Serpent on the Rock

by Kurt Eichenwald

  With all the firm’s problems, Ball began thinking about leaving. The planning began in April when he received a telephone call from Leland Getz, an executive with Russell Reynolds Associates, the headhunting firm. His first conversation with Getz had been cryptic.

  “I’d like to meet with you about something very important,” Getz said.

  “What about?” Ball asked.

  “It’s about you.”

  That was mysterious enough, so Ball agreed to meet secretly with Getz. Over lunch at a Manhattan restaurant, Getz quickly got to the point. “Would you be interested in running Bache?”

  Ball sat back and thought. He had never before considered working anywhere else but Hutton. Just one year earlier, he had rebuffed an offer to take a senior job at Bache.

  But with all of Hutton’s unfolding problems, the timing was perfect for an exit. It seemed as good a time as any to bail out. He leaned up to the table.

  “Tell me more.”

  Bob Fomon’s vengeful anger at George Ball poured out to the crowd of Hutton brokers assembled in Denver, Colorado, in August 1982. “That fucking little redheaded wimp jumped ship,” the Hutton chairman growled in an angry, drunken voice. “That son of a bitch.”

  It had been a few weeks since Ball’s surprise announcement of July 19 that he was leaving Hutton to take over Bache. Fomon at first had taken the news like a bewildered parent abandoned by his child. But on this night, as the realization sunk in that his protégé was now his competitor, Fomon tore into the man. He couldn’t believe Ball would desert his team for a place like Bache.

  “Bache, for God’s sake!” he growled. “The biggest fucking joke on the Street! They’ve never known how to make money. And that’s what George used to say! He ridiculed them more than anybody!”

  Fomon had good reason for his anger. Since Ball announced his resignation, he had already made it known within Hutton’s ranks that he was willing to cherry-pick the firm’s best people for Bache. It should have been no surprise to Fomon—after all, Ball had made his name on Wall Street in part through his talents at raiding other brokerage houses for their top producers. In short order, Ball launched the same war, but this time his beach-head was Bache and the enemy was Hutton: He lured Greg Smith, a close friend who headed Hutton’s equity division, as well as a number of the stock analysts who worked for him. He also recruited Hutton’s top stock strategist, its chief economist, and a number of its top brokers. Soon Ball would start raiding the firm’s legal department.

  While Ball was busy building his new team at Bache, a Customs Service agent was making a discovery that would eventually speak volumes about one of the new recruits—and about the future direction of Ball’s new firm.

  In October 1982, Mike Fahy sat at a desk in the World Trade Center offices of the United States Customs Service, just a few blocks from Hutton headquarters. His eyes barely moved as he stared at the computer screen in front of him, waiting on the system to finish cross-checking some names. Suddenly a single name popped up on the screen: Franco Della Torre, a customer of E. F. Hutton. Fahy jumped up from his seat.

  “I’ve got a hit!” he shouted.

  Fahy had found something that might be the big break in the yearlong investigation of what law enforcement officials thought was the largest international money-laundering and heroin ring ever uncovered. Fahy had found Della Torre by running all the names from the address book of another suspected money launderer through the computer to see if any had been reported making large cash deposits at an American financial institution. Della Torre was the only match. Fahy typed a few commands into the computer and a six-foot-long list of Della Torre’s transactions with the brokerage firm began to print out.

  Fahy called Robert Paquette, a special agent with the FBI who was in charge of the case, and told him about Della Torre. Paquette was elated. Finally they had a critical lead. If they could follow Della Torre, or even eventually turn him into a government witness, they might crack the entire ring.

  Paquette decided to contact Merrill and Hutton, which had both filed forms documenting Della Torre’s large deposits. He called Merrill first, which quickly agreed to cooperate with the government investigation. Then Paquette called the security department at Hutton, which passed him on to Loren Schechter in the law department. Paquette explained the government’s interest in the Della Torre account. He asked Schechter for Hutton’s cooperation, requesting that the firm keep the account open. He wanted Hutton to notify the FBI the next time Della Torre made a cash deposit. That way the government could start monitoring his actions.

