Merrill Settles SEC Charges for $2 Million
Merrill Lynch & Co. agreed Monday to pay federal regulators $2 million to settle charges the giant Wall Street firm misled investors as Orange County careened toward bankruptcy.
The Securities and Exchange Commission accused Merrill, which had sold volatile securities to the county, of failing to give adequate warning to buyers of the county’s municipal bonds about the risks the county treasury was running.
The SEC said it is one of the largest settlements of a negligence case in history. But critics said Merrill should have been charged with intentional fraud or recklessness, adding that the brokerage got off lightly.
The SEC case includes no charges against individuals such as the salesman on the county account, Michael G. Stamenson, who called himself a “Master of the Universe” at maximizing profits to himself and the firm.
Merrill didn’t admit or deny guilt in settling with the SEC. The deal brings its total payments to $451 million in the financial fiasco.
The $2 million will go to the federal government, not bankruptcy victims. However, Orange County has done well in recovering losses, recouping $739 million so far from legal, financial and accounting firms. That’s nearly half of the $1.64 billion lost when former Treasurer Robert L. Citron’s bets on low interest rates came up losers.
The SEC, which polices the nation’s stock and bond markets, didn’t address whether investments provided by Merrill were too risky for taxpayer dollars. That was the central charge in civil lawsuits Merrill previously settled out of court.
Instead, the agency faulted Wall Street’s largest brokerage firm for failing to give enough warning of the county’s high-risk investments to buyers of $875 million in municipal bonds. The securities were issued in 1994 by the county and its flood-control district.
The county’s bankruptcy that year plunged the bonds into default, though the investors later were repaid with interest.
Merrill said the disclosure problems were inadvertent. It said Stamenson and high-level officials at the firm who also knew the risks the county was running were unaware that the municipal bond descriptions didn’t fully reflect Citron’s casino-style strategies.
The SEC also charged Merrill with failing to disclose that the variable interest on three of the bond offerings was capped at 12%. This was important, the agency said, because some money market funds that bought the bonds were barred from investing in securities whose yields were capped in such a way.
In addition to paying $2 million, Merrill promised the SEC to keep in place safeguards designed to improve communication between the firm’s bond underwriters and its other departments. Those safeguards were imposed in an earlier deal to end a criminal probe by county prosecutors. Merrill paid $30 million as part of that settlement.
Merrill Looks Ahead
Merrill, the largest U.S. brokerage, said in a statement that the latest settlement “puts the matter behind us and avoids any further distraction by the Orange County situation.”
Charges of fraud or recklessness could have tainted the firm’s reputation as it moves to regain its role as the biggest Wall Street player in California’s municipal bond market.
“A lot of municipalities, to their credit, have discontinued using Merrill Lynch,” said Orange County Treasurer John M.W. Moorlach.
In a failed campaign for treasurer in 1994, Moorlach revealed the risks Citron was running, and he has criticized Merrill for supplying too-risky investments.
But he now advocates that the county again do business with Merrill, Citron’s chief investment house, saying the extra competition will save the treasury money on its investment deals.
“I look at Merrill Lynch the way I do at Germany and Japan. I mean, we’re driving German and Japanese cars now. The past is the past, and you move on,” Moorlach said.
Others may not be so forgiving. Before Merrill’s fall from grace with California public finance officials in December 1994, it ranked first among the state’s municipal bond underwriters. It has since slipped to fifth place, according to Securities Data Co.
“I am depressed it’s only fifth place,” said Robert Peirson, finance director for Santa Barbara. “It will be a long time before I have any dealings with them. While I am here, I can’t see it happening.”
A Columbia Law School securities expert, John Coffee, said he believes the SEC declined to go to war with Merrill over more serious fraud charges to conserve the agency’s limited resources. It is facing more pressing municipal finance battles, which reportedly are moving toward resolution.
Coffee described the $2-million fine as inconsequential for the huge Wall Street firm.
“They’re settling on exactly the basis that Merrill Lynch wanted. And $2 million is probably less than the quarterly billings of their defense counsel in the matter.”
Merrill could be held responsible for securities fraud even if, as the brokerage contends, officials who knew the risks of Citron’s portfolio never read the bond disclosure statements, Coffee said.
However, the SEC’s Los Angeles chief, Elaine Cacheris, disputed that argument. Someone at the brokerage would have had to demonstrate clear intentional wrongdoing or extreme recklessness--and no one had done so, she said.
The SEC is “almost at the end of the road” in the Orange County case, Cacheris said. “I would hope we can get this wrapped up in the near future,” she said.
Other Bond-Sale Cases
Earlier this month, the SEC sued former county bond advisor Dain Rauscher Inc. and two of its investment bankers for fraud in the sale of $980 million in bonds issued by the county and municipalities in the county.
It also had threatened to sue several school districts over bond sales linked to the county treasury, though those cases appear to have lain dormant for months.
In January, Wall Street’s Credit Suisse First Boston and two of its investment bankers agreed to pay civil penalties of $870,000 to settle SEC negligence charges like those in the Merrill case.
And in January 1996, the SEC sanctioned Citron and his chief assistant, Matthew R. Raabe, for fraud in connection with the sale of $2.1 billion in bonds from the county and two other agencies. Both also were convicted on criminal fraud charges.
At the same time it acted against Citron and Raabe, the SEC ordered the county, its supervisors and its flood-control agency to desist from securities fraud. Accompanying that order was a report criticizing the five county supervisors for allowing the misrepresentations in the bond sales.
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Settling the Score
Merrill Lynch & Co. has paid out $451 million in settlements and penalties related to the Orange County bankruptcy:
June 1997: $30 million to terminate criminal investigation by the county district attorney’s office.
Dec. 1997: $1.9-million settlement of securities fraud class-action suit brought on behalf of Orange County bondholders.
June 1998: $400-million settlement and return of $20 million in excess collateral to Orange County.
June 1998: $17.1 million to end lawsuit brought by the Irvine Ranch Water District, a participant in the Orange County investment pool.
August 1998: $2-million civil penalty to settle U.S. Securities and Exchange Commission charges that it failed to adequately disclose the risks of investing in Orange County bonds.
SIMILAR PENALTIES
The $2-million civil penalty levied against Merrill is one of the largest for non-intentional fraud. Other recent large penalties for the same violation:
* $2.5 million: A portion of the multimillion-dollar settlement paid in Oct. 95 by brokerages Merrill Lynch and Lazard Freres to settle cases involving public agencies in Massachusetts.
* $1 million: Sony Corp. fined on Aug. 5 for reporting violations related to its March 1994 annual report.
* $800,000: Credit Suisse First Boston fined in January for failing to properly disclose risks of investing in Orange County bonds.
Sources: Times reports, Times wire services, SEC; Researched by JANICE JONES DODDS / Los Angeles Times
