9093 1 UNITED STATES OF AMERICA Before the 2 OFFICE OF THRIFT SUPERVISION DEPARTMENT OF THE TREASURY 3 In the Matter of: ) 4 ) UNITED SAVINGS ASSOCIATION OF ) 5 TEXAS, Houston, Texas, and ) ) 6 UNITED FINANCIAL GROUP, INC., ) Houston, Texas, a Savings ) 7 and Loan Holding Company ) ) OTS Order 8 MAXXAM, INC., Houston, Texas, ) No. AP 95-40 a Diversified Savings and ) Date: 9 Loan Holding Company ) Dec. 26, 1995 ) 10 FEDERATED DEVELOPMENT CO., ) a New York Business Trust, ) 11 ) CHARLES E. HURWITZ, ) 12 Institution-Affiliated Party ) and Present and Former Director ) 13 of United Savings Association ) of Texas, United Financial Group,) 14 and/or MAXXAM, Inc.; and ) ) 15 BARRY A. MUNITZ, JENARD M. GROSS,) ARTHUR S. BERNER, RONALD HUEBSCH,) 16 and MICHAEL CROW, Present and ) Former Directors and/or Officers ) 17 of United Savings Association of ) Texas, United Financial Group, ) 18 and/or MAXXAM, Inc., ) ) 19 Respondents. ) 20 21 TRIAL PROCEEDINGS FOR 12-5-97 22 9094 1 A-P-P-E-A-R-A-N-C-E-S 2 ON BEHALF OF THE AGENCY: 3 KENNETH J. GUIDO, Esquire Special Enforcement Counsel 4 PAUL LEIMAN, Esquire (Not present) SCOTT SCHWARTZ, Esquire (Not present) 5 BRUCE RINALDI, Esquire RICHARD STEARNS, Esquire (Not present) 6 and BRYAN VEIS, Esquire (Not Present) of: Office of Thrift Supervision 7 Department of the Treasury 1700 G Street, N.W. 8 Washington, D.C. 20552 (202) 906-7395 9 ON BEHALF OF RESPONDENT MAXXAM, INC.: 10 FRANK J. EISENHART, Esquire 11 of: Dechert, Price & Rhoads 1500 K Street, N.W. 12 Washington, D.C. 20005-1208 (202) 626-3306 16 13 DALE A. HEAD (in-house) 14 Managing Counsel MAXXAM, Inc. 15 5847 San Felipe, Suite 2600 Houston, Texas 77057 16 (713) 267-3668 17 ON BEHALF OF RESPONDENT FEDERATED DEVELOPMENT CO. AND CHARLES HURWITZ: 18 RICHARD P. KEETON, Esquire 19 KATHLEEN KOPP, Esquire (Not present) of: Mayor, Day, Caldwell & Keeton 20 1900 NationsBank Center, 700 Louisiana Houston, Texas 77002 21 (713) 225-7013 22 9095 1 ON BEHALF OF RESPONDENT FEDERATED DEVELOPMENT CO., CHARLES HURWITZ, AND MAXXAM, INC.: 2 JACKS C. NICKENS, Esquire 3 of: Clements, O'Neill, Pierce & Nickens 1000 Louisiana Street, Suite 1800 4 Houston, Texas 77002 (713) 654-7608 5 ON BEHALF OF JENARD M. GROSS: 6 PAUL BLANKENSTEIN, Esquire 7 MARK A. PERRY, Esquire (Not present) of: Gibson, Dunn & Crutcher 8 1050 Connecticut Avenue, N.W. Washington, D.C. 20036-5303 9 (202) 955-8500 10 ON BEHALF OF BERNER, CROW, MUNITZ AND HUEBSCH: 11 JOHN K. VILLA, Esquire MARY CLARK, Esquire 12 PAUL DUEFFERT, Esquire (Not present) of: Williams & Connolly 13 725 Twelfth Street, N.W. Washington, D.C. 20005 14 (202) 434-5000 15 OTS COURT: 16 HONORABLE ARTHUR L. SHIPE Administrative Law Judge 17 Office of Financial Institutions Adjudication 1700 G Street, N.W., 6th Floor 18 Washington, D.C. 20552 Jerry Langdon, Judge Shipe's Clerk 19 REPORTED BY: 20 Ms. Marcy Clark, CSR 21 Ms. Shauna Foreman, CSR 22 9096 1 2 EXAMINATION INDEX 3 4 JAMES WOLFE 5 Page 6 Cross-Examination by Mr. Nickens.........9097 7 Cross-Examination by Mr. Keeton..........9204 8 Redirect-Examination by Mr. Guido........9206 9 Recross-Examination by Mr. Nickens.......9285 10 Redirect-Examination by Mr. Guido........9285 11 12 13 14 15 16 17 18 19 20 21 22 9097 1 P-R-O-C-E-E-D-I-N-G-S 2 (9:00 a.m.) 3 THE COURT: Be seated, please. The 4 hearing will come to order. 5 I believe the direct examination of 6 Mr. Williams is complete. 7 MR. NICKENS: Mr. Wolfe, Your Honor. 8 THE COURT: Mr. Wolfe. 9 10 CROSS-EXAMINATION 11 12 13 Q. (BY MR. NICKENS) Good morning, 14 Mr. Wolfe. 15 A. Good morning. 16 Q. How are you doing this morning? 17 A. Just fine. 18 Q. Are you prepared to help us bring some 19 additional information to Judge Shipe concerning 20 your knowledge about USAT? 21 A. Yes, sir. 22 Q. In fairness to you and to the record 9098 1 and I guess the respondents, most of the questions 2 that Mr. Guido asked you related to events that 3 occurred anywhere from 9 to 13 years ago; is that 4 correct? 5 A. That's correct. 6 Q. And you've forgotten a lot of the stuff 7 that you knew at the time; is that correct? 8 A. That's correct. 9 Q. And in recent times, you have met with 10 the parties and discussed the issues and been 11 shown a small portion of the documents related to 12 the case; is that right? 13 A. That's correct. 14 Q. Now, I'm going to try to ask you 15 questions to elicit what you recall as to the 16 events that occurred back 9 and 13 years ago. 17 Is that okay? 18 A. Yes, sir. 19 Q. It could be important to the judge to 20 know the difference between what you recall and 21 what you believe to be the case based upon what 22 you have been shown of late. 9099 1 You do understand the distinction? 2 A. Yes, sir. 3 Q. If you would, as we go through this, if 4 you could indicate -- and again, as I say, I'll 5 try to ask you questions that will make that 6 clear -- indicate those things that are based upon 7 your recollection, however the status of that may 8 be, as opposed to the things that have been 9 discussed in recent days. 10 Can you do that for us? 11 A. I will try. 12 Q. Now, you indicated that it's hard to 13 differentiate between what you recall and what you 14 had read or been told in recent days; is that 15 correct? 16 A. That's correct. 17 Q. Now, with regard to your educational 18 background and training, you told us that you had 19 spent some 10 years at Peat Marwick -- 20 A. That's correct. 21 Q. -- before going to USAT? 22 A. Yes, sir. 9100 1 Q. Tell the judge what your activities 2 were and the development of your career while at 3 Peat Marwick. 4 A. Yes, sir. I started out as a staff 5 accountant in 1974, January, and progressed over 6 the next 10 years up to an audit manager, 7 primarily auditing financial institutions. 8 Q. Who were some of the financial 9 institutions -- that would have been in the 10 Houston area? 11 A. Yes, sir. 12 Q. Who were some of the financial 13 institutions that you had responsibility for for 14 auditing during that time frame? 15 A. University Savings, San Jacinto 16 Savings, Heights, Orange Savings, Commerce 17 Savings, Brian Building and Loan, Continental 18 Mortgage Company, AIM Investments. I can think of 19 more, but it will take longer if you want. 20 Q. And there's a large variety of 21 institutions within that group, correct? 22 A. Size wise, yes, sir. 9101 1 Q. And some of those being quite 2 substantial institutions and some of them quite 3 small? 4 A. That's correct. 5 Q. Now, did you find that experience 6 useful in your responsibilities at USAT? 7 A. Yes, sir. 8 Q. Why don't you explain to the judge how 9 that experience translated into your on-the-job 10 responsibilities at USAT. 11 A. I guess especially in the case of 12 United where I was also on that audit and left 13 that off of the list initially, you gain an 14 overall understanding of the entire association or 15 entity that you're auditing from all aspects of 16 it. And so, I was able to be familiar with all 17 the various activities that were going on, maybe 18 not in detail but at least had a general 19 understanding of how each department or division 20 operated. 21 Q. Now, all of these clients that you were 22 working for were clients of Peat Marwick? 9102 1 A. That's correct. 2 Q. Explain to the judge what the status 3 was of Peat Marwick with regard to the S&L 4 industry and auditing and accounting vis-a-vis 5 other auditing and accounting firms in the -- that 6 were doing work in the S&L industry. 7 A. Certainly in Houston, the Houston area, 8 I believe we were the dominant accounting firm as 9 far as financial institutions practice, and I 10 believe that was true on a national wide basis, as 11 well. 12 Q. And by "dominant," what do you mean? 13 A. It had the largest percentage of 14 clients and assets. 15 Q. And do you have any estimate of what 16 percentage that might have been so many years ago? 17 A. No, sir. I really don't recollect. 18 Q. Now, what was -- after you came to work 19 at USAT -- well, let me ask you this: You 20 indicated in your testimony that Mr. Millinor 21 perhaps was the first person that spoke to you 22 about a position at United Savings? 9103 1 A. That's correct. 2 Q. Now, tell the Court who Mr. Millinor 3 was and what your relationship was to him. 4 A. Mr. Millinor was the engagement partner 5 on the audit, and I was the manager on the 6 engagement. And I reported directly to him. 7 Q. And did you know Mr. Parsons? 8 A. Yes. 9 Q. And what was your relationship to 10 Mr. Parsons? 11 A. I was on the audit of United -- I'm not 12 sure how many years prior, but I believe at some 13 point in time Joe Parsons was the senior 14 accountant who would have been the individual 15 responsible for the day-to-day engagement, audit 16 engagement. 17 Q. And to whom did he report? 18 A. To me. 19 Q. So, the reporting relationship was 20 Mr. Parsons to you and then you to Mr. Millinor? 21 A. That's correct. 22 Q. And where did Mr. Claiborne fit into 9104 1 this hierarchy? 2 A. I guess in two areas. Initially, he 3 was not the engagement partner, but he was the -- 4 for the Houston office, I believe he was an SEC 5 reviewing partner and would review all the audit 6 reports that were issued on any public company of 7 which United was. So, I believe initially, he 8 was -- had a review function for the examination 9 or for the audit financials before they went out. 10 That would have been the relationship while I was 11 at Peat Marwick. 12 Q. And how long before joining USAT in 13 March or April of 1984 had you been working on the 14 auditing of USAT's books? 15 A. I'm not sure. Maybe two or three 16 years, but I don't really recall when they became 17 a client. 18 Q. Did the -- were the auditors changed 19 when MCO and Federated obtained their interest in 20 the stock of UFG? 21 A. No, sir. I don't believe. I believe 22 that the -- when United was spun off from Kaneb, I 9105 1 believe, was when the audit -- let me think here. 2 United was a -- I believe an Arthur 3 Young client when they were owned by Kaneb, I 4 think. I'm not sure. But there was a spinoff. 5 They were merged with Houston First, I believe, 6 and I really don't recollect specifically when -- 7 Q. Okay. Do you associate the 8 relationship in any way with the ownership by MCO 9 and Federated -- that is, the relationship between 10 Peat Marwick and United Savings? 11 A. No, sir. 12 Q. Now, what is your view of the 13 competence of Peat Marwick in this time frame in 14 doing accounting and audit work for savings and 15 loan? 16 A. Very competent. 17 Q. Now, with regard to the people that you 18 worked with at United Savings, on a day-to-day 19 basis, what was your perception of the people who 20 ran the institution? 21 A. From an accounting perspective, 22 specifically the accounting department, not very 9106 1 good. 2 Q. Okay. And why is that? 3 A. The records were difficult to audit. 4 We spent an enormous amount of time auditing the 5 institution, and it was a very difficult 6 engagement. Nobody in the Houston office liked 7 being on the engagement. In retrospect, I 8 remember very clearly asking Rick Millinor when 9 the engagement was obtained if he needed any help 10 on that, I would be glad to help him. And I know 11 that I have thought about that, from the 12 difficulty of the hours that we spent, that I 13 wished I had never asked that question. 14 Q. Again, this was prior to the time of 15 any ownership by MCO or Federated? 16 A. To my knowledge, it was. 17 Q. Now, how did that change when you 18 became employed -- what did you do to try to 19 improve the situation, Mr. Wolfe, when you became 20 the controller of United Savings? 21 A. Upgrade the staff. 22 Q. And how did you go about doing that? 9107 1 A. One of the first things I did was to 2 hire away from Peat Marwick a guy by the name of 3 Ron Carlson and just continued to add additional 4 people who worked very hard to fix up the 5 accounting. They were -- just generally bringing 6 in what I thought were better people to do the 7 work. 8 Q. Okay. Let me show you a document that 9 has been marked as Exhibit A10748. Could you 10 identify this document for the Court? 11 A. How? By reading the subject matter? 12 Q. Yes. Tell us what it is. It bears 13 your name. 14 A. Oh, okay. It's a memo from myself to 15 Mike Crow regarding the accounting department 16 staffing, and it was written after -- it was 17 written after my department had been criticized by 18 the examiners as to the accuracy of the TFR report 19 which, at the time, I did not feel was very -- 20 while there were certainly -- it wasn't 21 100 percent correct, I don't think that it was 22 misleading in any fashion. 9108 1 Q. Now, you referred to this document 2 yesterday when you identified the number of 3 employees that had worked in the accounting 4 department. 5 Do you recall that? 6 A. Yes, sir, I do. And that's why I knew 7 the number was 51, because I had seen my 8 description of the former employees. 9 Q. Okay. It was a fairly unflattering 10 description. You referred to your department as 11 consisting of 51 numb nuts? 12 A. Yes, sir. 13 Q. And this was shown to you at the time 14 of your deposition a couple of years ago? 15 A. That is correct. 16 Q. Now -- and you describe there what you 17 had done to try to improve the situation since you 18 first came; is that correct? 19 A. That's correct. 20 Q. And one of the things you had done was 21 to reduce the number of the staff -- 22 A. That's correct. 9109 1 Q. -- to 28 professionals? 2 A. That's correct. 3 Q. What did you mean by "professionals"? 4 A. As opposed to clerical people and also 5 with what I felt were better credentials and more 6 professional in their approach to getting the job 7 done and getting it done correctly. 8 Q. Now, in order to make this changeover, 9 did you have to pay these people more than the 10 people they replaced? 11 A. In some instances, yes. 12 Q. So, you were trying to work with fewer 13 people -- fewer, more-qualified people? 14 A. That's correct. 15 Q. And you indicate here that the audit 16 bill for the year before was -- 17 MR. NICKENS: Your Honor, we offer 18 Exhibit A10748. 19 MR. GUIDO: No objection, Your Honor. 20 THE COURT: Received. 21 Q. (BY MR. NICKENS) You indicate here -- 22 what was the audit bill for the year before that 9110 1 you came to USAT? 2 A. That would have been 410,000. That was 3 the last year, I believe, I was on the engagement. 4 Q. And the billing rate -- what was the 5 significance of that reference? 6 A. The 50 percent? 7 Q. Yes, sir. 8 A. That means that the actual fee that was 9 twice -- well, instead of being 410 was 810,000 10 divided by whatever the standard billing rate 11 would have given you the number of hours that 12 Peat Marwick had spent in finishing the 13 engagement. 