Serpent on the Rock (46 page)

George Ball finished reading the summary to the Locke Purnell report shortly after Schechter handed it to him. Schechter had been fairly clear about how he thought the matter should be handled. And from what he had read, Ball had to agree. He didn't know if the information he was reading described illegal conduct, but he was certain that it was improper. Darr had to go.

But then again, maybe not right away. Ball realized that this report gave him the perfect opportunity to rearrange the senior management of Prudential-Bache in a manner more to his liking. He had tried for years to bring Bob Sherman on to the team, to persuade him to work with the other departments for the greater good of the firm, but to no avail. Ball thought Sherman was just too much out of the old Bache mold of turffighting and byzantine intrigue. Sherman didn't fit in with the firm Ball wanted Pru-Bache to become.

The perfect thing to do, Ball decided, was make a clean sweep of it. Sherman had to go, and Darr desperately wanted his job. But Darr had to go, too. The easiest way to avoid any problem would be to toss them both out on the same day. Replacing two top managers was not something that could be done overnight. It would take months of planning and corporate games-playing by Ball. He told Schechter that he would get rid of Darr, but he wanted to take some time to ensure that all the changes were handled as smoothly as possible. He had to brace other senior managers and let them know what was going to happen. He also had to find a replacement for Sherman and build this person up to the troops. Once all was ready, Ball said, Darr would be fired.

That was how Darr was able to continue at Prudential-Bache for almost nine months after the general counsel and chairman of the firm came to believe he was up to no good. During that time, more than half a billion dollars of new partnerships were sold. In every one of those partnerships cosponsored by the firm, Darr's name appeared as the chairman of the Prudential-Bache subsidiary acting as general partner. None of those documents disclosed the Locke Purnell findings or the concerns of the two top officers of Pru-Bache about Darr's honesty. Investors would not be told.

But by now Prudential-Bache had far too many secrets to keep hidden. Some of them were about to be uncovered.

Cartons of documents about the Archives partnership were piled around a conference room in the midtown Manhattan offices of Manufacturers Hanover Trust. The records about the partnership sponsored by Clifton Harrison had been produced in early 1988 after the bank received a discovery request in the McNulty lawsuit.

Charles Cox, the Minneapolis lawyer who represented McNulty, had flown up to New York to pore through the documents with a legal assistant. Neither Cox nor his assistant, Nancy Trimbo, knew exactly what they were looking for. But Cox felt sure that somewhere in the morass of paper were the documents that would help his case.

The minutes slid into hours. Cox reviewed the lending documents, construction budget records, and appraisal materials. The information seemed good. It was clear that Prudential-Bache and Clifton Harrison had been irresponsible in the management of the Archives partnership. But with what he had so far, it would be a very hard-fought case.

Cox stretched as Trimbo passed him another file folder from the boxes. He opened it and dug through the various records. One document, which had the word “Confidential” stamped across the top, attracted his attention. It was some sort of security report, written many years earlier about Harrison.

Cox set the document on the table, flipped open the cover page, and started reading. Before he finished the first page, his eyes opened wide.

“In 1967, Clifton S. Harrison pled guilty to federal charges of misappropriation of bank funds and mail fraud as a result of which he was sentenced to serve three years,” the report read.

The more Cox read, the more amazing it became. Harrison's embezzlement had involved a securities fraud as well. The report said he had been caught embezzling only because the bank officers realized he was spending more money than he made. Whenever he ended up short, he just figured out a way to defraud the bank and finance his high living.
This
was exactly the reason that the disclosure rules in the federal securities laws had been written.

Cox jumped up. “Jackpot!” he called to Trimbo. “Take a look at this!”

As she read the file, he watched with enjoyment as the shock registered on her face.

We've got them now
, Cox thought.
We've got them
.

Clifton Harrison needed some money. Even with the millions of dollars in fees he received from his huge deals sold through Prudential-Bache, by the spring of 1988, he was still spending more money than he made. Despite his years of financial trouble, Harrison had never cut back on the elegant restaurants, valuable antiques, rental homes for the summer, and other indulgences. Until now, whenever he ran out of money, his friends at Pru-Bache always bailed him out.

