Three Felonies a Day

by Harvey Silverglate

  The indictment appeared to be the ordinary mishmash of counts under the usual statutes-of-choice. These included mail fraud, wire fraud, securities fraud, and, to make the parts appear to add up to more than the whole (and to enable the government to demand asset forfeiture), racketeering. There was, however, one aspect of the indictment that made it likely that this wealthy, headstrong, and self-confident titan would enter into a plea bargain rather than fight to the bitter end. Milken’s younger brother, Lowell, also was accused of being a key participant in his brother’s “fraudulent” schemes. Lowell had a decidedly secondary role in Drexel’s trading operations in comparison to Michael, but as the indictment was careful to point out, Lowell’s compensation, while not near that of his older brother, was hardly a pittance. His “direct compensation,” the indictment blared, had escalated from $10,180,000 in 1984 to $48,059,000 in 1987.

  To knowledgeable observers, adding Lowell to the mix seemed diabolically calculated to pressure Michael to cut a deal rather than challenge the government’s claim that Milken’s Drexel deals were in any way criminal. (As one Milken lawyer put it, “if Lowell’s last name were Smith, he would not be in the case.”)1 The inclusion of Lowell as a defendant lent a sense of unease to those who knew Michael well, for his public reputation as a finance whiz was exceeded by his private reputation as a deeply devoted family man. Michael, thought insiders, would not easily risk letting his younger brother go down the tubes. Lowell, for his part, put no pressure on his older brother to throw in the towel just to protect him.

  The matter of Lowell Milken’s being included in Michael’s indictment, however, was on the back burner as long as a successful defense seemed feasible. And when the indictment was announced, the betting was that Milken would give the DOJ the legal fight of the decade, if not of the century. Rudolph W. Giuliani, who in 1983 began a spectacular five-year stint as the U.S. attorney for the Southern District of New York, had put together a team of tough, eager, and exceedingly ambitious (for themselves and their boss) prosecutors.2 Giuliani’s political ambitions were suggested by the fact that his group of lawyers and investigators, known as the “Yes Rudys!,” included one tasked with tending to the boss’s political future. As we now know, they did their job well. Giuliani would serve as mayor of New York for two terms (from 1994 to 2002) and would for a brief time be deemed a serious contender for the Republican nomination for president in the 2008 election.

  Milken, for his part, assembled a legal team headed by the highly regarded Arthur Liman, lead litigator and legal strategist of the renowned New York law firm of Paul, Weiss, Rifkind, Wharton & Garrison.3 Milken’s lifelong friend and personal attorney, Richard Sandler, was a stickler for detail and had command of an enormous body of facts.

  Developments over the next few months made a vigorous defense to the palpably weak charges inadvisable, however. Milken’s legal team learned that the DOJ was planning to bring a “superseding” indictment with expanded charges. When FBI agents interviewed Milken’s 92-year-old grandfather, it was taken as a hint that the feds were trying to involve, or at least harass, other family members to put still more pressure on the family head to take a fall. And there was always the possibility that, as the investigations continued, the Milken brothers could be indicted yet again, even if they won this trial. More ominous still, there were noises about indictments in various states. The chances of winning against all (even unmerited) indictments naturally decreased as the number of jurisdictions expanded. The message to Michael was that unless he gave up the battle and delivered to the DOJ the victory it craved, both brothers could look forward to a long stretch of trials that, statistically, would make a conviction somewhere along the line more than likely, followed by very lengthy sentences.

  Finally, after using a host of bare-knuckled tactics to discourage Milken from testing its dubious criminal indictment, the government made the older brother an offer he could not refuse: if Michael would plead guilty to six felony counts and agree to pay $600 million, the feds would drop all charges against Lowell. Further, while a routine obligation to “cooperate” with the investigations and prosecutions would ordinarily be included in the plea bargain, Milken would not be obligated to give the feds any information in advance or to compose a script for testimony in any particular case. The plea agreement was unusual for another reason as well: the government agreed not to recommend any particular sentence to the judge.

