E.F. Hutton’s Simmering Scandal

Try as it may, E.F. Hutton, the fifth-largest U.S. brokerage firm, cannot escape an ongoing scandal. In fact, the company seems to become enmeshed ever deeper in suspicions and allegations. In May, Hutton was fined $2 million plus legal costs after pleading guilty to 2,000 counts of mail and wire fraud involving an elaborate check-kiting operation. That admission, though, seems to have been just the beginning of the firm’s problems. Last week Hutton divulged that it had failed to submit 18 documents subpoenaed by the Justice Department during a three-year investigation of its practices. Former Hutton President George L. Ball looked increasingly vulnerable to charges that he had approved the operation.

In the check-kiting scheme, several bank accounts were played off against one another to avoid bouncing any checks and to gain, in effect, interest-free loans. Hutton’s scheme was illegal because the overdrafting was so consistent and the amounts involved so excessive. The maneuvers, which took place over a 20 month period beginning in July 1980, involved checks totaling about $10 billion. On some days, Hutton enjoyed $250 million in interest-free loans.

It still remains unclear who condoned the practice, which was carried out by at least 23 Hutton branch offices. Hutton Chairman Robert Fomon defends his senior officers. Says he: “I have no reason to believe that any members of top management were involved.”

A month ago, however, materials surfaced that may lead to evidence that Ball, Hutton’s president from 1977 to 1982, was implicated. He left the firm in 1982 to become president of Prudential-Bache. Last month a House Judiciary subcommittee produced internal Hutton documents suggesting that Ball was aware of the practice. A memo sent in November 1981 to Ball by Linda Curtiss, an executive, de scribed “disproportionately high interest. . . from aggressive overdrafting with several branches in the Washington, D.C., area.” But Ball has denied receiving the correspondence. Confusion arose, Ball said, because a memo dated March 1982, which mentioned the overdrafting, was later mistakenly stapled to the earlier one. In that way it appeared that the two documents “constituted a single memo addressed to me.”

Among the 18 documents is additional corporate correspondence that could question Ball’s claim of innocence. A memo dated May 12, 1981, praised one branch manager who earned $30,000 a month in interest through check overdrafting. That profit fell to $10,000 a month when the branch changed cashiers. In June 1981, Ball wrote a covering note to the memo, addressed to regional offices. He noted tersely: “A point well worth remembering, and acting on.”

Fomon stands by Ball, stating that the documents do not offer “concrete evidence” that the former Hutton executive knew about any illegalities. Ball says that “a careful reading” of the documents “vindicates me and substantiates the position that I had no knowledge of any improper acts.”

Controversy swirls around the Justice Department’s handling of the case. Some industry observers and legal experts were surprised by the department’s decision not to cite individual Hutton employees in the May indictment. Fomon conceded to the New York Times that he was wrong to accept the terms of the May settlement. Said he: “If I had to do it over again . . . the individuals involved would have stood by themselves.” Some members of Congress say that Justice’s investigation of the case was superficial. Those complaints led the House subcommittee to begin its own probe. Attorney General Edwin Meese has not ruled out the possibility that the inquiry might be reopened by the Justice Department. “Our attention to the case continues,” he said last week. “We are keeping our eyes open to any new information.”

Hutton must bear some blame for the apparent inadequacy of the federal investigation. The firm’s failure to deliver 18 subpoenaed documents may well have hampered the inquiry. Hutton explained that the relevant papers were only just discovered in file drawers that had belonged to Ball.

The controversy has battered Hutton’s bottom line as well as its reputation. In May, New York City temporarily barred the firm from participating in two municipal-bond offerings, accusing Hutton of “stealing.” Though the ban was lifted, it represented a loss of some $500,000 in fees and an incalculable amount of prestige. A New York state agency, the Metropolitan Transportation Authority, has indefinitely prohibited Hutton from doing any of its underwriting.

State officials could take even tougher action if they decided to suspend Hutton’s brokerage licenses. Connecticut has begun hearings on such a move. Hutton now manages $100 million in assets for 13,000 clients in that state. Hutton, declares Brian Woolf, the Connecticut banking commissioner, accepted a public trust but then “betrayed it.”

The depth of that betrayal may be determined by the House Judiciary subcommittee, which will conduct more hearings this week. Said New Jersey Democrat William Hughes, the chairman: “We’re learning a lot more about the E.F. Hutton case by the hour.” Yet even before the new hearings open, Hutton is hurting. Said James Hanbury, who monitors financial-services companies for the investment firm Wertheim & Co.: “Hutton’s sales force is nearly demoralized, and its customers are starting to hold back. Even after it’s over, Hutton will still wear the stigma. And in this business, which is regulated by trust, a company’s reputation means a lot. ” –By Barbara Rudolph. Reported by Anne Constable/Washington and Thomas McCarroll/New York City