In one of the largest settlements arising from the corporate scandals of the past five years, Citigroup Inc. agreed Monday to pay $2.65 billion to investors who claimed the bank helped hide huge losses piling up at WorldCom Inc.
In addition to the $2.65 billion for WorldCom investors, Citigroup said it would increase reserves to cover potential costs of other litigation and settlements to $6.7 billion.
Citigroup, the nation’s largest bank, faces multiple investor lawsuits and arbitration claims stemming from its work for bankrupt energy trader Enron Corp. as well as its research reports on other telecommunications companies and its awarding of initial public offering shares. The funds set aside could be used to pay for either additional settlements or judgments against the company in those cases.
In a conference call, Citigroup chief executive Charles O. Prince said the bank decided to settle the WorldCom class-action suit rather than risk taking the matter to court. The WorldCom plaintiffs were seeking $54 billion.
“What I have done, I think, is to buy an insurance policy for $1.64 billion after tax against a roll of the dice in front of a jury in a few months,” he said. “We want to put the entire era behind us.” The $2.65 billion settlement will cost Citigroup $1.64 billion because the bank will take a tax deduction on the payment.
Citigroup shares dropped 2.8 percent Monday to close at $45.41. To cover the settlement and the increase in litigation reserves, Citigroup, which earned a record $5.27 billion in the first quarter of 2004, said it would take a charge of $4.95 billion, or 95 cents per share, in the second quarter. The charge is not expected to have a significant impact on Citigroup’s performance, analysts said.
New York state Comptroller Alan G. Hevesi, whose pension fund is the lead plaintiff in the WorldCom class-action suit, said the settlement was the second-largest securities-related settlement ever and the largest involving a third party. Hotel franchiser Cendant Corp. and its auditors agreed to the largest shareholder settlement in 1999 when it said it would pay investors and their lawyers $3.2 billion to settle accounting fraud claims.
Hevesi said it was vital for firms such as Citigroup to serve as effective gatekeepers and promptly inform investors when they discover accounting and other problems such as those eventually unearthed in the past several years at WorldCom, Enron, Tyco International Ltd., Global Crossing Ltd. and other companies.
“I applaud Chuck Prince for having the courage to make this difficult decision,” Hevesi said in an interview. “Citigroup is a major player in the American economy, and this will allow them to turn the corner and become what I want them to be, an enormously profitable provider of financial services.”
In the lawsuit, WorldCom stock and bondholders said Citigroup’s brokerage arm, formerly known as Salomon Smith Barney, touted WorldCom shares as a good investment while aware of the company’s troubled finances. The settlement calls for about $1.46 million to go to bondholders and about $1.19 million to shareholders.
Former Salomon Smith Barney analyst Jack B. Grubman was among WorldCom’s biggest public supporters. Grubman agreed to a lifetime ban from the securities industry as part of a regulatory settlement last year. He was among those listed as part of Monday’s settlement announcement.
The investors also charged in the suit that Citigroup made large loans to former WorldCom chief executive Bernard J. Ebbers in exchange for banking business.
In documents filed in the case, plaintiffs attempted to show that analysts at Citigroup and other banks expressed concerns internally about WorldCom’s finances even as they continued to sell the telecommunications firm’s stocks and bonds to investors.
Hevesi said the class-action lawsuit would continue against 17 other WorldCom underwriters, including J.P. Morgan Chase & Co. and Bank of America Corp., as well as against former WorldCom directors and executives and Arthur Anderson LLP, the firm that audited WorldCom’s books. He said WorldCom’s other underwriters would be offered settlement terms similar to those agreed to by Citigroup.
Under the terms of the settlement, negotiated by U.S. District Judge Robert W. Sweet and Magistrate Judge Michael H. Dolinger, anyone who purchased or otherwise acquired WorldCom stock or bonds from April 29, 1999, through June 25, 2002, will be eligible to receive money. The settlement did not say how many cents on the dollar WorldCom stock- and bondholders could expect to receive.
WorldCom filed for bankruptcy court protection in July 2002 after revealing the largest accounting fraud in U.S. history. Former chief executive Ebbers has pleaded not guilty to federal fraud and conspiracy charges for allegedly directing the fraud, now estimated at $11 billion. Former chief financial officer Scott D. Sullivan has pleaded guilty to conspiracy and securities fraud charges and agreed to testify against Ebbers.
The firm, renamed MCI Inc., emerged from bankruptcy on April 20 with its debt reduced from $41 billion to less than $6 billion.
Analysts generally praised Citigroup’s decision to settle, saying it would remove uncertainty and insulate the company from future shocks relating to Enron settlements or judgments.
“A cynic would say they over-provisioned to be on the safe side,” said Evan Momios, equity analyst at debt rating agency Standard & Poor’s. “But strategically it makes sense to try to get everything out of the way as quickly as possible.”
Momios added that the $4.95 billion charge was not “financially significant” for a firm the size of Citigroup. “Taking out a quarter’s worth of earnings is not the end of the world,” he said.
But Richard X. Bove, analyst at investment bank Hoefer & Arnett Inc., said he was surprised by the settlement. He said the WorldCom case could have been tied up in court for years and might not have resulted in as large a payment. He also said the announcement would worry investors about a big upcoming Enron-related payout while suggesting that the company did something wrong in its dealings with WorldCom.
“They did not explicitly admit doing anything, as companies never do, but they sent a signal that they did something wrong, that their systems did not work properly,” Bove said. “I think that’s very discouraging.”