December 31, 2011
This is an UPDATE of a "Street Sweeper" column originally published on December 1, 2010: "Former J.P. Morgan Banker James Hertz Pleads Guilty to Municipal Bond Bid Rigging." Also see this July 8, 2011 UPDATE on Hertz's SEC case
According to a U.S. District Court plea proceeding held in Manhattan on November 29, 2010, former J.P. Morgan Securities, Inc. banker James Leonard Hertz, a resident of Cranford, N.J., engaged in separate bid-rigging and fraud conspiracies related to the provision of a type of contract, known as an investment agreement, and other municipal finance contracts, including derivatives contracts, to public entities throughout the United States, such as state, county and local governments and agencies. Hertz also pleaded guilty to one count of wire fraud. According to the plea agreement, Hertz has agreed to cooperate with the ongoing investigation.
Financial Industry Regulatory Authority (FINRA) records disclose that Hertz was registered with Salomon Brothers Inc. from 1986 through 1987, with Dean Witter Reynolds from 1988 through 1993, and then with Prudential Securities Inc. through 1994. He first registered with Chase Securities, Inc. in February 1994. It appears that he remained registered with Chase Securities through 2001, at which time the entity became J.P. Morgan Securities, Inc., where he remained until his termination on December 12, 2007. J.P. Morgan Securities is part of the JPMorgan Chase & Co. financial services firm. (For purposes of this article, Chase Securities, Inc., J.P. Morgan Securities and JPMorgan Chase & Co. will be referenced generally and collectively as "JPM").
From approximately 1994 through approximately December 2007, Hertz worked in JPM's municipal derivatives group as a vice president and a marketer of investment agreements and other municipal finance contracts. JPM was a provider of investment agreements and other municipal finance contracts, such as swaps, to public entities.
Public entities typically hire a broker to conduct a competitive bidding process for the award of the investment agreements to invest money from a variety of sources, primarily the proceeds of municipal bonds that they issued. Competitive bidding for these agreements is the subject of regulations issued by the U.S. Department of the Treasury and is related to the tax-exempt status of the bonds. Hertz was authorized to act as an agent of the financial institution in marketing investment agreements and other municipal finance contracts.
According to the United States Department of Justice / Antitrust Division:
Bid rigging is the way that conspiring competitors effectively raise prices where purchasers - often federal, state, or local governments - acquire goods or services by soliciting competing bids.
Essentially, competitors agree in advance who will submit the winning bid on a contract being let through the competitive bidding process. As with price fixing, it is not necessary that all bidders participate in the conspiracy.
Bid rigging also takes many forms, but bid-rigging conspiracies usually fall into one or more of the following categories:
Bid Suppression: In bid suppression schemes, one or more competitors who otherwise would be expected to bid, or who have previously bid, agree to refrain from bidding or withdraw a previously submitted bid so that the designated winning competitor's bid will be accepted.
Complementary Bidding: Complementary bidding (also known as "cover" or "courtesy" bidding) occurs when some competitors agree to submit bids that either are too high to be accepted or contain special terms that will not be acceptable to the buyer. Such bids are not intended to secure the buyer's acceptance, but are merely designed to give the appearance of genuine competitive bidding. Complementary bidding schemes are the most frequently occurring forms of bid rigging, and they defraud purchasers by creating the appearance of competition to conceal secretly inflated prices.
Bid Rotation: In bid rotation schemes, all conspirators submit bids but take turns being the low bidder. The terms of the rotation may vary; for example, competitors may take turns on contracts according to the size of the contract, allocating equal amounts to each conspirator or allocating volumes that correspond to the size of each conspirator company. A strict bid rotation pattern defies the law of chance and suggests collusion is taking place.
Subcontracting: Subcontracting arrangements are often part of a bid-rigging scheme. Competitors who agree not to bid or to submit a losing bid frequently receive subcontracts or supply contracts in exchange from the successful low bidder. In some schemes, a low bidder will agree to withdraw its bid in favor of the next low bidder in exchange for a lucrative subcontract that divides the illegally obtained higher price between them.
Almost all forms of bid-rigging schemes have one thing in common: an agreement among some or all of the bidders which predetermines the winning bidder and limits or eliminates competition among the conspiring vendors.
Heads I Win, Tails You Lose - Okay?
Hertz and his co-conspirators engaged in a bid-rigging conspiracy from at least as early as October 2001 until at least November 2006. As a part of the bid-rigging conspiracy, Hertz and his co-conspirators designated in advance which co-conspirator provider, either his employer or another financial institution, would be the winning bidder for certain investment agreements or other municipal finance contracts. The co-conspirators also agreed to submit intentionally losing bids for investment agreements or other municipal finance contracts that were steered to other financial institutions, giving the false appearance that these deals had been bid competitively in accordance with relevant U.S. Treasury regulations, or the requirements of the municipality.
