Eight
An Appetite for Subprime
WASHINGTON, D.C., AND NEW YORK, 2000–2005
Martin Eakes confesses he didn’t really know Sandy Weill’s name when a congressional staffer called his office asking if he could be in Washington the next day. Weill was a man editors put on the covers of their magazines, but apparently those weren’t magazines that Eakes read. Now Citigroup, the company Weill bought and transformed into the world’s largest financial titan, had announced it wanted to buy Associates—officially Associates First Capital—for $31 billion. They were holding a press conference the next day. Eakes was livid that a financial giant would lend its brand and its reputation to a company like Associates. Of course he would come.
His hosts the next day were Congressman John LaFalce of Buffalo, then the ranking Democrat on the House Banking Committee, and Senator Paul Sarbanes of Maryland, then the ranking Democrat on the corresponding Senate committee. LaFalce and Sarbanes spoke and then, at least the way Eakes likes to tell the story, the two exchanged alarmed glances as he took his turn at the podium. Eakes casts himself in high dudgeon that day, telling the story of Freddie Rogers, declaring Associates a moral cancer eating away at the body of American communities. “I was up there saying, ‘We can’t allow this to continue any longer, we must stop it and we must stop it now,’” Eakes remembers. “I went up there with my normal, all-guns-blazing style.”
A few weeks later, LaFalce, a fourteen-term member of Congress, sent a letter to Weill and also to Robert Rubin, the chairman of Citigroup’s executive committee and Bill Clinton’s former Treasury secretary, expressing his dismay that Citigroup intended to purchase a lender “that community advocates have for some time placed among the worst predatory lenders in the country.” Congress didn’t have the power to prevent the acquisition but a couple of committee chairs could make life miserable for a company; toward that end LaFalce named Eakes as his and Sarbanes’s emissary. To drive home the point, LaFalce and others sent a separate letter urging banking regulators to “closely scrutinize” the deal because of some “disturbing allegations.” Sanford I. Weill, tireless and driven, a man of relentless ambitions who had transformed Citigroup into what the New York Times Magazine dubbed “the world’s biggest money machine,” would have to deal with the likes of Martin Eakes.
“Sarbanes and LaFalce basically deputized me,” Eakes said. “They told Weill and Rubin that they had no choice but to deal with this young punk. They couldn’t ignore me even if they wanted to.” With characteristic bravado, Eakes announced at his first meeting with Citigroup’s representatives, “You will change these practices. Or we will bring you to your knees.”
Sandy Weill had attained great heights, but that only made his fall in the spring of 1985 seem that much more spectacular. He had arrived on Wall Street fresh out of Cornell, his finance degree in hand and ready to conquer the world, but instead he felt snubbed. A Jew from Brooklyn, born to Polish immigrants, he felt like an outsider in a world that favored the blue-bloods and WASPs. He started as a runner on Wall Street and was quickly promoted to broker, but after a few years he quit his job to help start a brokerage firm that eventually Weill and his partners sold to American Express for nearly $1 billion in stock. “The Jews are going to take over American Express and they’ll never know what hit them,” Weill boasted to a friend, according to one of his biographers. But American Express was run by men of lineage. Weill, by contrast, was brilliant and cunning but also plump and ill-mannered. He chewed his nails and wore rumpled suits and propped his scuffed shoes up on the furniture while smoking fat, pungent cigars. He ultimately attained the president’s post at American Express, but finding himself on non-native soil, he was out within four years of his arrival. At fifty-two and with a net worth north of $50 million, Weill leased a pricey set of offices in the Seagram Building on Park Avenue, hired a personal assistant, and waited for the phone to ring.
All the well-wishers offering their sympathies kept Weill busy during those first weeks. His wife thought the two of them would travel the world together, but Weill was impatient and hyperactive; he was not a man to ease into the comfortable life of the rich gentleman farmer. The most she got from him was a fortnight in Europe. “The prospects of being away for more than a few weeks from whatever action might arise,” wrote Monica Langley, author of the Weill biography Tearing Down the Walls, “was more than Sandy could bear.” Back in town, he sifted through newspapers and business magazines in search of inspiration. He put out feelers about any number of companies. He played golf and gave generously to Carnegie Hall and other charitable causes if for no other reason, Langley wrote, than to remind the world that he was still here. He made a clumsy public play to take over Bank of America, then a financial giant going through a rough patch, but his bid was rebuffed and then exposed. The “definition of chutzpah,” sniffed Fortune in an article that appeared under the headline SANFORD WEILL, 53, EXP’D MGR, GD REFS.
Who knows what Weill might have said to the two junior executives traveling to New York to pitch him on a business called the Commercial Credit Corporation, had they visited him shortly after he resigned from American Express rather than one year into his exile. Commercial Credit was a consumer finance company whose owner, Control Data, the computer maker, had been trying to sell it for at least a couple of years. Weill, in fact, Langley reports, was among those who had passed on a deal while he was still at American Express. But back then he was serving as president of a credit card giant with dreams of one day taking over as chief executive. Now he was a man trying to keep sane in search of a platform that would let him rebuild his empire. And if his vehicle had to be this ailing, grubby competitor to Household Finance, so be it.