  “This is a very intense ongoing investigation,” Paquette said. “We need to make sure it’s not compromised.”

  “Don’t worry about it,” Schechter said. Hutton would be glad to cooperate. The firm would need a subpoena to turn over the account information, Schechter said, but he would make sure that Paquette was notified of the next deposit.

  Over the next few days, Paquette did some background checks on Della Torre. He contacted Louis Freeh, the assistant United States attorney general in charge of the case, to brief him on the developments. Freeh prepared subpoenas for the account information at both Merrill and Hutton. Paquette served Merrill first and quickly received the information he wanted. Then he walked across the financial district toward Hutton’s offices. It was a bitterly cold day, and as he walked along the narrow Manhattan streets, Paquette bundled his heavy coat around himself. He took off his gloves only after arriving in Hutton’s lobby. A security guard directed him to Schechter’s office.

  Something immediately seemed to be wrong. Schechter wouldn’t look Paquette in the eyes. Paquette had interviewed enough guilty people to know that Schechter was acting like he had something to hide.

  “I’ve got all the subpoenas you asked for,” Paquette said. “Has Della Torre surfaced yet?”

  Schechter stared down at his desk. “We’ve got a problem,” he said. “I don’t think we are going to be able to help you now.”

  “Why?” Paquette asked, growing increasingly uneasy. “What’s happened?”

  “The accounts have been closed,” Schechter replied.

  Paquette couldn’t believe it. Somebody had to have been tipped off. “How could that happen?”

  “We notified the clients in Switzerland.”

  Paquette slumped in his chair. “What?” His mind started racing, thinking of some way to salvage the operation. “Has it been a definitive announcement, or an insinuation?” he asked. “Is there any chance of regenerating contact?”

  “You’ve got to speak about it with our general counsel, Mr. Rae,” Schechter said as he stood up from his desk and escorted Paquette down the hall.

  Over the next few minutes, Paquette heard Tom Rae explain how Hutton had decided to notify the clients of the government investigation and shut down the accounts out of fear for the lives of the firm’s employees. He told Paquette it would be impossible to reconstruct the relationship.

  Paquette left Hutton in a fury. Schechter stabbed us all in the back! he thought. It was Schechter who had made the commitment to cooperate and then turned around and breached the government’s trust. Paquette couldn’t believe that the lawyer hadn’t notified him of a problem at Hutton. If Schechter had just given him a courtesy call, Paquette thought, everything could have been salvaged. Schechter had obviously been faced with a choice between doing what was right and doing what was safe. And, Paquette thought, he had made the wrong choice.

  Paquette immediately went to the offices of the U.S. attorney at Foley Square, where he found Louis Freeh and told him what had happened. Paquette’s anger paled next to Freeh’s. More than a year’s worth of investigation had been thrown into the toilet by one of America’s premier brokerage firms. Freeh launched into an endless tirade against Hutton. The government had to start all over again.

  Two years of investigations ensued that otherwise would have been unnecessary. Dozens of FBI agents were used to monitor thousands of hours of wiret
aps, running twenty-four hours a day. The cost ran into the millions of dollars. In the end, Freeh and the FBI were able to reconstruct the case and break up the billion-dollar pipeline that funneled heroin to the United States for distribution through pizza parlors and cafés. The case, dubbed the Pizza Connection, would be the largest in the history of law enforcement, and it helped to propel Louis Freeh to the post of director of the FBI. But almost to the end, Freeh never let an opportunity slip to criticize Hutton for its acts.

  None of that criticism much affected Schechter. Within a few months of his encounter with Paquette, he had called George Ball about getting a new job. Soon afterward, Loren Schechter was tapped to be the chief law enforcer and top watchdog of the firm that had been renamed Prudential-Bache Securities.

  “Average sucks,” George Ball announced in November 1982 to a group of sixty-one top Prudential-Bache brokers assembled at a get-together in Phoenix. “Like Zeus on Mount Olympus, we’re going to stand above the others.”

