Jack B. Grubman, the former Salomon Smith Barneytelecommunications analyst, was slapped with another shareholder lawsuit today (see AT&T Shareholders Sue Salomon). This news comes two days after NASD, the association of broker-members that serves as the regulatory arm of the Nasdaq market, announced that it has fined Grubman’s former company and has officially filed a complaint against him.

Today's class-action suit was filed in the United States District Court for the Southern District of New York on behalf of investors who bought shares in AT&T Corp. (NYSE: T) and AT&T Wireless Services Inc. (NYSE: AWE) between November 1999 and August 2002.

The complaint alleges that Salomon Smith Barney and Grubman violated federal securities laws by failing to disclose a significant conflict of interest between its investment banking and research departments. The suit also claims that Grubman upgraded his stock recommendation of AT&T from Neutral to Buy in order for his firm to win a lucrative role in the April 2002 issuance of AT&T Wireless tracking stock.

This is one of several class-action lawsuits filed against Salomon Smith Barney and Grubman, once their star telecom analyst. Shareholders of Global Crossing Holdings Ltd., Level 3 Communications Inc. (Nasdaq: LVLT), WinStar Communications Inc., and WorldCom Inc. (OTC: WCOEQ) have already filed complaints in court (see Feds Seek Info on GlobalX, Grubman, Salomon, Grubman Sued Over Level 3, Grubman, Citigroup Sued Again, and WorldCom Faces Increasing Difficulties).

Within the last year, at least 45 consumer complaints have been filed with the NASD, Securities and Exchange Commission (SEC), or local state regulators against Grubman alone, in connection with his research on these companies. Allegations range from failure to notify of a conflict of interest and outright negligence to claims of misrepresentation. Damages for these complaints total well over $5 million, according to public filings with NASD, a drop in the bucket to Grubman, who reportedly was pulling in $20 million a year in salary and bonus during the telecom industry’s heyday (see Fat Cat Pay Roils Readers).

NASD has already fined Salomon $5 million for issuing misleading research reports in 2001 on Winstar, a competitive broadband service provider. While the firm said it doesn’t admit any wrongdoing, it did concede that it had no basis for some of its research recommendations on Winstar.

Separately, NASD announced that it has officially filed a complaint against Grubman and his assistant, Christine Gochuico, a vice president at Salomon, who helped author those reports. Specifically, NASD alleges that Grubman and Gochuico consulted Winstar's management prior to issuing research reports and financial models that were supposed to be independent. In some cases, they sent Winstar officials the financial model and analysis for approval before making it publicly available to investors.

NASD also says Salomon's reports failed adequately to disclose the company’s risk of bankruptcy. It claims the reports strongly praised Winstar, while belittling other analysts who were critical of the company. Some of the rebuttals they claim were false and misleading.

The complaint further accuses Grubman and Gochuico of publicly recommending Winstar stock while privately expressing views to the contrary. In various emails and other private communications, NASD alleges, both Grubman and Gochuico discussed Winstar investment risks and expressed doubts about the company’s ability to obtain funding, but they never disclosed these concerns to investors.

While Grubman’s research notes touted the stock, the reality was that the company was headed toward bankruptcy. In 1998, when Grubman and Gochuico initiated their coverage of Winstar with a Buy rating, its market capitalization was roughly $1 billion. As of April 18, 2001, its market capitalization had fallen to approximately $13 million. During that period, Grubman and Gochuico maintained their $50 price target even as the stock plummeted from $20 in January 2001 to $0.14 in April of that year, when it filed for Chapter 11 bankruptcy protection.

How could these analysts have missed such glaring problems? NASD suspects that Salomon’s investment banking relationship is likely the reason. From February 1999 through July 2001, Salomon Smith Barney helped Winstar raise more than $5.6 billion, registering fees of roughly $24 million for those services. Salomon also helped the company with its funding needs when its prospects were falling and its stock price plummeted.

Grubman’s membership in NASD was terminated on August 27, 2002, after he resigned from Salomon earlier that month (see Jack Grubman Goes).

"The truth is that Mr. Grubman's coverage of Winstar reflected his honestly held views and was more than reasonably based on what was known about Winstar," said Grubman's lawyer, Lee S. Richards, of Richards, Speers & Kibbe in a prepared statement issued to the press.

— Marguerite Reardon, Senior Editor, Light Reading
www.lightreading.com