The woman Weill had hired as his personal assistant tried to talk him out of Commercial Credit. It’s the loan-sharking business, she chided him—and he barked back that she was being a snob. Regular people have the same right to capital as Wall Street rich guys, he told her. He would be like a Walmart or a McDonald’s, selling to ordinary Americans. A friend from his American Express days was equally incredulous. Weill had reached the pinnacle of the corporate world and Commercial Credit was a third-rate company with a mangy reputation. It’s beneath you, he counseled. But Weill had looked at Commercial Credit’s numbers and if nothing else he was a pragmatic businessman. The publicly traded giants like Household and Beneficial were reporting double-digit profits but Commercial Credit’s profit margin was 4 percent. Commercial Credit had 600,000 customers and he wondered why it couldn’t have 5 million. There seemed a huge upside in operating a business that made small loans at high rates to blue-collar customers, and especially this one, which by Weill’s standards had not come close to reaching its potential.
On Wall Street they call it “the spread.” In short, it’s the difference between what money costs a company to borrow and the rate at which they can loan it out to others. The loan sizes inside Commercial Credit were minuscule by Weill’s standards—a thousand dollars plus fees to buy a new dining room set—but they were loaning money at a spectacular interest rate of 18, 20, or as much as 23 percent. If Weill could whip the company’s finances into shape and improve Commercial Credit’s lousy credit rating, he could further widen that spread. Everywhere Weill looked he seemed to see only upside and so he decided to move to Baltimore to take over a company so sleepy that he had nicknamed it “Rip Van Winkle.” By dangling generous stock option packages in front of old friends from Wall Street, he was able to lure more than a few of them to Baltimore to join him.
For years, Commercial Credit had been run by a CEO who had started in the business as a repo man thirty-five years earlier. The company hadn’t opened a new branch in years but perhaps more offensive to Weill and the A-team he had assembled was Commercial Credit’s compensation system. Bonuses weren’t based on performance, as they are on Wall Street, but instead every branch manager throughout the company was given an automatic increase of 5 percent a year. One of Weill’s earliest changes was a new bonus system to inspire managers to think more entrepreneurially about the small office under their charge. Those who ran a branch whose performance ranked in the company’s top 10 percent would receive double their salary for the year; those whose stores ranked in the bottom tenth would be out of a job.
Among those eager to accept the new boss’s challenge was Henry Smith, a Commercial Credit branch manager in Hazard, Kentucky. That’s what he told a BusinessWeek reporter whom Weill, anxious to show his former compatriots back home that he was still on the hunt, had invited inside the company to profile the turnaround. Commercial Credit peddled a high-priced, potentially dangerous product designed expressly for people living on the economic margins. Yet as Smith described it, the brilliance of Weill’s system was that he turned the company’s business model on its head: Where once the branch manager and his sales team spent their days deciding whether to extend credit to those who applied for it, they were now aggressively soliciting new business. Smith had lived in Hazard his whole life and his plan, he told BusinessWeek, was to tap into his extensive network of families, friends, and acquaintances in search of extra revenues. To save costs, Weill had fired most of the company’s human resources department and given the individual branch managers responsibility for hiring, training, and disciplining their staff. That meant one less check on the branch manager operating in the hinterlands, determined to run a top store. To no one’s surprise, profits inside Commercial Credit soon reached into the double digits. Eventually, Weill would declare that it was Commercial Credit, more than any other enterprise he had ever owned, that had rendered him a very, very wealthy man.
It didn’t take Weill long to expand his focus beyond consumer finance. He had purchased Commercial Credit in the middle of 1986; in 1988, he bought Primerica, the parent company that owned Smith Barney, and in 1992 he snapped up a 27 percent share of Travelers Corporation, the insurance giant. In 1993, he paid $1.2 billion to buy his old brokerage house from American Express, and that same year he bought the remainder of Travelers for $4 billion in stock and changed the name of his company to the Travelers Group. In 1996, he paid $4 billion for the property and casualty division of Aetna Life & Casualty, and in 1997 he traded more than $9 billion in stock for control of Salomon Brothers, another Wall Street giant. Weill’s signature deal took place the next year, in 1998, when he brokered a merger between Travelers and Citicorp. That meant tearing down the wall that for seventy years had existed between commercial banking, investment banking, and insurance but Weill and his minions were able to do just that with passage of the Gramm-Leach-Bliley Act.
As the new millennium dawned, Citigroup, a $250 billion behemoth, was being described by the New York Times as the most powerful financial institution since the House of Morgan a century earlier and its CEO and chairman was being richly compensated for his efforts. Weill owned tens of millions of shares in Citigroup, and already his net worth was tied to his company’s fortunes. But that was the advantage of handpicking your own board of directors and having a close relationship with people on the executive compensation committee. Weill would pay himself $15.5 million in 1999 and then grant himself nearly twice that amount the next year: $1 million in salary, an $18.5 million bonus, and $8.7 million in restricted stock. In short order, he would make the Forbes 400 with a net worth of more than $1 billion.