  The proposed deal did not do violence to Milken’s conscience. He would not have to “sing” (or, worse, to “compose”) incriminating testimony against friends and colleagues, as so many “cooperators” find themselves pressured to do. And so, to save everyone, especially his younger brother, Michael agreed to the plea bargain.

  The six counts involved what appeared at first glance to be a garden variety of securities and tax fraud transactions. Three of the counts involved dealings with the infamous Ivan Boesky, a fraud artist and former Drexel client who made a pact with the feds to avoid a substantially longer sentence. These counts involved a securities industry practice known as “stock parking,” which was never defined in federal law or regulations as a crime, and which was quite common in the industry. Two other counts involved transactions that Milken engaged in with David Solomon, a funds manager who likewise had turned government witness. The sixth count was merely a conspiracy charge covering the events in the first five.

  While the entire world seemed to assume that Milken had confessed to actual crimes, a few recognized that the DOJ emperor actually had no clothes. At the time, The Wall Street Journal opinion writer L. Gordon Crovitz penned column after column questioning how and why the transactions constituted crimes. After the case was over, former University of Chicago Law School Dean and economist Daniel Fischel analyzed the case in a highly regarded 1995 book called Payback. Fischel concluded that the six counts, and indeed the entire original indictment, described perfectly lawful transactions that required a huge stretch to be even remotely considered criminal.4

  Yet at the time of his plea, neither Milken nor his attorneys publicly questioned the felony charges. After he had agreed to plead guilty, it was suddenly in his interest to see his plea accepted by Judge Kimba Wood of the U.S. District Court in Manhattan. If Milken questioned the charges, the judge would not accept his plea on the six counts and he would be forced to go to trial on the entire indictment. Giuliani got precisely what he wanted.

  Immediately after Milken’s lawyers announced his plea agreement in open court, in April of 1990, SEC Chairman Richard Breeden held a press conference to put to rest suspicions bruited about by the likes of journalist Crovitz: “Mr. Milken has been portrayed as wrongly accused and as having simply devoted himself to the financing of small or emerging businesses,” announced Breeden. “His admissions today demonstrate that he stood at the center of a network of manipulation, fraud, and deceit.” The skeptics were consigned, for the moment, to retreat.

  As Milken’s sentencing approached, the case went a bit off track. Pre-sentencing maneuverings began when DOJ lead prosecutors John Carroll and Jess Fardella filed a memorandum with Judge Wood that seemed to violate the spirit, if not quite the letter, of the agreement that the government would not make a sentencing recommendation. It claimed to describe “Milken’s Other Crimes” and went on to ask that “Milken be sentenced to a period of incarceration that reflects the enormity of his crimes.”

  Judge Wood decided to hold a hearing on sentencing. At the hearing the government would be given 20 hours to present its evidence and arguments on its three strongest “other crimes,” and the defense would have an opportunity to contest those claims. Milken’s lawyers could not really argue that he had pleaded guilty to non-crimes, even if they believed such to be true, for that would wreck the plea bargain. But they were entirely free to contest the government’s claim that “other crimes” had been committed. The sentencing hearing was set to become the first public clash between prosecutors and Milken’s lawyers over whether Milken wa
s the white collar criminal of the century.

  Knowledgeable observers recognized that the government’s courtroom presentation, in the fall of 1990, was a total bust. The definitive proof came when Judge Wood made her sentencing decision, saying she would not rely on the “other crimes” allegations because “the evidence established neither the government’s version of Milken’s conduct nor Milken’s own version.” It was perhaps too much to expect that, at this tense and highly visible stage of the case, Judge Wood would do a 180-degree turn and begin questioning the basis for Milken’s plea to the six felonies. And, after all, she was not yet sure that Milken’s protestations of innocence of the “other crimes” were entirely correct. But surely the government had taken its best shot and missed. Nonetheless, Judge Wood imposed an unexpectedly harsh ten-year prison sentence, in part because she believed that Milken “engaged in the additional misconduct of attempting to obstruct justice.” This impression seemed to be based on testimony offered by former Drexel employees, now cooperating witnesses, that Milken acted secretively in the run-up to the investigation. In one typical bit of testimony, a Drexel underling recounted a meeting during which Milken didn’t speak and instead communicated by writing notes on a pad and then deleting them. It is crucial to note that none of these witnesses ever actually testified that Milken instructed them to destroy documents, and the government apparently did not have enough confidence in these accusations to actually list obstruction of justice as one of Milken’s supposed other crimes. Judge Wood’s focus on these accusations was a bizarre and unexpected development.