14 Q. Now, that was a very substantial number 15 of hours as reflected by a full rate of, what, 16 820,000? 17 A. Yes, sir. 18 Q. And -- now, did your group work hard? 19 A. Yes, sir. 20 Q. And did you specifically reference that 21 on the second page of Exhibit A10748? 22 A. That's correct. 9111 1 Q. And read for the Court there what you 2 had cited back in 1987 as an example of your 3 department's hard work. 4 A. "As an example, during a ten-week 5 period commencing January 12th, approximately 15 6 people in the accounting department worked 7 approximately 2,000 hours of overtime." 8 Q. Now, after you had made these changes, 9 did you feel your department was competent? 10 A. Yes, sir. 11 Q. Did you feel like you were 12 satisfactorily accomplishing the responsibilities 13 you had been given? 14 A. Yes, sir. 15 Q. And let me -- so we have a little 16 better record of that, let me show you a document 17 that has been marked Exhibit B4025. 18 Can you tell the Court what B4025 is? 19 A. It's the job description of -- that 20 I -- as it related to my job at United. 21 Q. And looking down there, is it accurate 22 as far as you can recall? 9112 1 A. Yes, sir. 2 Q. And what does it focus on, Mr. Wolfe? 3 A. Primarily accounting issues. 4 Q. And what were your responsibilities 5 with regard to public reporting, preparing 6 reports, if you will? 7 A. It was my responsibility to provide -- 8 as it related to accounting issues for all the SEC 9 reporting. 10 Q. And if we look at No. 3 -- 11 MR. NICKENS: Your Honor, we offer 12 B4025. 13 MR. GUIDO: No objection, Your Honor. 14 THE COURT: Received. 15 Q. (BY MR. NICKENS) Your first 16 responsibility was administering the company's 17 accounting system to maintain financial records; 18 is that right? 19 A. Yes, sir. 20 Q. That's what the document says, and I 21 guess my question, Mr. Wolfe, is: Is that 22 accurate as far as you can recall? 9113 1 A. Yes, sir. That's certainly what we 2 tried to do. 3 Q. And in the general description, it 4 indicates that your department had the 5 responsibility for maintaining the general ledger 6 and regulatory agency and government reports. 7 Is that accurate? 8 A. Yes, sir. 9 Q. In addition to that, you prepared 10 reports for top management and had responsibility 11 for safeguarding the company's assets. 12 Is that accurate? 13 A. Yes, sir. 14 Q. And if you look down at No. 9, it says 15 that you had the responsibility for evaluation of 16 potential asset/liability disposition and 17 acquisition. 18 A. Yes, sir. 19 Q. Now, tell the Court what was involved 20 in exercising that responsibility. 21 A. I do not recall specifically what that 22 would mean; but in reading it, it would be as far 9114 1 as it relates to the accounting issues that might 2 be involved. It would not be, you know, an 3 evaluation of the merits of it but more along the 4 lines of the accounting for it. 5 Q. You didn't have responsibility for 6 making decisions as to when to buy or sell assets? 7 A. No, sir. 8 Q. But you did have responsibility for 9 accounting for those transactions? 10 A. That's correct. 11 Q. Now, in exercising your part of that 12 responsibility, what information did you get on a 13 routine basis? 14 A. Whatever information that I thought 15 would be needed at the time in order to make that 16 conclusion. 17 Q. Did you ever have any situation that 18 you can recall in which information necessary for 19 you to exercise that responsibility was denied to 20 you? 21 A. Never. 22 Q. Now, I want to ask you some questions 9115 1 about the other people at USAT while you were 2 there. And I realize we're talking about a four- 3 or five-year period, so, it changes somewhat. But 4 what was your -- first of all, who were the 5 primary people that you worked with on a 6 day-to-day basis in the management of the 7 institution? 8 A. Primarily, Mike Crow was who I reported 9 to. I worked with Bruce Williams a lot, Art 10 Berner, primarily with the regulatory issues. I 11 mean, there was hardly -- there was no one -- I 12 mean, I can go through all the departments if 13 that's what you would like. 14 Q. No, sir. I'm trying to get your sense 15 of it and what you think is important in 16 responding to the question. 17 A. All right. On the real estate side, 18 David Graham and Gem Childress, which was a large 19 area for us. I can't think of the gentleman's 20 name, but a lot of interaction with the individual 21 that was in charge of the REO department. Staff, 22 I believe was his name. Mr. Staff. The 9116 1 interaction with the people on the investment side 2 was more of an information gathering aspect rather 3 than, you know, reporting relationships or 4 anything, just trying to understand what they were 5 doing and that sort of thing. 6 Q. And that was part of your 7 responsibility, to understand what they were 8 doing? 9 A. Yes, sir. 10 Q. And with whom did you interact in 11 exercising that responsibility? 12 A. Joe Phillips, Sandy Laurenson, Gene 13 Stoddart, Ron Huebsch. I can't think of any other 14 names in that area. 15 Q. What was your reporting relationship or 16 interaction with Mr. Gerald Williams? 17 A. It was limited only because he -- I did 18 not report directly to him, but I was in numerous 19 meetings with him and had discussions with him. 20 He was accessible to me, as was Jenard Gross, as 21 well, at the same time. 22 Q. Now, is the group that you have named 9117 1 the group that you would identify as the 2 management of the company? 3 A. Yes, sir. 4 Q. On a day-to-day basis? 5 A. Absolutely. 6 Q. Now, what was the -- well, let me ask 7 you this question: In terms of their work ethic, 8 this group of people, what was your impression of 9 them? 10 A. I've never worked with a better group. 11 Q. And I gather that's an accolade? 12 A. Yes, sir. 13 Q. So, they worked hard? 14 A. Yes, sir. Very hard. 15 Q. And what was your impression of their 16 competence in their job? 17 A. The people that were brought in were, 18 in my opinion, the best and the brightest that I 19 had ever been associated with. 20 Q. What was your impression in terms of 21 their intelligence and devotion to their 22 responsibilities? 9118 1 A. Excellent. 2 Q. What was your impression in terms of 3 their honesty? 4 A. I never felt that anything was ever 5 withheld, and anything that was done was always 6 honorable and with best intentions. 7 Q. Do you know of any instance where these 8 people lined their own pockets to the detriment of 9 United Savings? 10 A. No, sir. 11 Q. Do you know of any favorable loans to 12 family, friends, or to these specific people that 13 they pushed through the institution? 14 A. No, sir. None other than what would -- 15 and they are not favorable, but any loans that 16 were made were disclosed as to their terms. 17 Q. Do you know of any instances with 18 regard to these people of embezzlement or other 19 acts of dishonesty? 20 A. None at all. 21 Q. Was it your impression that they were 22 paid exorbitant, undeserved compensation? 9119 1 A. No, sir. I don't -- two comments 2 there. One, in my own case, I know that a study 3 was performed by some consulting firm. I can't 4 remember the name. Hewitt, I believe, and another 5 firm. I think there were two studies done. And 6 as it relates to my own salary, what I made at the 7 failed institution was also the salary -- the same 8 salary I received whenever I was hired or whatever 9 the deal was with the Bank United. And I know 10 that in the case of Jim Jackson, he was in the 11 same -- or the same situation occurred to him as 12 occurred to me. He went to work for Bank United, 13 as well. 14 Q. Now, with regard to this issue, you 15 were familiar with what other people in the 16 institution made because you had to report it, at 17 least in some instances. Right? 18 A. I was familiar with it as it related to 19 any disclosures that were made in the 10Q or the 20 proxy statements. 21 Q. And you had been familiar with what 22 other people had been paid in other institutions 9120 1 as a result of your audit work at those 2 institutions? 3 A. To a degree, yes, sir. 4 Q. Now, what was the role of Mr. Munitz in 5 the -- as far as your perception of it, in the 6 management of United Savings? 7 A. He provided -- my perception of what 8 his role was was more of a -- I'm trying to think 9 of the word -- more of an overall perspective of 10 where the association was headed. Not -- you 11 know, he didn't -- not day to day, I guess, is the 12 best way to put it. More guidance than 13 implementation. 14 Q. Was it your impression that Mr. Munitz 15 was jamming his will down the throats of the 16 people at United Savings? 17 A. Jamming? I'm not -- 18 Q. It may a little bit colorful. Was he, 19 in your way of thinking, imposing his will on the 20 institution? 21 A. No, sir. I think if there were things 22 that people were against or felt were inaccurate 9121 1 or the wrong way to -- not inaccurate but 2 inappropriate or did not make business sense, they 3 would have discussed them and reached an agreement 4 as to which way to go. 5 Q. What was your impression of 6 Mr. Hurwitz' role in the institution? 7 A. I would say similar to Mr. Munitz' but 8 one step away. 9 Q. Okay. 10 A. Or higher. 11 Q. All right. One step removed and above 12 Mr. Munitz? 13 A. Yes. 14 Q. Okay. Now, Mr. Wolfe, I want to ask 15 you some questions with regard to some accounting 16 issues. And first, I would like to ask you to 17 look at a document that has been labeled as B468. 18 Would you identify for the record B468 19 for us? 20 A. Yes, sir. It's a memo to me. Based 21 upon recognition of these initials for Mike Crow 22 where it says down at the bottom, "I assume you 9122 1 are becoming our expert on minimum net worth 2 requirements, direct investment, and other related 3 regulations." 4 Q. Dated March 20th, 1985; is that 5 correct? 6 A. That's correct. 7 MR. NICKENS: Your Honor, we offer 8 B468. 9 MR. GUIDO: No objection, Your Honor. 10 THE COURT: Received. 11 Q. (BY MR. NICKENS) Now, this is another 12 aspect of your responsibilities, is it not, 13 Mr. Wolfe? 14 A. Yes, sir. 15 Q. And explain to the Court with regard to 16 these regulatory issues what you did as you recall 17 now 13 -- 12, 13 years later as to how you went 18 about trying to exercise those responsibilities. 19 A. It would be reading the regulations, 20 trying to interpret what they meant, seeking 21 outside help either from internal counsel or they, 22 in turn, would seek it from outside counsel as to 9123 1 what the regulations meant and how to apply them. 2 And then once we, you know, would have an 3 understanding of what they were getting at, then 4 try -- well, not try. Then go get the accounting 5 numbers that were required and do the calculations 6 to see where we were as far as it related to 7 compliance. 8 Q. Now, when you were an auditor for 9 Peat Marwick auditing other S&L institutions and 10 auditing United Savings, did you have any 11 responsibility for auditing their compliance with 12 regulatory requirements? 13 A. I don't recall specifically, but I 14 believe that any regulatory compliance matter, 15 such as net worth, were an unaudited footnote. I 16 believe that's correct. 17 Q. Was regulatory compliance a part of the 18 routine audit process, or was it outside the 19 routine audit process? 20 A. I mean, it would have been reviewed in 21 connection with the examination. But I don't 22 think -- I'm not -- I don't recall specifically, 9124 1 but I do not believe that it's part -- back then 2 was not part of the audited financials. It would 3 have been a footnote, but it would have been 4 marked "unaudited," I think. 5 Q. What do you mean by "it would have been 6 reviewed but unaudited"? 7 A. To me, that means that the auditors 8 would express no opinion as to its fairness. 9 Q. But what do you mean by it being 10 reviewed? 11 A. You would look at it for reasonableness 12 to make sure that it was not totally misleading. 13 Q. Okay. Now, with regard to the audit 14 process while you were at United Savings, describe 15 for the Court how that -- what -- how that 16 occurred, what happened in the sort of routine 17 standard audit process between you and 18 Peat Marwick. 19 A. As it relates to the net worth or -- 20 Q. No. Just the process, Mr. Wolfe, you 21 know. How did people come in? What kind of 22 information did they ask for? What did they -- 9125 1 how did the process go that led up to the question 2 of whether the accountants would certify your 3 financial records according to GAAP? 4 A. Yes, sir. I was the primary liaison 5 between the institution and the auditors. So, on 6 a quarterly basis, they came in and conducted a 7 review of our quarterly results and quarterly 8 financial results and a review of our 10Q and I 9 believe also issued a letter describing the 10 procedures which they had done which was attached 11 to the 10Q. And any issues that would come up in 12 a quarter were -- while they were -- it was a 13 review, not an audit, we tied everything down so 14 that whenever the final examination came around, 15 each quarter had been, in effect, audited so that 16 we would not have to worry about any kind of audit 17 adjustments in connection with issuing the 18 financials at the end of the year. And then when 19 the examination came -- or when the examination 20 date which, I believe, was 12-31, a lot of the 21 work had been done. And so, they would come in in 22 January. We always strived to release earnings by 9126 1 the end of January. And so, they would conduct 2 just a regular examination during that period. 3 Q. Well, the Court may not know what a 4 regular examination involves. And we see here 5 that, at least before you came, Peat Marwick was 6 charging, you know, upwards of $400,000 for these 7 activities. 8 So, could you give us a little more 9 detail about what was involved in the audit 10 process, the give and take, the questions of what 11 they -- what kind of things would they look at? 12 A. They would look at all the significant 13 transactions that had occurred during the year and 14 made sure that they understood and that -- based 15 on the facts and documentation, would determine 16 whether or not these transactions were -- had been 17 recorded by me or management in accordance with 18 GAAP. 19 So, if they needed any support, whether 20 it's an invoice or contracts or management 21 representations as to what the transaction was, we 22 would provide that information as needed. 