J P Morgan Chase & Co has won a rare legal victory in its vigorous campaign to recoup money for controversial Enron financings that several financial institutions have argued were illegal and breached US accounting and securities rules.

A British court has ordered a syndicate of banks led by Germany's WestLB to honour a US$165 million letter of credit (L/C) that it had refused to pay.

Mahonia

The case centred on J P Morgan's involvement in a controversial offshore special financing entity called Mahonia Ltd.

WestLB refused to pay its L/C, arguing that it was misled over the true purpose of the L/C and the underlying transaction. Moreover, a series of so-called prepay oil and gas transactions involving J P Morgan, Enron and Mahonia were really disguised bank loans to Enron and not actual contracts to transfer energy shipments.

J P Morgan countered that argument saying it regarded the financial mechanics of its secret energy trades with Enron and its affiliates as innovative and proprietary and in line with US accounting and securities rules.

No breach

Justice Jeremy Cooke of the High Court of Justice in London ruled in favour of J P Morgan and Mahonia because he determined that Enron accounted for them in a way that did not breach US accounting and securities rules.

He said that Enron's accounting for the prepays was not in breach of generally accepted US accounting principles and that its accounting for these transactions did not constitute a breach of US securities law.

WestLB must pay

"West's claims against Chase all fail because Chase was not party to any conspiracy with Enron, whether to devise a transaction to enable Enron wrongfully to account or to mislead West as to the nature of the underlying transaction or the true purpose of the [L/C]," Cooke wrote in his opinion.

The judge therefore ordered the WestLB-led banking syndicate to pay up on the L/C, plus interest and costs.

Ramifications

The judgement could have ramifications for a class-action suit in the US stemming from the collapse of Enron because the court ruled the banks accounted for the transactions properly.

On the other hand there have been several Mahonia-related decisions that have not found in favour of J P Morgan as the British court has.

Insurers

Last year J P Morgan settled a case with 11 insurers that claimed that the bank had concealed or misrepresented the true nature of an insured Mahonia transaction and that they were therefore under no obligation to pay the claims, notwithstanding that their payment obligations were expressed to be "absolute and unconditional" (DC World News, 20 January 2003).

That case was settled shortly before it was due to go to the jury, with the insurers agreeing to pay around 60 per cent of the claims.

Regulators

Mahonia also caught the attention of US regulators, resulting last year in J PMorgan agreeing to a US$135 million settlement with the Securities and Exchange Commission over the prepays and a report by a court-appointed bankruptcy examiner that claimed the bank knew the transactions were not proper.

The bank has also paid US$27.5 million to New York State officials in 2003 to settle Mahonia charges.

This article represents the views of the author and not necessarily those of the ICC or any of the other partners in DC-PRO.