  At this point, Milken decided to ask a new set of lawyers to examine his plea. He hired Harvard Law Professor Alan Dershowitz, who in turn brought my law firm into the case. We did a close analysis of all six counts to which Milken had pleaded guilty and concluded—somewhat to our surprise—that he had pleaded guilty to six non-crimes. The legal team suspected that Judge Wood imposed the overly harsh sentence in part due to inexperience (President Reagan had nominated her to the federal bench in 1988) and in part out of a sense that she should not be seen as “weak” in the face of what prosecutors and the news media had labeled the largest securities fraud of the century. Perhaps she simply didn’t fully understand some of the complexities of the transactions involved. She was also known to be sensitive to the news media (at the time she was married to an editor at Time magazine) and did not want to endure the “soft on white collar crime” label. The defense aimed to have the judge reconsider in a more rational, less tense moment.

  The plan worked. Milken, in an effort to get Judge Wood to lower the sentence, agreed to testify in a prosecution of former Drexel Burnham Lambert colleague Alan Rosenthal. What prosecutors perhaps had not counted on was that Milken would deliver truthful and unvarnished testimony that would help, rather than hurt, Rosenthal.

  Rosenthal had been an employee of the Drexel firm who worked with Milken on various deals, including the deal resulting in one of the six counts to which Milken had pleaded guilty. The charge, which was tried before highly regarded federal District Judge Louis Stanton, claimed that Milken and Rosenthal had organized a scheme favoring a Milken client, David Solomon, involving certain tax trades that produced tax losses. The government claimed the trades were shams and the losses illusory because Milken promised he would find Solomon a profitable investment at some point in the future, in order to reimburse him for the losses. (For tax purposes, losses for which an investor is guaranteed reimbursement are not real losses.)5 Solomon had been granted immunity from prosecution and then was enlisted as a government witness against Milken.

  Losses for purposes of taking a tax deduction must be “real” rather than “sham” losses. The government deemed Solomon’s losses to be a sham because Milken had promised to find Solomon a favorable investment to make up for the loss. But this is not the same as a guarantee against loss. Contrary to the government’s contention, Solomon undertook a real risk of loss. Milken could not argue the point in his plea bargain, as he was desperate to have Judge Wood accept his plea and his contrition. But neither Rosenthal nor Judge Stanton were in a similarly compromised position. Judge Stanton concluded that the tax losses were real, not illusory, and that Milken’s promise to make up the losses by putting Rosenthal into profitable investments was a contingent, indefinite promise that did not render the tax losses illusory. Solomon, ruled Judge Stanton, was exposed to real economic risk, and the transaction was neither a sham nor a fraud.

  Judge Stanton acquitted Rosenthal of that count and did not allow it to go to the jury. As for the remaining counts, the jury convicted Rosenthal of only a single minor charge, on which Judge Stanton imposed a probationary sentence. In other words, Judge Stanton found that the transaction from which the major charge against Rosenthal arose, the same “fraudulent” transaction to which Milken had earlier pleaded guilty and been sentenced to prison by Judge Wood, was perfectly lawful. Judge Stanton said from the bench that he understood how odd it was that he was acquitting Rosenthal on a count to which Milken had pleaded guilty. “I make this ruling in the full understanding of the anomaly that those persons who participated in it and have testified thought it was unlawful,” he noted. But the judge did his duty under the law.6

  Because Milken appeared to have testified honestly rather than “cooperatively” and therefore failed to incriminate Rosenthal, there was a widely shared assumption that Judge Wood would not reduce Milken’s sentence.7 However, fooled once, Judge Wood was not about to be fooled again. On August 5, 1992, perhaps contrite from her involvement in perpetrating the myth that Milken was a criminal, Judge Wood reduced his sentence on the basis of his “substantial cooperation” with the government (which got no one convicted) to two years. He was released in March of the following year.