9127 1 Q. Now, as a part of the routine audit 2 process, did Peat Marwick review minutes of 3 various committees? 4 A. My understanding is that they did. I 5 don't recall giving them those minutes, but I know 6 that a minute -- what's called, I believe, a 7 minutes representation letter is given to them 8 saying that all minutes of the board and any other 9 committees or any committees of the institution 10 had been provided to them. 11 Q. And that would include, in the instance 12 of USAT, the investment committee? 13 A. I believe it would, yes, sir. 14 Q. The asset/liability committee? 15 A. Yes, sir. 16 Q. The minutes of the board of directors? 17 A. That's correct. 18 Q. Now, Mr. Wolfe, with regard to some of 19 the specific issues raised with -- by Mr. Guido 20 with you, I'd like to start by asking you some 21 questions about United Mortgage Finance. And you 22 recall that was the subsidiary that was set up at 9128 1 the end of 1985 and then was dissolved shortly 2 after it was set up and involved the purchase and 3 then the sale of some mortgage-backed securities 4 and some hedging instruments? 5 A. That's correct. 6 Q. Okay. Now -- and I've told you about 7 that. Why don't -- if you can separate from that, 8 can you tell the Court what you actually remember 9 about that situation? 10 A. What I remember from what I've seen 11 recently or from what I remember as of 12 December 1985 because -- 13 Q. This is one of those hard situations 14 where I'd like for you to be able to try to tell 15 the Court what you remember before you talked to 16 the lawyers in the case and looked at these -- 17 whatever you were shown a portion of fairly 18 recently. 19 A. To be honest, very little. You know, I 20 do remember the subsidiary. I remember the issue 21 involved with the liability growth. But it is, in 22 my mind, even after I've looked at these documents 9129 1 let alone from what I recall, a very -- it's very 2 easy for me to get confused between all of these 3 different entities and portfolios. 4 Q. Now, was the -- as far as you could 5 perceive it -- the liability growth issue some 6 bogus issue intended to simply be an excuse to 7 sell assets at a gain? 8 A. No, sir. 9 Q. Before this proceeding, has any such 10 intimation ever been raised with you? 11 A. No, sir. 12 Q. Did the accountants who looked at that 13 transaction review it? 14 A. Did they review the transaction? 15 Q. Yes, sir. The transactions involved in 16 the setting up and then the collapse or 17 dissolution of United Mortgage Finance. 18 A. I don't recall whether they looked at 19 the setting up, but I do recall conversations and 20 I do know that -- I do recall the -- that it was a 21 very technical transaction due to the fact that 22 Walter Schuetze and Walter Erickson were contacted 9130 1 on how to do the proper accounting for it and that 2 when those kinds of resources are brought to bear 3 on an accounting issue, it is not an every day, 4 normal transaction. 5 Q. Okay. Well, let's explore what was a 6 little bit -- what was out of the ordinary with 7 regard to United Mortgage Finance. 8 There was involved a sale of 9 mortgage-backed securities and the recording of a 10 gain from that sale. Right? 11 A. That's correct. 12 Q. Was there anything unusual about the 13 accounting for that part of the transaction? 14 A. I don't recall anything unusual about 15 it. 16 Q. And in addition to that, there were 17 certain swaps that were transferred to United 18 Savings, and I'm trying to distinguish now, 19 Mr. Wolfe, from those that were mirrored. That 20 is, some of the swaps were transferred. If you 21 don't remember that, I'll ask you to assume that. 22 Do you recall -- was there any 9131 1 accounting issue with regard to the transfer of 2 the swaps apart from the mirrored issue? 3 A. The transfer? I don't -- 4 Q. Okay. Let me ask you to look at a 5 document that Mr. Guido went over with you 6 yesterday. And it's Exhibit B819 at Tab 585. 7 8 (Discussion off the record.) 9 10 Q. (BY MR. NICKENS) Mr. Wolfe, do you 11 recall -- 12 MR. NICKENS: I gave the wrong tab 13 number, Your Honor. It's 586, Exhibit B819. 14 Q. (BY MR. NICKENS) And do you recall, 15 Mr. Wolfe, that this -- we had typed out a version 16 of Mr. Millinor's handwritten notes so that we 17 could more easily read them. 18 A. I recall this from yesterday. 19 Q. Now, do you see -- I'd like to ask you 20 to focus on -- after the numbered paragraphs -- 21 that first full paragraph and the last sentence of 22 that paragraph where it says, "They point out 9132 1 correctly that if they simply were trying to boost 2 earnings, they wouldn't have acquired the mirror 3 and the gain would be clearly recognizable with no 4 offsetting costs." 5 Do you see that? 6 A. Yes, sir. 7 Q. So, if you had not acquired the mirror, 8 simply sold the securities, and retained the 9 swaps, you would have, as it put here, recognized 10 the gain clearly recognizable with no offsetting 11 costs. 12 Do you see that? 13 A. Yes, sir. 14 Q. So, can you tell us based upon that 15 information about whether there was any issue 16 concerning whether you had to recognize the 17 mark-to-market loss, if you will, that may have 18 been in the swaps from this transaction? 19 A. I really don't recall specifically any 20 requirement that -- as it related to this 21 transaction. I mean, the accounting rules back 22 then were, at best, in my opinion, not very direct 9133 1 or don't specifically address a lot of issues. 2 And I have -- well, I have a tough time in some of 3 these issues trying to differentiate between what 4 I know today and what I knew then. 5 Q. Sure. And I asked you to try to do 6 that, and I'm going to try not to intrude on what 7 I asked you to do before. And if you can merely 8 identify for us, as you have, hopefully we'll get 9 the record in good shape. 10 Now -- but looking at the document, the 11 difficult accounting issue was presented because 12 of the mirror; isn't that correct? 13 A. From reading this, yes. 14 Q. And the reason was the question of 15 whether the mirror had, in effect, terminated that 16 portion of the swap so that the loss would have to 17 be recognized? 18 A. I'm sorry. Could you repeat that again 19 because I -- 20 Q. The difficult issue presented and the 21 one that went to Mister -- to the highest levels 22 of Peat Marwick had to do with the mirroring of 9134 1 the portion of the swaps and not to the rest of 2 the transaction? 3 A. Well, my recollection is that the 4 entire transaction was under scrutiny. 5 Q. Yes, sir. 6 A. And that, you know, you can't go in and 7 zero in on one piece of it and make a conclusion, 8 that you have to look at all the pieces and how 9 they all fit together. And so, I don't 10 necessarily recall that the mirror was the big 11 issue. 12 Q. Fair enough. Fair enough. And then we 13 just -- we have the document itself as to what 14 Mr. Millinor thought, and I believe, fortunately 15 that he's going to be here to give us his 16 recollection of these events. 17 And with regard -- let me ask you a 18 question with regard to the second full paragraph 19 up there at the top. "Although United matches up 20 their securities with their swaps on a macro 21 basis, no specific identification exists between 22 any single security or group of securities and any 9135 1 single swap agreement." 2 Do you see that? 3 A. Yes, sir. 4 Q. Now, explain to the Court your 5 understanding of the difference between "macro" 6 and "micro" hedging. 7 A. To me, "macro" would mean just that, 8 that it could be -- it is a hedge that is there 9 that is meant to take away some form of interest 10 rate risk for -- I'd call it the portfolio, the 11 liability portfolio or the deposit or asset 12 portfolio, whatever it is that you're trying to 13 hedge as opposed to -- specifically, in the case 14 of "micro," to me that would mean that you have 15 specifically identified a swap and attached it to 16 a particular liability or asset. 17 Q. And what is the significance of the 18 difference between -- in this particular time 19 frame -- asset hedge and a liability hedge from an 20 accounting point of view? 21 A. What is the difference? 22 Q. Yes, sir. 9136 1 A. One would hedge an asset and one would 2 hedge a liability. 3 Q. And were there different accounting 4 results associated with how you classified the 5 nature of the hedge? 6 A. If I understand your question 7 correctly, there would be -- how you classify a 8 hedge would give you a different accounting 9 treatment. 10 Q. Okay. And tell the Court your 11 understanding of that difference. 12 A. If you are hedging an asset or a 13 liability that is on your books and it is related 14 to that asset or liability, then that is a hedge. 15 If there -- but if there is -- if there is nothing 16 specifically identified, then I'm not sure what 17 you're hedging. 18 Q. And that may have some impact as to the 19 recognition of gains or losses associated with 20 that instrument. Right? 21 A. That's correct. 22 Q. Now, the bottom line to all of this is 9137 1 that this went to the very highest levels of 2 Peat Marwick and the transaction was approved; is 3 that right? 4 A. That's correct. 5 Q. So, the treatment that you had given it 6 was approved? 7 A. That's correct. 8 Q. And let's set that out for the Court, 9 if we can. With regard to the sale of the assets, 10 the MBS, those gains were recognized at year end 11 1985? 12 A. That's correct. 13 Q. And that's when they were sold? 14 A. That's correct. 15 Q. And with regard to the mirrored swaps, 16 there was no gain or loss recognized until you 17 actually made payments pursuant to those 18 instruments? 19 A. That is my recollection. 20 Q. And as to the swaps that were 21 transferred, a similar treatment was given; that 22 is, there was no recognition of gain or loss until 9138 1 those payments were actually made or received? 2 A. That's correct. 3 Q. Now, Peat Marwick wouldn't have allowed 4 you to recognize a gain or a loss on those swaps, 5 would they? 6 A. Based on -- based on the facts that 7 were there, we thought that we had the proper 8 accounting. And, therefore, they would not have. 9 Q. It was an either/or situation. Right, 10 Mr. Wolfe? It wasn't that you had a choice to 11 decide one way or another? 12 A. No, sir. I mean, no. You had to -- I 13 don't believe there was a choice. I'll put it 14 that way. Part of the problem in looking at any 15 of these transactions, to me, is that -- I mean, 16 it would involve getting back into the details and 17 fully understanding all of these issues. And when 18 you ask specifics, I'm not necessarily up on 19 that -- 20 Q. Sure. 21 A. -- curve enough to just say that, yes, 22 it should be recognized or it should not be. 9139 1 Q. Before giving an opinion, you'd want to 2 go back and reconstruct all you could about the 3 information? 4 A. Absolutely. 5 Q. And you're uncomfortable with the fact 6 that the lawyers, now in a situation completely 7 removed from that years, even a decade later, are 8 the only ones supplying you with any information? 9 A. I am today and I was yesterday. 10 Q. Yes, sir. I understand. And I'm not 11 implying anything about that. It's just part of 12 the process, but it makes you uncomfortable? 13 A. Yes, sir. 14 Q. Now -- 15 A. Can I add to that? I'm not sure I have 16 all the facts to actually say "yes" or "no" one 17 way or the other. I'm just reacting to the 18 questions that I'm asked. 19 Q. Yes, sir. It's undoubtedly you don't 20 have all of the facts, and I think it's easy to 21 understand. But I want to get expressed -- and by 22 that, again, I'm not making any implication about 9140 1 somebody keeping something from you. I'm just 2 saying that you haven't had an opportunity to go 3 back and search for yourself as to what would 4 satisfy you before you could reach an opinion? 5 A. That's what I'm saying. These are very 6 complicated transactions, and I just haven't -- I 7 have not studied them enough to make sure I 8 understand completely. So, when asked whether or 9 not it would be -- whether -- your question as to 10 which way -- it could only be recorded as a gain 11 or only deferred, I mean, based on what I'm seeing 12 here, it appears to me that it, you know, would be 13 only -- should only have been -- the gain should 14 have been recognized and the swaps accounted for 15 as they were. 16 Q. Now -- but we can be sure of a few 17 things, can we not, Mr. Wolfe? This did go to the 18 highest levels of Peat Marwick. Right? 19 A. Yes. 20 Q. And the accounting treatment that you 21 and United Savings had thought was appropriate was 22 approved? 9141 1 A. That is correct. 2 Q. And that is reflected in the fact not 3 only of this documentation, but that Peat Marwick 4 approved your financial records which this 5 transaction would have been a part of? 6 A. That is correct. 7 Q. And they certified to the world, which 8 is part of their role, that those records were 9 according to generally-accepted accounting 10 principles? 11 A. That's correct. 12 Q. And so, the people that were involved 13 in the transaction at the time, historically, and 14 obviously paying attention to it, approved the 15 accounting treatment that we have described? 16 A. That is correct. 17 Q. Now, I'd like for you to tell the Court 18 a little bit about the circumstances concerning 19 the dissolution. You know, why it was -- you said 20 it was because of liability growth. 21 A. That was my understanding. 22 Q. Had there been some issue concerning 9142 1 liability growth with the regulators in that 2 period just prior to the close of the year in 3 1985? 4 A. My recollection is, again, based on the 5 documentation that I've seen recently; and the 6 answer is "yes." 7 Q. And you saw in that documentation that 8 the board of directors had made a representation 9 that they would not exceed a specific number on 10 their liability growth. Right? 11 A. I don't recall that specifically, but 12 that's certainly what the document said. 13 Q. Now, with regard to -- I mean, the 14 suggestion has been made perhaps that you could 15 have sold fewer mortgage-backed securities and 16 still come within your liability growth 17 limitations. 18 Did you see that in the questions you 19 were asked yesterday? 20 A. I don't recall that yesterday; but when 21 I met with Mr. Guido, he brought that up. But I'm 22 not sure if it was -- I don't recall yesterday -- 9143 1 Q. Now, to reach that conclusion, you have 2 to have looked at the numbers as they eventually 3 turned out; isn't that right? 4 A. I'm sorry. Could you repeat the 5 question? 