Merrill lawyer defends Enron barge deal

It was a genuine sale, not phony loan, she testifies

October 12, 2004|By BLOOMBERG NEWS

HOUSTON - A Merrill Lynch & Co. Inc. attorney testified that she approved a $7 million stake for her firm in three Enron power barges with no guarantee that the former energy trader would buy back the investment.

Kathy Zrike's testimony backed the defense argument of six former Merrill and Enron employees on trial for fraud in U.S. District Court in Houston.

Prosecutors said the defendants knew of Enron's promise to buy back Merrill's stake six months after the 1999 deal, making it a loan under accounting rules. The government alleges that Enron hid the buyback, so it could fraudulently book a $12 million profit.

Zrike, testifying on the first day of the defense case, said Merrill retained "the risk of loss" if no third party buyer of its stake could be found, making the transaction a true sale from which Enron could legally record profit.

Under the terms of the deal she reviewed, Zrike said, Enron "would continue to pursue the sale with a third party they had identified, and if that did not happen, they would pursue others." Merrill's desire to hold the barge stake for only six months was known by Enron accountants and lawyers, she said.

The government claimed that Merrill agreed to the transaction to curry favor with Enron and also because its investment was guaranteed, with an additional 15 percent interest. Enron needed to book the profits so it could meet its 1999 earnings estimates, prosecutors said.

On Thursday, the defendants asked U.S. District Judge Ewing Werlein Jr. to dismiss the charges against them, saying the government had not proven its case. Yesterday, the judge said he would reserve judgment on the motions.

Zrike, 45, an attorney for Merrill's private client unit, was counsel for the firm's investment banking group at the time of the 1999 barge deal. She said she didn't view Enron's booking of the $12 million profit as illegal accounting manipulation.

"While it did add a penny to Enron's earnings per share, based on the information I've been told, this did not appear to be an improper earnings management situation," she said.

Under accounting rules, a buyback guarantee would make the sale a loan. Recording a loan as profit would be fraudulent, prosecutors said.

Thomas W. Davis, the former Merrill vice chairman who was fired in 2002 for refusing to testify in the Enron investigation, approved the barge deal, Zrike said. When called to the stand yesterday, Davis invoked his right against self-incrimination under the Fifth Amendment and declined to answer questions.

Davis' lawyer, Thomas Fitzpatrick, declined to comment.

In the trial's first three weeks, several witnesses testified that Enron and Merrill employees knew of the buyback agreement. E-mail presented by the government pointed to the defendants' knowledge of Enron's obligation to buy back Merrill's stake.

The defense lawyers told Werlein that there was no direct evidence that any of their clients intended to defraud investors or deceive Enron's auditor, Arthur Andersen.

The five men and one woman on trial had a hand in structuring the transaction, while knowing of the secret buyback and Enron's intent to record the deal as a profit, prosecutors claim.

The defendants claim that Enron promised only to make its best efforts to find a third-party buyer for Merrill's interest, which wouldn't make the transaction a loan under accounting rules.

Defense lawyers have told the jury that their clients proceeded with the deal after it had been vetted by accountants at Arthur Andersen and company lawyers. They have assailed the prosecution for not calling as a witness former Enron Chief Financial Officer Andrew S. Fastow, who has pleaded guilty to fraud and is cooperating with authorities.

Lawyers for two of the defendants have since decided that they might call Fastow to testify, according to witness lists submitted to Werlein. David Gerger, Fastow's lawyer, didn't return a call seeking comment.

The trial is expected to last another three to four weeks, lawyers said. It is the first criminal trial stemming from the accounting fraud that led to Enron's bankruptcy, the second-largest in history.

The two Enron defendants are former finance executive Daniel O. Boyle, 48, and Sheila K. Kahanek, 38, the accountant in charge of the barge deal. The Merrill defendants are former investment banking chief Daniel H. Bayly, 57; former strategic financial group chief James A. Brown, 52; former managing director Robert S. Furst, 43; and former vice president William Fuhs, 36.

The six defendants face up to 15 years in prison for conspiracy and wire fraud if convicted. Brown and Fuhs could face another 15 years for lying to federal investigators and impeding the investigation, and Boyle could face an additional five years for making false statements.

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