The Wall Street Journal

By ROBIN SIDEL, MONICA LANGLEY and DAVID ENRICH
November 9, 2007

As O'Neal Tottered, Sandy Weill Turned On Protégé Prince
 

On the last Saturday in October, Citigroup's chairman and CEO, Charles Prince, was driving home from a visit with his mother in New Jersey. En route, he checked his email.

"I need to talk to you," wrote Gary Crittenden, Citigroup's chief financial officer. "Can I reach you somewhere?"

A few minutes later, by cellphone, Mr. Prince got the news: Citigroup was facing billions of dollars in new losses from deteriorating credit markets, on top of huge write-downs it had announced two weeks earlier.

No one had to tell Mr. Prince what that might mean. Investors and analysts were blaming him for disappointing financial results, a lackluster share price and a string of high-profile executive departures. They already wanted his head.

Just days earlier, another Wall Street fixture, Merrill Lynch & Co., had taken an unexpected $8.4 billion hit to its third-quarter earnings, much of it attributed to credit-market turmoil. The losses at Merrill and Citigroup would usher in two of the most tumultuous weeks in the history of Wall Street's executive suites.

The upheaval played out publicly at Merrill that Saturday, as its board weighed the fate of its CEO, Stan O'Neal. But an equally tense drama was unfolding privately in the corporate suites and boardroom at Citigroup. That same Saturday, Oct. 27, top executives convened for an emergency session at Citigroup's corporate retreat and learned that they were facing fresh losses of some $10 billion. Mr. Crittenden delivered the news to the CEO that afternoon.

In a matter of days, Mr. Prince's 28-year career at Citigroup and its predecessor companies was over. Though he had backing from Citigroup's boardroom, his support dissipated quickly from his erstwhile champions, including the company's former CEO, Sanford Weill, and one of the bank's biggest shareholders, Saudi Prince Alwaleed bin Talal.

Accounts of the days leading to Mr. Prince's departure were provided by several people who were closely involved in events as they unfolded at Citigroup. Mr. Prince, through a spokesman, declined to comment.

The dual dramas at Citigroup and Merrill underscore how unprepared much of Wall Street has been for the management shake-ups that have accompanied the credit-market turmoil. The boards at both companies were left scrambling to name even interim leaders to replace them. Companies have been weakened by departures of those below the top tiers, too: Wall Street chiefs have shoved out a number of veteran traders and bankers, who were caught flat-footed when defaults in subprime loans made to high-risk homeowners triggered huge losses beginning this summer.

Bear Stearns Cos. announced big losses in two hedge funds that invested heavily in securities tied to the U.S. subprime market.

Source of the Problem

The source of the funds' problems were instruments called collateralized debt obligations. CDOs are pools of securities that are often backed by mortgages. These CDOs are sliced into pieces and sold on to investors. Those who take the pieces with the highest amount of risk get the highest returns.

Citigroup considered its CDO investments to be safe because they represented the "super senior," or less risky, part of the pie. That position was supposed to insulate it from losses, except in the unlikely event that practically all of the underlying securities got wiped out by defaults.

But amid this summer's fears in the subprime market, investors backed away from all CDOs, even those deemed the safest. With trading thin, the instruments became difficult to price. The best investors and banks could do was turn to a set of indexes called the ABX, which measures investor expectations about the performance of subprime mortgages.

Troubles for Citigroup began on Oct. 11. That day, Moody's Investors Service slashed the rating on thousands of bonds backed by subprime mortgages. That raised investors' concerns over the value of CDOs containing those bonds. The ABX fell sharply as a result.

Four days after the Moody's downgrade, Citigroup reported that its third-quarter earnings had fallen 57% from year-earlier levels. It said it would take a write-off of $6.4 billion in the fallout from the credit turmoil, including a $1.56 billion write-down tied to CDO losses through Sept. 30.

On Oct. 17, Standard & Poor's cut ratings on mortgage-backed bonds and warned that ratings on CDOs that contained those bonds could also be at risk. This was particularly bad news for Citigroup, which is among the largest arrangers of CDOs -- that is, it creates the instruments and holds them until it can sell them. The key ABX index continued to fall, further eroding the value of $43 billion worth of CDO investments on Citigroup's books.

The ABX decline was particularly troubling to Vikram Pandit, a former Morgan Stanley executive who had joined Citigroup earlier in the year. Mr. Pandit had just taken over responsibility for Citigroup's capital-markets business after a wide-ranging shake-up ordered by Mr. Prince. One of his first tasks was to get a handle on the bank's CDO exposure.

On Oct. 24, a week after the S&P downgrade, Citigroup's CFO was also put on alert. Cliff Verron, a finance executive in Citigroup's investment bank, told Mr. Crittenden that the bank's capital-markets staff was concerned about the potential impact of the ABX decline.

