A bondholder last week filed a class action suit against Mutual Benefit Life Insurance Co., Shearson Lehman Brothers, and other parties charging that an $18.7 million municipal issue was "recklessly" sold to investors.
The suit alleges that Mutual Benefit, Shearson Lehman, accounting firm Ernst & Young -- which issued an unqualified opinion in March on Mutual Benefit's financial condition -- and former chief executive officer of the insurer, Henry F. Kates, either knew that Mutual Benefit was hurtling toward insolvency or unknowingly produced "materially false and misleading statements in the official statements," according to the complaint.
In early May, the Dekalb, Ga., Housing Authority sold multifamily revenue refunding bonds with a Mutual Benefit guarantee, which earned the deal a AA-plus rating from Standard & Poor's Corp. By July, the life insurer had been seized by the New Jersey Insurance Department.
"The bonds were assigned an AA-plus by Standard & Poor's based solely upon [Mutual Benefit's] guaranty," the complaint states. "In fact, [the] guaranty was worthless."
"The propectus did not disclose what it should have," said Stephen Lowey, partner at Lower Dannenberg Bemporad & Selinger, counsel for the plaintiffs.
The suit was filed by Easton & Co., a Fort Lee, N.J.-based securities dealer, in the U.S. District Court of New Jersey in Newark. Easton holds $250,000 of the Dekalb bonds and, according to court documents, expects thousands of other plaintiffs to join the suit.
The defendants have 30 days from the Sept. 17 file date to respond in some way to the complaint. Lawyers not involved with the suit who asked not to be identified said it was possible Mutual Benefit could seek an extension due to the conservatorship. Other courses of action including settling out of court and moving for dismissal.
The damages sought by Easton at this point are related market losses," and the typical assessments in such litigation, including interest and attorneys' fees, according to Mr. Lower. The potential for awards sought, however, are difficult to estimate because class actions go before juries, and jury awards are very unpredictable.
At the heart of the allegations is whether it was evident to parties with access to internal information on or about May 3 that Mutual Benefit was in hot water. The complaint singles out the insurer's souring real estate portfolio and mortgage loans as activities that pointed the way to the firm's insolvency.
A spokeswoman at Mutual Benefit said the company has not reviewed the complaint and declined to comment on all aspects of the case.
In reference to Lehman Brothers, the municipal underwriting subsidiary of Shearson Lehman, the suit notes that the firm was responsible for preparing and disseminating the deal's official statements dated May 3. Lehman failed "to disclose that the purported 'guaranty ' issued by Mutual Benefit -- upon which investors relied in purchasing the bonds -- was worthless and that [the life insurer] was heading toward insolvency."
A spokesman at Lehman Brothers said that, given that the case is now before the courts, the firm is unable to comment on the matter.
Some of the most specific allegations are reserved for Mr. Kates, the former chief executive officer, president, and member of Mutual Benefit's board of directors. Easton's complaint says Mr. Kates "had access to material adverse non-public information about [Mutual Benefit's] financial condition when the bonds were issued, and either acted to conceal this information or knowingly or recklessly permitted or authorized and approved concealment of same."
Mr. Kates was unavailable for comment.
Mutual Benefit was seized after policyholders began withdrawing their funds in alarming numbers, threatening its liquidity. In the regulatory fallout, it was determined that the firm would not make principal payments, including the fulfillment of municipal bond guarantees and put-bond obligations.
In all, 59 tax-exempt issues totaling $809 million were thrown into limbo by the situation. The Bond Buyer has reported technical defaults on 18 variable-rate deals totaling $243 million, which essentially were frozen at late-July rates due to remarketing failures.
In addition, one fixed-rate issue went into default Sept. 1 and another issue is slated for mandatory call Oct. 1. If an alternate guarantor cannot be found for that deal -- the $10.3 million Phoenix, Arix., Series 1984 issue -- it, too, will default.