Here are excerpts from the 183-page report of a special investigation into illegal banking practices by E. F. Hutton & Co. The investigation was directed by former Attorney General Griffin B. Bell.
We were able to confirm that excessive overdrafting occurred at 20 branches. . . . Bethesda
John Pearce, now St. Louis branch manager, instituted the practice at Bethesda of having the branch account drawn down in excess of what was calculated according to the drawdown worksheet. Pearce instructed cashier Raymond Askew to overdraft the branch's account on a daily basis. Pearce authorized Askew to determine the amount of the daily overdraft but instructed Askew not to draw down in excess of $10 million on any given day. Askew continued the practice of overdrafting the branch bank account after Pearce left. The practice was discontinued when William Weldon became branch manager in January 1982.
Pearce stated that his direction to Askew to overdraft the account was consistent with his understanding from his region and Hutton headquarters to be aggressive in cash management practices. He also cited Hutton's basic cash management system as a precedent for the overdrafting practices he instituted. Alexandria
Perry Bacon was responsible for enacting and supervising a sophisticated scheme of overdrafting the Alexandria branch bank account.
The overdrafting practice in place at Alexandria was driven by the extremely aggressive use of BRCs branch reimbursement checks to inflate artificially by extremely large amounts the amount of the branch's proper drawdown on given days. Bacon admitted that the branch drew down "not only deposits plus anticipated deposits, but also bogus deposits." The practice as instituted by Bacon was effective and in January 1982 alone produced interest income credited to the branch in the amount of $124,000.
Bacon claims that the overdrafting practices in which he engaged were merely an extension of the precedent set by Hutton's cash management system. He did not consider the practice illegal, and he states that his efforts were favorably acknowledged by his superiors and by Hutton's local bank. . . . Baltimore
Anthony Read, the Baltimore branch manager, noticed the poor performance of his branch in the area of interest income. He was informed by his cashier that other managers whose interest income performance was better were arbitrarily increasing the amounts of drawdowns to generate increased interest income. Read began arbitrarily adding between $500,000 and $3 million to his account periodically. The branch's bank complained about the account to First Vice President for Money Management Thomas Morley, and a large deposit was made at the bank and left for several days to compensate the bank. The branch manager was charged for the interest on these funds and Read ceased the arbitrary drawdowns. . . . New York Management
Our investigation of Hutton's New York management focused on the Hutton overdraft problem and those areas of management at headquarters which may have had some responsibility for the problem. . . .
Most of the Hutton problems giving rise to the investigation by the Department of Justice arose in money management and centered around Morley, who was in charge of money management. . . .
There is no evidence that Morley designed the Hutton drawdown system and its overdraft feature. The Hutton drawdown system was embodied in a drawdown formula designed by Morley's predecessor, William Sullivan. Morley used a similar formula with some modification. Morley is much blamed by those on the regional and branch levels as having been the person who told them how to engage in improper overdrafting. There is some documentary evidence to prove this.
However, the principal case against Morley in our view is that he failed to monitor the drawdown system or overdrafting generally. Branch managers received a percentage of any interest earned through overdrafting, and yet no effort was made by Morley or anyone above him to monitor the interest earned through overdrafting, whether under the drawdown system or otherwise. This was a failure in duty. The problem came to Morley's attention through several sources, including complaints from banks. He personally handled the settlements of overdraft complaints with banks, yet he never stopped the problem. In his defense, Morley contends that on two occasions he made requests for systems that would have placed controls on cash management, both of which he claims were rejected and both of which allegedly would have prevented the overdraft problem.
It is difficult to point to any top officer in Hutton other than Morley who had the responsibility to see that there were no improper practices in connection with earning interest through overdrafts. At the same time, it is abundantly clear that most of the senior officers understood that large sums were being made under the overdraft policy. It would not be possible to charge anyone other than Morley with neglect of duty. The facts do, however, reflect a lapse in responsibility at the top level of Hutton management for setting and monitoring internal accounting standards for a particularly important corporate function: money management.
Hutton's problem arose from the fact that its culture allowed improper overdrafts. Almost without exception, regional and branch personnel contended that any improper overdrafting practices were authorized by or attributable to Morley and money management in New York.