Still, does a Sandy Weill ever lose his appetite for the profits generated by a subprime lender? Years later Weill would declare Commercial Credit the single best investment he had made during a career marked by smart deals, and it was the bushels of cash Commercial Credit was spinning off, especially in the early years, that allowed Weill to launch his ambitious buying spree. And Commercial Credit continued to be a robust if not minor producer within Citi throughout the 1990s. Under Weill, the company had tripled to 1,200 the number of consumer finance stores under its control by the time it renamed them CitiFinancial in 2000—and each new branch more than pulled its weight on the ledger sheet. Where Commercial Credit was earning about a 2.5 percent return on its assets inside Citigroup, the conventional banking side of things was generating close to a 1 percent return. A year before the proposed Associates deal, Citigroup snapped up the assets of a relatively small failed lender called IMC Mortgage in Tampa, Florida. Sandy Weill was not a man to turn up his nose at a rough-style lender like Associates, not when the company was spinning off $1 billion in profits each year.
CEOs love talking about their “vision.” For Weill that was the dream of creating a full-service global supermarket of financial products. That provided Weill with another rationale for pursuing Associates. The very rich could avail themselves of the advice offered in the well-appointed offices of Citigroup’s Private Wealth Management. Citi sold any number of products to the country’s professional class, including insurance, standard banking, and the brokerage services offered by the hundreds of Shearson and Smith Barney outposts that Citigroup owned. But what about those of modest means who had bounced too many checks in their lives or who didn’t carry a credit card?
If Weill was always on the prowl for his next deal, his target in this case, Associates, was a battered company eager to find a suitor. North Carolina had proven a blow to Associates and the bad news only seemed to pile up in the intervening months. Even the Dallas Morning News, the hometown newspaper, got into the act, reporting on a leaked memo, “The Roadmap to Continued Record Profits in 1995,” that showed that flipping loans wasn’t happenstance but company policy. Older loans are far less profitable than new ones, the memo pointed out, so it was crucial to continued success to convince existing customers to refinance. “Your controller can provide lists to you of aged personal loans to target for renewal,” the memo suggested. Not surprisingly, the paper found, half of all customers had refinanced with the company and one in four had refinanced with Associates two or more times.
Credit insurance products were another huge source of profits for the company. Sixty percent of all loans included some kind of credit insurance, according to the “Roadmap” memo, but that apparently wasn’t a high enough penetration rate. The key to selling more credit insurance, Gary Ayala, a former assistant branch manager at Associates in Tacoma, Washington, said in a deposition, was to never use the word “insurance.” Call it a “payment protection plan,” his bosses instructed him. Use phraseology like “Just so you know, that includes a payment protection plan if anything happens to you.” Anything to make it sound like a policy came automatically with the loan and hide the fact that it could add as much as 20 percent to the amount of principal owed.
Negative news accounts, however, might have been the least of the worries inside Associates as 1999 turned into 2000. The U.S. Justice Department, the Federal Trade Commission (FTC), and the North Carolina attorney general’s office were all investigating its lending practices, and the economy, suffering a brief recession following the collapse of the tech bubble, was putting a big dent in its earnings. They were in the mobile home financing business but what had once been a lucrative field had blown up once people realized that the thirty-year loans companies were typically writing were outlasting the trailers themselves. The market was beset by defaults. Even one of the company’s great strengths, its place as a top-five lender in Japan, had turned into a weakness by mid-2000, when that country lowered the cap on allowable interest rates from 40 percent a year to 29 percent for the type of loans Associates made, forcing the company to warn its investors that the change would hurt their profits there.
“They were in any number of businesses that basically blew up on them,” a Credit Suisse First Boston financial analyst told the New York Times. Associates’ stock price sagged and Sandy Weill, a bargain hunter with a nose for weakness, pounced.
The first batch of articles reporting Associates’ acquisition focused on Weill’s deal-making acumen. The financial analysts seemed especially impressed by the deal’s potential to spin off huge profits for Citi overseas. Through its various subsidiaries, they pointed out, Citigroup had $77 billion in overseas deposits. What better way for a burgeoning global colossus to put that money to work than loaning money to the working class the world over? Buying Associates meant Citigroup would be the fifth-largest consumer finance provider in Japan, which Weill described as the second-largest market for consumer lending, behind only the United States. “I really think Sandy scored,” a money manager named Robert Albertson gushed in a Times article announcing the deal. The piece ran on page one, but made only glancing reference to Associates’ reputational troubles.
The trade press seemed to know better, though. “If there has ever been a deal that community and consumer activists would want to block,” American Banker predicted a few days after the announcement, “it is Citigroup Inc.’s planned acquisition of Associates.” The article quoted at length a spokesman for Associates who said there was no doubt that “certain groups” would use the merger “to draw attention to their cause.” Citigroup, however, had nothing to worry about. “Associates regards predatory lending as an abhorrent practice and is committed at every level to treating customers fairly,” said the spokesperson, who was left nameless in the article.
The first time Martin Eakes was set to meet with someone at Citi he thought he was going to have a private session with Chuck Prince, the company’s general counsel and chief operating officer, at a Washington, D.C., law firm. But apparently Prince sought to send a message at that first meeting. “It was me and twenty Citibank lawyers,” not just Prince, Eakes said. Eakes delivered his change-or-else threat and Prince just leaned back in his chair and with a bemused smile said, “You know, we’re not accustomed to having anyone tell us what we have to do.”