6 Q. Well, in order to make that 7 comparison -- in other words, in order to look at 8 exactly what the liability growth limitation 9 turned out to be and what exactly your liabilities 10 were and exactly -- all the things that went into 11 making that calculation, we have to look at the 12 numbers as they were eventually calculated and 13 recorded? 14 A. With hindsight. 15 Q. Yes, sir. 16 A. Yes. 17 Q. And when you're working at the time, 18 you can't be exactly sure as to what those numbers 19 are going to come out to be, can you? 20 A. It's difficult to forecast the future. 21 Q. And you have to make estimates and you 22 were under pressure to both not exceed liability 9144 1 growth but get as close as you could to the limit? 2 A. That is correct. 3 Q. And are there certain kinds of 4 liabilities that, under that kind of pressure, are 5 easier to work with than others? 6 A. Are there certain -- 7 Q. Certain kinds of liabilities that are 8 more predictable, if you will, in those kinds of 9 circumstances and pressures? 10 A. The -- I mean, if you're taking out 11 reverse repos or paying them off, those are a lot 12 more easier to predict than, say, deposit in flows 13 and out flows. 14 Q. And there were -- you had to judge this 15 on the institution as a whole or the persons who 16 had to make these choices had to be looking at the 17 institution as a whole to make these judgments. 18 Right? 19 A. Yes. When you say "as a whole," you're 20 talking consolidated or -- 21 Q. Yes, sir. 22 A. Yes. 9145 1 Q. And so, you had to be -- these numbers 2 would move from day to day, and you had to be 3 looking at the entire aggregate of those? 4 A. Yes, sir. 5 Q. Now, with regard to those pressures, 6 would it have been easier to purchase treasuries 7 on December 31 or to have purchased or sold MBS in 8 order to satisfy these pressures? 9 A. You could have done either one. 10 Q. Would there have been any particular 11 management choice as between the two? 12 A. I'm not really -- trying to think back 13 to then, I'm not really sure that I know the 14 answer to that question. 15 Q. Let me ask you to look at Exhibit -- at 16 Tab 505, and it's Exhibit A1623, which was 17 discussed with you yesterday and with Mr. Williams 18 earlier this week. 19 Do you have the document in front of 20 you, Mr. Wolfe? 21 A. Yes, sir. 22 Q. And yesterday, Mr. Guido asked you 9146 1 about numbered Paragraph 2 and I'm going to also 2 focus on that, if we might. 3 A. Okay. 4 Q. "Year end tactical planning." Now, the 5 people that were making this decision with regard 6 to how to satisfy the requirements of trying to 7 get as close to the liability growth as possible 8 without going over it were the members of the 9 asset/liability committee, correct? 10 A. Yes, sir, from reading this. 11 Q. And it indicates that "The committee 12 will continue to closely monitor USAT's year end 13 balance sheet position. The goal at year end 14 would be to show the largest balance possible to 15 use as a base for future growth. The final year 16 end figure will depend upon our regulatory net 17 worth at that date, which will be a function of 18 both earnings and scheduled items." 19 Have I read that correctly? 20 A. Yes, sir. 21 Q. It goes on to say, "The growth at year 22 end will likely come in the form of temporary 9147 1 investment in treasury securities funded with 2 reverse repos." 3 Do you see that? 4 A. Yes, sir. 5 Q. Now, do you know of any reason why they 6 would favor that year end growth in treasury 7 securities funded with reverse repos as opposed to 8 some other alternative? 9 A. No, sir. I really don't. 10 Q. Now, do you have any recollection that 11 there was anything untoward, deceitful, wrong with 12 the dissolution of United Mortgage Finance? 13 A. I know of no reason that would be -- 14 that I would associate any of those words with. I 15 mean, my recollection of that sub was that it was 16 purely done to -- it was another vehicle to try to 17 create a net interest spread. Regulations didn't 18 work out as we had hoped, and it had to be 19 dissolved. 20 Q. Okay. Now, let me turn to some 21 questions that Mr. Guido had for you concerning 22 the mortgage-backed securities portfolios. You 9148 1 indicated yesterday that there were a number of 2 such portfolios -- that is, a number of 3 mortgage-backed portfolios in which securities 4 were held? 5 A. That is correct. 6 Q. And describe for the Court what you 7 recall with regard to those various holdings. 8 A. In what respect? 9 Q. With regard to mortgage-backed 10 securities. 11 A. There was USAT Finance, which I believe 12 was the CMO. There was another subsidiary called 13 DARTs that was, again -- both of those 14 subsidiaries were trying to generate net interest 15 margins. There was the portfolio that's got the 16 tag "Joe Phillips portfolio" and then there is the 17 Sandy Laurenson portfolio. But I really don't 18 recall any specifics as to what they were other 19 than just they were mortgage-backs or there may 20 have been treasuries in there. I'm not really 21 sure. But they were in charge of managing those 22 portfolios. 9149 1 Q. And was there a cash flow bond? 2 A. I remember a bond that resulted as a 3 result of the sale of the branches to Independent 4 Savings, I believe, if that's -- that was based on 5 cash flow. 6 Q. Was that collateralized with 7 mortgage-backed securities? 8 A. I don't -- I think it was -- the one 9 that was -- that resulted from the sale of the 10 branches, I believe, was backed by just regular 11 single-family loans. But I'm not positive on 12 that. 13 Q. For accounting purposes, did you assign 14 something called responsibility centers or RC 15 numbers to these various portfolios? 16 A. The ones that I described -- some of 17 them would have been separate because they were 18 subsidiaries, and others may have had -- I mean, 19 we tried to account, for management reporting 20 purposes, as best we could by responsibility codes 21 or responsibility centers. 22 Q. Okay. And these RC numbers which you 9150 1 used for the accounting purposes were an effort to 2 try to allow management to evaluate the 3 performance of each one of these separate 4 activities? 5 A. That's correct. 6 Q. And we can go back in the books and 7 records, to the extent that we can put them back 8 together, of United Savings and, through the RC 9 numbers, attempt to identify those separate 10 activities? 11 A. That's correct. 12 Q. And those various activities can and 13 did have different purposes and different 14 structures to accomplish those purposes? 15 A. That's my recollection, yes, sir. 16 Q. Now, let me ask you to look at 17 Exhibit B512 with regard to this issue of the 18 ownership of mortgage-backed securities. 19 Now, Mr. Wolfe, B512 is a memo from 20 Mr. Crow to yourself and Mr. Williams dated 21 May 8th, 1985. 22 A. Yes, sir. 9151 1 MR. NICKENS: Your Honor, we offer 2 B512. 3 MR. GUIDO: Are you offering the 4 two-page document or the one-page document? I 5 have a two-page document that looks like it's the 6 same document, but it has different Bates stamp 7 numbers on it. 8 MR. NICKENS: My copy is Bates 9 number -- it has got two numbers on it, but it's 10 CN128520. 11 MR. GUIDO: And then there is a second 12 page to the exhibit, and it looks like -- 13 MR. NICKENS: 128521. 14 MS. CLARK: J.C., look at this. 15 Different Bates numbers. 16 MR. NICKENS: Your Honor, I was 17 offering as B512 -- and if there is some confusion 18 to this, we ought to straighten it out. But I 19 just have the one page. 20 MR. GUIDO: Well, I have a two-page 21 document that you produced to me last night. I 22 don't mind it being produced as a two-page -- it 9152 1 looks like it deals with the same subject matter. 2 MR. NICKENS: I'll offer both pages, 3 Your Honor. 4 THE COURT: Received. 5 Q. (BY MR. NICKENS) Okay. Let's look 6 the first page, Mr. Wolfe. And this may -- this 7 relates to your recollection about the cash flow 8 bond at Independent American? 9 A. Yes, sir. 10 Q. And it indicates that as a result of 11 that, you had acquired a large volume of 12 mortgage-backs as a part of that acquisition. 13 A. Okay. 14 Q. So, it's just a little different from 15 your recollection of, what, over 12 years ago. 16 Right? 17 A. I was close. 18 Q. Yes, sir. Okay. And it says, "I have 19 asked Mary Mims" -- now, who was Mary Mims? 20 A. Mary Mims worked in the treasury 21 department with Bruce Williams. 22 Q. "-- to research whether we can extract 9153 1 these securities from the cash flow bond and 2 replace them with other mortgage-backs. We need 3 to do this, if at all possible, so as to take tax 4 losses in 1985." 5 Do you see that? 6 A. Yes, sir. 7 Q. Now, the notion was that you would sell 8 some securities and buy others and substitute them 9 with the cash flow bond. Right? 10 A. That's what this indicates, yes, sir. 11 Q. And the transaction would generate a 12 loss that management thought was desirable to take 13 in 1985? 14 MR. GUIDO: Objection, Your Honor. It 15 uses the term "tax loss." It does not use the 16 term "actual loss." And tax loss can be -- there 17 can be a tax loss on a transaction, as we all 18 know, with there being a gain on the transaction 19 for economic purposes and accounting purposes. 20 Tax law has a whole different set of 21 rules than GAAP accounting rules do, Your Honor, 22 and I think it's a misstatement for Mr. Nickens to 9154 1 say that those bonds were being sold to generate 2 an accounting loss in light of this document. You 3 can't tell from this document whether those were 4 sold for purely a tax loss or a GAAP loss, Your 5 Honor. 6 MR. NICKENS: I thought, Your Honor, 7 that I said "tax loss." 8 MR. GUIDO: You didn't. You said "a 9 loss," Mr. Nickens. 10 THE COURT: All right. You'll have to 11 rephrase your question. 12 Q. (BY MR. NICKENS) What the document 13 says is, "We need to do this if at all possible so 14 as to take tax losses in 1985." 15 Do you see that? 16 A. Yes, sir. 17 Q. And do you have any different 18 recollection or any additional information that 19 you can supply us with from your memory as to what 20 was at issue here? 21 A. No, sir. 22 Q. Now, was there anything wrong with 9155 1 management planning to try to manage in order to 2 realize a tax loss in that particular year? 3 A. I can't think of anything. 4 Q. In your experience, are those sorts of 5 management decisions sort of a routine part of 6 managing the institution? 7 A. Yes, sir, absolutely. 8 Q. And decisions are made all the time 9 about buying and selling assets or liabilities in 10 order to time the recognition of those gains or 11 losses? 12 A. That's correct. 13 Q. And is there anything, as far as you 14 know, sort of untoward about that kind of routine 15 process? 16 A. No, sir. 17 Q. Now, with regard to the next -- the 18 second page, which is also a memo to you from 19 Mr. Crow of the same date, he indicates that "The 20 securities are unencumbered. That is, not tied up 21 as collateral for some borrowing." 22 Do you see that? 9156 1 A. Yes, sir. 2 Q. And he goes on to say, "It is likely we 3 will want to sell these securities and take a tax 4 loss in 1985. Please have someone look at this," 5 basically? 6 A. Yes, sir. 7 Q. Now, do you have any recollection of 8 that particular transaction? 9 A. No, sir. I don't recall it. 10 Q. Looking at it today, is there anything 11 about it that seems out of the ordinary as far as 12 routine, day-to-day management decisions? 13 A. No, sir. 14 Q. Now, let me ask you to -- well -- and 15 it's clear that as a part of this cash flow bond, 16 that United Savings owned a substantial number, as 17 is described here, of mortgage-backs, a large 18 volume, it says? 19 A. That's correct. 20 Q. And when we're looking at these sales 21 figures, unless someone has gone back and looked 22 and tied those back to the books and records, we 9157 1 don't know whether these were sold or some other 2 mortgage-backs were sold? 3 A. That's correct. 4 Q. Now -- and in that regard, let me ask 5 you to look at Exhibit A1625, which is at Tab 507. 6 Mr. Wolfe, these are minutes of the 7 asset/liability committee of January 31, 1986, and 8 Mr. Guido asked you some questions about it 9 yesterday. I would like to focus on paragraph 10 numbered 4. 11 A. Okay, sir. 12 Q. Where it says, "It was agreed 13 investments would buy $100 million mortgage-backed 14 securities to match against the 100 million 15 five-year collar which USAT owns as a result of a 16 partial dissolution of the finance subsidiary in 17 December 1985. The collar has a floor of 7.75 and 18 a ceiling of 11 and a half." 19 A. Yes, sir. 20 Q. Now, this is a purchase of $100 million 21 of mortgage-backed securities made after Joe's 22 portfolio had been set up? 9158 1 A. If the reference -- the finance 2 subsidiary we're talking about United MBS, is 3 that -- 4 Q. Well, this is -- 5 A. This is the 500-million-dollar -- 6 Q. USAT Mortgage Finance, right. 7 A. Got it. 8 Q. Do you have any way of knowing whether 9 that $100 million was assigned -- $100 million 10 mortgage-backed securities, if they were bought, 11 whether they were assigned to the responsibility 12 code or center for Joe's portfolio? 13 A. No, sir. I don't recall whether they 14 were bought or, if they were, whether they were 15 assigned. 16 Q. And you'd have to go back into the 17 books and records of the institution to find out 18 whether or not they were assigned to that RC code 19 or some other responsibility center? 20 A. Yes, sir, to be sure. 21 Q. And the distinction would be what 22 management at the time were doing in order to try 9159 1 to evaluate the performance of their activities 2 and to keep track of these purchases and sales. 3 Right? 4 A. That's right. 5 Q. And so, if these securities were 6 subsequently sold without making that effort, you 7 wouldn't know whether they were a sale out of the 8 risk-controlled arbitrage or some other 9 assignment, would you? 10 A. That's correct. 11 Q. Now, Mr. Wolfe, I'd like to ask you to 12 look at Exhibit -- it's Exhibit T4197 that I 13 believe is at Tab 720. It is a document that you 14 were asked about yesterday. 15 What I'd like to focus on beginning 16 with this document, if we can, Mr. Wolfe, is the 17 question of the accounting treatment for gains and 18 recognitions of sales from risk-controlled 19 arbitrage or MBS generally. But before we get 20 into that, could you explain to the Court what the 21 status -- you touched upon this before -- but what 22 the status was according to your understanding of 9160 1 the accounting rules relating to accounting for 2 risk-controlled arbitrages? And I'll define that 3 for you in this case as being mortgage-backed 4 securities purchased through the use of reverse 5 repos whose duration of their liabilities are 6 extended through the use of swaps. 