Since Morley was identified as being responsible, a key question for us was who supervised Morley. Morley stated that he reported to Managing Director and Executive Vice President Thomas P. Lynch, Senior Vice President Robert Ross, Norman M. Epstein and other top officials on an "as needed basis." As a matter of course, Morley usually copied Ross and Epstein on memoranda relating to operations. However, Morley stated that he had "dotted line" reporting to Lynch on areas concerning banking relations, finance, and cash management, and Morley did address memoranda to Lynch on these subjects.
One of the more telling incidents with respect to control over Morley happened on Feb. 10, 1982, when the New York Banking Commission met with Ross, Morley and Loren Schechter, a Hutton lawyer, for a conference on Hutton's overdrafting practices which were being investigated. On the way back to the Hutton office, Schechter told Ross that he should immediately report to Epstein what had happened. Ross replied that he reported to Lynch on problems of this kind. According to Schechter, Lynch then told Ross that it was not his problem and that he should report to Epstein. Now, however, all disclaim responsibility for Morley's money management actions, including the problem of overdrafting. Chief Financial Officer
Managing Director and Executive Vice President Thomas P. Lynch was the de facto chief financial officer in 1981 and 1982. As such, he reviewed and approved the financial statements sent to shareholders, customers and regulatory agencies.
. . . Morley sent him memoranda addressing banking and cash management. Lynch denies the responsibility to supervise Morley, but it is evident that Morley believed that he should report to Lynch on these matters. Since Lynch had discussed in 1980 with Arthur Andersen the auditors for Hutton the problem in "capturing" overdrafts and checks payable, he should have been aware of potential abuses of overdrafting. Additionally, Lynch had knowledge of float and uncollected balances at Huton accounts, although he denies being involved in settling any requests for payment by banks for uncollected balances with the exception of First Interstate. Legal Office
Thomas W. Rae was executive vice president and general counsel. His responsibilities as head of the Legal and Compliance Department were vast and included not only supervisory responsibilities for the legal and compliance division and audit division, but also other additional administrative responsibilities. Rae had been criticized for failing to provide a legal opinion to Arthur Andersen in 1980 on Hutton's drawdown procedures. Arthur Andersen, the auditors for Hutton, inquired of Rae, the vice president and general counsel, as to the legality of the drawdown system, and he declined to give a written opinion as to its legality, contending that it was so obviously legal that no opinion was required. This was accepted by Arthur Andersen, and the drawdown system was continued. It has now been approved by the Department of Justice civil decree over Hutton, but only on the condition that the banks be notified of its use and that the banks agree. Conclusions and Remedies
Having investigated the Hutton overdraft problem from the branch level up through the chairman and chief executive officer and the boards of directors, certain conclusions appear to be in order.
First, the boards were organized and existed in a manner where it would be difficult to say that the boards were in charge of the companies. A great majority of the board members were simply corporate officers over whom the board should have been exercising control. The board of Hutton Group should be reorganized to consist of a substantial majority of outside directors. The inside directors should be restricted to those holding the high-level positions in Hutton. The board of Hutton may consist of inside directors, if it is clear that Hutton is under the control of Hutton Group.