Their next meeting was held six weeks later in Durham. This time it was Eakes’s turn to flex his muscle. Eakes assembled a posse of around fifty activists and community leaders, including Bill Brennan, who had flown from Atlanta for the occasion. They dubbed themselves the Coalition for Responsible Lending, just as they had done during the 1999 North Carolina predatory lender fight. To drive home his point, Eakes had arranged for the testimony of a half dozen homeowners who believed Associates had defrauded them. Those in attendance described Chuck Prince as genuinely moved by what he had heard. He gave the group his fax number and asked them to send him the details of specific cases. He also designated one of the aides who had flown down with him, a top Citigroup lawyer, as his point person in charge of all Associates-related complaints.
“He tells us, ‘We’re going to fix everything,’” Bill Brennan recalled. “He assures us, ‘We’re going to straighten this company out.’” Brennan ate up every word Prince said—and then felt like a fool after doing some research. Commercial Credit might have been smaller than Associates but that only meant they had been less successful following more or less the same formula. Gail Kubiniec, for instance, who ran a CitiFinancial branch just outside of Buffalo, sounded like she was reading from Associates’ playbook when she told FTC investigators about her secrets for boosting revenues by packing loans with unnecessary insurance policies. “The more gullible the consumer appeared,” Kubiniec said, “the more coverage I would try to include in the loan.” By “gullible,” she explained, she meant the very young or very old, minorities and those who “appeared uneducated, inarticulate.” And then there was Prince. For years Chuck Prince had served as the general counsel at Commercial Credit. He had risen to the top of Citigroup in no small part because of the deftness with which he helped Weill take care of political messes like the one he faced with his planned purchase of Associates. “Chuck Prince didn’t know what Associates was up to? He was blindsided by all these subprime mortgages? What a joke,” Brennan said.
Martin Eakes was similarly disgusted. “Citigroup has stated that they would solve the problems in Associates by bringing Associates up to Citigroup’s standards,” Eakes told a New York Times reporter around the time of the Durham meeting. “But it’s not totally clear that Citigroup’s standards are any tighter.” During the conference call announcing the deal, Weill had told analysts that he thought that Citi could squeeze much more profit per customer once Associates was under his control. “I remember thinking,” Eakes said, “More per customer? You need to extract much, much less from every customer.”
In 1998, when First Union, then the country’s sixth-largest bank, announced it was buying the Money Store, then the nation’s third-largest subprime lender, for $2.1 billion, a monthly magazine called Mortgage Banking ran a cover story expressing its shock. Bankers, after all, were “the staid elder statesmen of the financial world.” The “go-go entrepreneurs of sub-prime” operated “out of nondescript strip malls [and used] veteran sports celebrities as TV spokesmen” (Terry Bradshaw for Associates, Phil Rizzuto for the Money Store). There would be some occasional intermingling between those Mortgage Banking dubbed the “odd couple of financial services,” as when NationsBank bought Chrysler First and EquiCredit, but then people concluded that NationsBank was a different breed of bank. But it was becoming increasingly plain that NationsBank hadn’t been an outlier but instead a trailblazer.
The motivator, of course, was the same thing that had first drawn Sandy Weill to subprime: the spread. At its core, banking is a pretty straightforward business. A bank pays a depositor an interest rate that’s not as high as the interest rates a bank charges those who borrow money—and the Money Store was charging its customers as much as 14.95 percent on a home equity loan. “These two sectors of the financial world rarely crossed paths until recently,” Mortgage Banking reported, “when the profit potential of the sub-prime industry convinced banks this might be a business opportunity.” Was it any wonder, then, that a man named Hugh Miller, the president of Delta Funding, a large New York–based subprime lender, boasted, “my phone has been ringing hot and heavy,” though his company was under federal investigation. The “profit potential” of players in this “promising sector,” the magazine reported, were making such deals “irresistible.”
Yet never before had there been a deal of this magnitude, and never before had it involved a player like Citibank. The Times may have put Weill’s blockbuster announcement on page one because of the flabbergasting price tag—$31 billion for a lender whose name few readers of the Times even recognized—but more likely it was because of the star power of Citigroup and its flamboyant CEO and chairman. Under Weill’s direction, Citigroup ranked among the most valuable corporations in the world.
There was opportunity for Eakes and his allies in the business press’s interest in all things Sandy Weill and Citigroup. Citi offered both a big target and a large stage; the same bright light that shined on this Wall Street giant might also help expose the predatory lending spreading within working-class enclaves across the country and finally make subprime part of the national dialogue. There was also the potential to make an example of Citigroup. If they could force reform on a corporation powerful enough to steamroll its way over one of the key reforms enacted following the 1929 crash, then maybe other lenders would fall into line.
Yet Citigroup’s might and its prodigious reach also raised the stakes. Citi had burnished and polished its brand through hundreds of millions of dollars’ worth of advertising, building up trust. If the deal with Associates was consummated, Weill and his team would be running nearly two thousand storefronts in forty-eight states, all carrying the CitiFinancial name. Weill, when announcing the deal, promised the Street that the addition of Associates to his holdings would add at least ten cents a share in additional earnings, or about $500 million. Everything from the stock price to the size of next year’s bonuses depended on hitting that number. “The Citi Never Sleeps”: Citigroup was large and ravenous, and if the activists were to fail, there might be no stopping the company and its copycats from treading unrestricted through a deregulated landscape in search of new profits.