7 A. In general terms, we would buy the 8 security that would, based upon an assumed 9 prepayment rates at the date of acquisition, would 10 have a certain life. And based upon that life of 11 the asset, we would determine what type of -- the 12 length or the type of hedge that would be needed 13 to -- and that would be fixed rate. 14 And then on the liabilities side, 15 depending on how it was funded -- it would not 16 necessarily have to be with a reverse repo or 17 whatever, but it certainly could be -- you would 18 develop a strategy of trying to simulate the same 19 life of the liability as you did for the asset so 20 that you would have them running parallel. 21 Q. And from the accounting point of view, 22 were the rules for these -- the treatment of these 9161 1 entities well established or developing? 2 A. I would define them as developing. 3 Q. And did they depend upon management's 4 intent with the primary factor being -- that is, 5 the treatment of them -- depending on management's 6 intent at the time the arbitrage was set up? 7 A. Management's intent was always a key 8 ingredient in determining what the accounting 9 would be. 10 Q. And the intent would be expressed 11 either to hold as investment or to hold for the 12 possibility of sale? 13 A. That is correct. 14 Q. And that intent was measured as of the 15 time that the initial investment was entered into? 16 A. That's correct. 17 Q. Because circumstances change and 18 intents can change? 19 A. That's correct. 20 Q. And the accountant's job is to come in 21 and to evaluate what that intent is? 22 A. That is correct. 9162 1 Q. And -- but it is measured as of the 2 time of the acquisition? 3 A. That's correct. At the time of 4 acquisition and then also at the time that you're 5 looking at a particular transaction. 6 Q. Because if management has no 7 explanation or reason for the later transaction, 8 it could bring into question what their original 9 intent was? 10 A. That's correct. 11 Q. But management is allowed, by the 12 accounting rules, to respond to changing 13 conditions? 14 A. That is correct. 15 Q. Without getting different accounting 16 treatment? 17 A. That's correct. 18 Q. And the way that the accountants would 19 go about trying to evaluate this difficult subject 20 was to require documentation both of the original 21 acquisition and of all subsequent transactions. 22 Right? 9163 1 A. That is correct, in trying to 2 understand what was contemplated or what had 3 occurred. 4 Q. But all with the purpose of looking 5 back at determining whether that intent, as 6 originally set out, was to be held as an 7 investment or for some other purpose? 8 A. Yes, or to justify -- and I'm speaking 9 now currently, not back then. 10 Q. Yes, sir. Those rules have become 11 greatly clarified over the last 12 years. Right? 12 A. They are more clarified today but are 13 still as confusing and difficult to interpret 14 today as they were back then because you always -- 15 you know, you have to determine what your intent 16 is up front, but things change. Circumstances 17 change. And some of those instances allow 18 accounting treatment -- or result in different 19 accounting treatments, depending upon whether they 20 are a justifiable unforeseeable event or not. 21 Q. And is there any doubt in your mind, 22 based upon your knowledge of USAT, that at the 9164 1 time Joe's portfolio was set up, it was intended 2 as an investment portfolio to generate a net 3 interest spread? 4 A. There is no doubt in my mind that 5 that's what the purpose was. 6 Q. And it happened that there were 7 unforeseen prepayments that required a management 8 response? 9 A. That's correct. 10 MR. NICKENS: Your Honor, if this is an 11 appropriate time -- 12 THE COURT: We'll take a short recess. 13 14 (A short break was taken 15 at 10:28 a.m.) 16 17 THE COURT: Be seated, please. Back on 18 the record. 19 Mr. Nickens, you may continue. 20 MR. NICKENS: Thank you, Your Honor. 21 (10:52 a.m.) 22 Q. (BY MR. NICKENS) Mr. Wolfe, I'd like 9165 1 to ask you to look at Exhibit A5017, which is at 2 Tab 564, and it's a performance report that 3 Mr. Guido discussed with you yesterday. 4 Now, the performance report, you 5 testified yesterday, were things that you and 6 Mr. Williams collaborated on to produce? 7 A. Yes, sir. 8 Q. And was this also the type of documents 9 that the accountants would routinely look at in 10 their audit process? 11 A. They would look at them, yes, sir. 12 Q. Now, Mr. Guido asked you yesterday 13 about Page DJ, and I'd like for you to turn over 14 there. I have a few questions. 15 Are you on that page? 16 A. "Gain on sale of investment 17 securities"? 18 Q. Yes, sir. And you recall yesterday 19 Mr. Guido asked you about a pattern that he 20 described of increases at the end of the quarter 21 in the gain on sale of investment securities down 22 there at the bottom of the page? 9166 1 A. Yes, sir. 2 Q. Now, the figures for March and June 3 would have included the gains from the sale 4 associated with the roll-down, correct? 5 A. That is correct. 6 Q. And at the time the manager was making 7 the decision as to whether to sell those 8 securities, the accounting treatment that the 9 company had adopted was to defer those gains by 10 rolling them into the basis of the new securities? 11 MR. GUIDO: Objection. That's a 12 misstatement of the evidence, Your Honor. The 13 witness, I think, testified -- Joe Phillips 14 testified that prior to initiating the roll-down, 15 that it was his understanding that those gains 16 were to be recognized. And I object to the 17 question as a mischaracterization of the testimony 18 in the record. 19 MR. NICKENS: I believe that's totally 20 wrong, but I'll ask a somewhat different question. 21 But I do not believe that is the evidence. 22 Q. (BY MR. NICKENS) The company's 9167 1 accounting policy, up until and through the end of 2 June 1986, was to defer gains associated with 3 sales in the mortgage-backed securities portfolio, 4 wasn't it? 5 MR. GUIDO: Objection. That, again, 6 mischaracterizes the -- 7 THE COURT: Well, let's get the 8 witness' opinion. 9 Q. (BY MR. NICKENS) What was the policy 10 with regard to recognition of gains associated 11 with the mortgage-backed securities in the first 12 six months of 1986? 13 A. I'm not clear or don't recollect 14 exactly which portfolio that we're talking about, 15 where the gain was deferred in that one, whether 16 it's UMBS or Sandy Laurenson's or Phillips or 17 whoever. But if we're talking about the 18 transaction where we did defer and then 19 subsequently had to recognize that gain, it was 20 our policy on that particular transaction that the 21 gain would be deferred. 22 Q. And that's the roll-down? 9168 1 A. The roll -- 2 Q. We can identify it by the roll-down? 3 A. Yes. 4 Q. Those securities that were sold in the 5 first six months or so of 1986 in order to try to 6 stem the prepayment problem you described for us 7 yesterday? 8 A. Right. 9 Q. And is there any question that there is 10 at that point in time, until Peat Marwick changed 11 their mind, that the way you were accounting for 12 them was by deferring the gain into the basis of 13 the substitute securities? 14 A. There is no question that that's what 15 we had intended to do, to defer the gain. 16 Q. And were, in fact, doing. Right? 17 A. That's correct. 18 Q. Because you had to restate the first 19 quarter's earnings? 20 A. That's correct. 21 Q. So, the person making the decision in 22 these first two quarters, if he had known what the 9169 1 accounting was, would -- could not have 2 anticipated recognizing any gains? 3 A. That's correct. 4 Q. So, there could be no motive to 5 recognize gains because you weren't recognizing 6 gains? 7 A. That is correct. 8 Q. Now, let me ask you to look at 9 Exhibit 4251, which is at Tab 567. Excuse me. 10 T4251. Mr. Guido asked you about it yesterday. 11 Mr. Wolfe, Mr. Guido asked you about 12 the second page, and it says "gains to alleviate 13 deficit." 14 Do you see there "mortgage-backed 15 securities, 1.9 million"? 16 A. Yes, sir. 17 Q. Do you have any way of knowing whether 18 that 1.9 million was from the risk-controlled 19 arbitrage or some other form of the ownership of 20 mortgage-backed securities? 21 A. Not at all. 22 Q. And in order to make that 9170 1 determination, we would have to go back into the 2 books and records of United Savings to look at the 3 RC numbers? 4 A. Yes, sir. 5 Q. Let me ask you to look at 6 Exhibit A1412, which is at Tab 343, and was 7 discussed with you yesterday by Mr. Guido. 8 This related to a policy with regard to 9 mortgage-backed securities trading policy that 10 Mr. Guido asked you about. 11 Do you know whether that policy was 12 adopted in this form by the board of directors or 13 not? 14 A. No, sir, I do not know. 15 Q. Let me ask you to look -- might as well 16 get both of them -- at Exhibits A1410 and B1231. 17 MR. GUIDO: What was the second number? 18 MR. NICKENS: B1231. You might as well 19 get A1411 while we're there. 20 21 (Discussion off the record.) 22 9171 1 MR. NICKENS: It's Tab 547. 2 Q. (BY MR. NICKENS) Mr. Wolfe, if you 3 could look at A1410, again a document that 4 Mr. Guido questioned you about. And in the fourth 5 full paragraph, there is a reference to the sale 6 of some mortgage-backed securities and a profit of 7 1.4 million. 8 Do you see that? 9 A. Yes, sir. 10 Q. Do you have any way of knowing whether 11 that sale took place out of the risk-controlled 12 arbitrage or some other source of mortgage-backed 13 securities? 14 A. No way of knowing. 15 Q. The only way you could -- we could do 16 that would be to go back and actually look at the 17 RC numbers. Right? 18 A. That's correct. 19 Q. Similarly, with regard to the sale 20 that's reflected on Exhibit B1231 -- 21 A. I don't know what portfolio that came 22 out of either. 9172 1 Q. And similarly, with regard to the 2 minutes of the investment committee that's 3 reflected in A1411, it indicates there a sale of 4 the portion of liquidity and mortgage-backed 5 securities portfolios to recognize profits created 6 by the market rally. 7 Do you have any way of knowing what 8 portfolio -- what specific portfolios those sales 9 were made from? 10 A. The only -- I mean, no, sir, because I 11 don't know exactly what's in the liquidity 12 portfolio or the mortgage-backs. No, sir. 13 Q. Now, this question of investment versus 14 trading was one that Peat Marwick looked at 15 carefully, didn't they? 16 A. Absolutely. It was an emerging issue, 17 and it was difficult to determine exactly what met 18 the parameters. 19 Q. And both in 1986 and 1987, they 20 approved your accounting treatment of those 21 mortgage-backed securities transactions? 22 A. That's correct. 9173 1 Q. And so, the people on the scene at the 2 time, not 10 years later, made the decision based 3 upon the then existing rules as to the appropriate 4 accounting treatment? In the first instance, by 5 you and then later as reviewed by Peat Marwick? 6 A. That is correct. 7 Q. And if you could look at B1363. Can 8 you identify B1363? 9 A. It's a memo from me to a distribution 10 list regarding the 1986 audit. 11 MR. NICKENS: Your Honor, we offer 12 B1363. 13 MR. GUIDO: No objection, Your Honor. 14 THE COURT: Received. 15 Q. (BY MR. NICKENS) And could you tell 16 the Court what some of the audit concerns as 17 expressed -- well, first of all, how did this list 18 come about, Mr. Wolfe? 19 A. Let me read it and see if I can 20 recollect because I have not seen this one before. 21 I have not seen it in a long time. (Witness 22 reviews the document.) 9174 1 From reading it, I'm not clear whether 2 this is something that I would have developed on 3 my own or in coordinating or in discussions with 4 Peat Marwick. But from looking at it, I think 5 that it is my look at what I see as potential 6 problems on the upcoming audit. 7 Q. And among those was the MBS hedging 8 activity and the trading portfolios-junk bonds? 9 A. That's correct. 10 Q. And these would have been matters that 11 were raised with Peat Marwick? 12 A. That is correct, or would have been 13 anticipated to be and were. 14 Q. And if we can look at Exhibit 1410, 15 B1410. Do you see, Mr. Wolfe, B1410 is a document 16 indicated from Mr. Parsons to Mike Crow, re: 17 Investment versus trading account dated 18 January 5th, 1987? 19 A. Yes, sir. 20 MR. NICKENS: Your Honor, we offer 21 B1410. 22 MR. GUIDO: No objection, Your Honor. 9175 1 THE COURT: Received. 2 Q. (BY MR. NICKENS) Now, Mr. Wolfe, does 3 this document indicate a specific issue addressed 4 by the accountants? 5 A. Yes. The investment versus trading. 6 Q. And would you read for the Court the 7 "purpose" and "audit concern" lines? 8 A. Yes, sir. "The purpose of this 9 memorandum is to present certain information and 10 criteria regarding investment versus trading 11 accounting treatment, elicit your response to 12 certain of our concerns, and to present certain 13 recommendations regarding future documentation of 14 your activity." 15 "Audit concerns. During 1986, we've 16 noted a considerable amount of activity in the 17 high-yield junk bond and mortgage-backed security 18 portfolios. Such activity raises a question as to 19 whether such portfolio should be more properly 20 accounted for on an investment or trading basis. 21 In addition to our concern as raised by this 22 activity, we have also noted that the accounting 9176 1 basis for similar portfolios have been under 2 scrutiny by regulatory and GAAP accounting 3 authorities." 4 Q. And it goes on to discuss the guidance 5 and sets out the objectives and specific strategy 6 about substantiating management's intent on the 7 second page? 8 A. That's correct. 9 Q. Including various items. And then they 10 make some recommendations on Page 3? 11 A. Yes, sir. 12 Q. And then you see -- by the way, do you 13 see the numbers on the bottom of the page, the 14 Bates numbers begin with the KPMG designation -- 15 A. Yes, sir. 16 Q. -- indicating that these documents came 17 from the work papers of Peat Marwick? If you 18 would look over at KPMG 24417 -- 19 A. Yes, sir. 20 Q. -- do you see a statement of strategies 21 and objectives for high-yield bond -- high-yield 22 corporate securities and then over a few pages 9177 1 more, the statement of strategies and objectives 2 for mortgage-backed securities? 3 A. Yes, sir. 4 Q. And were these policies -- statements 5 that were adopted in response to the 6 recommendations of Peat Marwick after reviewing 7 all of the trading activity in these portfolios? 