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As Goldman Sachs Group Inc. executives held conference calls with banking industry analysts and reporters Tuesday, the questions focused more on the Securities and Exchange Commission's civil fraud charges against the company rather than its $3.46 billion earnings.
And the company came under scrutiny abroad. Britain's financial regulator said it had begun an investigation into Goldman Sachs International, the bank's London-based operations. The announcement from the Financial Services Authority follows pressure from Prime Minister Gordon Brown, who over the weekend accused Goldman of "moral bankruptcy" for planning to pay big employee bonuses despite the investigation.
The SEC charges grow out of a 2007 transaction involving collateralized debt obligations, or CDOs, exotic mortgage-related securities that many analysts say helped accelerate the financial crisis and recession. The government said Goldman Sachs did not tell two clients that the CDOs they bought were crafted in part by billionaire hedge fund manager John Paulson, who was betting on them to fail.
SEC Split On Charges
There were signs that there were political overtones to the case. The SEC commissioners approved the charges by a narrow 3-2 vote, according to two people with knowledge of the case. The split was along party lines, with both Republican commissioners arguing strenuously to hold back, said the people, who spoke on condition of anonymity because they were not authorized to discuss the matter.
Party-line split votes are unusual, especially in high-profile cases, former SEC officials said. But they are not unheard of, and are more likely in politically fraught cases, they said.
Goldman Sachs and the other big banks have come under sharp criticism in the Obama administration and in Congress, especially since they have paid big bonuses to employees after having accepted bailout money during the financial crisis in 2008. Goldman Sachs was one of the first banks to repay the money under the Troubled Asset Relief Program. But many critics are mindful that big banks' trading practices helped cause the 2008 financial crisis.
Trading helped Goldman score another impressive quarter. The banks said its first-quarter earnings almost doubled to $3.46 billion as its trading business again surpassed the rest of the financial industry.
Goldman Sachs earned $5.59 a share on revenue of $12.78 billion as bond, commodities and currency trading buoyed its profits. That was well above expectations of analysts surveyed by Thomson Reuters. It was Goldman's second most profitable quarter since going public in 1999. In the fourth quarter, Goldman Sachs earned a record $4.9 billion.
Goldman Sachs also reported sharply higher fees from underwriting stock and debt offerings.
Yet investors remained fixated on Goldman's legal battles.
During a conference call with analysts Tuesday, Goldman co-general counsel Greg Palm gave the company's most detailed rebuttal to date of the SEC charges. After an opening statement that mirrored the bank's previous comments, Palm took questions for nearly an hour in an exchange dominated by analyst' interest in the fraud charges.
Palm was asked why Goldman Sachs did not disclose to shareholders that it had been served with a Wells notice about the SEC's investigation of a transaction involving collateralized debt obligations, or CDOs. A Wells notice is a letter describing potential charges against a company and requesting a response.
Palm said the company does not report to shareholders every time it receives a Wells notice. "We just disclose it if we consider it to be material," he said. Palm said the company has provided the SEC with "an extensive amount of documents and testimony" over the past 18 months relating to the transaction.
The charges against Goldman Sachs took investors by surprise. Goldman's stock fell almost 13 percent on Friday. It opened higher Tuesday but then slipped 97 cents, or 0.6 percent, to $162.35 in heavy trading.
Palm repeated the company's statement that it did not know that charges were going to be filed against it on Friday.
The two clients in the transaction, the German bank IKB Deutsche Industriebank AG and the financial consulting firm ACA Management LLC, "were institutions with significant resources and extensive experience in the CDO market," Palm said.
"We would never intentionally mislead anyone," Palm said.
Goldman hired ACA Management to select the pools of subprime mortgages it used to create the CDO. However, the SEC alleges that Goldman didn't tell the buyers that Paulson's hedge fund, Paulson & Co., also played a role in selecting the mortgage pools and stood to profit from their decline in value.
Palm denied that charge.
"The portfolio here was not selected by John Paulson," Palm said. "The portfolio was selected by ACA."
Palm said the bank has had no discussion with the U.S. Justice Department regarding the transaction, suggesting it so far remains a civil complaint, not criminal.
A $100 Million Loss
The company told analysts that it lost more than $100 million on the transaction, up from the $90 million earlier reported. The higher amount was due in part to fees and other expenses, said David Viniar, Goldman Sachs' chief financial officer.
Analysts have speculated that Goldman lost money on the deal because it was unable to sell its position before its value declined. Asked about that, Palm acknowledged for the first time that the bank did indeed try to find a buyer.
In its earnings report, Goldman Sachs said it set aside $5.5 billion in the first three months of the year to pay employee salaries and bonuses, up 17 percent from last year. However, the bank said the percentage of revenue set aside for compensation in the quarter fell from 50 percent to 43 percent year-over-year.
Goldman's trading of risky assets once again generated the bulk of its profits. Revenue from trading of bonds, currencies and commodities rose 13 percent in the quarter to $7.39 billion.
Investment banking revenue rose to $1.18 billion, up 44 percent from last year. Investment banking includes advising on corporate deals and raising capital for stock and bond issues.
Goldman Sachs also said Tuesday that the executive at the center of the civil fraud case is voluntarily taking some time off from work.
Fabrice Tourre, who was named in the SEC lawsuit against the firm, is taking a break from his position at the firm's London offices, Goldman Sachs spokesman Michael Duvally said.
"It is voluntary. He decided to take some time off," Duvally said.
Tourre was a vice president in his late 20s when the alleged fraud was orchestrated in 2007. Tourre, the SEC said, boasted to a friend that he was able to put such deals together as the mortgage market was unraveling in early 2007.
Tourre, 31, has since been promoted to executive director of Goldman Sachs International in London.
This program aired on April 20, 2010. The audio for this program is not available.
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