  The frothy boom-and-bust that characterized the ’80s and produced scapegoats like Milken was followed by the “technology bubble” of the’90s. That decade saw its own series of questionable federal investigations and highly dubious prosecutions.

  As the clatter over new stock offerings by high-tech start-up companies grew to a crescendo, complaints emerged about how brokers were doling out their newly issued shares. These shares, for which demand substantially exceeded supply, were allegedly handed out in a way that took advantage of their scarcity. When the bubble burst as the decade wound to a close, many institutional and individual shareholders found themselves with massive losses in high-tech start-ups and initial public offerings (IPOs) of unseasoned technology companies. It was fertile ground for federal investigators and prosecutors on the prowl for, in particular, potential conflicts of interest in connection with the preparation of company research reports and the allocations of IPO shares. With so many disappointed, even devastated, investors nursing their wounds across the land, surely the explanation could be found in an epidemic of federal securities, mail, and wire fraud, rather than in poor judgment or old-fashioned human greed and its attendant follies among investors.

  Frank P. Quattrone was one of the most prominent investment bankers in Silicon Valley during this frenzied period. As the head of the technology unit of Credit Suisse First Boston (“CSFB”) in Palo Alto, he was at the center of CSFB’s booming high-tech underwriting and associated businesses. His job involved attracting new underwriting business, helping manage high-tech offerings, and cultivating old and new clients in order to increase demand for CSFB’s services. He did not decide how to allocate the scarce IPO shares being underwritten by CSFB. That job belonged to the Equity Capital Markets department, which mediated between the Investment Banking Division (where Quattrone worked) that represented companies selling the stock, and the Equities Division, that included sales people and stockbrokers who worked cooperatively with the buyers of the IPO shares—mutual funds, insurance companies, hedge funds, individual investors, and others. Some blocks of shares were allocated generally to certain stockbrokers in the Equities Division who sub-allocated them among their various customers. Equity Capital
Markets personnel had to discern how to satisfy their customers’ overwhelming demand for the allocated IPO shares being underwritten by CSFB—and it was no easy task.

  The National Association of Securities Dealers (NASD) and the Securities and Exchange Commission (SEC) launched investigations in the spring of 2000 into suspicions that CSFB stockbrokers had received “kickbacks.” These suspicions were aimed not at Quattrone, nor at the Investment Banking Division in which he worked, but at the Equities Division and Equity Capital Markets department. But as the investigation continued and demands for documents became all-inclusive, CSFB’s lawyers received government requests for documents in the possession of some people in Quattrone’s high-profile unit, which had advised the corporate issuers about many of the IPOs involved.

  By November 2001, a federal grand jury in New York joined the hunt for culprits. The investigations, including that by the grand jury, focused on the suspicion that stockbrokers in the Equities Division were allocating hot new IPO issues to customers who would then confer benefits on CSFB and on the individual stockbrokers by paying more commissions on other transactions, arguably a species of kickback. 8 But the U.S. attorney never brought criminal charges based on this alleged kickback scheme. In January 2002, CSFB settled NASD and SEC civil charges related to these kickback allegations by paying $100 million. Later that year, NASD sanctioned two senior members of CSFB’s Equities Division in connection with the same kickback investigation. Neither Quattrone nor any other member of CSFB’s Investment Banking Division was charged. None were even interviewed in connection with the kickback investigation, according to Quattrone’s legal counsel.9

  Later in 2002, the NASD, the SEC, and the New York Stock Exchange launched yet another investigation, this time of several major investment banks that were suspected of “spinning” IPO shares, that is, improperly allocating IPO shares to executives of investment banking clients in order to gain financing business. NASD was delegated lead responsibility for the CSFB investigation, which focused on reports issued by Equities Division research analysts and “spinning” by CSFB stockbrokers. Quattrone testified before the NASD for two days in October 2002 about these issues. The investigation culminated in a December 2002 global settlement, consummated in April 2003, between the NASD, the SEC, the NYSE (and other regulators), and ten major banks, including CSFB. CSFB paid $200 million in that settlement.