An audit committee for Hutton should be established. This audit committee should have direct oversight responsibility for the internal financial auditors who will be assigned to the chief financial officer as well as over the regulatory auditors, who will be left with the legal division. Senior Corporate Officers Robert Fomon
We do not hold Fomon, chairman and chief executive officer, responsible for failing to detect and terminate the improper overdrafting and other abusive practices which occurred at Hutton. Our justification is a matter of proper corporate governance. A corporate officer is, in the performance of his duty and functions, entitled to rely on the decisions, judgments and performance of other officers and employes of the company if the officer believes that such decisions, judgments or performance are within the professional or other competence of such officer or employe. Norman M. Epstein
Epstein had no direct supervision over Morley, but he did assume the responsibility in the Arthur Andersen study of internal accounting controls in order to comply with the Foreign Corrupt Practices Act. As has been noted elsewhere, no internal accounting standards was devised for cash management or overdrafting generally. This was a serious fault in the system but a fault that should be shared by the chief financial officer. Money management has now been removed from Epstein's department and assigned to corporate planning and control. Additionally, we do not think that any sanction should be imposed on Epstein on account of the internal accounting failure. It is difficult indeed and factually impossible to place the responsibility for this fault on any one officer. Richard G. Genin
We find that Genin should be sanctioned for failing in his responsibility to supervise the regional operations managers who reported to him. Genin denies having any responsibility for the regional operations managers' money management practices and claims that was the responsibility for the Money Mobilizer. Genin, nonetheless, failed in his duties to adequately supervise the regional personnel responsible to him. We therefore recommed that a letter of reprimand from the chief executive officer be placed in his permanent personnel file. Branch and Regional Personnel
This leaves the regional and branch personnel who actually engaged in wrongdoing. We have separated these between followers and those who were so aggressive as to have been moving forces in improprieties. Some of these are in the regional operation offices and some are in the branches. As has been stated earlier, there were 20 branches and three regions which seem to have engaged in improper overdrafting conduct by any reasonable standard of propriety. The Justice Department granted immunity to all of the regional and branch personnel who testified before the grand jury except for Atlantic Region Operations Manager Arthur Jensen. This was in a prosecutorial effort to link improprieties to those higher in Hutton. The problem with that design was that the government failed to meet the prosecutorial standard of finding credible evidence of a nature which would lead to a belief of a probability of conviction of these higher officials. The high officials simply failed in their duty to properly manage and to detect the improprieties.
We think, despite the grants of immunity, that the conduct on the part of some of the regional and branch personnel was so improper that they could not, on any reasonable standard, have believed that it was proper or that it was a policy of Hutton. Nevertheless, we do not recommend the termination of these employes. For a number of reasons, termination would be an inappropriate sanction to be imposed on branch and regional personnel. First, the loss of employment could impose an undue financial burden on these employes which would bear no rational relationship to their improper conduct. Second, Hutton pled guilty to counts based on the individual conduct of these employes and thus admitted such conduct to be illegal. However, these employes had no voice in the decision to enter a plea based on conduct in which they engaged. Neither Hutton nor the Department of Justice gave any consideration to them whatsoever. Third, these employes have all cooperated fully and voluntarily in our investigation. Fourth, the conduct on which these sanctions are based occurred nearly three years ago.
Our investigation has identified 20 retail branches that participated in patterns of international overdrafting. At only six of these branches was this activity so excessive and egregious as to warrant sanctions. We have concluded that the conduct of the managers of these six branches was such that no reasonable person could have believed that this conduct was proper. The branches and managers identified for disciplinary action are as follows:
Alexandria -- Perry Bacon
Baltimore -- Anthony Read
Bethesda/St. Louis -- John Pearce
Fresno, Calif. -- William Shaw
Hartford, Conn. -- Robert Clark
Wilkes-Barre, Pa. -- John Holland
We recommend that these individuals be fined a minimum of $25,000 and a maximum of $50,000. The audit committee of the board of directors of the Hutton Group should determine the final fine within this range in an amount that reasonably reflects each branch manager's respective culpability. We recommend that the assessed fine be paid in addition to the payment of any portion of any restitution claim or claims which the company determines will be assessed against the branch. The fines will be paid to a charity to be selected by the audit committee of the Hutton Group. We suggest that a charity be selected in the locale of the branch office being sanctioned.
These branch managers should also be placed on company probation for one year. During that time they should be required to report to the chief executive officer on a quarterly basis. An internal financial and regulatory audit of each of their branch offices should be conducted on a quarterly basis and the results given to the chief executive officer to review with the branch managers. In addition, we recommend that a letter of reprimand from the chief executive officer be placed in each branch manager's permanent personnel file.
We have identified only one person, who was serving as a regional sales manager, who must be singled out for sanction. After carefully weighing the facts, we conclude that Ernest Dippel knew or should have known that branch managers within his region were excessively overdrafting their accounts. We recommend that a letter of reprimand from the chief executive officer be placed in Dippel's permanent personnel file.
We have identified three regional operations personnel whose conduct was such that no reasonable person could have believed that this conduct was proper. The persons identified for disciplinary action are as follows:
Michael Goldstein -- Midwest Region operations manager
Aaron Hickey -- South Central Region interest specialist
Arthur Jensen -- Atlantic Region operations manager