Report Hints at Possible MF Global Suit

MF Global‘s bankruptcy trustee is hinting at taking legal action against the brokerage firm’s top executives, blaming them in a new report for engineering a “risky business strategy” and ignoring “glaring deficiencies” in internal controls.

In accusing Jon S. Corzine and other MF Global executives of “negligent conduct” that may have accelerated the firm’s demise, Louis J. Freeh, the trustee for MF Global Holdings and a former director of the F.B.I., laid the groundwork for potential litigation.

The 124-page report filed in federal bankruptcy court early Thursday leveled its sharpest critique at Mr. Corzine, the former chief executive who was once the governor of New Jersey. Expanding on similar reports issued last year by Congressional investigators and another bankruptcy trustee, Mr. Freeh claimed that the C.E.O. ignored warning signs that the firm was in a precarious position even as he placed a risky bet on European debt.

While the bonds were not by themselves to blame for felling MF Global, the bet unnerved MF Global’s investors and ratings agencies. And when the firm spun out of control in October 2011, it grabbed money from its customers in a futile bid for survival. Mr. Freeh argued that the breach, still the subject of a broad law enforcement investigation, could have been prevented.

“Corzine and management knew, or should have known, that these factors were contributing to a precarious liquidity position that ultimately spelled disaster for MF Global,” Mr. Freeh wrote in the report.

A spokesman for Mr. Corzine did not immediately comment. Federal authorities have not accused him of any wrongdoing.

But as Mr. Freeh weighs his next step, a range of legal avenues are available for him to pursue. He could join an earlier lawsuit against Mr. Corzine and other executives, teaming up with the firm’s customers and the trustee overseeing the return of money to customers. Alternatively, Mr. Freeh could file his own case against Mr. Corzine.

The lawsuit, which could help Mr. Freeh recover money for MF Global’s creditors, would likely hinge on what Mr. Corzine knew about the firm’s mounting problems. Mr. Freeh’s report suggests he knew plenty.

In April 2010, a subordinate wrote to Mr. Corzine to warn about the company’s “disorganized” structure. “There is little business or dispositional integration between the many offices and branches,” the employee wrote. “There is, in short, no house culture.”

At a board meeting a month later, the report said, Mr. Corzine further learned that MF Global’s internal controls control were “flawed.” He and other managers received documents detailing dozens of gaps between the firm’s required risk policies and its actual practices. MF Global employees also put executives on notice that they lacked “the appropriate systems” to support the European wager.

Some employees, balking at the risk taking, planned to create a new risk system to forecast potential losses. But Mr. Corzine, according to Mr. Freeh, “stalled” the effort because it was unduly expensive.

The warning signs continued over the next year. In June 2011, more than a year after Mr. Corzine was first alerted to the problems, MF Global’s internal auditors sounded alarms about the firm’s inability to fully track its liquidity. In a submission to management, the auditors warned that “existing liquidity monitoring and forecasting is manual and limited.”

The 2011 submission also foreshadowed problems with customer money. MF Global, the auditors cautioned, placed “unnecessarily high reliance on key employees” to manage the firm’s liquidity reporting and monitoring, including a single employee in Chicago, Edith O’Brien. Ms. O’Brien later emerged as a crucial player in the federal investigation into missing customer money, as e-mails showed that she transferred customer money to an account at JPMorgan Chase.

Despite knowing the risks of relying on Ms. O’Brien, Mr. Freeh noted that MF Global’s management looked the other way. “The business accepts this risk and a formal action plan will not be tracked,” MF Global employees wrote at the time, according to Mr. Freeh’s report.

The firm’s Treasury Department, where Mr. O’Brien worked, also became a cause of concern when employees could not fulfill even simple requests for monthly cash flow reports. The problems forced other employees to “correct” MF Global’s accounting books manually “to make sure they were accurate.”

One employee described the Treasury Department’s systems as a “hodgepodge of systems and processes without a design,” according to Mr. Freeh’s report.

While the MF Global first learned of the problems in early 2010, MF Global executives did not plan to engineer a fix until February 2012. As it turned out, MF Global collapsed four months earlier.

“Instead of heeding the warnings, management began to execute Corzine’s vision,” the report said.