This time was different. Since the Bessemer–Key West disaster, Harrison's relationship with Prudential-Bache had been in tatters. Even his old friend Darr seemed to be avoiding Harrison now. The Direct Investment Group would not sell any more of his deals. He couldn't use new fees to pay off his old expenses. His giant game of financial musical chairs had come to a stop, and Harrison couldn't find a seat anywhere. But eventually, Harrison realized there was one last chair he could use to win the game. It might not be something that Pru-Bache would approve, but at that point he didn't care. The option of cutting back on his spending was not acceptable.

Harrison rummaged through his desk and found the checkbook for Stamford Hotel LP, a deal that the Direct Investment Group had sold three years earlier. He opened it and picked up a pen. On the first check at the top, he brought the pen down just behind the words “Pay to the Order of” and wrote his own name. He filled the check out for tens of thousands of dollars.

Over the next several months, Harrison would pocket close to half a million dollars from the Stamford Hotel partnership. The man who twenty years earlier embezzled money from a bank to cover his extravagant expenses was simply taking partnership cash that did not belong to him.

Angry brokers and managers drove to the Holiday Inn off Highway 41 near Fort Myers, Florida. After parking in the lot, they traipsed through the lobby to a meeting room. They found seats around a series of long tables set up in a U shape. At the head table sat executives from Graham Resources and the Direct Investment Group. No one in the room was smiling, and for good reason.

This meeting in July 1988 was billed as the first time the Direct Investment Group would tell brokers why the Graham energy partnerships— particularly the growth fund—were unraveling. At that point, no information was more important to the brokers. Every quarter, after the shrinking distribution checks were mailed, they had been forced to spend hours on the telephone trying to explain to clients why all the promises they had made were not coming true. But they didn't know the answer.

As a group, the brokers were angry. Among themselves, they repeatedly said that the firm lied to them. Everything had been described to them as so safe, so assured. Then it all collapsed. None of the brokers understood the details, but many of them felt sure that something slippery had taken place.

All the big brokers in the area had traveled to Fort Myers for the meeting. Up at the center table sat a few senior officers from the Direct Investment Group in New York, including Barron Clancy, Joe DeFur, Joe Quinn, and Russell Labrasca. Jim Parker, the firm's partnership marketer for Florida, was also there. He sat beside Bob Jackson, Graham Resources' marketer for the region.

Clancy stood up and walked to the center of the head table. “We're all here today to talk about what's been happening with some of the Graham partnerships,” he said. “We want to lay out all of the events that have been affecting these partnerships so you can understand where everything stands.”

The brokers glared at Clancy. They had been hearing the excuses coming out of the Direct Investment Group and Graham Resources for months. They weren't in the mood for another rendition of the explanations that seemed like little more than lies.

“A lot of the things that have happened were simply beyond everyone's control,” Clancy said. No one, not even the top executives in the Direct Investment Group, could have possibly predicted the events that had unfolded, he said. The collapse of the price of oil in 1986 wreaked havoc on the early partnerships. Gas prices never came up. Tax reform in 1986 pulled the legs out from under many partnerships. These were all external events. Neither Graham Resources nor the Direct Investment Group was responsible for any of it.

As Clancy spoke, Parker and Jackson glanced around the room. They knew these brokers well enough to tell what was happening. The excuses were driving them absolutely nuts, particularly since a lot of what they were learning made no sense. The marketing materials had said that tax reform would have no impact on the tax benefits of the Graham partnerships. When the price of oil went down, the distributions fell. When the price of oil went up, the distributions fell. Even the distributions from the growth funds, which were created at the bottom of the oil market, were falling.

“Barron, this is just so much bull,” one of the brokers called out. “We were told these were safe investments. Are you guys saying you didn't figure out that the price of oil might go down? What, was it safe only as long as prices went up?”