8 A. I don't specifically remember whether 9 they were or were not adopted, but they certainly 10 appear to address the issues that were in the 11 letter. 12 Q. Okay. And do you see at the bottom of 13 the first page -- 14 A. Of this 24414? 15 Q. You see at the bottom of the first page 16 is a handwritten note. It says "See 2381 and 17 2" -- 18 A. I'm sorry. Yes, sir. 19 Q. -- "for response from" -- 20 A. "Client." 21 Q. -- "client"? 22 A. Yes, sir. 9178 1 Q. Okay. Now, let me ask you to look over 2 at the statement of strategies for the 3 mortgage-backed securities that was -- well, 4 that's attached to this document. This bears the 5 number KPMG 024421 at the bottom right-hand 6 corner. 7 A. Yes, sir. 8 Q. And you see under "investment 9 portfolios," it describes the objective to be to 10 "Invest in a diversified group of MBS which will 11 generate a net interest margin over a range of 12 interest rate environment scenarios." 13 It goes on to say that "Securities will 14 be funded primarily with short duration 15 liabilities which may or may not be hedged with 16 various financial instruments such as interest 17 rate caps, collars, swaps, futures, options, et 18 cetera." 19 Do you see that? 20 A. Yes, sir. 21 Q. "It is management's intent to maximize 22 the net interest spread while maintaining prudent 9179 1 interest rate risk exposure." 2 Do you see that? 3 A. Yes, sir. 4 Q. Is that consistent with your 5 understanding of management's intent at the time 6 of this strategies and objectives? 7 A. That is completely. 8 Q. And then the next entire paragraph is 9 describing the circumstances under which sales may 10 be executed from time to time. 11 A. Yes, sir. 12 Q. Do you see that? Now, in fact, did 13 USAT not budget gains from sales both in the 14 high-yield bond portfolio and other portfolios as 15 a part of the budgeting process? 16 A. I don't recall. 17 Q. Let me ask you to look at 18 Exhibit B1429. This is a memo from Barry Tiedt of 19 Peat Marwick to Chuck Doolittle of United Savings 20 dated January 11th, 1987, with copies to you, 21 Mr. Claiborne, Mr. Parsons, and the work papers. 22 Do you see that? 9180 1 A. Yes, sir. 2 MR. NICKENS: Your Honor, we offer 3 B1429. 4 MR. GUIDO: No objection, Your Honor. 5 THE COURT: Received. 6 Q. (BY MR. NICKENS) Now, does this 7 reflect the status as of this date of the various 8 audit concerns discussed at the December 12th 9 meeting? 10 A. The memo covers that, yes, sir. 11 Q. And -- now, this, of course, was 12 prepared by Mr. Tiedt and you identified him 13 yesterday as a Peat Marwick accountant? 14 A. That's correct. 15 Q. And Item No. 16, would you read that 16 for the Court? 17 A. "Treatment of portfolios as trading 18 portfolios - see J. Parsons' memo to Mike Crow of 19 January 7th. Final conclusion pending 20 documentation of intent and strategy." And then 21 it's written to the side, "response received." 22 Q. Okay. What does that indicate to you 9181 1 as to the status of the question of the trading 2 versus investment portfolios? 3 A. It would indicate to me that 4 Peat Marwick was satisfied with our intent -- 5 satisfied with our proposed policy regarding 6 trading versus investment and had signed off on it 7 with respect to the audit. 8 Q. Now, you told us yesterday that you 9 were unsure -- with regard to this trading versus 10 investment issue, you were unsure -- well, let 11 me -- that the effect of having -- if a portfolio 12 was to be treated as a trading portfolio would 13 mean it would have to be mark-to-market on a 14 periodic basis? 15 A. As best as I can recollect the 16 accounting rules at that point in time. 17 Q. But as to the related swaps, you 18 indicated that you didn't know what that treatment 19 would be. You would have to research? 20 A. That is correct. 21 Q. And so, even if the assets were 22 mark-to-market, that did not mean that the swaps 9182 1 or relating hedge instruments would be 2 mark-to-market? 3 A. That could be true. I mean, I -- 4 Q. You don't know? 5 A. I don't know. 6 Q. Okay. The -- and do you know whether 7 the mortgage-backed securities portfolio and 8 high-yield bond portfolio in 1986 were a net 9 positive or negative? 10 A. I don't know. 11 Q. So, you don't know what the effect 12 would have been for 1986 for a change in 13 accounting treatment? 14 A. No, sir. I would have to go back and 15 look at the records. 16 Q. Now, let me ask you to look at -- very 17 briefly at Exhibit B1481, which you were asked 18 about yesterday. 19 Now, is Exhibit B1481 the results of 20 Peat Marwick's audit? 21 A. For the year 1986, yes, sir. 22 Q. And it's specifically addressed over at 9183 1 Page 3 of the addendum the "trading versus 2 accounting treatment for corporate debt"? 3 MR. GUIDO: What's the imaging number 4 on that page? 5 MR. NICKENS: 156942. 6 Q. (BY MR. NICKENS) Do you see down at 7 the bottom of the page -- 8 A. Yeah. I see what you're talking about. 9 Q. And so, what does that indicate to you 10 concerning whether or not they examined -- that 11 is, Peat Marwick examined this very issue for the 12 year 1986 as well as 1987? 13 A. To me, it's obvious they did. 14 Q. Now, can you identify the initials down 15 at the bottom of the page of the first page of 16 B1481 as those of Vivian Carlton? 17 A. No, sir. 18 Q. Do you know who Vivian Carlton is? 19 A. Yes, sir. 20 Q. Who was she or is? 21 A. She was an examiner with the OTS. 22 Q. But you can't tell us whether that was 9184 1 her characteristic way of indicating that she had 2 examined the document? 3 A. I've never looked at any of their 4 records. I don't know, sir. 5 Q. Let me ask you to look at 6 Exhibit B1489. What interaction did you have with 7 Ms. Carlton, Mr. Wolfe? 8 A. Ms. Carlton is who you're asking about? 9 Q. Yes. 10 A. My interaction with her would have been 11 only on the examination, when she came to do the 12 examination on the books of United. 13 Q. The books of United included all those 14 books of which you had access to? 15 A. Yes, sir. 16 Q. And so, anything that she wanted to 17 look at, she had the ability to look at and 18 examine? 19 A. We gave them anything they asked for. 20 Q. Including the board minutes, investment 21 committee minutes, ALCO committee minutes, all of 22 the performance reports? 9185 1 A. My recollection would be that if they 2 asked for it, they received it. 3 Q. Now, Exhibit B1489 is a memorandum from 4 Mr. Parsons to the file dated February 16th, 1987, 5 with regard to a meeting with the Federal Home 6 Loan Bank. 7 Do you see that? 8 A. Yes, sir. 9 Q. Now, did you participate in meetings 10 with the accountants and the Federal Home Loan 11 Bank? 12 A. I don't remember this particular 13 meeting, but I see I was there. 14 MR. NICKENS: Your Honor, we offer 15 B1489. 16 MR. GUIDO: No objection, Your Honor. 17 THE COURT: Received. 18 Q. (BY MR. NICKENS) Now, why did the 19 accountants go to this meeting? 20 A. I need to read the entire memo. I 21 don't -- I don't know. (Witness reviews the 22 document.) 9186 1 I recollect -- and it says in here 2 specifically -- that part of Peat Marwick's 3 procedures were to check with the examiners before 4 they issued a report. And my recollection is that 5 there had been problems in the past where the -- 6 not Peat Marwick but in general or in the 7 accounting profession where reports had been 8 issued and they had not -- and the examiner or the 9 OTS had done something and then we had a report 10 laid out or a report would have been issued and 11 the examiners may have had a contrary or something 12 negative would have occurred that would not have 13 been reported in the financial report. 14 Q. And read for the Court on the second 15 page the conclusion that Mr. Parsons documented as 16 with regard to this particular meeting. 17 A. In response to specific questions -- I 18 assume "Chommy" is Twomey? 19 Q. Should be Twomey. 20 A. "He was not aware of any problems with 21 the net worth calculations. Other than Couch, he 22 was not aware of any specific large loan problems. 9187 1 Conclusion: Based on our discussions, there are 2 no items that would cause us to change our report, 3 perform additional audit procedures, or effect the 4 financial statements." 5 Q. And if you could go to the first page, 6 the last bullet item, would you read that for the 7 Court? 8 A. "United was not deemed to be a problem, 9 which was one of the reasons that the report was 10 being delayed, i.e., problem associations were 11 being prepared first." 12 Q. Now, with regard to the question of 13 these gains and sales, were they disclosed in your 14 financial statements on a regular basis, 15 Mr. Wolfe? 16 A. Were gains and sales -- 17 Q. Gains on sale of investments. 18 A. Yes, sir. 19 Q. Let me ask you to look at 20 Exhibit A3034. Can you identify A3034 as being 21 the 10Q for United Financial Group for the quarter 22 ended June 30th, 1985? 9188 1 A. Yes, sir. 2 MR. NICKENS: Your Honor, we offer 3 A3034. 4 MR. GUIDO: No objection, Your Honor. 5 THE COURT: Received. 6 Q. (BY MR. NICKENS) And let me ask you 7 to look over at Page 6, numbered Page 6. Do you 8 see there a discussion about the non-interest 9 income as reported in your 10Q? 10 A. Yes, sir. 11 Q. And at the bottom of the page, it says 12 "The increase for the three months ended 13 June 30th, 1985, reflects gains on the sale of 14 134.7 million of mortgage-backed securities and 15 50 million of commercial loans." 16 A. Yes, sir. 17 Q. Now, this was just at the time that 18 Joe's portfolio was being set up, was it not? 19 A. I'm not sure what Joe's -- the 20 definition of Joe's portfolio is. 21 Q. But in any event, you don't have any 22 way of determining from the document what the 9189 1 source of those mortgage-backed securities in that 2 sale and gain were? 3 A. No, sir. 4 Q. Let me ask you to look at 5 Exhibit A3023, which is at Tab 79 and is the UFG 6 Form 10K for fiscal year ended December 31, 1987. 7 Why don't we look at the same time Exhibit A3022, 8 which is the 10K for 1986. 9 MR. GUIDO: A3023 and what was the 10 other? 11 MR. RINALDI: 3022. 12 MR. GUIDO: Can we get a tab number? 13 MS. CLARK: 79. 14 Q. (BY MR. NICKENS) Okay, Mr. Wolfe. 15 Let's do this chronologically. Let's start with 16 the 10K for December 1986. And if you could turn 17 over to the numbered page 32 of the 10K. 18 MR. GUIDO: What's the Bates stamp on 19 that? 20 MR. NICKENS: The Bates stamp is 21 OFD12878. It's the larger one. 22 Q. (BY MR. NICKENS) Do we have our 9190 1 place, Mr. Wolfe? 2 A. Pardon? 3 Q. You're on Page 32? 4 A. Right there. 5 Q. Do you see there a discussion about 6 mortgage-backed securities? 7 A. Yes, sir. 8 Q. And this is at the end of 1986, which 9 was the year in which the roll-down took place, 10 correct? 11 A. Yes, sir. 12 Q. Okay. Why don't you read for the Court 13 what was disclosed in the publicly-filed 10K of 14 UFG with regard to your activities in 15 mortgage-backed securities? 16 A. First paragraph or second or both? 17 Q. Just the first and second paragraphs, 18 if you could, Mr. Wolfe. 19 A. Okay. "During 1986 and 1985, the 20 company's investment in mortgage-backed securities 21 increased by 1.5 billion and 782.9 million 22 respectively reflecting the implementation of the 9191 1 company's asset/liability management strategy. At 2 December 31, 1986, mortgage-backed securities 3 totaled 2.7 billion, including 720.5 million 4 utilized as collateral for the CMOs, 1 billion 5 funded under programs utilizing securities sold 6 under repurchase agreements, and 956.4 million 7 utilized primarily as collateral for preferred 8 stock of subsidiaries and other borrowings. At 9 December 31st, 1985, mortgage-backed securities of 10 1.2 billion included 654.1 million funded with 11 securities sold under repurchase agreements and 12 548 million primarily used as collateral for 13 preferred stock of a subsidiary and other 14 borrowings." 15 Q. Let me ask you to hesitate there, 16 Mr. Wolfe. Would these mortgage-backed securities 17 that were pledged as collateral, could they be 18 used as a part of Joe's portfolio or 19 risk-controlled arbitrage if they are pledged as 20 collateral for other uses? 21 A. I'm not sure I understand the question 22 yet. 9192 1 Q. It reflects in the paragraph that you 2 reported here that substantial amounts of MBS were 3 pledged as collateral for other uses, such as 4 preferred stock and other borrowings. 5 A. Correct. 6 Q. Could those pledged securities be used 7 as a part of a risk-controlled arbitrage such as 8 that managed by Mr. Phillips? 9 A. I don't know. 10 Q. Okay. Let me ask you to read the 11 second paragraph. 12 A. "In 1986, purchases and sales of 13 mortgage-backed securities totaled 6.5 billion and 14 4.8 billion respectively. This increased activity 15 during a period of falling interest rates 16 reflects, in part, the company's shifting from 17 higher coupon rate to lower coupon rate 18 mortgage-backed securities in order to curtail the 19 prepayment risk. These transactions produced 20 gains on sales of mortgage-backed securities 21 during 1986 totaling 71.7 million. However, as a 22 result of such sales and repurchases, the yield on 9193 1 the mortgage-backed securities portfolio decreased 2 to 9.39 percent at December 31, '86, from 3 11.60 percent at December 31, 1985." 4 Q. Now, did you have any compunction about 5 putting this in your publicly -- your 6 publicly-available documents? 7 A. What does "compunction" mean? 8 Q. Well, did you have any -- did you have 9 any worry about putting this out for public 10 consumption? 11 A. Not at all. 12 Q. And you put out there exactly the 13 relationship as you could calculate it between the 14 gains on sales and the effect on yield? 15 A. That's correct. 16 Q. And explained as best you could the 17 purposes of those transactions? 18 A. That's correct. 19 Q. Now, let me ask you to go over to Page 20 37 which is OFD12883. And do you see there in the 21 top paragraph that you once again report on the 22 gains on sales of mortgage-backed securities and 9194 1 loans increasing from 48 million to 75 million in 2 1986? 3 A. That's correct. 4 Q. Reflecting the shift from higher coupon 5 rate to lower coupon rate mortgage-backed 6 securities? 7 A. Yes, sir. 8 Q. And then in the next paragraph, you 9 report on it in a different fashion, also. Right? 10 A. Yes. 11 Q. Then let's look at your financial 12 statements. If you go back over to Page 45, which 13 is OFD12891 -- 14 A. Yes, sir. 15 Q. -- what is this page? 16 A. This is the consolidated statement of 17 changes in financial condition. 18 Q. This is a part of the official 19 financial records and reports of United Financial 20 Group? 