Citigroup Inc. was sued by Bank of New York Co. over the sale of securities linked to Enron Corp.’s creditworthiness, the Wall Street Journal said on Thursday.
The lawsuit could result in $2.5 billion of liability for Citigroup, the world’s largest financial services company, the newspaper said, citing an unnamed person familiar with the matter.
A Citigroup spokeswoman declined to comment on the lawsuit but said the company had met its obligations related to the securities.
“The purchasers of these notes are among the largest and most sophisticated financial institutions in the world, and we complied fully with all our obligations in dealing with them,” she said.
Bank of New York acted as a trustee in filing the lawsuit late Monday in New York State Supreme Court on behalf of investors, including units of distressed debt specialists Angelo Gordon & Co., Appaloosa Investment LP and Elliot International LP, the newspaper said.
A call to Bank of New York was not immediately returned. A copy of the lawsuit was not immediately available.
The newspaper said the lawsuit is also important to the hot market for credit insurance, which gives investors their money back when a company defaults or seeks bankruptcy protection.
Citigroup in May agreed to pay $2.65 billion to investors in WorldCom Inc. who accused it in a lawsuit of participating in financial fraud. It also roughly quadrupled its reserves for pending legal bills, including those for Enron, to $6.7 billion.
Chief Executive Charles Prince said at the time: “We feel very comfortable in saying that, with our advisers helping us, we have established a reserve that will cover all of our meaningful exposures.”
Reducing exposure
Bank of New York filed the suit on behalf of investors who bought so-called “Yosemite” securities linked to Enron, the newspaper said.
The Yosemite investors charged that Citigroup knew Enron’s debts were greater than the company publicly disclosed between 1999 and Dec. 2, 2001, the date it sought Chapter 11 bankruptcy protection, the newspaper said.
The investors believe the bank therefore breached its contractual duty, defrauded investors and concealed information, it added.
According to the newspaper’s description of the Yosemite transactions, Citigroup arranged the bond sales to cut its exposure to Enron, which had swelled beyond the bank’s internal guidelines as the companies conducted dealings linked to the energy trader’s borrowing.
The $2.4 billion of bonds were tied to the creditworthiness of Enron, which was an investment-grade company until four days before it filed for Chapter 11.
Had Enron remained viable, the bondholders would have received higher interest payments than on bonds Enron issued itself.
But if Enron were to default or seek bankruptcy protection, Citigroup would give the investors Enron bonds likely worth much less than 100 cents on the dollar, but which ranked relatively high in the pecking order among creditors seeking repayment.
The dispute arose, the newspaper said, because Enron itself, in its bankruptcy proceedings, said the claims from those investors should rank lower than those of other claimants because Citigroup was involved in deception that triggered Enron’s collapse.