offices in San Diego were acquired by Coast Federal Bank.
As a whole, Thursday’s claim by the FDIC goes considerably beyond what was ever alleged publicly against Milken by federal prosecutors and the Securities and Exchange Commission. The crux of the claim is that the entire junk bond market was largely a sham.
“As its meteoric rise and precipitous decline suggest, the ‘junk bond market’ created by Drexel, Milken, and an array of co-conspirators was, in essence, an elaborate fraud,” the FDIC documents charge. Drexel created the illusion of high demand for junk bonds through thousands of purchases and sales by Drexel insider partnerships consisting of Drexel employees.
The Columbia claim brings the total amount sought by the FDIC from Drexel to $11.3 billion, which far exceeds Drexel’s assets. The most recently available figures, from July, show Drexel with assets of $3.1 billion and liabilities of $2.9 billion. But estimates of the total claims filed against Drexel now range as high as $20 billion. The court clerk’s office was said to be jammed with mailbags containing hundreds of last-minute claims by creditors.
The FDIC and other claims, however, are inflated by demands for triple damages as allowed in civil suits under the federal racketeering law. Lawyers involved in the bankruptcy said that even if the suits by the FDIC and other claimants are successful, they inevitably will get far less than what they asked for.
The FDIC’s efforts may be severely hampered by the judge’s ruling Thursday not to allow it to amend its claims. The Internal Revenue Service, however, is expected to ask the judge on Monday for more time to file tax claims against Drexel. The Cravath lawyers said that if the judge grants that, they may ask him to reconsider allowing the FDIC more time.
In addition to the Southern California thrifts, the others on the FDIC list included big failed thrifts from around the country, including Florida-based CenTrust Savings Bank, formerly headed by the flamboyant David Paul, and United Savings Assn. of Texas, which had been acquired by longtime Drexel customer Charles Hurwitz, currently the chairman of Maxxam Corp.
The FDIC charged that Drexel needed the huge pool of federally insured funds in savings and loans to create demand for junk bonds that otherwise couldn’t be sold. “The ready, repeated, easy access to that pool of capital was a necessary part of Drexel’s scheme to create the illusion that junk bonds had value and that such value could be realized in a liquid market,” the Cravath lawyers charged.
In allegations similar to those made for all of the thrifts, the ones concerning Columbia charged that Drexel and Milken sold bonds of doubtful value, provided false information about bond sales and improperly sold the thrift unregistered securities.
In addition, the agency charged Drexel and Milken with leaking insider information to Spiegel and “front running” on big orders from Columbia to buy or sell bonds. The front running allegedly involved Drexel, or Drexel insider partnerships, buying or selling bonds before executing the big orders from Columbia. This allegedly allowed them to profit or avoid losses from the swings in market price the big Columbia transactions caused when they were carried out.
Spiegel and his attorney, Robert Morvillo, failed to return phone calls to their offices seeking comment. Milken’s spokesman declined to comment on the new civil allegations. Milken is due to be sentenced next week on the six felony counts he pleaded guilty to in April.
Drexel has said the troubles at Columbia and the other thrifts were mainly due to the negligence of federal regulators. Harrison J. Goldin, financial adviser to creditors of Drexel Trading Corp., a commodities subsidiary, said in an interview that “what the FDIC and (the Resolution Trust Corp., a related agency) are doing now is to try to throw a lot of smoke around to disguise the responsibility of the federal government itself” in the national savings and loan disaster.
Goldin asserted that Drexel did not play a significant role in the disaster because junk bonds made up only about 2% of savings and loan assets nationally.
Federal prosecutors are expected to file an indictment soon against Spiegel for activities involving Drexel. Spiegel has long denied wrongdoing. Sources say prosecutors have operated on the assumption that Spiegel was a sophisticated businessman who knowingly collaborated with Milken in improper activities.
Times staff writer Greg Johnson in San Diego contributed to this story.