Bill Brennan remembered the early 1990s when he was fighting NationsBank’s purchase of Chrysler First. “[If] there [have] been problems with prior business practices, this acquisition may well be the most effective way to fix them,” a spokesman for NationsBank told the Charlotte Observer. In Brennan’s view, the opposite happened. NationsBank was a scrappy regional player striving to show Wall Street what it could do, and as a consequence, complaints against NationsCredit, Brennan said, had skyrocketed. Over the years he kept hearing the same story. A bank would say it was bringing integrity to the subprime enterprise it had just purchased, but invariably the opposite happened. “The problems always got worse,” Brennan said flatly. Citigroup’s purchase of Associates seemed destined to turn out the same way. Citigroup was a company carrying too much debt and run by a CEO anxious to demonstrate for the Street that his company, despite its size, was still a top-pick growth stock—a company, in other words, always on the lookout for ways to jack revenues.
Hoping to avoid a generic we’ll-bring-them-up-to-our-standards kind of statement, in advance of the Durham meeting the Coalition for Responsible Lending had worked up a list of specific business practices they wanted changed. The boilerplate language of an Associates contract included a prepayment penalty and a provision that waived a person’s right to sue in case of a dispute. The activists called on Citigroup to drop the prepayment penalty and the mandatory arbitration clause. They also wanted Citi to cap up-front fees at 3 percent of a loan and to stop the noxious practice of charging borrowers the full price of a credit insurance policy and then financing it as part of the loan. They also said there should be some limit on the interest rates CitiFinancial could charge. Lenders deserved a healthy return on their investment, Eakes and his cohorts acknowledged, but a signature of the subprime market was the unmooring of interest rates from any calculation of risk. “Risk-based pricing,” it seemed, had become an excuse for whatever a lender could get away with—demonstrated by the sky-high profits the subprime industry was producing.
But Citigroup had no intention of agreeing to a sweeping set of concessions certain to dampen profits. Instead the company, in a letter addressed to regulators, made some vague promises about better training and an improvement in their compliance review procedures. They promised, too, to review CitiFinancial and Associates loans that had ended in foreclosure during the prior twelve months to see if any should be reversed. They would also disappoint activists on the issue of credit insurance. A study released by HUD and the Treasury Department in the final months of the Clinton administration concluded that the consumer finance companies often employed “unfair, abusive and deceptive” techniques to sell lump-sum credit insurance products that were, more often than not, “unnecessary.” Citigroup said it would offer people the option of making monthly payments rather than financing the entire sum at once but it would continue to sell the lump-sum product. Citigroup agreed to cap its up-front fees at 8 percent (the HOEPA trigger) and not 3 percent, as activists wanted, and while it wouldn’t drop prepayment penalties altogether, they shortened the penalty period from five years to three years. The company also promised not to target borrowers with a no-interest or low-interest loan written by a government entity or a nonprofit such as Habitat for Humanity, and to at least experiment with the idea of treating people more fairly. One might have thought it was already Citi policy to give a customer the best rate possible given a person’s credit history but Citigroup announced it was testing a pilot program called “referring up,” whereby CitiFinancial employees would let those with good credit know they could get a conventional loan at a significantly lower interest rate with Citibank.
“Their proposed changes are generally consistent with the stringent policies and procedures that have long been in place at Household,” Household Finance said in a statement expressing its support for the Citigroup plan. This was near the end of 2000, just about one year before Tommy and Marcia Myers would step into a Household office just outside Dayton and two years before the company was forced to pay a $484 million fine for its bad loan practices.
Martin Eakes dismissed Citigroup’s concessions as “baby steps” on the path to reform and then, in a Q&A in the New York Times’s Sunday business section, seemed to be talking directly to the people inside Citigroup’s executive offices. “I have been in meetings where black ministers made the statement that this will become the civil rights movement of this decade, the confronting of the systematic destruction of wealth by abusive lenders,” Eakes said, turning up the heat considerably. “Will it take street demonstrations? Boycotts? I hope not. But many of us are prepared if necessary to spend the next 15 years battling Citibank.”
Eakes might have known how to push all the right buttons inside Citigroup, but in that same article he proved himself an awful prognosticator. Subprime, he said, seemed a “fad” unlikely to gain momentum. “Is it a trend that will be picked up across the banking industry?” Eakes asked himself. “I rather doubt it. I think that Citigroup will find itself somewhat isolated.”
Weill, for his part, chose to ignore the activists. He and his staff had met with any number of community groups, Weill wrote in a letter to regulators. They had spoken with elected officials and their representatives. They had listened to everyone’s concerns. And he felt satisfied that the company had reached a good balance between its responsibilities to its investors and the communities it served.
More than seventy community lenders and advocates had signed a letter addressed to the FDIC and Office of the Comptroller of the Currency asking the two agencies to hold hearings into the Citigroup-Associates deal. Regulators were limited in the conditions they could impose on a company but by holding hearings and threatening to withhold their approval they can often extract reforms. That’s what the Clinton-era Office of the Comptroller did when First Union bought the Money Store. It approved the deal only after First Union pledged that its new subsidiary would not sell subprime loans to borrowers who qualified for conventional financing. In this case, though, representatives from both the FDIC and Office of the Comptroller complimented Citigroup for voluntarily agreeing to change select policies inside Associates. Both agencies declined to hold hearings.