The next day Mr. Crittenden met with Mr. Pandit, Mr. Verron and a half-dozen other top bankers. In a three-hour meeting at the investment bank's lower Manhattan offices, Mr. Pandit and the bankers walked Mr. Crittenden though the state of the market and its implications for the firm. Mr. Crittenden ordered the group to gather two days later, Saturday, at the bank's sprawling corporate complex in Armonk, N.Y.

At Merrill that Thursday, independent directors were also getting anxious. The day before, the firm had announced it would take an $8.4 billion hit in the third quarter from revaluing bonds and other write-downs -- more than $3 billion above the estimated loss Merrill had given just weeks before. Making matters worse, Mr. O'Neal disclosed at a board meeting that he had approached Eachovia Corp. Chief Executive G. Kennedy Thompson, a longtime Merrill client, about a potential merger without alerting his directors.

By Saturday, Mr. O'Neal started calling top executives, informing them that he was stepping down, said a person familiar with the situation. "I'm out," he told one.

Also on Saturday, at 8 a.m., Mr. Crittenden and the other Citigroup executives sat down in Armonk. They started by poring over Merrill's disastrous third-quarter earnings report, trying to figure out how the rival firm had valued its deteriorating securities. Citigroup, however, had additional damage to survey: Merrill's figures included write-downs through Sept. 30, while Citigroup had to tally the effects of the October index decline.

Tension in the room grew as the magnitude of additional potential losses became clear -- roughly $10 billion, at then-market prices, in the few weeks since the quarter ended. That could wipe out Citigroup's fourth-quarter profits, which were $5.13 billion last year.

Mr. Crittenden was stunned. Speaking with analysts about third-quarter earnings less than two weeks earlier, he hadn't mentioned the $43 billion CDO portfolio. The securities were considered so low-risk that they didn't even merit disclosure, he had decided.

"How in the world could we have been so exposed and how could we not have been properly hedged?" he asked, incredulous, according to people who attended the meeting. The response: By the time the firm's capital-markets group had sought to hedge these investments, the terms were uneconomical.

Citigroup's chief accountant, John C. Gerspach, told Mr. Crittenden that the company must disclose the problems in its quarterly report with the Securities and Exchange Commission. That filing was due within days. That's when Mr. Crittenden called his boss, Mr. Prince, to deliver the news.

Behind the scenes, support for Mr. Prince's leadership had already been waning. For months, he had weathered calls for his departure with three bases of support: Mr. Weill, the former Citigroup CEO; shareholder Prince Alwaleed; and a board of directors who supported Mr. Prince in recent months as investors and analysts called for his ouster. Now those pillars were eroding.

Hand-Picked Successor

For years, Mr. Weill had refrained from speaking ill of his hand-picked successor. Yet the former Wall Street titan, obsessed with holding down costs when he was in charge, steamed as Citigroup's expenses and employee counts surged. Known for his loyal lieutenants, he was dismayed as his top executives, including his president Robert Willumstad, fled the financial giant. Known for a healthy ego, Mr. Weill even bit his tongue as Mr. Prince repeatedly blamed his slow start on dealing with overhanging regulatory issues and investigations.

"Sandy was uncharacteristically quiet through all the turmoil," says one former Citigroup executive. "He wanted to stay loyal to Chuck. Of course bad-mouthing Chuck would amount to admitting Sandy had made a mistake by anointing him."

Mr. Weill also was distressed about Citigroup's stock price, which was now in the dumps. During Mr. Weill's tenure, the return on Citigroup stock was 2,700%. He had been hurt that for the last couple years since he retired, Mr. Prince hadn't called on him for help.

On Oct. 1, when Citigroup warned it expected to take a hit of nearly $6 billion amid the credit-market turmoil, Mr. Weill lost what little confidence in Mr. Prince he had left. "It wasn't a precipitous or emotional decision" to withdraw support from Mr. Prince, says a person familiar with the situation, "but a very reluctant one."

On Oct. 15, when Citigroup officially announced larger-than-expected third-quarter losses, Mr. Weill was beside himself. He complained about the growth of the balance sheet and expense structure, two of his hallmarks of financial discipline. As for the low stock prices, he said, people were "voting with their pocketbook."

Although he hadn't listened in on Mr. Prince's call with analysts that day, Mr. Weill heard that Mr. Prince had said the results were "frankly surprising." Mr. Weill griped that Mr. Prince should have already been abreast.

As the turmoil continued, Mr. Prince effectively forced out Thomas Maheras, one of Mr. Weill's favorite Wall Street executives. Now, nearly all of Mr. Weill's favorite deputies were gone -- Mr. Willumstad, Mike Carpenter, Marge Magner, Deryck Maughan, Tom Jones and Todd Thomson. "A lot of the people I liked and respected are gone," Mr. Weill told a friend.

