Oct. 17 (Bloomberg) -- Refco Inc., the futures broker that's
facing insolvency because of a bad-debt scandal, is close to an
agreement to sell part of the company to a group led by J.C.
Flowers & Co., two people briefed on the discussions said.
Flowers, the buyout firm led by Christopher Flowers, emerged
as the front-running bidder for Refco's futures brokerage after a
weekend of talks led by Goldman Sachs Group Inc., said the
people, who asked not to be identified because the discussions
are confidential. Carlos Abadi, who runs New York investment bank
Abadi & Co., said Goldman rejected a $1 billion bid for Refco
from a group that included his firm.
A deal for Refco, the largest independent U.S. futures
broker, may ease concerns about the impact its collapse would
have on financial markets. The New York-based company began
shutting two of its three units after stunning clients and
investors Oct. 10 with revelations that former Chief Executive
Phillip R. Bennett covered up $430 million in bad debts.
``These situations demand immediate action,'' Richard
Breeden, who was Securities and Exchange Commission chairman when
New York-based Drexel Burnham Lambert Inc. failed in 1990, said
in an interview. ``Customers can't wait and accept promises that
things will be sorted out in days or weeks or months.''
Regulators including the Commodity Futures Trading
Commission stepped in Friday to help prevent a disorderly
breakdown of Refco's business. Goldman, the world's No. 3
securities firm by market value, began seeking bids as Refco's
chances of survival dwindled.
Man Group Plc, the world's largest hedge fund company; Fimat
Group, a unit of French bank Societe Generale; and Citigroup Inc.
and JPMorgan Chase & Co., the No. 1 and No. 3 U.S. banks by
assets, also were involved in the sale talks, people briefed on
the negotiations said.
High Stakes
``Someone's going to come in given there are a lot of
entities with significant financial stakes involved,'' said
Michael Missal, a partner at Kirkpatrick & Lockhart Nicholson
Graham LP in Washington who helped untangle WorldCom Inc.'s $1
billion accounting fraud. ``If this goes to bankruptcy, a lot of
people will lose a lot of money.''
JPMorgan spokesman Adam Castellani and Citigroup spokeswoman
Danielle Romero-Apsilos, both based in New York, declined to
comment. Fimat spokeswoman Siobhan O'Hare and Lachlan Johnston, a
spokesman in London for Man Financial, a unit of Man Group, both
London-based, also declined to comment.
Refco's unregulated unit, Bermuda-based Refco Capital
Markets, still may file for protection from creditors as early as
tomorrow, one person familiar with the rescue effort said. Abadi,
45, said he expects all of Refco to enter Chapter 11 bankruptcy
proceedings.
Futures Force
Even if the Flowers-led group buys only the futures
brokerage, it will become an immediate force in a market that
traded more than a $1,000 trillion in contracts last year.
Refco is the largest provider of customer-transaction volume
to the Chicago Mercantile Exchange, itself the biggest U.S.
derivatives exchange. The company processed 654 million
derivative contracts for the fiscal year ended Feb. 28, 2005,
more than the numbers traded on the Chicago Board of Trade, the
Chicago Board Options Exchange, or the New York Mercantile
Exchange during the same period.
Abadi said Goldman denied his group access to due diligence
on Refco and he plans to challenge any sales to the Flowers-led
group in court.
Any deal with Flowers is ``a set-up'' because the
negotiations were with his former colleagues at Goldman, Abadi
said. Goldman's head spokesman in New York, Lucas Van Praag,
declined to comment. Calls and e-mailed to Christopher Flowers
weren't returned. Rob Solomon, a Refco spokesman in New York,
didn't return calls.
Flowers
Flowers, 47, left Goldman in 1998 after more than 20 years
with the New York-based firm. He founded New York-based J.C.
Flowers in 2000.
As a private-equity investor, Flowers made a splash by
participating in the first foreign takeover of a Japanese bank,
Shinsei Bank Ltd., among the most profitable buyouts ever.
Lately, he has been on a buying spree.
In August, J.C. Flowers led a group of investors that agreed
to buy Dutch investment bank NIB Capital NV for 2.1 billion euros
($2.54 billion). Last month, the firm agreed to buy the U.S.
wholesale unit of New York-based insurance broker Marsh &
McLennan Cos.
Snowball Effect
Refco hired Goldman on Oct. 13. The same day, it placed a 15-
day moratorium on all activities at Refco Capital Markets, an
unregulated securities and foreign-exchange broker that includes
securities-lending business and prime brokerage for hedge funds.
The unit was running out of cash.
Abadi said Refco Capital Markets has $3 billion in client
deposits.
On Oct. 14, Refco Securities, a broker-deal overseen by the
SEC started winding down outstanding positions and said it
wouldn't take on new business. Refco LLC, the futures brokerage,
is regulated by the Commodity Futures Trading Commission.
The day Refco disclosed Bennett's cover-up the company also
advised investors not to rely on its financial statements.
``There would be a snowballing effect if Refco was to
continue in business with its financial statements in question,''
Robert Heim, a former Securities and Exchange Commission
enforcement attorney who is now a partner at Meyers & Heim LLP in
New York, said in an interview yesterday. ``Depositors would
increase the rate at which they moved money out of Refco.''
Singapore, India
Earlier today, Refco (Singapore) Pte., the local unit of
Refco Inc., said customers have cut futures trading and withdrawn
funds. Refco Sify Securities India and Refco Capital India Pvt,
two Indian affiliates, ``have been advised as an interim measure,
not to increase their exposures,'' until the scope of Refco's
crisis is better known, the Mumbai stock exchange said on Oct.
15.
Major investment banks including JPMorgan, Lehman Brothers
Inc. and Deutsche Bank AG discussed holding a meeting today to
ensure there's an orderly settlement of Refco's positions,
according to one person familiar with these talks who also spoke
on condition on anonymity.
Many of the Chicago Board of Trade's scores of independent
floor traders are Refco clients, Jerome Israelov, an independent
wheat trader at the CBOT who uses Refco as his broker, said in an
interview from Chicago. Disruptions in Refco's business may slow
trading at the CBOT, the world's biggest exchange for
agricultural futures contracts, he said.
IPO Investors Deceived
U.S. Attorney Michael Garcia said on Oct. 12 that Bennett
used a series of loan agreements to keep hundreds of millions of
dollars in uncollectible debts hidden. The scheme deceived
investors in Refco's $583 million August initial public offering,
led by Credit Suisse First Boston, Goldman and Charlotte, North
Carolina-based Bank of America.
``Character and law-enforcement issues involving the CEO of
a financial-services firm will almost always prove fatal,''
Breeden said.
Bennett, a U.K. native who graduated with a master's degree
from Cambridge University, was arrested last week. He was freed
on home detention after being ordered to wear an electronic
bracelet and post a $50 million bond, plus $5 million in cash.
CSFB, Bank of America and Deutsche Bank underwrote Refco's
$600 million bond sale last year. They also arranged an $800
million loan, which had $644 million outstanding on May 31.
The 9 percent bonds due 2012 plummeted to less than 30 cents
on the dollar last week, driving the yield to more than 40
percent. Refco's shares were halted indefinitely on the New York
Stock Exchange at $7.90, down 64 percent from the IPO.
Thomas H. Lee Partners LP, the Boston-based buyout fund, has
the biggest equity stake in Refco.