The comic book was just the first part of a concerted effort to encourage more sales with the two free trips. At the same time, Graham also sponsored a “limerick contest” with brokers, with beer steins as a prize. Throughout Prudential-Bache, dozens of brokers turned away from their stock quote machines to start writing limericks. Alan Myers, a broker from Philadelphia who was one of the contest winners, wrote a limerick that celebrated the Munich trip and reflected the deeply held but false beliefs about the partnerships’ tax advantages. He wrote:
Income that’s sheltered from “Sam,”
Is the product of Pru-Bache and Graham,
If you sell enough
(And that’s not too tough)
You’ll travel to Munich and “jam.”
Not all the brokers enjoyed the fun and games. A number of Pru-Bache’s female brokers were particularly offended by the $uperbroker comic book, with its sexist portrayal of women. The whole thing seemed horribly unprofessional. In late July, a copy of the $uperbroker comic book, complete with a short note of complaint, arrived on George Ball’s desk from Barbara Gutherie, a broker from Paramus, New Jersey.
“Mr. Ball,” Gutherie wrote, “if we wish to lose our image as a ‘schlock house,’ we should stop acting like one.”
As far as Matt Chanin was concerned, the energy income partnerships were just not viable in the long term. He had looked at the numbers over and over again, and they just weren’t working. By October 17, 1985, he was ready to take a drastic step.
“If Graham doesn’t make some significant changes,” Chanin told a group of executives in a conference room at Prudential-Bache headquarters, “I’m going to have to consider whether I should keep investing Pru’s money in this.”
The words hit the room like an atomic bomb. The investment of Prudential Insurance in the energy income partnerships had been the big selling point. How would they explain it to the brokers if the Rock decided that it had to drop out?
The first step needed for renewed support from Prudential Insurance, Chanin said, was for the high expenses at the partnerships to be cut. Despite the terms Chanin had put in place months earlier, Graham’s bloated expenditures still ate into profits.
“This issue has to be addressed and resolved before I agree to participate in another offering,” he said. For the first time, the future of the energy income partnerships was in question. The expenses had to come down if Prudential was going to stay on as an investor.
Darr watched the thick group of bare trees pass by as he rode in Tony Rice’s car through the winding roads in Stamford, Connecticut. They were on their way to a shoot at a nearby range. Their shared interest in hunting and guns had become a passion. Already, by late 1985, they had hunted prairie dogs in Wyoming, wild boars in south Texas, and, of course, quail at Longleaf. Now Rice was planning a real treat for Darr in the next few months: a bear hunt in Alaska. The cost of the hunts was tens of thousands of dollars, all paid by the partnerships. With all the expenses the partnerships had, Rice figured that a $20,000 or $30,000 bill for a hunting trip was just a drop in the bucket. Keeping Darr happy was a necessary cost of business.
But by constantly paying for Darr, Rice had created expectations that sometimes proved embarrassing. When he invited Darr to hunt prairie dogs, Rice said that he would need a .22 Winchester magnum. The rifle could be ordered at any gun shop, but Darr apparently did not want to be bothered. He called Rice and asked him to take care of getting the gun for him. So Rice ordered the gun, had the sights adjusted, and put on a scope. In total, it cost about $900. A few days after it was ready, Rice took the gun with him to a party at Darr’s house. After arriving, he set the gun in a closet and later told Darr it was there. When Darr asked how much he owed, Rice just shook his head. After the hunt, he said, he would just take it back. Using partnership money, Graham Resources was just entering into a hunting lease with a ranch in west Texas. Rice said he would use the Winchester down there.
But after the hunt, Darr kept the rifle, and Rice avoided the embarrassment of asking for it back. It must have been, Rice assumed, just an honest misunderstanding.
Rice headed toward Interstate 95. As they often did, he and Darr discussed their personal finances. Darr mentioned that he had borrowed $1.8 million from First South.
Rice seemed a bit taken aback. “That sounds like a big mortgage to me,” he said.
It also didn’t sound particularly wise. Rice knew from earlier conversations that First South was largely controlled by George Watson and Tracy Taylor, the principals of Watson & Taylor. Owing that much money to a savings and loan might give those men an inordinate amount of power over Darr.
“Jim, considering you have a mortgage with people you’ve got another business relationship with, you might want to have a larger cushion,” Rice said. Perhaps, he was suggesting, Darr should have more equity in his house.
The conversation rambled on, until Darr returned to the topic of First South. Rice didn’t know it, but Darr himself was now a huge shareholder in the financial institution. Federal regulators had recently finished examining First South and were preparing a report on the loans to its biggest shareholders, Watson & Taylor. In that environment, First South executives had contacted Darr and told him they had a huge block of more than eight thousand shares in the S&L for sale. They did not tell him who the seller was. Darr agreed to buy, but on the condition that First South lend him another $345,000 for the purchase, through a second mortgage on his house. The deal was quickly struck, and Darr bought the block of stock. By now the loans on his house exceeded the price he had paid for it a little more than a year before.
Darr had been so persuaded by the pitch on First South that he thought Rice might be interested in buying some of the stock himself. It was a fabulous investment, Darr said. “Would you be interested in buying some First South shares?”
