Boies Poised for Possible Upset in AIG $25 Billion Bailout Trial

Lawyer David Boies
Lawyer David Boies, representing Greenberg and other American International Group Inc. shareholders, has had a series of evidentiary rulings go his way since the trial began Sept. 29 in Washington. Photographer: Andrew Harrer/Bloomberg

Lawyer David Boies has a shot at an upset win in the trial of Maurice “Hank” Greenberg’s $25 billion bailout case against the U.S. government, a turnaround from the weak odds he was given just a month ago.

Boies, representing Greenberg and other American International Group Inc. shareholders, has had a series of evidentiary rulings go his way since the trial began Sept. 29 in Washington.

He’s also extracted useful admissions from witnesses to support Greenberg’s claims that the government set illegally harsh terms, including demanding an 80 percent equity stake as consideration for an $85 billion loan in the 2008 deal.

“I think the odds are good that Boies’s side will win, and they’ll get a meaningful number,” said Susan Webber, a founder of Aurora Advisors Inc., a management consultancy, who has followed the case for her Naked Capitalism blog. “Then the howling will start.”

That number is at least $25 billion according to Greenberg, 89, who was AIG’s chief executive officer for almost four decades before leaving in 2005. This week, the judge in charge of the case will get to hear what government lawyers have to say about claims by Greenberg’s Starr International Co., AIG’s largest shareholder in 2008, that it and other investors are owed damages as a result of onerous, unfair conditions placed on the bailout loan.

The government on Oct. 31 called its first witness, an economist who attacked Starr’s method for calculating the interest on any damages it might win.

Top Three

Beyond the money at stake, Justice Department lawyers are also fighting to prevent a verdict that the Federal Reserve acted illegally by charging a high interest rate and demanding equity as a condition for the loan. Such a ruling could limit the tools available to the government in a future economic crisis.

In their defense, the three top designers of the bailout, former Treasury Secretary Henry Paulson, ex-Federal Reserve Chairman Ben Bernanke and Timothy Geithner, the former Treasury secretary who was president of the Federal Reserve Bank of New York in 2008, all testified that the U.S. rescued AIG to avert the catastrophic damage that would have occurred if the insurer went bankrupt and took many of the world’s largest banks -- its clients -- with it.

The heart of Starr’s argument is that however noble the government’s aims, it used power it didn’t have to take over AIG and further harmed shareholders by failing to pay just compensation.

Bank Deals

As an example of how shareholders’ due process rights were violated, Boies, 73, highlighted the more favorable treatment troubled investment banks including Goldman Sachs Group Inc. and Morgan Stanley got in borrowing tens of billions of dollars from the Fed in their bailouts.

New York-based AIG, once the world’s largest insurer, initially had to pay 14 percent interest in addition to giving up the stock. Investment banks typically paid less than 4 percent and didn’t surrender any stock, Boies, of Boies Schiller & Flexner LLP, showed through his questioning.

Boies, who represented the U.S. government in its landmark 1999 Microsoft Corp. antitrust trial and Al Gore in presidential recount litigation in 2000, elicited testimony from Paulson that AIG was deliberately treated more harshly than other financial institutions. He also introduced an e-mail from a New York Fed vice president describing the AIG interest rate as “crazily high.”

“I think those are things that resonate with the judge,” said Elliott Stein, a financial litigation analyst for Bloomberg Intelligence who has followed the trial.

Doomsday Book

U.S. Court of Federal Claims Judge Thomas Wheeler frequently overruled government objections to Boies’s questions and handed him beneficial evidence rulings.

In a skirmish over the so-called Doomsday Book, the New York Fed’s compendium of confidential legal opinions on its emergency powers, Wheeler said he was inclined to grant broad access to Starr.

“What I want to be sure the plaintiff has in this case would be all Federal Reserve Bank or Board legal memos relating to an analysis of authority under Section 13(3), because I think all of that is relevant to the case,” Wheeler said, referring to the Federal Reserve Act section that outlines the agency’s emergency powers.

Wheeler rebuked Justice Department lawyers several times for attempting to rely on hearsay testimony, introducing exhibits in violation of trial rules about redactions, and dragging out proceedings by reading lengthy passages from documents.

Ex-Chief Scolded

Wheeler, 66, who is hearing the case without a jury, chided several witnesses, including former AIG CEO Edward Liddy, for evasive or non-responsive answers to Boies’s questions.

“This is not an opportunity for you to expound on subjects that may come into your mind,” Wheeler, appointed in 2005 by Republican President George W. Bush, told Liddy.

Webber, who blogs as Yves Smith, said she was initially skeptical of Starr’s complaint but changed her mind when Boies explained, in pre-trial filings and in court, the lengths to which the government went to thwart an AIG shareholder vote on surrendering stock.

“I thought maybe this isn’t so crazy,” Webber said.

