NEW YORK -- A $6.8 billion U.S. court claim against the bankrupt Wall Street firm Drexel Burnham Lambert, copies of which were released Thursday, detailed an alleged conspiracy to 'capture' savings and loan institutions and foist worthless 'junk' bonds on them for huge illicit profits.
The sweeping accusations were contained in the U.S. Bankruptcy Court claim filed by the Federal Deposit Insurance Corp. and the Resolution Trust Corp., which the U.S. agencies announced late Wednesday after the court's close.
While directed at Drexel, the 239-page document focuses closely on dealings involving Michael Milken, the former junk-bond magnate who faces up to 28 years in prison at his sentencing next week for insider trading, and S&L operators like Charles Keating Jr., set for trial on racketeering charges.
In brief, the government claim alleges Drexel and others 'sought to create an illusion of value in junk bonds' -- high-risk, high yield corporate bonds used to finance leveraged buyouts and takeovers. Their risk was supposed to be offset by high interest rates -- but some bonds later proved worthless.
Drexel spokesman Stephen Anreder said Wednesday, when the government announced its claim, that the troubled firm was 'a convenient scapegoat for the S&L crisis.' Drexel would focus on what he said were the federal government's regulatory lapses in its defense, according to Anreder.
'I have a feeling what they've done is taken a lot of old allegations, formed them up and called it a grand conspiracy and multiplied it by three,' said attorney Richard Davis of Weil Gotshal & Manges, Drexel's law firm in its bankruptcy proceedings.
In February, Drexel Burnham Lambert Group Inc. filed for Chapter 11 federal bankruptcy protection after it was unable to raise enough fresh capital to recover from junk-bond losses and legal penalties. Drexel Burnham Lambert Inc., the firm's main securities subsidiary, filed bankruptcy papers in May.
'I think it's a long way from just putting something down on a piece of paper to be able to prove something in court,' Davis said, adding: 'There are a lot of reasons why that market went south, not the least of which were government policies and regulators.'
The government alleges Drexel persuaded, coerced or bribed thrift operators to take on large investments in junk bonds. Also, the firm financed and aided in the acquisition, expansion and looting of thrifts by allies like Keating, former head of California's Lincoln Savings and Loan Association, and David Paul, who headed Miami's failed CenTrust Savings Bank.
In one instance involving Lincoln and another thrift, 'Drexel helped Keating with his own fraudulent scheme, which involved siphoning money out of Lincoln into its parent company and eventually into his own pocket' by creating false profits for Lincoln, the government claim said.
The claim, filed on behalf of 41 institutions, charges Drexel is to blame for $330 million in losses sustained by these failed thrifts, which 'continue to hold junk bonds with an original cost of over $2.5 billion on which they will certainly lose additional hundreds of millions of dollars,' according to the government.
Failed S&Ls concerned in the case also include Columbia Savings of Englewood, Colo.; Gibraltar Savings of Beverly Hills, Calif.; Imperial Savings Association of San Diego; and MeraBank of Phoenix.
The claim is to be pursued by lawyers from the FDIC and the RTC working with the New York law firms of Cravath, Swaine & Moore and Thacher, Proffitt & Wood.
The U.S. claim alleges that 'Drexel and its co-conspirators targeted the S&Ls because federal deposit insurance enabled the S&Ls to amass an enormous pool of capital.' It also hits corrupt thrift operators, whose 'overarching goal,' the government said, was to 'share in the plunder of their own institutions.'
The claim hinted other targets could emerge, saying: 'At this early stage ... it is not possible to separate the co-conspirators from the victims with certainty.'
Capital provided by Drexel at high interest rates 'forced the burdened S&Ls to invest in highly speculative investments, including but not limited to junk bonds,' the claim says.
This was 'the foreseeable result of Drexel's financial tactics' and led to further S&L losses, the government asserted.
Pointing to Drexel's April 1989 guilty plea to felony charges of securities violations and to Milken's April 1990 guilty plea on conspiracy, fraud and other charges, the agencies charged 'Drexel and its co-conspirators were involved in a broad pattern of market manipulation and securities fraud.'
The most serious allegations concern Drexel, Keating and Lincoln Savings. The government took over the thrift in 1989 at a cost to taxpayers of about $2 billion -- the biggest single disaster so far in the unfolding S&L catastrophe.
'Drexel enabled Keating to obtain control of Lincoln, provided Keating with Keating caused Lincoln to invest heavily in junk bonds underwritten by Drexel and participate in a variety of other (Drexel) schemes,' the claim said.
Among other alleged violations, the government said, 'Drexel assisted Keating in orchestrating a complicated fraud involving CenTrust, Lincoln and others,' in which Lincoln-held stock was transferred to American Continental Corp., Lincoln's Phoenix-based parent, at an artifically low price, giving American Continental a $22.67 million profit.
The federal agencies said Lincoln, as of the court filing, had sustained losses on junk bonds of at least $32 million and still held Drexel junk bonds that it had purchased for just over $300 million.