In the end, only the New York State Banking Department held a hearing to review the proposed merger. Dozens of critics spoke against the deal, including Sarah Ludwig, executive director of the New York City–based Neighborhood Economic Development Advocacy Project. For years she had joined others in criticizing Citibank for its lack of branches in low-income and minority neighborhoods. If you allow Citi to buy this high-priced and unscrupulous lender, Ludwig argued, “you’re giving Citibank a perverse incentive” to stay away from the communities most in need of traditional banking services. Citigroup claimed that it had significantly increased lending to blacks and Latinos since 1997 but the activists countered with studies of their own, including one that showed that more than 80 percent of the loans Citi had made in the greater New York City area over the prior year had been small, unsecured, high-interest loans of $1,000 or less. Regulators in New York state managed to wrangle from Citigroup several written concessions, including a promise that it would at least temporarily stop selling single-premium credit insurance—but only inside New York’s borders.
Activists were disappointed, but Eakes and others told reporters they were not about to quit. With its acquisition of Associates, Citigroup ranked as the country’s largest subprime lender. “Look, if Citigroup thinks we’re going to go away, they’re in for a big surprise,” Eakes told the Raleigh News & Observer. “We’re just getting warmed up.” Among other tactics, Eakes and his allies took to inundating Weill with thousands of emails each week and ultimately would try confronting Weill more directly in New York.
Martin Eakes worried that he was spreading himself and his organization too thin. But he also saw himself as having no choice, given the nature of the Citigroup fight, just as he felt he didn’t have the option to say no when people asked him and Self-Help to join in the pending battle over the future of the payday advance business in North Carolina.
The Tar Heel State had opened the door to the payday lenders in 1997. “They had a compelling story,” said Wib Gulley, Eakes’s old law partner, who voted in favor of the original bill authorizing payday lending in North Carolina. “Times were tough here back then. People needed access to credit and payday seemed a reasonable way of offering poor people quick emergency loans.” But to make sure they weren’t institutionalizing something they didn’t fully understand, Gulley and his allies included a sunset provision in the bill. If new enabling legislation were not passed by July 31, 2001, then payday lending would no longer be legal in the state. “Within two or three years,” Gulley said, “it was clear we were not getting what we thought we were getting.”
Gulley helped enlist Eakes in the anti-payday cause, as did Eakes’s old ally from the predator mortgage fight, Peter Skillern. Skillern and his staff had even written a small book about the payday loan industry in North Carolina called Too Much Month at the End of the Paycheck. At that point, North Carolina was home to more than one thousand payday stores and, if nothing else, Skillern thought lawmakers should at least have a better understanding of what was going on. The book included interviews with store owners and industry representatives but its emotional heft was in the stories of North Carolinians who went to a payday lender for help but ended up feeling trapped. One woman had borrowed $300 after falling behind in her car payments. She ended up paying $2,000 in fees over a two-year period before she finally caught up. A second borrower said he was paying rates so high it’s “pretty much impossible not to get in a cycle there” and a third was quoted as saying, “It’s worse than crack.” The book wasn’t written specifically to engage Martin Eakes in the fight against payday lending but it might as well have been.
“The time wasn’t right for us,” Eakes said. “But we knew if we didn’t take it now, we might never have another chance again.” There are a thousand ways to kill a bill, he reasoned, and passing one is always difficult. It was the spring of 2001 and he was barely six months into Associates’ fight but Self-Help would add its considerable muscle to prevent the payday lenders from obtaining a majority for the legislation they would need to continue operating legally in the state.
Allan Jones and Billy Webster said they felt blindsided by the North Carolina fight. Maybe so, but then they had only themselves (or at least their government affairs people) to blame and it didn’t seem to take them long to recover. There were so many lobbyists running around the state on behalf of the payday lenders, Wib Gulley said, that it was as if each legislator who hadn’t yet committed to the payday side had his or her own personal lobbyist—if not more than one. When the first two lobbyists sent to talk with Gulley couldn’t convince him to support the payday lenders, they sent a young and attractive woman to see if she could be more persuasive. “I could almost hear them saying, ‘Well, we tried the policy approach with Gulley; let’s go this other route,’” he said. Gulley described the ensuing political fight as probably the hardest-fought donnybrook he had witnessed in his twelve years serving in the state senate.
Defeating a bill may be easier than passing one, but the payday lenders had collected more than $80 million in fees in North Carolina during the previous year. It wasn’t until July 31 came and went without a new bill that the foes of payday could be confident they had won. “We thought we were having a debate over what changes might have to be made in the law,” Billy Webster said. Would the legislature give borrowers the right to rescind a loan within twenty-four hours? Would they put restrictions on the steps lenders could take to collect on a bad debt? “But all of a sudden, it was over and we were out,” he said. At the time Webster thought the defeat, while significant, was a mere “speed bump,” but Allan Jones worried it might be a portent for the future. During the North Carolina battle, Jones said, he first heard the name Martin Eakes. “I learned about who he was and I got nervous,” Jones said. “I realized we were up against a zealot.”