21 A. That's correct. 22 Q. And you have a line item for sales of 9195 1 mortgage-backed securities? It's about halfway 2 down. 3 A. Oh, I see it. Yes, sir. 4 Q. Then if you turn over to Page 48, do 5 you see numbered paragraph 3, mortgage-backed 6 securities? 7 A. Yes, sir. 8 Q. And you report there not only your 9 carrying cost value but the mark-to-market value 10 of those securities? 11 A. That's correct. 12 Q. So, anyone wanting to discover what 13 your mark-to-market value was in comparison with 14 your cost could merely read your 10K in 1986? 15 A. That's correct. 16 Q. And if you look up at the top page, do 17 you see Paragraph No. 2, "investment securities"? 18 A. That's correct. 19 Q. You similarly reported the market 20 values as compared to the cost values that were on 21 your books? 22 A. That's correct. 9196 1 Q. And would that have included the 2 high-yield bond investments? 3 A. Yes, sir. That would be the "corporate 4 debt and other." 5 Q. Then let me ask you to look over at 6 Page 54 of your 10K for 1986. 7 MR. GUIDO: What page? 8 MR. NICKENS: Page 54, which is at 9 OFD12900. 10 Q. (BY MR. NICKENS) This is the 11 footnotes to your official financial statements, 12 correct? 13 A. That's correct. 14 Q. And they are an integral part of the 15 financial statements themselves? 16 A. That is correct. 17 Q. And Paragraph No. 10 describes the 18 interest rate exchange agreements that the 19 institution had in effect at the time? 20 A. Yes, sir. 21 Q. It gives the terms of those agreements, 22 the notional amounts, the rates being received, as 9197 1 well as the commitments on the fixed rates? 2 A. That's correct. 3 Q. And so, anyone who wanted to know the 4 situation with regard to your swaps would merely 5 have to look at your 10K to determine what that 6 situation was? 7 A. That is correct. 8 Q. Now, at that point in time, were those 9 hedging instruments known as off-book instruments? 10 A. I think off balance sheet. 11 Q. Okay. And that's the reason they are 12 reported in the footnote as opposed to directly in 13 the balance sheet. Right? 14 A. Right. The only thing that would be in 15 the balance sheet would be if -- in the case of 16 caps or something, the amount paid. 17 Q. Actual payments made would have been 18 reflected in -- 19 A. Right. 20 Q. -- in some account, but -- now, if you 21 had wanted to hide your situation with regard to 22 your swaps, why would you put it in your 10Ks? 9198 1 A. Consistent with everything that we ever 2 did at United, there was nothing that we wanted to 3 hide. Everything was always laid out. 4 Q. And similarly with your 198710K, which 5 is A3023, on Page 40 at CN158936, do you see there 6 in the consolidated statements of your financial 7 condition -- these are the official -- you've got 8 a line item disclosure of the market values of 9 your mortgage-backed securities. 10 MR. GUIDO: What page are you on? 11 MR. NICKENS: Page 40. 12 MR. GUIDO: The '87 10K? 13 MR. NICKENS: Yes. 14 MR. GUIDO: 3023? 15 Q. (BY MR. NICKENS) Do you see about the 16 fifth item down, it says "mortgage-backed 17 securities, market value of 3.357 and 2.725"? 18 A. Yes, sir. 19 Q. So, a person wanting to get this 20 information wouldn't even have to look at the 21 footnotes in 1987. They could get it from an 22 examination of your consolidated statements of 9199 1 financial condition? 2 A. That's correct. 3 Q. And if you look over to the next page, 4 Page 41, in the non-interest income line, the 5 third item, you specifically have a line item on 6 the gain on sale of mortgage-backed securities? 7 A. That's correct. 8 MR. GUIDO: What page again? 9 MR. NICKENS: It's Page 41 of the -- 10 next page. 11 Q. (BY MR. NICKENS) Okay, Mr. Wolfe. 12 Let me ask you to look at Exhibit B1048. Do you 13 recognize that as a copy of -- a partial copy of 14 the May 1986 performance report to UFG dated 15 June 18th, 1996? 16 A. Yes, sir. 17 Q. 1986? 18 A. Yes, sir. 19 Q. Thank you. 20 MR. NICKENS: Your Honor, we offer 21 B1048. 22 MR. GUIDO: No objection, Your Honor. 9200 1 THE COURT: Received. 2 Q. (BY MR. NICKENS) Now, do you recall, 3 Mr. Wolfe, I asked you about whether Peat Marwick 4 reviewed your performance reports? 5 A. Yes, sir. 6 Q. And do you see the designation down 7 below, KPMG 056930 indicating that this document 8 came from the books and records of Peat Marwick? 9 A. I see the KPMG, yes, sir. 10 Q. And if you could turn over to Page 5 of 11 the performance report, do you see some 12 handwriting there? 13 A. Yes, sir. 14 Q. And do you recognize that as the 15 handwriting of Mr. Parsons? 16 A. I do. 17 Q. And if you look over at the last page 18 of the document, do you see some more of 19 Mr. Parsons' handwriting? 20 MR. GUIDO: You mean the worksheet? 21 MR. NICKENS: Worksheet, yes. 22 A. The last page, yes, sir. 9201 1 Q. (BY MR. NICKENS) The last page of 2 document B1048. 3 MR. GUIDO: Is that Bates stamp KPMG 4 056936? 5 MR. NICKENS: It is. 6 Q. (BY MR. NICKENS) And if we go back 7 and we look at the second page, do you see there 8 is a discussion about net interest income? 9 A. Yes, sir. 10 Q. And you report there what's happened on 11 your net interest income, including the fact that 12 the spread on your mortgage-backs increased, 13 because of a decline and excess hedging relating 14 to un matched swap volumes. 15 Do you see that? 16 A. That's the paragraph underneath the 17 table? 18 Q. Yes, sir. It indicates there had been 19 a sale of the -- prepayment of the Series D cash 20 flow bond accounted for most of the improvement. 21 So, there had been a sale of the -- of those 22 mortgage-backed securities that -- and a 9202 1 prepayment of that Series D cash flow bond? 2 A. At the top, I see. Yes, sir. 3 Q. And you see there is a little note out 4 by the side -- first of all, on your copy, is 5 there an indication that this portion of the 6 performance report had been highlighted? 7 A. Looks like whenever you highlight 8 something with a yellow highlighter and Xerox it, 9 you get the little splotches there. And I see a 10 little "2" circled out to the side. 11 Q. Right. And that little 2 corresponds 12 to the note on the last page. 13 A. Okay. 14 Q. Right? 15 A. Yes, sir. 16 Q. In Mr. Parsons' handwriting. Does that 17 indicate to you that he was reviewing your 18 performance reports? 19 A. That's what it would indicate to me, 20 that he was. 21 Q. And if we could read that along, it 22 says, "Per discussions with Jim Wolfe, no hedges 9203 1 or swaps were removed. The, quote, 'excess 2 hedging,' close quote, position refers to the 3 amount of swaps in excess of MBS. The excess was 4 reduced due to an increase of MBS. Explanation 5 appears reasonable." 6 Do you see that? 7 A. Yes, sir. 8 Q. Indicating that Mr. Parsons had a 9 discussion with you about this explanation in your 10 performance report. 11 A. Okay. 12 Q. Was that usual or unusual or out of the 13 ordinary, to have such discussions with your 14 auditors? 15 A. No, sir. It's consistent with always 16 trying to keep them informed and making sure that 17 we weren't -- or that we were doing the proper 18 accounting for these transactions as we went 19 along. 20 Q. Mr. Wolfe, this proceeding is about 21 some claims made by the Office of Thrift 22 Supervision against certain respondents. 9204 1 From your personal knowledge, do you 2 know of any wrongdoing by -- in connection with 3 the management of United Savings by those 4 respondents? 5 A. None at all. 6 MR. NICKENS: Your Honor, that's all 7 the questions I have for Mr. Wolfe. 8 THE COURT: Do any of the other 9 respondents have questions? 10 MR. BLANKENSTEIN: No questions, Your 11 Honor. 12 MR. EISENHART: No questions, Your 13 Honor. 14 MS. CLARK: No questions. 15 MR. KEETON: I have one, Your Honor. 16 17 CROSS-EXAMINATION 18 19 (11:42 a.m.) 20 Q. (BY MR. KEETON) Do you include 21 Mr. Hurwitz in that last group? 22 A. That is correct. 9205 1 Q. And when you talked about Walter 2 Erickson and Walter Schuetze being the highest in 3 Peat Marwick, you're not talking about just in 4 Houston, are you? 5 A. No, sir. Both of those gentlemen were 6 in New York. Walter Erickson was in charge of the 7 S&L practice on a national basis, and I believe 8 Walter Schuetze was responsible for the technical 9 accounting aspects for the firm in any industry 10 line. 11 MR. KEETON: Thank you very much. 12 THE COURT: Do you have redirect? 13 MR. GUIDO: Yes, Your Honor. 14 THE COURT: All right. Proceed. How 15 long do you think it's going to take? 16 MR. GUIDO: It will probably be an 17 hour, hour and a half, Your Honor. I could make 18 it more efficient if we took our lunch break now 19 and I could organize a little better than I will 20 be at 15 minutes to the hour. 21 THE COURT: All right. Let's adjourn 22 until 1:15. 9206 1 MR. GUIDO: Thank you, Your Honor. 2 3 (Luncheon recess taken at 11:43 a.m.) 4 5 THE COURT: Be seated, please. 6 We'll be back on the record. I believe 7 the cross-examination is completed and Mr. Guido 8 has some redirect. 9 MR. GUIDO: Thank you, Your Honor. 10 11 REDIRECT-EXAMINATION 12 13 (1:17 p.m.) 14 Q. (BY MR. GUIDO) You were asked some 15 questions on cross-examination about your 16 background and the various audits that you had 17 done. 18 Do you recall those questions? 19 A. That's correct. 20 Q. And you indicated in the course of it 21 that you thought that your experience in the 22 audits was important in terms of judging the audit 9207 1 work that was done or the accounting work that was 2 done by you at USAT? 3 A. I said -- I'm sorry. What's the 4 question again? 5 Q. You described the audit experience that 6 you had had and the various savings and loans that 7 you had. 8 A. Yes. I named some S&Ls that I had 9 worked on. 10 Q. Do you believe that your audit 11 experience at the time that you had it was 12 relevant to judge whether you properly performed 13 your work as a controller at USAT? 14 A. Rating myself? 15 Q. Uh-huh, yes. 16 A. Yes. 17 Q. Now, why is past experience relevant to 18 judging performance of an accountant, whether they 19 are serving as an auditor or they are serving as a 20 controller of an entity? 21 A. It provides insight as to what the job 22 is. 9208 1 Q. Is it the familiarity with the nature 2 of the transactions that you're referring to when 3 you say that? 4 A. What I'm saying is that when I was an 5 auditor, I would review transactions and gain an 6 understanding of those transactions. And as a 7 controller, I was required to record those 8 transactions rather than review them. So, 9 therefore, it was easier to understand 10 transactions as opposed to never having had that 11 experience as an auditor. 12 Q. So, the familiarity with the 13 transactions is relevant to judge the likelihood 14 that the person will properly apply the accounting 15 principles to those transactions in the future? 16 A. Familiarity with -- yes, if I 17 understand your question correctly. 18 Q. Now, prior to joining USAT, had you 19 ever audited a mortgage-backed security 20 risk-controlled arbitrage? 21 A. I don't recall, although I do know that 22 it was described as a risk-controlled arbitrage. 9209 1 However, I do remember that at Heights Savings, 2 they did utilize interest rate swaps, futures, and 3 options in connection with their mortgage-backed 4 security portfolio. 5 Q. But you don't recall ever auditing a 6 mortgage-backed security risk-controlled arbitrage 7 portfolio? 8 A. Not designated like that, no, sir. 9 Q. Prior to joining USAT, have you ever 10 audited a purported rebalancing of a 11 mortgage-backed security risk-controlled 12 arbitrage? 13 A. I'm not sure what "rebalancing" means. 14 Q. Prior to joining USAT, have you ever -- 15 had you ever audited a purported roll-down of 16 mortgage-backed securities in a risk-controlled 17 arbitrage portfolio? 18 A. I don't recall having done that. 19 Q. You don't recall one way or the other? 20 A. I don't recall. I spent -- I don't 21 recall. 22 Q. Now, prior to joining USAT, had you 9210 1 ever audited a purported roll-down in the context 2 of a hedged mortgage-backed security portfolio? 3 A. Prior to my employment at United, had I 4 ever audited? 5 Q. Uh-huh. 6 A. I don't recall that, no, sir. 7 Q. In the USAT mortgage-backed security 8 portfolios that you looked at, did you encounter 9 transactions that you had never seen before? 10 A. Yes, sir. 11 Q. And did you encounter transactions that 12 you've never seen since you left USAT? 13 A. It's been 10 years since I've left, and 14 without -- I don't know that I have or have not. 15 Q. Well, let me give you an example. 16 A. Okay. 17 Q. Have you ever encountered a hedging 18 issue, a correlation issue, with regard to hedging 19 a synthetic interest-only strip of a 20 mortgage-backed security? 21 A. I don't recall encountering a 22 transaction where a correlation was required since 9211 1 I've left. 2 Q. Pardon? 3 A. Since I've left United. 4 Q. Have you ever -- 5 A. And that's United -- Bank United. At 6 Bank United is -- there were -- those issues were 7 there. 8 Q. Bank United was basically the USAT 9 portfolio for a period of time, was it not? 10 A. Plus additional -- those type of -- 11 they added their own layers of those type of 12 entries or those type of structures. 13 Q. Now, I'd like to direct your attention 14 to the memorandum that referred to the tax loss. 15 Do you remember that that you saw as an 16 exhibit? 17 A. Yes, sir. 18 Q. Well, maybe both of us have misplaced 19 the document. 20 THE COURT: What exhibit number are we 21 looking for, Mr. Guido? 22 MR. GUIDO: Your Honor, I don't have 9212 1 the exhibit number. Someone had misplaced my 2 copy. I only have a general question about it. 3 Q. (BY MR. GUIDO) Do you recall the 4 memorandum? I think that that's it. 5 A. I've got it right here. Yes, I recall. 6 Q. Do you see the transaction -- 7 A. Pardon? 8 Q. What is the exhibit number that you 9 have? 10 A. Would that be Ex. B512? 11 Q. Yes. 512. Now, do you know what that 12 transaction is that's referred to in that 13 document? 14 A. Which -- 15 Q. It's talking about a transaction to 16 take a tax loss. Right? Do you know what the 17 transaction was that was referred to there? 18 A. I'm not -- I thought -- well, let me 19 read it again. (Witness reviews the document.) 20 This refers to whether there can be a 21 transaction as far as -- 22 Q. It's a contemplation of a 9213 1 transaction -- 2 A. That's right. 3 Q. -- to generate a tax loss. Right? 4 A. Could be contemplation. 5 Q. What is the contemplated transaction? 