Probe Into Auto Adviser's Firm Expands
Thursday, April 23, 2009
NEW YORK, April 22 -- Government officials are expanding their investigation of Quadrangle, the private-equity firm founded by the Obama administration's lead auto negotiator, as new details emerge about an alleged kickback scheme involving the New York state pension fund.
On Wednesday, the New York City Comptroller William C. Thompson Jr. said he is working with the state's attorney general, Andrew M. Cuomo, to determine whether the city's pension funds were "intentionally misled or deceived" by Quadrangle's failure to disclose the use of a middleman who has since been indicted, Hank Morris.
The development is the latest in a widening investigation by Cuomo's office and the Securities and Exchange Commission. At the center of the two-year probe are millions of dollars in payments made by private-equity firms and hedge funds to middlemen known as placement agents who helped the firms win investments from New York state's pension fund. The firms include District-based Carlyle Group and New York-based Quandrangle, co-founded in 2000 by Steven Rattner, who stepped away from the company in February to lead Obama's auto industry task force.
The scandal prompted New York State Comptroller Thomas P. DiNapoli on Wednesday to declare a ban on the use of placement agents by investment firms that do business with the state pension fund. DiNapoli also announced his own review of pension fund investments in firms under investigation by Cuomo and the SEC.
Paying fees to placement agents is a common industry practice and is not illegal -- unless it was a kickback to win business. While the former chief investment officer for New York's state pension fund, David Loglisci, and two politically connected placement agents, Hank Morris and Ray Harding, have been charged on multiple felony counts, none of the investment firms or their executives have been charged with any wrongdoing.
Placement agents are paid fees for performing work such as arranging meeting with potential investors and preparing marketing materials for them, and coaching investment managers on how to pitch their funds. Authorities allege that Morris did nothing of the sort and conspired with Loglisci to sell access to the $122 billion he managed.
Firms that did not play along allegedly suffered, according to a source familiar with the case. A Dallas-based private equity firm, Pharos Capital, has told investigators that it was approached about the need to pay a middleman after it was already far along in discussions about a potential investment. Pharos was then told by Loglisci that that person, a friend and hedge fund manager, Barrack Wissman, needed to be hired. Sensing something was not right, Pharos declined, the source said, and ended up losing the potential investment. Wissman last week pleaded guilty to a felony charge.
Quadrangle has come under scrutiny for its involvement in distributing "Chooch," a low-budget movie produced by Loglisci's brother.
According to an SEC complaint last week, a Quadrangle affiliate agreed to pay $88,841 for the DVD distribution rights to "Chooch" while Quadrangle was in discussions with Loglisci to try to win an investment from the pension fund.
Once the distribution agreement was reached, the complaint says, a senior Quadrangle executive called Morris, an influential political adviser, to notify him of it. "Three weeks later, Loglisci personally informed the Quadrangle executive that the Retirement Fund would be making a $100 million investment," the complaint said.
A source close to the matter has identified the senior executive as Rattner.
Neither Rattner nor Quadrangle have been charged with any wrongdoing. Quadrangle said it was cooperating with Cuomo's investigation. Rattner did not return a message left with a spokesperson.
New York City's comptroller on Wednesday said Quadrangle never disclosed that it had paid Morris fees in connection with the city pension funds' investment in Quadrangle. The city invested $85 million in 2005 and $40 million in 2006.
The city has a rule that use of placement agents must be disclosed, but that rule was implemented in 2008 and does not apply to the Quadrangle investments.
But as part of the due diligence for receiving the investment, Quadrangle said in writing at the time that it used only two placement agents, Monument Group and London-based Helix Associates, the comptroller's office said.
"We take any ethical lapses by our managers seriously and will consider any remedies available to investors," Thompson, the city's comptroller, said in a statement.
A case against the investment funds and their managers could be difficult because prosecutors would have to show beyond a reasonable doubt that the funds knowingly paid what was in essence a bribe to win business from the pension fund. Several legal experts said prosecutors would also have to show that the investment fund managers knew that the payment would be passed by the placement agents to a public official.
"If the fee is disproportionate to any services that were performed, then that gives rise to an obvious inference that you had to foresee that your payment would be used for some ulterior purpose," said John Coffee, a Columbia law professor and a legal expert on securities matters.
The case would hardly be "a slam-dunk," he said.
In a sign that Cuomo may be seeking concessions from investment managers rather than moving toward prosecution, the attorney general Wednesday applauded Carlyle for agreeing to stop using placement agents in marketing to public pension funds.
"As one of the nation's largest private-equity firms, Carlyle's decision to implement this reform sets an example that we hope others in the industry will follow," Cuomo said.
His office is working to establish a comprehensive code of conduct and reform for public pension systems, including guidelines that would apply to private-equity firms and hedge funds.