How Much Could the 1MDB Scandal Cost Goldman Sachs?

Posted December 9, 2018 7:35 p.m. EST

A huge fraud at a Malaysian investment fund has cast a harsh light on Goldman Sachs. But how much could the scandal cost the firm?

Wall Street has been trying to estimate the amount of legal penalties and settlements Goldman may pay after U.S. prosecutors unveiled a guilty plea by a former senior Goldman Sachs investment banker and charged a second banker.

The affair appears to have taken its toll on Goldman’s stock. Its shares are down 20 percent since the Justice Department’s charges were revealed. By comparison, bank stocks as a whole are down 6 percent, and shares of Morgan Stanley, Goldman’s rival, have fallen nearly 10 percent.

The ultimate size of the legal hit may largely depend on whether the Justice Department and others can demonstrate that Goldman’s controls were inadequate and that wrongdoing could take place more easily in its environment. Regulators such as the Federal Reserve and the New York state Department of Financial Services may also decide to penalize Goldman.

What was the fraud at 1MDB, and how was Goldman linked to it?

Malaysia’s government set up a fund called 1Malaysia Development Berhad, or 1MDB, in 2009. Goldman arranged three bond deals for the fund in 2012 and 2013 that raised $6.5 billion. Federal prosecutors say more than $2.7 billion of that sum was misappropriated.

Tim Leissner, a senior Goldman banker until 2016, pleaded guilty in August to taking part in bribery and money laundering schemes. The government has charged another former Goldman banker, Roger Ng, with conspiring to launder money and pay bribes. Ng was recently arrested by Malaysian authorities, and the Justice Department intends to extradite him to the United States.

Prosecutors have also brought charges against Jho Low, a Malaysian financier who served as an intermediary for Goldman in its dealings with Malaysian officials and 1MDB. According to the government, Leissner and Ng conspired with Low to hide his involvement with the fund.

Prosecutors are also examining a private meeting in 2012 between Low and Lloyd C. Blankfein, then Goldman’s chief executive, at the bank’s headquarters in New York.

What can Goldman do to minimize its legal payments?

Cooperating with law enforcement can help reduce penalties. Several analysts expect the government to force Goldman to disgorge the roughly $600 million it earned arranging the bond deals. The question is whether Goldman will also have to pay that amount, or twice the sum, to the government as a penalty.

Goldman has shared 1MDB-related communications between its employees and others with prosecutors, according to a person briefed on the case. But the importance of such information to the Justice Department is not known.

Just a few bad apples?

Goldman has publicly sought to portray the fraud as the work of a few employees who took significant steps to conceal the wrongdoing.

“These are guys who evaded our safeguards, and lie, stuff like that’s going to happen,” Blankfein said in early November. “Somebody’s going to use phones away from us, and personal this and personal that,” he added, referring to personal devices.

But the government documents suggest prosecutors might not be convinced that just a few employees were involved or that there weren’t weaknesses in Goldman’s compliance program.

In the charges against Low, prosecutors said, referring to Goldman: “The business culture at U.S. Financial Institution #1, particularly in Southeast Asia, was highly focused on consummating deals, at times prioritizing this goal ahead of the proper operation of its compliance functions.” And in Leissner’s charging document, prosecutors contended that “other employees and agents” of Goldman, and not just Leissner and Ng, had known about promises to pay bribes to secure 1MDB business.

The document also described another Goldman executive as a co-conspirator in the bribery scheme. This person, The New York Times reported last month, citing people familiar with the matter, was Andrea Vella, who was most recently co-head of investment banking in Asia for Goldman. Vella was suspended by the bank last month. His lawyer declined to comment.

And in his plea hearing, Leissner told the court that his efforts to conceal facts from the bank’s compliance and legal employees were “very much in the culture of Goldman Sachs.”

But Leissner did not expand on his assertion about Goldman’s culture in the redacted court transcript containing that remark. And it is important that the government has not charged Vella.

If prosecutors charge no one from Goldman besides Leissner and Ng, the bank’s “a couple of bad apples” defense may gain ground.

Why does the end game matter so much?

The degree of punishment exacted by the Justice Department could influence other lawsuits against Goldman Sachs. Take the possibility that the government and Goldman enter into a deferred prosecution agreement. Under such an agreement, the Justice Department files charges against a firm but asks that they be postponed while the firm take steps to address prosecutors’ concerns. In Goldman’s case, it might have to agree to revamp parts of its compliance program.

Particularly crucial in deferred prosecution agreements is the “statement of facts,” which describes the criminal activity and contains detailed evidence of wrongdoing. If Goldman ended up agreeing to a deferred prosecution agreement, the statement of facts could bolster lawsuits brought by two government investment funds from Abu Dhabi, United Arab Emirates, that played a role in 1MDB bond deals, said Peter Henning, a law professor at Wayne State University in Detroit and a Times DealBook columnist.

“We are in the process of assessing the details of allegations and fully expect to contest the claim vigorously,” Michael DuVally, a Goldman spokesman, said in an email, referring to the Abu Dhabi lawsuit.

Of course, Goldman’s lawyers can be expected to push for a nonprosecution agreement instead. The statement of facts with such an agreement would most likely be softer.