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As we said in our companion post today on the AIG bailout trial, former AIG CEO Hank Greenberg may have a case after all. Mind you, we are not fans of Greenberg. But far too much of what happened during the crisis has been swept under the rug, in the interest of preserving the officialdom-flattering story that the way the bailouts were handled was necessary, or at least reasonable, and any errors were good faith mistakes, resulting from the enormity of the deluge.
Needless to say, the picture that emerges from the Greenberg camp, as presented in the “Corrected Plaintiff’s Proposed Findings of Fact,” filed in Federal Court on August 22, is radically different. I strongly urge readers, particularly those with transaction experience, to read the document, attached at the end, in full. It makes a surprisingly credible and detailed case that AIG’s board was muscled into a rescue that was punitive, when that was neither necessary nor warranted. And the tactics used to corner the board were remarkably heavy-handed.
Note that our earlier post describes that, contra previous accounts, AIG had numerous deep-pocket suitors petitioning Treasury to buy into struggling insurer. That means that rather than having the US nationalize the insurer, it would have been viable to see if a mere bridge facility could have been taken out by a consortium of investors. If that failed, the nationalization option remained open. The failure to take that course makes the idea that the AIG bailout was intended to serve as a money laundering vehicle for wobbly banks, a theory before that sounded like a stretch, appear far more credible.
Another hard-hitting charge in the filing by Greenberg’s attorneys is that the Fed didn’t have the authority to take an equity stake in AIG, yet clearly did so before passing it to a trust, which was a clear sham. The trust has only three trustees, with no meaningful staff. Government officials operated in a very open manner in managing AIG, from installing the new CEO, a Goldman board director Ed Liddy, new board members, putting staff on site, and even meeting with ratings agencies about ratings decisions.
Now you might say that all these legal fine points were niceties. But the violations of both normal governance practices, the most important being asking the AIG board repeatedly to make decisions while withholding critical information or making actual misrepresentations, and of various laws, were significant and numerous.
Another stunning new allegation in the “Corrected Proposed Findings of Fact” document is that, in stark contrast with previous claims by the Fed, that only UBS was willing to take a haircut, it turns out the New York Fed only bothered talking to eight of the 16 counterparties (and then as we already know from the SIGTARP report on this issue, using a script that was delivered by junior staffers, as opposed to having Geithner or Paulson call and force them to take a haircut). Moreover, BlackRock, which was advising the Fed, believed that Bank of America and Goldman would be receptive to discounts.
Contrast the railroading of AIG with the kid gloves treatment of preferred parties. Recall Geithner’s sanctimonious claims about needing to respect contracts when that excuse served the Fed-Treasury combo, as the pretext for forcing discounts on the payments of credit default swaps with AIG, or for paying high wages to AIG staffers who were working on winding down the operations of AIG Financial Products, hardly as demanding a job as running an ongoing entity. It’s these repeated, public professions of the need to be scrupulous about observing proper protocols that make the AIG railroading look so striking.
Mind you, I do not buy everything this filing is selling. For instance, they argue that some of the value of AIG was shifted into two bailout-related vehicles, Maiden Lane II and III. That’s a potentially legitimate point. However, they argue for what was “taken” from Greenberg based on the eventual payout on both. The problem with that approach is ZIRP and QE were continuing subsidies to the banks, and thus to AIG. Conceptually, it’s not obvious why Greenberg should get that benefit, since AIG did have to be salvaged in some manner in September 2008, and a rescue then (say with considerable investment by a foreign consortium) would mean valuations on the toxic CDOs would need to be taken around that time.
Greenberg’s lawyers also base that valuation argument on work done by BlackRock, which as the asset manager for the Fed, could be argued to be not predisposed to AIG’s side. However, BlackRock could be argued to be expected, to the extent reasonable, to make the Maiden Lane vehicles look like good investments, and hence have an optimistic bias to their valuations. We were doing valuation work on the Maiden Lane vehicles, and based on the information we had, the initial valuations looked to be inflated. But the flip side is that the Maiden Lane II and III counterparties, as part of the deal, got a very valuable release from liability, and the Maiden Lane vehicles (and even more so, AIG) was never paid for that bennie.