Moreover, Hertz also participated in a fraud conspiracy with a broker located in Minnesota from as early as 1998 until at least November 2006. As part of this conspiracy, the broker gave Hertz information about the prices, price levels or conditions in competitors' bids, a practice known as a "last look," which is explicitly prohibited by U.S. Treasury regulations. On some occasions, the broker signaled Hertz to change his bids to specific numbers so that his employer could make more money. Hertz and his co-conspirators also submitted intentionally losing bids to the broker for certain investment agreements to make it appear that his employer had competed for those agreement or contracts, when in fact, it had not. As a result of the bid manipulation, Hertz's employer won investment agreements and other municipal finance contracts at artificially determined price levels, which deprived municipal issuers of money and property.
The court documents also charge that Hertz and his co-conspirators misrepresented to municipal issuers or their bond counsel that the bidding process was in compliance with U.S. Treasury regulations. This caused the municipal issuers to award investment agreements and other municipal finance contracts to providers that otherwise would not have been awarded the contracts if the issuers had true and accurate information regarding the bidding process. Such conduct caused municipal issuers to file inaccurate reports with the Internal Revenue Service and placed the tax-exempt status of the underlying bonds in jeopardy.
Facing the Music
Hertz faces the following penalties:
- Bid-rigging conspiracy: maximum penalty of 10 years in prison and a $1 million fine.
- Fraud conspiracy: maximum penalty of five years in prison and a $250,000 fine.
- Wire fraud: maximum penalty of 20 years in prison and a $250,000 fine.
- The maximum fines for each of these offenses may be increased to twice the gain derived from the crime or twice the loss suffered by the victims of the crime, if either of those amounts is greater than the statutory maximum fine.
This is the eighth guilty plea to arise from an ongoing investigation into the municipal bonds industry, which is being conducted by the Antitrust Division's New York Field Office, the FBI and IRS Criminal Investigation. The department is coordinating its investigation with the Securities and Exchange Commission, the Office of the Comptroller of the Currency and the Federal Reserve Bank of New York.
On Oct. 29, 2009, Rubin/Chambers, Dunhill Insurance Services Inc. (CDR) along with its owner and president, David Rubin; its former chief financial officer and managing director, Zevi Wolmark, also known as Stewart Wolmark; and its vice president Evan Andrew Zarefsky, were indicted and charged with participating in bid-rigging and fraud conspiracies.
See the Indictment at http://www.justice.gov/atr/cases/f251600/251679.htm
Three former employees of the Beverly Hills, Calif.-based CDR have pleaded guilty to bid-rigging and fraud conspiracies in relation to the ongoing investigation.
See Plea Agreements:
On December 30, 2011,Rubin/Chambers, Dunhill Insurance Services, also known as CDR Financial Products, and CDR founder and owner David Rubin, pleaded guilty in federal court in Manhattan, NY. Rubin and CDR each pleaded guilty to participating in separate bid-rigging and fraud conspiracies with various financial institutions and insurance companies and their representatives. These institutions and companies, or "providers," offered a type of contract, known as an investment agreement, to state, county and local governments and agencies throughout the United States. The public entities were seeking to invest money from a variety of sources, primarily the proceeds of municipal bonds that they had issued to raise money for, among other things, public projects. Rubin and CDR also pleaded guilty to one count of wire fraud in connection with those schemes.
During his plea hearing, Rubin admitted that, from 1998 until 2006, he and other co-conspirators:
- supplied information to providers to help them win bids,
- solicited intentionally losing bids, and
- signed certifications that contained false statements regarding whether the bidding process complied with Treasury Regulations.
Additionally, Rubin admitted that he and other co-conspirators solicited payments for CDR from providers for rigging or manipulating winning bids at artificially determined prices.
Rubin faces the following maximum penalties:
- Bid-rigging conspiracy: 10 years in prison and a $1 million criminal fine
- Fraud conspiracy: five years in prison and a $250,000 criminal fine
- Wire fraud: 20 years in prison and a $250,000 criminal fine
The maximum fines may be increased to twice the gain derived from the crime or twice the loss suffered by the victims of the crime, if either of those amounts is greater than the statutory maximum fine.
CDR faces the following maximum penalties:
- Bid-rigging conspiracy: $100 million criminal fine
- Fraud conspiracy: $500,000 criminal fine
- Wire fraud: $500,000 criminal fine
The maximum fines for each of these offenses may be increased to twice the gain derived from the crime or twice the loss suffered by the victims of the crime, if either of those amounts is greater than the statutory maximum fine.
Last Man Standing?
- Defendants Wolmark and Zarefsky are scheduled to begin trial on Jan. 3, 2012.
- Dominick Carollo and Peter S. Grimm, formerly of GE Funding Capital Market Services, and Steven E. Goldberg, formerly of GE Funding Capital Market Services and FSA, were indicted on July 27, 2010, and are scheduled to begin trial in April 2012.
- Three former UBS employees, Peter Ghavami, Gary Heinz and Michael Welty, were indicted on Dec. 9, 2010.
NOTE: Criminal indictments are only charges and are not evidence of guilt, and defendants are presumed innocent until and unless proven guilty beyond a reasonable doubt in a court of law.
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