Finally, Mr. Weill decided he needed to meet with Prince Alwaleed. Although Mr. Weill and Mr. Prince didn't talk much anymore, Mr. Weill called to tell him that he would be flying to Riyadh on a Citigroup corporate jet, which he continued to have access to in retirement. The visit didn't seem unusual, because Mr. Weill had met with the Saudi shareholder a couple months earlier on a trip to check on the Weill Cornell Medical College in Qatar. Prince Alwaleed, who had previously supported Mr. Prince in the press, didn't come to his defense following Mr. Weill's visit.

Mr. Prince and his team didn't appreciate what one called Mr. Weill's "meddling." Some complained that Mr. Weill was criticizing high expenses while ensconced in a Fifth Avenue office suite paid for by Citigroup.

Nevertheless, Mr. Weill offered his help to a couple of directors. He told them that he believed the model he created of a financial behemoth is still "valuable," noting that Citigroup's competitor J.P. Morgan Chase & Co., led by his one-time protégé James Dimon, continued to perform.

After Merrill's board ousted Mr. O'Neal, Citigroup's directors -- still unwilling to force out Mr. Prince -- feared they may have to take drastic action, too.

Returning home that Saturday afternoon, Mr. Prince immediately sought out his wife, Peggy Wolff, a veteran mergers-and-acquisitions lawyer at law firm Skadden, Arps, Slate, Meagher & Flom LLP. He told her that his tenure as Citigroup's CEO couldn't withstand another blow, according to someone familiar with the family. He would resign, he told her.

Mr. Prince called Lewis Kaden and told him he was planning to step down. A lawyer who joined Citigroup as chief administrative officer in 2005, Mr. Kaden was a close associate of Mr. Prince and himself had been criticized by investors and analysts for a lack of banking and risk-management experience.

"Think about it," said Mr. Kaden, urging him to reconsider.

Mr. Prince also reached out to Robert Rubin, the former treasury secretary who chaired the board's executive committee. Mr. Rubin also urged him to reconsider. "On the merits of what you have accomplished here, I think you should stay," advised Mr. Rubin.

Messrs. Prince, Kaden and Rubin spoke again on Sunday, discussing the magnitude of the new losses. Messrs. Kaden and Rubin also spoke to each other alone, hashing over whether Mr. Prince's resignation was the best course.

On Monday, Oct. 29, Mr. Prince met with Citigroup's lead independent director, Alcoa Inc. CEO Alain Belda, and handed him a resignation letter. "The magnitude of the losses incurred in our fixed-income business makes this the only honorable course for me to take as the chief executive officer of the company," the letter said.

At Merrill the next day, the company announced Mr. O'Neal's departure. The search for a successor officially began.

On Halloween, Mr. Prince addressed Citigroup's directors in a hastily arranged meeting. Time Warner Inc. CEO Richard Parsons, traveling in India, listened in by phone. Mr. Crittenden walked them through the latest financial mess.

Independent board members then gathered, and most were sympathetic. "It's too bad," said one. "It's not really Chuck's fault."

Discussing Replacements

Their conversation turned to replacements. Almost immediately, Mr. Rubin's name came up. He had previously expressed reluctance to take on additional responsibility at the bank, preferring to keep his largely undefined executive role. He continued to resist.

They were in a pickle. Any internal candidate who was named as a temporary CEO would upset others who considered themselves contenders for a permanent position.

Mr. Kaden floated the name of Sir Win Bischoff, the head of Citigroup's European operations. Sir Win, the CEO of Schroders PLC when it was acquired by Citigroup in 2000, had experience running a public company. At 66 years old, he wouldn't be viewed as a threat to the younger bankers' ambitions. "We should have thought about this at the beginning," Mr. Kaden said.

Soon after, Mr. Kaden placed the call to Sir Win. "I hope you are sitting down," he said.

"Give me two hours," Sir Win responded. He needed to get the sign-off from his wife. A short while later, Mr. Kaden received the call he had been waiting for. "Rosemary says I can do it," Sir Win told Mr. Kaden.

With the operating chief post filled, Mr. Rubin decided to take on the chairman's role.

On Sunday, Citigroup's board of directors met at the bank's Park Avenue headquarters and officially accepted Mr. Prince's resignation, installing Sir Win and Mr. Rubin. The company issued a press release announcing the developments, and the new losses, shortly after 6 p.m. Later that evening, Mr. Kaden called Prince Alwaleed to tell him the news.

Other investors expressed dismay over the big new losses on Monday, sending Citigroup's stock price to its lowest level since April 2003. Mr. Prince arrived at work on Monday as usual. Asked how he was doing as he exited an elevator on the executive floor, he responded, "couldn't be better."

Shortly after 5 p.m. on Tuesday, a group of moving men wearing burgundy T-shirts arrived at Mr. Prince's office, pushing an empty cart and carrying rolls of bubble wrap.