DALLAS - A Colorado jury late Friday awarded $14.7 million to Salomon Smith Barney Inc.'s Smith Barney Managed Municipals Fund in a lawsuit filed over an issuer's substitution of escrow securities that were backing zero-coupon bonds.
The ruling in Douglas County District Court was hailed yesterday by the company's attorney as a victory for full disclosure in municipal bond transactions.
"This ruling reaffirms that the sellers of municipal bonds must make full and fair disclosure," said Gary Ceriani, a Denver attorney for Salomon Smith Barney. "The comment jurors made to me is that selling securities isn't like selling a car. You can't play hide and seek."
The award of $12.7 million of actual damages and $2 million of punitive damages capped a week-long trial in a lawsuit filed three years ago by the fund. The lawsuit alleged that the Dawson Ridge Metropolitan District No. 1 improperly replaced Treasury bonds backing $47 million of escrowed-to-maturity zero-coupon bonds with Resolution Funding Corp., or Refcorp, securities.
According to court documents, the $12.7 million represents Salomon Smith Barney's estimate of the premium the fund paid to buy the Treasury-backed securities, compared with other escrowed bonds.
Ceriani said the proceeds from the judgement would be distributed to the fund's holders. A Lipper Inc. spokeswoman said the judgement would likely be reflected in the fund's total return, although it was unlikely to boost its income. The fund's portfolio manager, Joe Deane, could not be reached for comment yesterday.
The Smith Barney fund, in its testimony, alleged that the issue's official statement stated the Treasuries would stay in the escrow until the bonds were retired. But the defendants asserted that an irrevocable letter of instruction signed at the deal's closing amended the bond indenture and provided adequate disclosure that an escrow substitution was possible.
Other defendants are Douglas County Development Corp., or DCDC, which owned the land in the district and sold the bonds, and its principal, Franklin Haney. Haney, a Tennessee businessman, is the controversial figure at the center of several alleged scandals tied to his use of the bonds.
Haney's Washington, D.C.-based spokesman, Ken Vest, said yesterday that Haney and the other defendants would review their options for appealing. But Vest also said that based on things Haney learned about his attorneys at the trial, he is considering filing a lawsuit against his own law firm.
According to Vest and Ceriani, during the trial several conflicts emerged regarding Brownstein Hyatt Farber & Strickland, which represented Haney both at the time of the original transaction and in the lawsuit. During the trial, after an attorney from Brownstein Hyatt testified about the deal, the law firm tried to withdraw from the case. The judge rejected the motion. Attorneys with Brownstein Hyatt couldn't be reached for comment.
Vest said yesterday that Haney wasn't aware until the trial of some of the conflicts between those who drafted the documents and those who handled his defense. The details arose during the trial, but by then it was too late to bring in a new defense team. "Our main goal is to consider a lawsuit against Brownstein," said Vest.
He also pointed out that the value of the fund holding the bonds referred to in the lawsuit has gained value despite the change of securities. Vest said the judge in the case prohibited Haney from presenting that evidence to the jury.
While escrow substitutions are not unusual, and Refcorps are considered adequate for such escrows, Smith Barney officials said they agreed to buy zero-coupon bonds based on the official statements. The fund claims the Refcorp securities are an inferior and less valuable source to back the escrow and that it was damaged by the substitution.