  Ball broke into a wide smile as the group of successful stockbrokers erupted into wild cheers. After years of embarrassment from working for a Wall Street also-ran, the brokers finally had someone in charge who made them proud. In just a few months, Ball had invigorated the firm, pushing it endlessly into new, unexplored directions. Almost unbelievably, he had transformed it into one of the hot brokerages on Wall Street. Ball was more than just another boss; for the firm’s brokers, his arrival was something more akin to the Second Coming. As they watched Ball push his host of reforms, the brokers whispered their secret hope that he would be able to do for Bache what he had done for Hutton.

  On his first day as Bache’s new chief executive in mid-August, Ball had hit the firm like a whirlwind. At 7:00 A.M. that morning, he stepped out of the chauffeured sedan that had driven him to 100 Gold Street from his posh home in northern New Jersey. He headed through the revolving door into Bache’s lobby. A look of disgust came over his face. Shabby was the best word for the place. The entryway was drab and lifeless; the closest thing to decoration was a series of smudged, handwritten signs warning visitors that security guards could search their packages.

  Ball shook his head. The lobby was an embarrassment. It looked like a warehouse. This was no image for a brokerage firm to project if it wanted to be successful. He went up to his office and ordered changes. The next morning, Bache’s dreary entryway was refurbished. The amateurish signs were stripped away; potted plants and a small garden of flowers appeared. If he wanted employees to be proud of the firm, Ball reasoned, then they had to start taking pride in its image. The time had come to put a new face on a firm known throughout Wall Street as a schlock house. In its place, he told friends, he planned to build “something majestic.”

  Bit by bit, Ball transformed the grimy, shopworn world of Bache into something more polished. No detail was too small: The “please flush” sign hung in the executive restroom by John Leslie, the former chairman, was taken down and placed in Ball’s office—an implicit ridicule of Bache’s stodgy old ways. Free coffee and Danish appeared some mornings by order of the new boss; on one holiday, all employees received a box of expensive chocolates. A nice fall weekend provided Ball with an excuse to order flowers for every woman in the building. Even top executives shared in Ball’s largesse. During one tedious meeting where poor financial results were being discussed, Ball suddenly flipped on a tape recorder. The conference room filled with the sounds of the country and western song “Cowboys in the Continental Suit” by Marty Robbins. Jumping up, Ball announced, “All right, everybody, over to Paul Stuart and get fitted for a new suit!” Thrilled, the group of executives headed out to the nearby men’s clothing store and started snapping up suits and ties. Ball stood by at the cash register, approving and picking up the tab for each purchase.

  But the cheery new boss with the Boy Scout looks also let it be known that he was no softy. Performance counted, and anyone who wasn’t up to the task was shown the door. “We have to be brutal about getting rid of second-raters,” Ball told Fortune magazine during his first six months on the job.

  Ball swung the ax at Bache’s plodding management with relish. He stripped the power from the chairman and vice-chairman, Harry Jacobs and Virgil Sherrill, although he allowed them to retain their titles. Ball abolished one of Bache’s two boards of directors, dismissing the second as “superfluous.” Then he launched what amounted to an all-out purge of other top managers. Even John Curran, the general counsel, was eased out. Within a few months, Ball had fired five senior executives and fifteen of their subordinates, including almost every member of the firm’s executive committee.

  In the world Ball was creating, there was no room for sentiment. Ball was touched when one of Bache’s regional directors gave him a military officer’s sword mounted in a frame and complete with an inscribed plaque. The director was encouraging Ball to lead the Bache troops into battle. It made Ball feel all the worse when he fired the executive a few days later. Although he kept the sword and hung it in his office for years, he removed the plaque, which had the name of the regional director on it, to keep from feeling guilty.

  By tossing out so many senior executives, Ball tore apart allegiances and relationships carefully constructed throughout Bache over the years. Thus, he shattered the usual Bache network for career advancement. In its place, he was bringing in new recruits from Hutton, like Schechter. Resentments started building up against this new clique. Bache veterans who had hoped to climb further up the ranks watched in dismay as a newer, younger group of executives moved to the top.