Boies’s Advantage

The case going to trial at all was a victory for Boies and Greenberg, because the judge’s refusal to dismiss it was a rejection of the notion by some legal experts that the lawsuit was without merit, said Lawrence Cunningham, a law professor at George Washington University who has co-authored with Greenberg “The AIG Story,” a history of the company.

The rulings Wheeler made in declining to dismiss the suit, which included remarks that he wasn’t inclined to accept government explanations about the bailout’s legality, gave Boies an advantage he’s built on during the trial, Stein said.

“Wheeler planted seeds of doubt about the legality of what the government did, and Boies has been able to water those seeds,” Stein said.

Wheeler in July 2012 wrote that he agreed with Starr’s argument that the only consideration for a loan under the Fed’s emergency powers can be an interest rate set by the Board of Governors -- not a demand for equity.

Incidental Powers

In the same 2012 ruling, Wheeler wrote that he didn’t buy a government assertion that authority for demanding equity came from the “incidental powers” section of the Federal Reserve Act, which deals with unspecified actions needed “to carry on the business of banking.”

“For purposes of the government’s motion to dismiss,” the New York Fed’s incidental powers “did not authorize it” to condition an emergency loan “on AIG’s issuance of stock,” Wheeler wrote.

Boies has shown that Fed officials weren’t sure about their own authority to demand stock, Stein said, pointing to testimony from Geithner.

“I was aware of a substantial back-and-forth, and I’d been part of a substantial back and forth with my lawyers” during the summer “about the questions, the legal questions around whether the Fed could directly hold equity,” Geithner testified during questioning by Boies on Oct. 8.

Fed’s Uncertainty

Boies’s position that the U.S. didn’t have authority to demand equity was bolstered by testimony from Bernanke, who told Boies that he didn’t read the word ‘rate’ in the emergency-powers section of the Federal Reserve Act to include equity.

“I normally think of rates as interest rates,” Bernanke testified.

The government countered with testimony from Scott Alvarez, the general counsel for the Federal Reserve Board of Governors. Alvarez said he concluded that the board could empower a reserve bank “to extend credit and in giving that authorization can set whatever limits and restrictions and rules the Federal Reserve Board believes is appropriate,” including demanding equity.

“It’s a very broad power,” Alvarez testified.

Thomas Baxter, Alvarez’s counterpart at the New York Fed, told the court, “I fully believe then, now and at all times that we had statutory authority to hold the equity.”

Wheeler also expressed doubt before the trial that any legal block to the Fed’s holding AIG stock, was eliminated because AIG shares were in a trust held by the Treasury Department and not directly by the Fed.

Judge’s Disinclination

“Without greater factual development, the court is disinclined to indulge the government’s distinction” between the New York Fed and Treasury, Wheeler wrote in his 2012 ruling.

Boies tried to show the behind-the-scenes hand of the New York Fed in the trust, calling as witnesses two of its three trustees, both of whom had ties to the bank.

One, Douglas Foshee, the head of the Houston branch of the Dallas Fed, told Wheeler he was recruited as a trustee by Baxter, the New York Fed lawyer.

The other, Chester Feldberg, testified that he worked at the New York Fed for 36 years and was a former supervisor of Sarah Dahlgren, the reserve bank’s monitor of AIG at the time of the bailout.

The ties between the trust and the Fed didn’t worry U.S. District Judge Paul Engelmayer, who in November 2012 threw out a Starr lawsuit over the bailout based on a different legal theory. Engelmayer ruled Starr failed to show the New York Fed controlled the trust, a matter Wheeler questioned some witnesses about.

New York Case

That case in New York, filed the same day as the one in Washington, alleged that in rescuing AIG, the government controlled the company and breached an obligation to act in the best interest of the company’s shareholders.

Engelmayer ruled that shareholder rights, governed by state law in Delaware because AIG is incorporated there, were trumped by federal law, which the New York Fed acted under in providing rescue loan packages “with the goal of stabilizing the American economy.”

In contrast, Wheeler appears intent on writing an opinion that will guide what regulators are permitted to do in the next financial crisis, said Stein, of Bloomberg Intelligence.

“He sees a real absence of established precedent about what the government can do,” Stein said.

Geithner testified he barely looked at the Doomsday Book because much of its counsel for the Fed was formulated during the Great Depression.

Next Crisis

If guidance for the future is Wheeler’s goal, it may nonetheless have little impact, said Philip Wallach, a fellow at the Brookings Institution and author of the upcoming book “To the Edge: Legality, Legitimacy, and the Financial Crisis of 2008.” Regulators faced with a crisis will do what they think is necessary and worry about the consequences later, he said.

“The kinds of consideration that led them to act in 2008 are so much stronger than the concern that maybe in seven or eight years the judiciary is going to slap you on the wrist,” Wallach said.

The case is Starr International Co. v. U.S., 11-cv-00779, U.S. Court of Federal Claims (Washington).

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