A Santa Ana, Calif., jury has found California Federal Bank and three former executives guilty of fraud and racketeering for allowing a subsidiary to default in 1991 on loans from Weyerhaeuser Mortgage Co.
The verdict assessed $31.5 million of punitive and compensatory damages, equal to just over two-thirds of the Los Angeles-based thrift's expected earnings this year.
James F. Hurley, executive vice president of the $14.2 billion-asset thrift, called the decision, handed down in Orange County Superior Court, deeply flawed.
California Federal plans a "vigorous appeal," Mr. Hurley said.
As a result, it is unclear if the money will ever have to be paid. But one stock analyst, Thomas O'Donnell of Smith Barney Inc., said "a cloud has descended on California Federal."
Even if CalFed ultimately prevails, the appeals process could drag on for a long time. Meanwhile, the institution may have to set aside additional reserves to cover potential losses, which would result in a hit to earnings.
Mr. O'Donnell also said the verdict and award are unusual developments in a type of dispute that big companies normally settle privately, away from juries.
"I'd rank this as pretty uncommon," he said.
The dispute stems from $25 million of loans that Woodland Hills, Calif.- based Weyerhaeuser made in 1989 and 1990 to a CalFed subsidiary called California Communities Inc.
This company, a single-family real estate developer, ran into financial problems and is now inactive, Mr. Hurley said.
The loans were used to acquire, and begin building houses on, a 179-lot real estate development in the Southern California town of Corona.
Because of its financial straits, California Communities defaulted on the loans in February 1991. Weyerhaeuser ended up foreclosing on the loans and then buying the development, losing $6.5 million in the process.
In its suit, Weyerhaeuser accused California Communities of fraud and misrepresentation, portraying its balance sheet as healthier than it actually was, said Herbert Hafif, Weyerhaeuser's lead attorney in the case.
The company, he said, claimed it had $40 million of assets, when, in fact, it was $18 million in the red.
Weyerhaeuser also charged California Federal and the two men who had served as its president when the deals were made, David Reed and William Callender, with fraud and misrepresentation and violations of the Racketeer-Influenced and Corrupt Organizations Act.
The individuals and the company did this by sending out so-called comfort letters, which Weyerhaeuser said committed the bank to ensuring that the loans were repaid. In fact, the parties to the case say the bank had no intention of guaranteeing the loans.
George Meeker, who at the time was in charge of California Communities, also was charged with these violations.
The jury sided with Weyerhaeuser and ordered CalFed and the three former executives to pay compensatory damages of $6.5 million.
Additionally, California Communities was found liable for $5 million of punitive damages, and CalFed of $20 million. Since the punitive damages exceed the trebling of compensatory damages allowed under the RICO law, Weyerhaeuser is planning to ask for the punitive award. Mr. Hafif explained that Weyerhaeuser cannot take both awards.
Exact terms of the award are to be settled at a hearing scheduled June 30, but payment could be delayed while appeals go forward.
Mr. Hurley said one of California Federal's primary objections to the verdict is that it believes the comfort letters "categorically and unmistakably say the loans were not guaranteed" by CalFed.
"We are extraordinarily confident that the bank and our former officers did nothing improper," he said. "We fully anticipate that we would prevail in an appeal. "This is an egregious verdict."
Nonetheless, Mr. Hurley acknowledged that CalFed is studying whether or not it will have to take additional reserves to cover possible losses. Mr. Hurley said that some reserves were already taken, but not enough to cover the jury award.
The thrift's share price was apparently unaffected. It rose Friday by 12.5 cents, to $12.50, exactly where it closed a week earlier.