  “Ball’s bringing in his own team here,” Bob Sherman, now the head of retail, told his staff that fall. “And there’s going to be nothing in it for any of the rest of us.” Sherman made it clear that, despite Ball’s efforts to create a new spirit of cooperation, he was not going to join the team.

  The bitterness toward Hutton executives rarely broke into the open in any significant way. In large part that was because even as the Bache veterans saw their future options shrink, Ball increased their power exponentially. Ball tossed aside the committee process that had so hobbled Bache over the years, pushing the decision making down to lower levels. The division managers were big boys, he reasoned, and could decide what to do without interference from above.

  Under Ball’s direction, Sherman’s division rapidly gained prominence. Ball ordered a massive recruiting program for brokers, aimed at bringing thousands of the biggest producers on Wall Street into Bache. He did it the same way he had at Hutton—by promising huge up-front bonuses and commissions. The deal not only was lucrative for the brokers, it locked them into Bache—the bonus was provided in the form of a loan, forgivable over two to three years. If they left Bache before that, the firm could hit them up for the remainder of the money. Within the first year and a half, the program brought in an astonishing 1,100 new brokers. The firm’s reach expanded far beyond anything it had ever been.

  And now Bache had dozens of new products available to its vast cadre of clients. Ball saw great prospects in particular for the firm’s tax shelter division, which had been beefed up significantly since the Prudential takeover. Tax shelters needed to be a bigger part of the retail sales effort, Ball thought, and he shifted responsibility for such products from Lee Paton to Bob Sherman. Ball liked what he saw in the division, particularly its heavy sales and the can-do attitude of its boss, Jim Darr.

  Ball had big plans for Darr’s department. He thought its focus on tax shelters missed not only the point but also the huge potential market for the business. Rather than focusing exclusively on the tax benefits—which would restrict the customer base to only the wealthiest clients—Ball instead wanted to put more emphasis on deals that would provide a hedge against inflation while producing investment income. More investors would be interested in having a piece of an apartment building’s monthly rent, or the profits from a producing oil well, than would want the tax deductions for those investments.

  Under Ball, tax shel
ters would still be sold. But so would other limited partnerships that were less tax related and more resembled traditional income investments. Ball ordered that the name of the tax investment department be changed to the Direct Investment Group to reflect this new focus on deals that could be sold to a wider range of customers.

  Ball’s most important change for tax shelters was unveiled in September 1982, a few weeks after he joined Bache. In a September 16 memo to every stockbroker in the firm, Ball announced that the firm was instituting a new policy “which will allow Bache account executives, their clients and the firm to share in the future together.” The program offered new financial incentives for stockbrokers to sell limited partnerships in which a Bache subsidiary served as a co–general partner. In addition to the usual hefty commission, brokers who sold more than $25,000 of any such deal would share in half of the cash Bache received from the partnerships.

  Essentially, brokers would receive a windfall, potentially worth tens of thousands of dollars a year. From then on, every broker in the retail system had an enormous self-interest in selling Bache’s tax shelters, whether their clients needed them or not. Stockbrokers would get a cut of the kitty for sales of more than $25,000 worth of partnerships even if it was to elderly investors who couldn’t bear the risk. It was a policy that, on its face, was a prescription for disaster.

  “We believe that Bache is the only firm to have, as a matter of policy, this type of sharing arrangement,” Ball wrote in his memo. “As a part of this, we hope to provide a wide variety of superbly crafted Bache-partnered tax directed investments. . . . It will make us the unquestioned leader in our industry.”

  What Ball left unsaid was what would happen to the other half of the money that went into the Bache entities. Most Bache brokers reasonably assumed that the cash would just go to the firm. But, in fact, under a separate compensation system, a hefty chunk of the money would instead go to selected executives within the tax shelter department. That compensation would come on top of the executives’ salary and bonuses.