Ames sues ex-chairman for conflict of interest - Ames Department Stores Inc., James Harmon

Discount Store News, Nov 2, 1992 by Pete Hisey

ROCKY HILL, Conn. -- Ames has finally pulled the trigger on its long-threatened lawsuit against its onetime chairman, James Harmon, and its former investment bank, Wertheim Schroder, of which Harmon is also chairman.

The suit, filed in the United States Bankruptcy Court for the Southern District of New York, charges Harmon with breach of fiduciary duty and Wertheim Schroder with conflict of interest, lack of due diligence, professional malpractice, unjust enrichment and improper conduct.

The action asks for an estimated $375 million in damages and another $20 million in investment banking fees, plus unspecified punitive damages. Wertheim Schroder denied the allegations, and said that it will contest them vigorously. "Why, after four years, is this action suddenly coming up?" asked Wertheim Schroder vice president and director of marketing Davia Temin. "We think it has to do with Ames' inability to get its restructuring plan through, and it hopes that creditors will be swayed by hope certificates."

The last refers to Ames' promise to distribute nearly all funds recovered, if any, to creditors under Ames' amended reorganization plan, which a bankruptcy judge at press time ruled could be mailed out to all affected parties, indicating that Ames could emerge from Chapter 11 as early as calendar year-end. Reportedly, all major factions have accepted Ames' plan, and those that have not have until Dec. 3 to respond. A hearing has been set for Dec. 14 which could allow Ames to re-emerge.

The suit concerns the 1988 sale of Zayre Discount Stores, a subsidiary of Zayre Corp. (now TJX Corp.) to Ames. Ames charges that Wertheim Schroder, as investment advisors for both Zayre and Ames, was in conflict of interest, and advised Ames the Zayre's discount stores were worth much more than they were (and far more than the investment bank had told Zayre they were worth). Ames contends that the high purchase price, and subsequent debt, pushed the chain into Chapter 11 in 1990.

At the time, outgoing Ames chairman of the board Herb Gilman and board member John Geisse opposed the terms of the sale, and both resigned from the board in protest. The suit charges that Harmon, as chairman, effectively muzzled both Geisse and Gilman, who was ill with terminal cancer at the time, by cutting their comments and relegating them to voting last, so their views would not affect other voters.

The suit also charges that Harmon was aware Zayre's comparable store sales were slipping 10% a year, that is breakup value was considerably less than the figure he provided to Ames, and that the fair value of the chain on the market was up to $200 million less than the figure Ames eventually paid (before liabilities).

The suit charges that "by virtue of the investment banking services Wertheim Schroder had performed for Zayre, and (Wertheim co-chairman Robert F.) Shapiro's and (Wertheim president Steven) Kotler's insider knowledge of Zayre, Wertheim Schroder was fully aware of the poor financial condition of Zayre Department Stores and the likelihood that poor results would continue."

Harmon tried to indemnify himself and Wertheim Schroder from conflict of interest charges, the suit says, by calling in investment bank Bear Stearns to render a fairness opinion. However, Bear Stearns was given less than 24 hours to study documents (supplied by Wertheim Schroder) and forbidden to speak to Zayre, the filing states.

Harmon and top Ames management, mainly president Peter Hollis and cfo Duane Wolter, also cut senior financial officers out of the loop, the suit adds. Zayre chairman and ceo Maurice Segall had sent out an internal memo calling Zayre's summer performance "a prescription for going out of business," yet financial executives like vice president for planning, controller and others were "expressly excluded" from any decision-making, the filing states.

After the vote to make the acquisition, Ames had time to examine Zayre's books and back out. But Ames never conducted a physical inventory, and apparently kept its financial people away from the books, leaving the examination to Hollis (who has since settled with the company, on terms that were not announced), Wolter and Wertheim Schroder. As it turned out, the inventory was often obsolete and, in some stores, substantial amounts were missing.

Harmon, the suit charges, "[helped to put together] projections and pro forma financial statements that he knew or should have known were unrealistic and not achievable" while concealing from or failing to disclose to the Ames board "the $600 to $700 million valuation of Zayre done by Wertheim Schroder only months before, which was substantially below the price at which he urged the Board to proceed with the Zayre acquisition."

Wertheim Schroder shot back that, the allegations are "totally unfounded." Wertheim was a representative of both Zayre and Ames in long standing, Wertheim Schroder's Temin said, "and the dual relationship was fully divulged in an engagement letter, which Ames [through president Hollis] signed. This whole case is extraordinarily contestable."