Rice shook his head. The ties among Darr, First South, and Watson & Taylor already struck him as strange. He didn’t want to bet his savings on it.
Mark Files tapped a few numbers into his calculator as he looked at some records on his desk at Graham Resources. The results were horrible. Just a few months before, Al Dempsey had estimated that the partnerships’ profits, plus maximum borrowings, would leave them short $500,000 for the last two quarters of 1985. To deal with that problem, Graham Resources agreed to advance the money, even though Files didn’t think the energy company had the financial wherewithal to do it.
Now, in the first week of January 1986, the final numbers for the year were coming in. And they were far worse than anyone ever imagined. The partnerships were short another $800,000 in the fourth quarter alone. Graham had to figure out how to bring the bad news to Prudential Insurance and Prudential-Bache. Maybe they could help out.
After all, Graham Resources had a lot of financial demands coming up. The company was planning to move in a few months from suburban New Orleans to Covington, Louisiana, on the north shore of Lake Pontchartrain. There would be no more of the modest office space in Metairie. Instead, they wanted to lease a tony, $11 million building. Their new office was a virtual palace, looking out on acres of man-made ponds, waterfalls, and streams, complete with a row of fountains marking the entrance. And all of it had been designed to the strict specifications of John Graham’s wife, Suzy.
At that point, poor distributions would be a disaster. If sales fell off now, they couldn’t pay for their new, regal digs.
On Monday, January 23, 1986, the oil market cracked. Almost thirteen years after the Arab oil embargo, the oil ministers for the Organization of Petroleum Exporting Companies were split. They were unable to curb the production of oil by their members. Oil prices dropped below $20 a barrel for the first time in years. Everyone, from New York commodities brokers to Texas oil barons, was stunned. In Washington, the White House celebrated the price drop, saying that the lower prices were good for consumers. The slide would continue relentlessly for months—eventually, for a fleeting moment, pushing oil prices belo
w $10 a barrel.
The possibility that a rising oil market would cover up the mismanagement of the Prudential-Bache Energy Income partnerships was obliterated.
That same day, Matt Chanin called Jim Sweeney at the Direct Investment Group and lowered the boom: Prudential Insurance wanted out of the energy income partnerships.
“With the recent developments in the oil markets, it’s time for all of the partners to reassess their positions,” Chanin said. “There’s no stability in the market now.”
Prices could go in any direction, he said. Any assumptions he made to help him decide what to do would be only so much guesswork.
“In view of this,” Chanin said, “I can’t at this time recommend to the Prudential board that they authorize participation in Energy Income Fund III.”
Sweeney took a breath. The new series was slated for marketing in a matter of months. The department was still selling some partnerships out of Series II. Chanin’s decision could change everything.
“Well, in light of this, do you think that sales of the current income fund should be halted?” Sweeney asked.
“I never try to tell marketing people what to do, Jim,” Chanin replied. “But I think it’s in everyone’s best interest to take a step back and reassess the situation.”
Resigned, Sweeney told Chanin that he would arrange a meeting between him and other executives in the department to discuss future plans. In all likelihood, that would be the death knell for the energy income partnerships.
Al Dempsey hung up from his conference call with executives from the Direct Investment Group. He was feeling pretty good. Just a few days before, Matt Chanin’s decision about pulling out seemed to threaten the future sales of the energy income partnerships. But now, after hearing the word come back from the Direct Investment Group’s quarterly meeting, Dempsey knew everything was under control.
Earlier that day, he had spoken with Darr, Pittman, and Sweeney about the ramifications of Chanin’s decision. The executives had been debating whether it would be better for Prudential Insurance simply to cut its investment substantially or to withdraw from the program. They spoke with all their top marketers during the conference, and the opinion was relatively uniform: It would be hard to explain why Prudential Insurance was cutting its investment. But if the company withdrew completely, the executives would be able to find the right marketing spin to persuade the firm’s brokers to keep selling. Given all the regulations on insurance company investments, the executives agreed that Prudential Insurance’s disappearance could be made more “believable” than its cutback.
Within months, the announcement of Prudential Insurance’s decision went out on the internal communication system at Prudential-Bache branches around the country. It stressed that California regulations limited insurance companies to 10 percent of their assets in a single investment and that the Pru was bumping up against that limit. Apparently, nobody realized that the assets of Prudential Insurance grew massively each year, meaning that it could always invest more and still be below 10 percent.
As the announcement came across the internal computer, executives throughout the firm immediately smelled something fishy.
In Florida, Jim Parker, who had been the regional marketer there for partnerships since shortly after Darr arrived, looked at the announcement with disbelief. He picked up the telephone and called Bob Jackson, a slender, sandy-haired man who worked as the Florida regional marketer for Graham Resources.
“Hey, Bob,” Parker said. “What’s this about Prudential backing out of putting money into this deal because of some California regulation?”
“I just heard about that,” Jackson said. “Doesn’t sound like any rule I’ve ever heard of. I’m going to call New Orleans and see if I can get an explanation.”
A few hours later, Jackson called back. He had received little information from his bosses.