There is a lot of salacious material in the document. For your reading pleasure, I’ve extracted some key sections below:
Fed and Treasury Muscling the AIG Board
CEO Robert Willumstad, who desperately needed some sort of bridge loan, was given a term sheet to review on September 16. It was a “drop dead” offer. Take a credit facility for up to $85 billion, with an interest rate of 650 basis points over Libor, and give up 79.9% of the company, which the AIG side understood to be in the form of warrants. He was also told he had to get board approval in two hours. The document was amateurish:
(a) At around 3 or 3:30 pm on September 16, 2008, AIG’s outside counsel showed Willumstad a term sheet that was “maybe two pages” and that was “mostly bullet points. It wasn’t a professional looking document” but rather looked like it “may have been put together by” Willumstad’s “grandchildren” who are “ten and twelve” (Willumstad (Oct. 15, 2013) Dep. 269:22-271:8). (numbered text page 24, PDF page 28)
Then get a load of this (emphasis original):
12.1 The AIG Board was never presented with the version of the term sheet Defendant claims was executed.
12.1.1 Willumstad was the only member of the AIG Board of Directors that 12.1.1saw a term sheet on September 16, 2008.
12.1.2.The term sheet Willumstad saw on September 16 has not been produced in this litigation.….
(d) After the AIG Board of Directors meeting on September 16, 2008, Willumstad signed a single signature page that had nothing attached (JX 76 at 1-2), a copy of which was faxed to Defendant at 8:44 pm (PTX 94 at 1-2) and subsequently appended to a copy of a term sheet Willumstad had not seen.(numbered text page 14, PDF page 28)
Yves here. The board let Willumstad sign what amounted to a blank check to the government? And the government, in a trial, is refusing to turn over the term sheet it provided to Willumstad? What kind of nonsense is this?
This deal was only a short term secured credit facility, to be taken out by a more buttoned-up credit agreement. To the extent there were actual agreed terms here, principal, interest and fees were due either on the demand of the NY Fed or September 23. Even though the board was in theory still in charge, Paulson unilaterally fired Willumstad on September 16 and along with the New York Fed, replaced him with Ed Liddy as chairman and CEO. It also started moving staff into AIG. Note the Fed Board of Governors has not authorized the New York Fed to take this step.
There was already a disconnect between the AIG and the government as to what this first deal was about. AIG issued press releases and an 8-K filing about the secured credit facility and described the 79.9% interest in the form of warrants. The Feds demanded that AIG issue a corrected 8-K and describe the equity position in unusually vague terms:
The summary of terms also provides for a 79.9% equity interest in AIG. The corporate approvals and formalities necessary to create this equity interest will depend upon its form.
When the board met the following weekend to approve the credit facility, much to its surprise, the Treasury and Fed presented terms that were substantially worse, and board had already regarded the initial deal as barely acceptable (emphasis original):
14.4 Even at the September 21 Board meeting, the AIG Board was not given a copy of the draft credit agreement…
15.0 THE TERMS OF THE CREDIT AGREEMENT WERE MATERIALLY WORSE FOR AIG SHAREHOLDERS THAN THE TERMS DEFENDANT HAD OFFERED, AND WHICH THE FEDERAL RESERVE BOARD OF GOVERNORS HAD APPROVED, ON SEPTEMBER 16.
15.1 The form of equity was material to AIG…
15.2 Defendant changed the form of equity from non-voting warrants to voting convertible preferred stock in order to obtain immediate control of AIG.
(a) “FRBNY considered whether it should seek equity in the form of warrants, but concluded that, among other shortcomings, this approach would not be consistent with all of its objectives because the warrants would not carry voting rights until exercised” (Def. Resp. to Pl. 2nd Interrogatories No. 2)…
15.4 Defendant changed the form of equity from non-voting warrants to voting convertible preferred stock to avoid the shareholder vote that would be required to issue warrants…
16.0 THE BOARD OF GOVERNORS OF THE FEDERAL RESERVE NEVER APPROVED THE CREDIT AGREEMENT NOR THE CHANGES MADE TO THE TERMS OF THE $85 BILLION 13(3) LOAN TO AIG AS APPROVED BY THE BOARD OF GOVERNORS ON SEPTEMBER 16.. (numbered text pages 31-36, PDF pages 35-40
I don’t want to bog less technically oriented readers in details, but a major thread in the case was the machinations the Fed and Treasury went through to obtain a voting interest while circumventing shareholder approval. Among other things, that meant requiring AIG, which they effectively controlled as of September 16, to violate New York stock exchange rules.
