Dumpster Diving For Bonds
By Robert Warne - September 20, 2001One man’s trash is another man’s treasure. Or so it is said. For the French involved in the purchase of Executive Life Insurance, Co., on the brink of financial collapse in 1991, this proverb rings true—in the form of nearly 3 billion in profits. Theoretically these earnings would have gone to the thousands of Executive Life policyholders, who saw their payouts from policies and annuities slashed by as much as 40% after the insurer collapsed.
Charges of fraud and misrepresentation against the former state-controlled bank Credit Lyonnais and other French investors in the California courts are threatening to strain US-French relations. Even the Wall Street Journal has reported that US prosecutors believe France was a party to the alleged wrongdoing. The US Department of Justice is currently deciding if it will pursue criminal charges based on whether the actions associated with the deal represent a broad conspiracy to deliberately deceive regulators.
Caught in the soup is Ex-California Insurance Commissioner, John Garamendi, who is now seeking re-election to that very same position. The transaction dubbed "the deal of the year," took place under his supervision and has since played out in scandalous fashion. There are more suits than you’d find in a chain of Men’s Warehouses surrounding Garamendi’s Executive Life deal.
The Instigators
Garamendi in 1991 was the first elected insurance commissioner in California. As a democrat, he entered a position that had been occupied by a succession of republican appointed commissioners. Following his term as commissioner, Garamendi made an unsuccessful run for governor. Now an investment advisor, Garamendi announced this year that he would once again campaign to be commissioner.
French Entrepreneur Jean-Francois Henin in 1991 was the managing director of Altus Finance, a division of Credit Lyonnais. Once quoted in the Wall Street Journal as saying, "The riches of the world are in its garbage cans," his goal as director was to improve Credit Lyonnais’ books. Henin had substantial financial resources at his disposal and needed a place to direct those resources.
Executive Life approached insolvency in 1990 when it disclosed losses of nearly $800 million from its portfolio of junk bonds. Under the direction of Fred Carr, Executive Life experienced a period of exceptional growth in the ’80s. The growth was attributed to Carr’s early success with risky junk bonds before the market crashed in 1989. Carr built the portfolio with the assistance of Michael Milken, the junk bond magnate of the ’80s, who later served time for securities fraud.
Let’s Make a Deal
Garamendi seized Executive Life April 11, 1991. Following the conservation, he sold the company and its assets in one block. This was a move unprecedented by commissioners before him. A move that to this day he still defends and claims that everything was done in accordance with the laws including approval by a judge.
The sale of Executive Life and its assets in one block was Garamendi’s decision. This was a decision that has since received its share of criticism. Los Angeles attorney Robert Wallan as quoted in the San Francisco Chronicle said, "Garamendi went with the notion that junk bonds are somehow evil, as opposed to what they are—a high rate of return of a greater risk.
"He didn’t understand the economic principles and that selling the assets in a block prevents the free market from operating."
Henin’s interest in Executive Life began when he learned of its huge portfolio of failing junk bonds. Leon Black, one of Milken’s associates, led Henin to Executive Life. Black was no stranger to the portfolio. In fact he sold a good portion of the bonds to Carr.
Henin originally proposed a plan to purchase the failing portfolio from Executive Life. The plan would not only bolster Executive Life financially, but would also liberate the company from the weight of its ailing junk bonds. Garamendi rejected the plan, and followed through with his own plan to conserve the company.
First in line to purchase the assets was Henin. At the time he was the only party interested. This has since been disputed and is currently being challenged in the courts by Warren Hellman and the National Organization of Life and Health Insurance Guaranty Associations. Both parties claim they were fraudulently deprived of a fair chance to buy Executive Life.
As reported in the LA Times, Henin said he was only interested in purchasing the bonds. He claims that he was doing Garamendi a favor in good faith when he agreed to find a suitor to finance the purchase of Executive Life.
Gary L. Fontana an attorney representing the California Insurance Commission in a suit against Credit Lyonnais refutes Henin’s claims. According to the LA Times he believes the French were after the insurance company as well as its assets. Besides potential profits that could be realized with the junk bonds, the insurance company offered a return on investment of $400 to $600 million.
Deceit or Denial?
The insurance company was sold as a whole for $3.25 billion. In a separate transaction, a consortium of French investors, led by a small French insurer, Mutuelle d’Assurance des Artisans de France (MAAF), acquired Executive Life's insurance business in exchange for injecting $300 million in new capital into the business. Regulators approved a "bonds-out" arrangement with the French. This allowed the French to separate the insurance operation and the bonds, and allowed them to sell any assets from the deal.
Standing in Credit Lyonnais' way was a federal law that at the time prohibited a bank from owning more than 25% of an insurance company. Also, a separate California law made it illegal for insurance firms to be owned by foreign governments or companies controlled by such governments.
In order to appease regulators Henin had to find a company to take over the insurance business. After an arrangement fell through with Navigation Mixte, Henin lined up MAAF to handle the insurance end of the deal. Credit Lyonnais guaranteed that if necessary it would buy the insurance company back from MAAF. This agreement, which the French call a "portage agreement," was concealed from regulators. The secret agreement is the spark that ignited many of the suits, including the criminal charges.
MAAF with the backing of Swiss investors established New California Life Holdings. This company was set up to hold all the stock of Aurora National Life Assurance, the new incarnation of Executive Life.
Credit Lyonnais then pulled into the mix one of France’s richest men, Francois Pinault. His company, Artemis, later purchased New California Life in 1992 from Credit Lyonnais. According to Reuters, Pinault pocketed a 50 percent return on the re-sale of Executive Life’s junk bond portfolio.
Other Cases in the Courts
California Attorney General Bill Lockyer is pursuing charges of racketeering and unfair business practices against the French investors. Possible criminal charges are pending in the US attorney’s office in Los Angeles. Garamendi, Henin, Black and Pinault are all named in other various suits filed by policy holders.
Criminal charges for Credit Lyonnais may in addition to criminal penalties, force the bank to sell its US assets, which are estimated at $200 billion.
On the Back End
Garamendi was made a partner at the investment firm Yucaipa Cos. in 1998. Forbes.com reported that this same investment company has ties to Black. The same Black that led Henin to Executive Life and who was reportedly paid close to a $300 million fee for his part in the deal. Forbes reports that Black’s company Apollo Advisors financed Yucaipa’s 1995 acquisition of Dominick’s Foods and the merger of Ralph’s Grocery Co. with Food 4 Less.
This is the same Black that the Chronicle reported Garamendi couldn’t recall ever meeting.
It is hard to imagine what would be taking place, if anything, if the French investors had lost money on the deal and the junk bonds never recovered. It is clear that Credit Lyonnais took creative financing to a new level in the Executive Life deal.
The French view the suits as a result of second-guessing and jealous rivalries. Quoted in the Times, Brian Sun one of Henin’s attorneys said, "the French didn’t run Executive Life into the ground—its own management did that.
"The French didn’t sell off the assets—Garamendi did that. All the French did was offer the highest price."
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