“Bob, I can’t put my finger on it, but something here doesn’t jibe,” Parker said. “I guess I’m having a hard time believing that the national investing policy of Prudential Insurance is being determined by some rule in California.”
“It does sound strange.”
“Well,” Parker said, “how do we go about finding out if it’s true or not?”
Jackson thought for a moment. He didn’t have any idea.
“I don’t know who the hell I could go to here,” Parker said. “One thing I’ve learned over the years is you don’t question what’s happening in New York.”
The conversation came to an end. Parker still felt enormously uneasy, but he wasn’t about to raise a ruckus about it. He knew what had happened to the Futon Five. If he challenged the propriety of what was being done by the Direct Investment Group in New York, Parker was sure he’d lose his job. He decided to keep his mouth shut about his suspicions and just keep selling.
In early 1986, the first sales materials for the Prudential-Bache Energy Income Partnerships Series III were completed by the firm’s marketers in New York.
One of the first documents most brokers saw was a fact sheet written by the Direct Investment Group. On the cover, beneath the name of the partnership, were three words: “A Proven Producer.” The statement was a pure deception.
Few of the brokers concerned about risk in the oil and gas markets could have withstood the barrage of misleading, and sometimes outright fraudulent, information they received in the sales literature. The brokers were told that the partnerships were an ideal substitute for certificates of deposit, one of the safest investments possible.
The Direct Investment Group even coated the prospectus with marketing material designed to soothe any concerns about the quality and safety of the partnerships. The prospectuses arrived in the branches covered in “wrappers” containing slick, full-color graphics and photographs and descriptions of the supposed high quality and safety of the investments. The wrappers were far from subtle: For Series III, they featured a trim older couple walking barefoot down the beach. Above their photograph was the caption “For Investors Planning Their Retirement.”
Throughout Prudential-Bache, on the advice of their brokers, elderly clients of the firm sunk their retirement accounts into this supposedly high-yielding, safe investment.
Over the next four years, using similar sales material, Prudential-Bache brokers would persuade another 98,484 clients to sink more than $1 billion of their savings into the energy income partnerships. Many of them were relying on that money for their retirement. All of them would live to regret the day they trusted the word of Prudential-Bache.
The two life-size elephants, each hand carved out of three thousand pounds of monkeypod wood, loomed over the crowd of Prudential-Bache executives. The group was gathered in the Hindustani Pavilion on the ground floor of the elegant Loew’s Anatole Hotel in Dallas. The hotel is a city unto itself, with 1,620 rooms, eleven restaurants, and atriums so large that they can handle rodeos as easily as theater productions. It seemed the perfect place for this meeting in early 1986, Prudential-Bache’s huge national forum for publicly placed limited partnerships. With so many partnerships secretly struggling, the meeting’s name was almost laughable: “A Commitment to Excellence.”
The list of almost three hundred expected attendees read like a who’s who at Prudential-Bache and the Direct Investment Group. George Ball was there, along with Darr. Mingling alongside were representatives from almost every general partner for the large public deals promoted by the Direct Investment Group. Graham Resources alone sent more than a dozen executives to the meeting.
On one side of the pavilion, George Watson and Tracy Taylor from Watson & Taylor swapped jokes with a small group of the brokers. Nearby, Joel Stone, the president of VMS, was enjoying a deep belly-laugh about something he’d just heard. In the middle of the group, Merv Adelson, the chairman of Lorimar, the film production company that sold movie partnerships through Prudential-Bache, was talking with a few other brokers. Clifton Harrison was nowhere to be seen—after all, this was a meeting f
or public partnerships, and Harrison almost exclusively sold private deals. But word among the brokers was that as long as the Pru-Bache executives were in Dallas, Harrison would be dropping by unofficially over the next few days.
Wandering through the crowd of boisterous brokers and managers was Charles Dawson, the country broker from Sulphur Springs, Texas, who had hit the jackpot in 1985 by selling $1.4 million worth of the energy income partnerships in one day. Even though he had sold only a small number of partnerships since then, Dawson’s accomplishment still awed his colleagues. Many of them worked in big cities, at some of the busiest branches in Prudential-Bache, but had never had a day like that. After his accomplishment had been written up in one of the Graham Resources newsletters, Dawson’s success had entered the realm of legend.
Still, Dawson felt out of place at the meeting. So many of the Pru-Bache managers and general partners seemed dressed to the hilt. Dawson felt a little conspicuous in his off-the-rack $100 suit from a local department store. The jewelry, the extravagance of the hotel, the rich food there for the taking—to Dawson, all of it seemed a bit excessive for people who were simply supposed to be helping their clients buy and sell investments.
“Excuse me, Mr. Dawson?”
Dawson turned toward the female voice. Hallie Jennings, an assistant vice-president with the Direct Investment Group in New York, was looking at him.
“Yes, ma’am?” he replied.
“I was wondering if you would like to meet Jim Darr?” Jennings asked.
Dawson shrugged. Working out of a one-man office in a small Texas town, he never had much opportunity to meet his Prudential-Bache colleagues. He basically ignored and was untouched by the interoffice politics of the firm. Dawson had no idea who this Darr fellow was, but he liked meeting new people.
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