“To think that a bunch of people who don’t know the first thing about business or how we operate just ups one day and says they’ve changed their minds, ‘We’re not going to let you do business here anymore, we’re going to put all these people out of work,’” Jones said. Was it any wonder, then, that Jones, Webster, the Davis brothers, and several others kept operating in North Carolina even after the enabling legislation expired?
The payday lenders would lose that battle as well—eventually. They tried to talk to the new attorney general, Roy Cooper, but it was their bad luck that he was the former Senate majority leader who had proven so critical to passage of the predatory mortgage bill back in 1999. “He did everything he could,” Jones said of Cooper, “to make sure no matter what we tried, we couldn’t make a go of it as a business there.” Cooper’s office sued, as did the state’s Division of Banking. Advance America operated for another four years before they were finally ousted from the state, and Check Into Cash, Check ’n Go, and a third company called First American Cash Advance lasted for nearly five years. That trio would pay a collective $700,000 in fines but only after collecting multiple millions in fees in the intervening years.
Defeat in North Carolina had been a bitter pill for the payday lenders to swallow, but practically speaking it had not proven much of a setback. North Carolina had been a good market, not a great one, and there was still plenty of room for growth. At that point there were perhaps ten thousand paycheck advance stores in the country and analysts were saying the country could handle more than twice that many. “We probably should have taken [Eakes] more seriously earlier on,” Webster said, “but we also were growing our businesses and looking for better ways to compete.”
Federal bureaucrats had refused to intervene to stop Citigroup’s acquisition of Associates but the lender did not fall off the regulatory radar screens entirely. Eighteen months after Citi was permitted to acquire Associates, the FTC took action. Citigroup might have hoped they could acknowledge Associates’ past abuses and quietly pay a modest fine, but the FTC was seeking a settlement in the hundreds of millions of dollars. Citi balked at the cost, negotiations stalled, and the agency filed suit, naming not only Associates in its complaint but also Citigroup and CitiFinancial.
The lawsuit was probably an FTC negotiating tactic. If so, it was a particularly effective one. The Wall Street Journal reported the news deep inside its second section but the Times reported it on page one, under the headline U.S. SUIT CITES CITIGROUP UNIT ON LOAN DECEIT. It was not the kind of publicity a big bank wanted on the front page of its hometown newspaper. Loan officers for Associates, the FTC charged, routinely employed trickery to lure customers into costly loan refinances, often promising people they would save money by refinancing when the opposite was true. They regularly sold overpriced credit insurance policies, generating an extra $100 million in profits over five years. Customers who objected to an insurance policy, the agency charged, were told that removing it would mean delaying the closing and therefore waiting longer for the check they were typically anxious to receive. The suit also accused Associates of training employees to rush people through a loan closing to minimize questions, and alleged that the company engaged in abusive methods when pursuing delinquent accounts.
“What had made the alleged practices more egregious is that they primarily victimized consumers who were the most vulnerable—hard working homeowners who had to borrow to meet emergency needs and often had no other access to capital,” Jodie Bernstein, the director of the FTC’s consumer protection bureau, told the Times. The agency’s five commissioners—three Democrats and two Republicans—had voted unanimously to file the twenty-six-page complaint, which accused Associates of violating four federal laws.
Citigroup held its annual shareholders meeting one month later. At his behest, a group that owned large positions in Citigroup, including Warren Buffett and Bill Gates, Sr., invited Eakes to present a resolution on their behalf that, if passed, would link Weill’s compensation to Citi’s record on social responsibility. Eakes flew to New York to confront the CEO directly and see if he might be able to increase the pressure on Citigroup at a time when it might already be reeling from negative press.
The meeting was held in Carnegie Hall. Eakes’s first shock was the stagecraft of the day. “Little plebeians like me,” Eakes said, lined up in the hall’s center aisle, awaiting their turn at the microphone. The theater was dark so that each presenter was a disembodied voice over a PA system. Weill, meanwhile, stood center stage, a spotlight trained on him, “as if he were God himself,” Eakes recalled. Eakes refused to be intimidated. Citigroup, he said when his turn came, had “steadfastly refused” to adopt standards of responsible lending. The company had “aggressively opposed” legislative efforts to rein in predatory lenders. And then he turned up the heat on Weill himself. “Any CEO who will cheat his customers,” Eakes boomed, “will eventually cheat and lie to his shareholders.” Eakes claimed that his remarks won him an ovation from the crowd, but if so, that was about all he got. The resolution was soundly defeated.
It may have been easy to dismiss Eakes or any dissident shareholder. No one usually pays much attention to what goes on at a company’s annual meeting, especially back then. But Citigroup was a large consumer company whose caretakers were skittish about more negative press, a fact driven home for Jim McCarthy in Dayton when he lost his temper with a roomful of Citi lawyers while trying to negotiate on behalf of a client he believed had been trapped in a predatory loan.
McCarthy didn’t hesitate when I asked him to name those he considered the worst subprime lenders operating in Dayton. “CitiFinancial has to be at or near the top of my list,” he blurted. In part that was due to the volume of loans CitiFinancial wrote and the terms of those deals. But McCarthy confessed he felt a special enmity for the New York–based giant in no small part because of the attitude of the Citi lawyers he mixed it up with while attending mediation sessions on behalf of people about to lose a home. “They were so damn arrogant and condescending,” McCarthy said. He and his allies were activists and couldn’t possibly understand how a business works. “And because we didn’t understand, that’s why we were asking for these ridiculous things like a reasonable interest rate that might actually let the people stay in their home and continue to pay on a mortgage.” Citi would send eight or nine people to every mediation session, McCarthy said, “and then they wouldn’t offer a thing.”
