A bondholder on Tuesday filed a class action lawsuit charging the New Jersey Turnpike Authority with securities fraud and negligent misrepresentation for calling $416 million of 7.20% bonds due in 2018.
The lawsuit, which seeks compensatory damages of about $17 million, was filed in the U.S. District Court in Newark by Herbert Geist, a turnpike authority bondholder who claims the authority should have paid him a 3% premium when it called $25,000 of his bonds on Dec. 6 last year.
Mr. Geist, reached yesterday at his home in West New York, N.J., confirmed he was involved in the lawsuit. He declined to answer further questions, referring them to his counsel, the Tucson, Artz., firm of Zlotnick & Thomas.
The turnpike bonds in question were issued in 1985 as part of the authority's record-breaking $2 billion plan to widen 40 miles of the New Jersey Turnpike. The 7.20s, actively traded dollar bonds, were known as bellwethers of the municipal market.
Some of the widening projects became mired in environmental concerns, and the authority has abandoned plans for roughly 30% of them, according to Gordon Hector, a spokesman for the authority.
That, according to David B. Zlotnick, a partner in the law firm bearing his name, is how the authority justified redeeming the $416 million of 7.20% bonds early.
"There were some environmental concerns that derailed one aspect of the program, and that's the basis on which the authority is justifying the call of the bonds," Mr. Zlotnick said. He added that the authority "wrongfully" called the bonds "in order to save some money in interest."
Under the terms of a 1984 indenture, the turnpike authority could have called the 7.20s at 103 cents on the dollar Jan. 1, 1993.
"We think that that's what [the authority] should have done," Mr. Zlotnick said. "That was their right. That was the bargain that the investors made."
The bonds, however, were called at par plus accrued interest in December 1991, with the authority citing an indenture provision allowing an extraordinary call in the event that work on the widening had stopped.
But according to Mr. Geist and his lawyers, just because some of the widening plans were derailed the authority does not have license to exercise the extraordinary call provision. The lawsuit charges that the authority is proceeding with a "modified" widening program that will ultimately cost more than $416 million, and that it "nonetheless" redeemed the bonds "based on the artifice and ruse that those funds would not be needed."
By refinancing its debt to take advantage of falling interest rates, the authority robbed Mr. Geist and other bondholders of "the benefit of their bargain and engaged in a scheme and artifice to defraud," the suit alleges.
an authority legal official, in turn, charged that the lawsuit had already run afoul of state regulations governing litigation against public bodies.
Mr. Zlotnick said he was not worried about the alleged violation of state requirements, which he said came under a state tort claims act and a contractual liability act.
"We don't believe that that's applicable here," said Mr. Zlotnick. "There were particular provisions in the turnpike authority act and in the turnpike authority resolutions that protect the bondholders rights to pursue legal redress without going through the requirements."
Herbert Olarsh, secretary and director of law at the turnpike authority, said, "We have not seen the lawsuit, we have had no notice of any lawsuit, as is required by the laws of the state of New Jersey." State statute, he said, requires the serving of "notice of intention to sue."
Mr. Zlotnick said his firm had successfully litigated in two similar cases involving corporate bonds, including a 1989 case involving Mr. Geist and the debt of the Arizona Public Service Co. in which bondholders received compensatory damages of $7 million.
In the other lawsuit, the U.S. District Court in Jackson, Miss., ruled in 1991 that bonds issued by Middle South Energy had been wrongfully called, Mr. Zlotnick said.
Mr. Zlotnick said that in his first foray into the municipal securities arena, he also expects success.
"We looked at the business plan that the authority has adopted," he said, "as well as certain minutes of the authority and other records that were available. We came to a judgment that there was a valid claim that th bonds were wrongfully redeemed."
John L. Kraft, an attorney with the Newark law firm of Kraft & McManimon who served as bond counsel on the 1985 issue, said that "the extraordinary mandatory call applies when you can't or don't use the bond proceeds for intended purposes. Since you can't utilize the money for construction purposes, you have to use the money to call bonds, otherwise you run afoul of arbitrage concerns." He cautioned that he had not read the lawsuit and had not considered the turnpike authority's indentures since the mid-1980s.
He added that part of the authority's motivation might have been "negative arbitrage," which occurs when invested proceeds earn less than interest costs of the borrowed capital, could have also been part of the motivation for the mandatory call.
Attorneys at the authority's current bond counsel, the Philadelphia-based Morgan, Lewis & Blocklus, declined to comment, a spokeswoman for the law firm said.