Freeh report faults Corzine

Former MF Global Holdings Ltd. chief executive Jon Corzine once again finds himself in the cross-hairs of a lengthy report on the collapse of the brokerage firm as it prepares for a Friday confirmation hearing.

In the Thursday report, trustee Louis Freeh of Pepper Hamilton LLP said Corzine's strategy to begin engaging in significant propriety trading, or using the company's own funds to trade and profit from anticipated changes in market prices, ultimately led to MF Global's downfall. Freeh cited Corzine's "negligent conduct."

Two earlier reports last year reached similar conclusions.

Following his appointment as chief executive in March 2010, Corzine "initiated a new and aggressive trading strategy, investing heavily in European sovereign debt, which was financed through repurchase to maturity transactions," Freeh said in the 174-page report.

Under the strategy, broker-dealer unit MF Global Inc. would purchase the securities and MF Global U.K. Ltd. acted as agent for the purchase. The transactions involved financing the company's purchase of European sovereign debt issued by countries such as Italy, Portugal, Spain and Ireland and were meant to "capitalize on volatility and unrest in the European markets," the report said.

"Because of the way these trades were structured, the company immediately recognized the income while simultaneously removing the transactions from the company's balance sheet. These transactions were meant to serve as a profit 'bridge' until the company began to produce earnings from other, new lines of business," Freeh said in the report.

"When combined with other factors, strategic decisions and management lapses surrounding the company's business, the [trades] ultimately sowed the seeds of the company's destruction," the trustee said. "Although the trades generated the expected up-front 'income,' these trades also jeopardized the company's available liquidity and left the company highly leveraged as a result of these off-balance-sheet transactions. When the European economy deteriorated during the summer of 2011, clearinghouses and other counterparties began making escalating margin demands, draining the company's liquidity and drawing the attention of regulators and credit rating agencies."

Freeh stated that between September 2010 and June 2011, MF Global Holdings' board approved a number of requests from Corzine to increase risk limits for investing in European sovereign debt.

The trustee pointed out that against the advice of chief risk officer Michael Stockman -- who in the summer of 2011 suggested the company cease investing in the sovereign trades, also known as European RTMs -- management looked for additional sources of liquidity to support the new trading strategy.

"As these events unfolded, Corzine and his management team failed to strengthen the company's weak control environment, making it almost impossible to properly monitor the liquidity drains on the company caused by Corzine's proprietary trading strategy," Freeh said. "Among other significant gaps, the company lacked an integrated global treasury system, preventing management from obtaining an accurate real-time picture of the company's liquidity. The inadequate controls also prevented the company from knowing, during the last week of its existence, that customer segregated funds at the [futures commission merchant] were being used to meet the [broker-dealer's] liquidity needs and satisfy an obligation of [MF Global U.K.]. These glaring deficiencies were long known to Corzine and management, yet they failed to implement sufficient corrective measures promptly."

Freeh's report is the result of an investigation based on interviews with former employees and board members of the brokerage firm, as well as company documents.

Freeh left the door open for pursuing legal action against the former CEO and other former executives, asserting "the trustee has a duty to investigate and, if necessary, bring any claim available to the debtors' estates, including, without limitation, claims against current and former officers and directors of the company."

Calls to Freeh and representatives for Corzine were not immediately returned Thursday.

Freeh's dispatch is the third report blaming Corzine and his team for MF Global Holdings' unraveling.

James Giddens, MF Global Inc.'s Securities Investor Protection Act trustee, and a U.S. House subcommittee last year issued reports with similar findings. Giddens concluded there might be "valid claims against individuals and entities."

He later agreed to assign to customer class-action plaintiffs the estate's claims against former MF Global officers, directors and employees. Recoveries in the class action would be distributed through the SIPA case.

MF Global Holdings, meanwhile, is set on Friday to appear before Judge Martin Glenn of the U.S. Bankruptcy Court for the Southern District of New York in Manhattan to request confirmation of its liquidation plan.

Court papers show no creditor classes voted to reject the plan. MF Global Holdings' official committee of unsecured creditors supports the plan as well.

MF Global Holdings would fund the plan with an estimated $64 million in cash on hand plus an exit facility of up to $70 million. Court papers show, however, that financial adviser FTI Holdings Inc. has recommended increasing the exit financing to $80 million. MF Global Holdings has not filed definitive documentation for the loan.

MF Global Holdings, a provider of brokerage services for commodities and listed derivatives, filed for Chapter 11 with affiliate MF Global Finance USA on Oct. 31, 2011.

The Securities Investor Protection Corp. initiated a liquidation of MF Global Inc., the debtor's U.S.-regulated broker-dealer subsidiary, the same day.

In November 2011, Freeh, a former FBI director and federal judge, was appointed as Chapter 11 trustee to MF Global Holdings.