Citigroup Fund Executives in SEC’s Crosshairs
Remember how two Citigroup affiliates recently paid $208 million to settle an SEC enforcement action related to the creation of a Citibank-affiliated transfer agent? The SECís May 31 order described the Citigroup TA as little more than a glorified call center that turned around and sub-contracted out the bulk of the work to the fundsí former TA, First Data Investment Services Group. The kicker: First Data had offered to perform its TA services at deeply discounted rates. As a result, the Citigroup TA made a lot of money. The SEC alleged that the Citigroup affiliates engaged in fraud because they didnít tell their fundsí boards that the Citigroup TA was reaping significant profits for doing relatively little work and that First Data had offered to significantly lower its rates.
The story continued last week, when the SEC sued two former Citigroup executives: Thomas Jones, the former CEO of Citigroup Asset Management, and Lewis Daidone, a senior vice president of Smith Barney Asset Management and the fundsí treasurer and CFO.
In its August 8 order, the SEC said it intended to hold the two men "accountable" for designing a "scheme . . . to siphon off tens of millions of dollars in mutual fund shareholder fees by inter-positioning" the Citigroup TA between the funds and their former TA. The executives, alleged the SEC, were principally responsible for setting up the arrangement and presenting it to the fundsí boards. Instead of informing the boards that First Data had agreed to make "drastic fee concessions," said the SEC, "they co-opted all of this benefit" for the benefit of Citigroup.
Specifically, the SEC alleged that Jones directed Daidone to enter into negotiations with First Data and approved the final structure of the deal. The SEC claimed that Jones was "fully aware" that the Citigroup TA was projected to make "tens of millions of dollars in profit each year for doing minimal work."
The SEC described Daidone as the person who "sold" the affiliated TA proposal to the fundsí boards. Daidone "intentionally spun" the board materials so that they "masked the economic reality of the transaction," the SEC alleged. The SEC claimed that Daidoneís presentation did not disclose that the original TA would perform virtually all of the same work it did previously, with the Citigroup affiliated TA "taking most of the profit for doing very limited work."
The SEC alleged that Jones approved Daidoneís board presentation, while "knowing or recklessly disregarding" that the presentation was materially misleading. The SEC also alleged that Jones "intentionally or recklessly" disregarded his fiduciary duty by failing to take steps to ensure the fundsí independent directors were fully informed of the details of the proposal.
Both Jones and Daidone were charged with aiding and abetting the Citigroup affiliateís Section 206(1) and 206(2) fraud.
The SECís complaint said that as fiduciaries, the two executives should have first offered the savings they had negotiated to the funds, as an opportunity belonging to the funds. At the very least, said the SEC, they should have disclosed the opportunity for significant savings to the funds.
The two executives are fighting back.
"We will contest the SEC charges against Mr. Jones in federal court as we believe they are unfounded and overreaching," said Jonesís attorneys, James Doty and Irvin Terrell of Baker Botts, in a statement. "Mr. Jones did not aid and abet any fraudulent activity during his watch at Citigroup Asset Management. Mr. Jones oversaw a rigorous management process in the Citigroup Transfer Agency matter, supported by both experienced internal staff and external consulting experts. The record will demonstrate that Mr. Jones achieved substantial benefit for mutual fund shareholders and that he made every effort to fulfill his fiduciary duty to them. Mr. Jones is a victim of this situation, not a perpetrator of wrongdoing, and we look forward to the opportunity to defend Mr. Jones."
Daidoneís attorney, Richard Morvillo of Mayer Brown Rowe & Maw, also released a statement: "The SECís charges that Mr. Daidone aided and abetted wrongdoing are irreconcilable with the evidence that shows he acted in good faith and with the advice of counsel. We are confident that the evidence will show not only that Citicorp did nothing wrong but that Mr. Daidone fully and appropriately discharged any and all duties he may have owed to the Funds." Morvillo noted that Mr. Daidone "intends to defend himself vigorously."