The demise of MF Global was not as sudden as the company’s executives had portrayed it, and senior finance executives were aware of risks to customer money as early as three months before the futures dealer went bankrupt. Those were some of the findings published this week in the report of MF Global bankruptcy trustee James Giddens.
At least one of the broker’s CFOs and the firm’s assistant treasurer knew intercompany loans and other funding practices were putting customer funds at risk, according to the report. Christine Serwinski, former finance chief for North America, even questioned the practice in reports to upper management, and in e-mails to colleagues she expressed concern that the firm was utilizing client assets to fund working capital for the firm’s new broker-dealer business. But the practices continued until MF Global declared bankruptcy on October 31, 2011.
Serwinski and Henri Steenkamp, CFO of the parent company, testified to Congress last March that they had little knowledge of how customer funds could have been “misused” in MF Global’s final days. But the trustee’s investigation shows they were aware of the risks related to tapping “customer-segregated” accounts housed in the futures commission merchant (FCM) side of the business, which handles buy and sell orders on commodity futures and futures options.
Eventually, the numerous transactions involving those customer accounts led to MF Global “losing” $1.6 billion in customer funds and accusations that bank transfers in the firm’s waning days may have violated futures-market regulations regarding the segregation of customer money.
The customer accounts were tapped, according to the report, because a new business model engineered by CEO Jon Corzine and designed to turn MF Global into a full-service investment bank increased exponentially the firmwide need for liquidity. In the company’s final days, “the rush to meet funding needs for collateral, margin and customer liquidations led to . . . a web of inter-company transactions across MF Global affiliates,” the trustee says.
But as early as July 2011, the foray into areas such as institutional capital markets and asset management intensified MF Global’s liquidity needs, and senior management looked increasingly to the FCM to fund the non-FCM business. “The underlying liquidity problems at MF Global did not commence in the fall of 2011,” the trustee says.
Indeed, senior management proposed that “the cash-starved proprietary securities business borrow $250 million on a regular overnight basis” from excess funds on deposit at the FCM. After consulting with outside counsel, Serwinski opposed the proposal “on the ground it would create undue risk to customers’ funds.” But soon after, the company began regular and increasingly larger intracompany borrowings to fund the non-FCM businesses. The funds were borrowed in varying increments, and data slightly varied from country to country. In Denmark, data for borrowed funds in the following denominations are available:
In one instance, on July 26, when assistant treasurer Edith O’Brien approved a $100 million overnight transfer from FCM to the firm’s operations in New York, she told the head of global treasury that Serwinski was not pleased with the loan because it left only a small cushion in the customer-segregated accounts that nearly violated securities regulations. According to the trustee report, Serwinski asked O’Brien, “What if I say no? What if they needed $150 million and I only gave them $100 million?”
Executives in the company’s Chicago-based treasury department also became increasingly frustrated with the requests for intraday funding from operations in New York. “They were particularly concerned that there was no transparency as to where the funds were going once they left [the] FCM,” the bankruptcy trustee reports. “New York operations employees, for their part, needed funding to maintain operations, but generally claim that they were not aware of the source of the funds other than that they came from Chicago treasury.” However, senior executives were “well aware” of where the funds came from, the trustee says.
Some senior executives of the company appear to have been in “deliberate denial of the extent of the liquidity stresses,” says the trustee. In an e-mail exchange on August 11, assistant treasurer O’Brien told another treasury employee that Steenkamp had told her the company had plenty of cash. “I was rendered speechless,” O’Brien said in the e-mail, “and wanted to say, ‘Really, then why is it I need to spend hours every day shuffling cash and loans from entity to entity?’”
Steenkamp testified to Congress in March that he knew little of how the company’s treasury operations worked, and in MF Global’s final days knew nothing of the movement of customer monies because he was focused on negotiating a sale of the company. But the treasury department — whose top executive reported to Steenkamp — was increasingly moving money among accounts to settle margin calls and requests from counterparties for added collateral.
The trustee’s 275-page report also confirmed earlier statements by executives that MF Global’s treasury systems were hopelessly outdated. “Notwithstanding the increased demands on global money management and liquidity, [MF Global’s] treasury department, which was involved in implementing the transfers of funds, did not expand or modernize,” the trustee wrote. “Likewise, the technology for recording and tracking transactions and liquidity did not materially change. [The firm] often [tracked] liquidity and the ability to transfer funds by informal means that were derived from a number of different reports, both computerized and oral.”
The bankruptcy trustee’s investigation also revealed that MF Global’s risk department and internal auditors had alerted the board of directors to gaps in the firm’s risk-management practices as early as April 2010. An October 2010 report by the internal audit group in particular pointed to deficiencies in liquidity-risk reporting and policies pertaining to market risk.
A couple of weeks before MF Global’s bankruptcy, with credit-rating downgrades imminent, finance and treasury personnel drafted a last-ditch emergency plan and presented it to the board. The proposal tried to gauge the impact of a ratings downgrade on the company’s cash flow and liquidity. “But the associated dollar impacts for each scenario . . . underestimated the actual impact on the business,” the trustee wrote.
In his report, Giddens said Corzine, Steenkamp, and O’Brien, among others, could face claims for breach of fiduciary duty and negligence. O’Brien, who has been scrutinized because of her role in bank transfers during the firm’s final days, refused to answer questions about the transfers in front of the congressional committee in March.