By that point McCarthy was spending his days listening to old people frightened about losing homes they had owned for thirty years, angry at themselves for making the mistake of walking into the wrong office door. His pent-up frustration and anger boiled over during a meeting on behalf of several CitiFinancial customers. “I’m telling them, ‘I’ll get in front of the television cameras and just blast you for what you’re doing to these people. I’ll put them in front of the camera so they can tell everyone what you did to them. I’ll bully you in every way we can think of in front of the media.’” McCarthy had no idea whether he could back up any of these threats, but to his amazement, the gambit worked. Citi agreed to write off the loans, essentially letting the three borrowers off the hook. “These were the early days of all this stuff,” McCarthy said with a laugh, “so it was still possible to talk about hurting the reputation of one of these lenders.”
Citi followed with other concessions aimed at appeasing its critics, including the announcement in June 2001, ten months after its purchase of Associates and six months after the FTC announced its suit, that it was phasing out its single-premium credit insurance product. It would continue to sell credit insurance, Citi said, but it would be sold separately from the mortgage and be paid for with regular premiums through the life of the policy. Perhaps Citigroup was motivated by a sense of moral responsibility but an alternative explanation was that the financial giant wanted to avoid additional criticism. The Democrats had recently taken control of the Senate, and Paul Sarbanes, the new chairman of the Finance Committee, had just announced that he would hold hearings to look deeper into predatory lending.
Another year would pass before Citigroup agreed to pay $215 million to settle its suit with the FTC. At the time it stood as the largest consumer protection settlement in FTC history. Citigroup also agreed to pay up to $20 million to settle an investigation into Associates that Attorney General Roy Cooper of North Carolina initiated shortly after he took office.
Citigroup would set another record in 2004, when the Federal Reserve hit the company with a $70 million penalty—the largest fine the Fed had ever imposed for a consumer lending violation. This wasn’t for misdeeds committed by Associates pre-Citigroup but for newer improprieties that dated back to 2001. CitiFinancial, the Fed claimed, was routinely converting personal loans into equity loans secured by a person’s home without regard to a borrower’s ability to pay. The Fed also charged CitiFinancial with trying to mislead regulators once they started to investigate.
Eakes, meanwhile, had never stopped trying to convince Citigroup to change. In May 2005, five years after Citi announced it was acquiring Associates, Eakes stood at a podium and publicly praised Citigroup. The company had finally agreed to drop a clause from its subprime contracts requiring borrowers to agree to mandatory arbitration. The lender also greatly reduced the penalties it charged for early payment on a loan. “It only took them five years to do the right thing,” Eakes said. Goliath had not been killed, but he had also not emerged from the competition unscathed.
Among those noticing Eakes as he fought with Citigroup while simultaneously doing battle against the payday lenders were Herbert and Marion Sandler, who ran the World Savings Bank, one of the country’s largest savings and loans. In 2002, Herb Sandler started phoning Eakes in the hopes that he could convince him to create a national organization to build on the work he had been doing fighting Citi in North Carolina.
The Sandlers were hardly the first to broach the idea, but Eakes always offered the same stock answer when anyone proposed this idea of broadening Self-Help’s scope beyond the state’s borders. “We’ll look at other places,” he would say, “when the job has been completed in North Carolina.”
Yet the Citigroup fight had forced Eakes onto the national stage, and Self-Help’s fight against first the predatory subprime mortgage lenders in North Carolina, and then the payday lenders, had raised its profile to the point where people were expecting them to act like a national advocacy organization. “Basically, we realized we [at Self-Help] were spending all this time on these requests anyway, so why not get some help?” Mark Pearce said. One key turning point, Mike Calhoun said, occurred while he was reading through a predatory lending bill that activists were championing in Alabama. “It copied verbatim our bill, down to the references to North Carolina statutes,” Calhoun said.
Still, Herb Sandler needed to phone several times before Eakes finally decided to get serious about launching a national organization. “He’s been calling and calling,” Calhoun said, “until finally he has to say to Martin, ‘I really mean it, I’ll provide you some money. So would you goddamn send us a proposal?’” Sandler had looked at others but, to him, “Martin was the only one up to the enormity of the challenge,” he said. “He was the only one with the capability and the passion and the strategic ability and the leadership quality to get his arms around a challenge of this size.”
Inside Self-Help, they huddled to figure out how much money they might need to start such a group. It was Eakes, Pearce said, who suggested asking for a number large enough to provide an endowment sufficient to remain independent and not constantly fret over raising money and uncertainty about next year. “Are you f*cking crazy?” Sandler cried out over the phone, or something to that effect, when Eakes told him of the tens of millions of dollars he thought he needed to start a national Center for Responsible Lending. Sandler remembered Eakes telling him he wanted an endowment big enough to generate $8 or $9 million per year: a sum well over $100 million. In time, however, it would become clear that money would not be a problem for Herb and Marion Sandler.