“Now, that's not what I'm saying,” Clancy said. He went back, trying to explain again about the unforeseen events. Then he turned to DeFur, who backed him up.

“What are you guys talking about?” another broker barked. “That might explain the trouble in one or two of these partnerships. But all of them? There's got to be something else there.”

As the noise of the crowd increased, Clancy and DeFur walked through the same points again. That just made the brokers angrier.

“Face it, you guys lied to us,” a manager called out. “Look at the growth funds. We were totally misled about that. How come they stopped buying bank loans, like they were supposed to?”

“Now wait a minute,” one of the Direct Investment Group executives said. “Go back and look at the prospectus for the energy growth fund. We never said that we were definitely going to buy those discounted loans. That was just a hypothetical in the marketing material, something we said we might do. We never committed to that.”

With that, the room exploded.

“This is bullshit!” a broker called out. “A hypothetical? What are you talking about? You told us they were going to be buying discounted bank loans! It was no goddamned hypothetical!”

“You misled us!” another one shouted. “We're the ones who are paying the price for your dishonesty. We're the ones losing our clients and listening to them accuse us of lying. So what the hell are you going to do about it?”

The meeting broke down completely. Brokers were shouting questions, one after another, without waiting for answers. They were beating Clancy and DeFur badly. It was as if the anger that had built up over the months of deteriorating performance by the partnerships was all pouring out at once in this meeting room at a Holiday Inn.

“You guys have been covering up the facts on the growth fund,” one broker shouted. “What the hell happened?”

“The disclosure on the First City loans can't be true,” another said. “What's the truth? Stop hiding it from us.”

Before they could offer an answer, another broker stood up. “You guys better think fast, because you've got a scandal of big proportions building up here.”

The broker stared straight at the senior executives in the front. Solemnly, he uttered one last statement.

“This is Grahamgate.”

Al Dempsey hung up the phone after talking with Bob Jackson. What he heard on July 5 about the meeting in Florida disturbed him greatly. Clancy and DeFur had not been prepared to deal with the brokers' rage. Graham Resources itself was facing a deep credibility problem. If the company didn't figure out a way around the problem quickly, its sales of partnerships could rapidly fall off.

Dempsey sat at his desk and wrote a confidential memo to Graham's top marketers. He described some details of the Florida meeting and offered some suggestions about how to handle the energy growth fund, which he labeled EGF, and its deal with First City National Bank, which he called FCNB.

“For a lot of valid reasons, many of the details of our EGF investments, particularly FCNB, have been kept secret,” he wrote. “I think the time has come for full disclosure” to the company's regional marketers.

He spelled out a few ideas for crisis management that he wanted adopted immediately.

“I believe this approach will help to solve our EGF credibility problem,” he wrote, “and will avoid a ‘spill-over' into energy income fund and other products we may introduce in the future.”

The strategy would largely succeed. Graham would continue selling its energy partnerships through Prudential-Bache for years to come. Even with all of the damage that had been done, Graham would still find brokers who were willing to believe. Prudential-Bache itself was still tapping into that faith. After all, there was always another high-commission product that could be sold. And Pru-Bache needed the money.

Richard Sichenzio, the second in command to Bob Sherman, almost growled through the telephone in September 1988.

“Why aren't you getting more involved in pushing the Risers?” Sichenzio asked Jim Trice, the regional director for the Southeast. “We're about to do another offering. I want your guys to step up their sales.”

Trice just shook his head. Risers was the shorthand name for an enormously complex investment that Prudential-Bache had recently begun pushing. It stood for Residual Income Stream Equity REIT. Risers offered clients a way of purchasing an investment collateralized by residential mortgage loans. They had been marketed as safe investments for conservative clients, but few brokers in the Prudential-Bache system could figure out the concept, and their clients understood even less. But senior executives, and particularly Sichenzio, pushed Risers hard. It was a product manufactured by Pru-Bache. If sales were strong, the firm could make great profits.