Here is the hijacking section (emphasis original):
17.0 ON SEPTEMBER 21, 2008, DEFENDANT TOLD AIG’S OFFICERS AND DIRECTORS THAT IF THEY DID NOT APPROVE THE CREDIT AGREEMENT AS PROPOSED BY DEFENDANT, INCLUDING WITH THE CHANGES DEFENDANT HAD UNILATERALLY MADE, DEFENDANT WOULD CALL ITS SECURED DEMAND NOTES AND AIG WOULD BE REQUIRED TO FILE FOR BANKRUPTCY..
17.2 At the September 21, 2008 meeting, Liddy told the Board: “the Corporation will be required by the Bank and the Treasury Department to finalize the documentation and sign the Credit Agreement before the opening of the market the following day” (JX 103 at 2)…
17.4 Defendant threatened to cut off funding for AIG by calling its secured demand notes if the AIG Board did not approve the Credit Agreement as drafted by Defendant…
18.0 FACED WITH DEFENDANT’S NON-NEGOTIABLE DEMANDS, ITS THREAT TO CALL ITS SECURED DEMAND NOTES, AND THE OPINION OF AIG COUNSEL THAT A DECISION TO FILE FOR BANKRUPTCY WOULD NO LONGER BE PROTECTED BY THE BUSINESS JUDGMENT RULE, AIG HAD NO CHOICE BUT TO ACCEPT DEFENDANT’S LOAN ON DEFENDANT’S TERMS.
18.1 The AIG Board of Directors’ outside counsel, Rodgin Cohen of Sullivan & Cromwell LLP, advised the Board during the September 21, 2008 meeting that “bankruptcy was a considerably worse alternative now than it was previously,” (JX 103 at 6), and that “if the Board accepted the Bank transaction, the Board would have properly exercised its business judgment,” but that “if the Board chose to file for bankruptcy, he was not prepared to render a similar opinion to the Board” (JX 103 at 5-6). (See also Bollenbach (Dec. 4, 2013) Dep. 165:6-25.)
18.1. By contrast, during the September 16, 2008 AIG Board meeting, Cohen had advised the Board that it “could accept either option” of accepting the proposed credit facility or filing for bankruptcy “if the Board believed in good faith that that option was in the best interests of the constituencies to whom the Board now owes its duties” (JX 74 at 5).
AIG’s counsel, bank uber-lawyer Rodgin Cohen, has long been one of Goldman’s most important advisors, back to the day when I was an associate at Goldman. For instance, he represented Goldman on Sumitomo Bank’s acquisition of a special limited partnership interest in Goldman in 1986. Query how independent his advice to AIG could have been.
These corporate governance issues are over my pay grade, but the Treasury and Fed held a gun to the AIG board’s head on September 16 and September 21, in both cases leaving it with the option of only a bankruptcy filing. Cohen was willing to given board members an opinion that would have covered them in the unlikely event they had chosen to defy the government bear hug and file for bankruptcy on the 16th. He wasn’t on the 21st. What was different in the two fact sets to lead to a different conclusion?
The Fed and Treasury Allowed Non-Systemically Important Firms to Become Bank Holding Companies
The “Proposed Findings of Fact” document points out that GE, General Motors, and American Express all were permitted to take banking units they owned and turn them into bank holding companies in order to obtain access to bailout funds. Investment banks Goldman and Morgan Stanley were also allowed to form bank holding companies to facilitate the Fed support. Rodgin Cohen had asked the Fed if AIG could turn its thrift bank into a bank so as to also become a bank and get access to Fed lifelines. The answer was no.
And get a load of this:
As I said, there is more juicy material here. I strongly urge readers to dig in. I know this is only one side of a complicated picture. But given how much specific detail is marshaled in this AIG bailout trial filing, it is going to be interesting to see how the Paulson, Geithner and Bernanke justify the actions they took. Greenberg has always been seen as unlikely to win this case, but the government might find a victory to be more costly than it anticipated.