6 That's all I'm asking. Do you know? 7 A. From reading this, it looks like they 8 are talking about selling securities that are 9 associated with a cash flow bond. 10 Q. Okay. To generate a tax loss. Right? 11 A. Yes, sir. 12 Q. Okay. And you testified, I believe, 13 that there is nothing inappropriate about doing 14 so. Right? 15 A. I don't know whether I said 16 inappropriate or unusual. 17 Q. Well, is there anything inappropriate 18 about doing a transaction to generate a tax loss? 19 A. I don't think so. 20 Q. Now, are you aware of transactions 21 undertaken to generate tax losses that do not 22 generate GAAP losses? 9214 1 A. I'm sure there could be. I can't think 2 of anything specifically. 3 Q. But you do know that there are such 4 transactions? 5 A. The book basis can be different than 6 the tax basis, yes, sir. 7 Q. Now I'd like to direct your attention 8 to Exhibit B1363. 9 A. Is that in this pile? 10 Q. That's in that pile. That's the 11 memorandum from you to distribution dated 12 December 22nd, 1986, regarding the 1986 audit. 13 A. I remember that. 14 Q. Okay. 15 A. Do I need to find it? 16 Q. I'm going to ask you some specific 17 questions about the document. I think you just 18 passed it. 19 A. Oh, okay. 20 Q. Do you have the document? I'd like to 21 direct your attention to Paragraph 1. It says, 22 "One audit concern is that the SEC recently issued 9215 1 the interpretation (see attached) stating all 2 foreclosed property must be carried at its fair 3 market value at date of foreclosure and such value 4 would represent its new cost basis." 5 Do you see this? 6 A. Yes. 7 Q. Why was that an audit concern? 8 A. We had foreclosed property. 9 Q. And what was the basis that you were 10 carrying on that? 11 A. Whatever -- I don't recall 12 specifically. It would have been whatever was 13 required by GAAP. 14 Q. Do you recall that there were issues 15 with the examiners regarding the write-down of the 16 value of foreclosed properties periodically while 17 you were controller at USAT? 18 A. I'm not sure what you mean by 19 "problems," but there were always -- there was 20 foreclosures that needed to be written down. 21 Q. Do you recall that there were disputes 22 with the examiners regarding the amounts of 9216 1 write-downs of foreclosed properties or real 2 estate owned by USAT during the period of time you 3 were controller? 4 A. The amount of which a write-down should 5 be? 6 Q. Yeah. The amount of the write-down. 7 A. I don't remember any specifically, but 8 I'm sure -- there were always differences of 9 opinion as to what the fair market value of 10 particular properties were. 11 Q. Well, let's go on to the rest of the 12 memorandum. I was asking you some general 13 questions about it which seem to come from the 14 next two sentences. It says, "This presents two 15 basic problems. One, the fair value one can 16 receive today is sometimes less than a value based 17 upon certain assumptions. This could result in 18 greater losses." 19 Do you see that? 20 A. Yes. 21 Q. Okay. Now, why were you pointing that 22 out as an audit concern? 9217 1 A. I don't recall specifically, but it 2 seems to me there must be a difference between 3 recording foreclosed property at its fair value as 4 of today versus what you could potentially receive 5 in the future. But I really don't recall the 6 specifics that this relates to. 7 Q. Then it says, "And, two, effective 8 October 1st, we can no longer present our initial 9 foreclosure reserves gross. They must be netted 10 against the original basis." 11 Do you see that? 12 A. Yes. 13 Q. What does that refer to? 14 A. To me, it is saying that according to 15 the SEC interpretation, that we can no longer 16 report them gross. We must net them against the 17 original basis. 18 Q. What's the consequences of that? 19 A. I don't know. 20 Q. Okay. "This means," it says, that -- 21 A. Or I don't recall. 22 Q. Let's look at the next sentence. Maybe 9218 1 that will help you. "This means that some portion 2 of our real estate owned reserves at year end must 3 reduce the cost balance of the real estate owned 4 rather than being presented gross." 5 Do you see that? 6 A. Yes. 7 Q. What's the consequence of something 8 being specific as applied to the particular cost 9 balance of a particular piece of real estate as 10 opposed to being presented gross, as a gross 11 reserve figure? What are the consequences of the 12 difference? 13 A. From a GAAP perspective, I don't think 14 there is a difference. 15 Q. Okay. From a regulatory perspective, 16 does it result -- does one result in a reduction 17 of income, the specific reserves, and the general 18 reserves do not result in a reduction of income? 19 A. I'm not -- I don't understand your 20 question. To me -- 21 Q. Well, for regulatory accounting 22 purposes, are specific reserves treated 9219 1 differently than general reserves? 2 A. Yes. 3 Q. Okay. And what is the difference? At 4 least, what was the difference back in 1986? 5 A. To my recollection, a specific reserve 6 is netted against a specific asset. A general 7 reserve is attributable to a group of assets. And 8 for -- well, that's the regulatory difference. 9 Q. All right. Now, for regulatory 10 purposes, do they flow into the income statement 11 in a different way? 12 A. As far as recording a general or 13 specific, I believe they both go the same way in 14 the income statement. 15 Q. What about for GAAP purposes? 16 A. For GAAP purposes, there is no such 17 thing as a specific reserve. That's a regulatory 18 concept. 19 Q. Okay. So, there is only a general 20 reserve from the GAAP perspective? 21 A. I think the terminology would be an 22 allowance for loss. 9220 1 Q. Now -- so, what was the significance of 2 the change to fair market value that's referred to 3 as opposed to the previous method that said you 4 could use certain assumptions? 5 A. I mean, without -- I really don't know 6 without going back and understanding what it 7 referred to. I'm not really sure. 8 Q. Now, let's move on to Paragraph 2, 9 "audit concerns." 10 A. Yes, sir. 11 Q. You see where it says "various issues 12 around MBS prepayments"? 13 A. Yes, sir. 14 Q. What does that refer to? 15 A. Based on my recent review of the 16 documentation, I would assume that has to do with 17 the premium amortization and/or discount accretion 18 related to the premiums and discounts. 19 Q. And do the prepayment assumptions have 20 an effect on the speed with which premiums or 21 discounts are accreted into the income statement? 22 A. Has an impact on the level of amount. 9221 1 Q. And do you recall what the audit 2 concerns were there? 3 A. Whether or not we would have done it 4 correctly, accreted or amortized enough. 5 Q. Now, these are all audit concerns, are 6 listed as audit concerns. Were these your 7 concerns that these were issues that were going to 8 be raised in the audit, or were these issues that 9 the auditors told you that they had identified as 10 items to look at with, what is it called, 11 heightened scrutiny in the audit literature? 12 A. I'm not sure about that term, but -- 13 and I'm also not sure whether -- how I came up 14 with this list. And by that, I mean I do not 15 believe that Peat Marwick handed me the list and I 16 reiterated it here. I believe it would be as we 17 go through the year and knowing what issues are 18 out there, I was listing them out. But I'm sure 19 that Peat Marwick would be aware of these issues 20 because they had been in there reviewing it. But 21 in looking at the prior year management letter 22 comments, that would be just an issue of getting 9222 1 the last year's management letter comment and 2 seeing what we had done to implement. 3 Q. I'm focusing on 2 right now, not on 3. 4 A. But I'm only adding that to explain 5 that if would indicate to me that these were 6 issues that I had personally thought were of 7 concern to the agency's audit. 8 Q. These were not issues that Peat Marwick 9 gave to you and said, "Start thinking about 10 these"? 11 A. I don't know. I don't recall. 12 Q. When you were an auditor at 13 Peat Marwick and you audited accounts, did you 14 ever walk into the client before year end -- this 15 says December 22nd here of '86 -- before year end 16 and hand them a list and say, "Here's what I am 17 going to come in and audit you over"? 18 A. Absolutely. 19 Q. You did? 20 A. Yes, sir. 21 Q. Now, did they do that here with you? 22 A. I don't know. 9223 1 Q. So that -- and you don't know whether 2 these -- but you believe these are your audit 3 concerns, not Peat Marwick's audit concerns or 4 they are issues that you think may come up in the 5 course of the audit? 6 A. That's what I think they are. 7 Q. That's what you think they are. That's 8 all I'm trying to identify. Then under "audit 9 concerns," it says "MBS hedging activity." 10 Do you see that? 11 A. Yes, sir. 12 Q. Okay. Do you recall what that referred 13 to? 14 A. Specifically, no. But I think it 15 would -- as any -- I mean, I think it refers to a 16 lot of the transactions that we've been talking 17 about here that would have occurred in 1986. But 18 specifically which transactions, no, sir. 19 Q. So, basically, what you're saying is 20 with regard to audit concerns that you've 21 identified an area as mortgage-backed security 22 hedging activity and the accounting issues related 9224 1 to that? Is that what that refers to? 2 A. Yes, sir. 3 Q. Now, why did you identify that as an 4 issue? 5 A. Because all of these issues, looking at 6 them, were not, you know, cut and dry, black and 7 white auditing or -- excuse me -- accounting 8 issues and I would have been concerned. It's 9 like -- you know, depreciation of fixed assets is 10 not on here because that, to me, was not an issue. 11 Q. Now, take a look at the items of 12 "trading portfolio/junk bonds." 13 Do you see that? 14 A. Yes, sir. 15 Q. What did that refer to? 16 A. I don't really know anything other than 17 what it says specifically, or I don't recall. I 18 mean, I'd have to go back and look and try and 19 determine what the issues were as they related to 20 that portfolio. But I know there were credit 21 quality problems and things like that. 22 Q. Then it says "prior year management 9225 1 letter comments." 2 Do you see that? 3 A. Yes, sir. 4 Q. Then it says "investment securities and 5 securities trading." 6 Was that addressed in the prior year's 7 audit letter? 8 A. Must have been. I don't know. But I 9 would -- this certainly indicates it was. 10 Q. Or is this your indication that it 11 wasn't raised in the previous letter? 12 A. From reading this, this would lead me 13 to believe that I went and took the 1985 14 management letter -- let me make sure I've got the 15 right year here. I was writing this in December 16 of '86. So, that would have been the '85 17 management letter -- had gone through that letter 18 and indicated which ones had been cleared or 19 resolved because it would have been our -- I mean, 20 our practice to make sure that we didn't have a 21 repeat of a management letter comment and that we 22 had rectified the situation. 9226 1 Q. Okay. Now, Item No. 4 if you'll turn 2 to the next page. It says "Potential 1986 3 management letter comments." 4 Do you see that? 5 A. Yes, sir. 6 Q. It says "REO department, operational 7 problems, missing records." 8 Do you see that? 9 A. Yes, sir. 10 Q. Now, why did you identify that as a 11 potential management letter comment? 12 A. I don't recall specifically. But in 13 reading it, as part of performing my duties as 14 controller and part of my responsibilities would 15 be the internal controller or any operational 16 problems that I noted. And these are areas -- or 17 the REO would be one area that, you know, I guess 18 I identified operational problems and missing 19 records. I don't know what specifically it 20 relates to. 21 Q. Now, the next says "Consumer loan file 22 maintenance problems." 9227 1 What does that relate to? 2 A. To me, the file maintenance means -- is 3 a computer-related issue as far as properly 4 maintaining the computer records. 5 Q. And then the other is "Mortgage loan 6 servicing. Escrow insurance policies cannot be 7 located." 8 Do you see that? 9 A. Yes, sir. 10 Q. What does that refer to? 11 A. I don't recall anything in addition to 12 what it says here. 13 Q. Let's stop there for a minute, and let 14 me ask you something about a management letter. 15 What is the purpose of a management 16 letter from an auditor to its client? 17 A. To me, it is a finding of weaknesses 18 internal control. 19 Q. And are these weaknesses that the 20 auditor has found that it doesn't know whether 21 they are of the magnitude to justify qualifying 22 its opinion on the financial statements? 9228 1 A. They can be either. 2 Q. They can be either? 3 A. There's a classification as a material 4 weakness or other matters, I believe, is the 5 current terminology. I'm not sure what was 6 appropriate back then. 7 Q. Okay. Now, looking at the next entry, 8 the accounting treatment, it says "Classification 9 of BFL." 10 What does that refer to? 11 A. I'm not sure. 12 Q. Okay. What's the "suspense write-off" 13 refer to? 14 A. Must have been items in suspense that 15 needed to be written off, but I don't know 16 specifically what that would be. 17 Q. What does that refer to: Suspense, 18 items in suspense? 19 A. To me, not knowing specifically what 20 this was, but if a transaction occurs that you do 21 not know immediately how to account for or what 22 the appropriate bookkeeping would be, it would be 9229 1 put in a suspense account until it could be 2 properly resolved. 3 Q. Okay. And then the next says, 4 "Classification of real estate owned as real 5 estate." 6 Do you see that? 7 A. The next one down, yes, sir. 8 Q. Do you see that? 9 A. (Witness nods head affirmatively.) 10 Q. What does that refer to? 11 A. I don't recall specifically what 12 that -- I don't recall specifically what it would 13 be, no, sir. I don't know. Unless -- it would be 14 a regulatory issue, though. 15 Q. It goes to the question of how much 16 loss is recognized in the income statements of -- 17 and the balance sheets of USAT, doesn't it, for 18 accounting purposes, for regulatory accounting 19 purposes? 20 A. No, sir. To me, it means there is 21 different regulatory treatment on the balance 22 sheet of real estate acquired through foreclosure 9230 1 versus real estate that was purchased, I guess, as 2 real estate. 3 Q. And was one of the differences the 4 degree of write-down of the reserves? 5 A. No, sir. My recollection would be that 6 it had to do with either net worth or, I believe, 7 direct investment. But I don't recall the 8 specifics of the regulations. 9 Q. Now, the next item says, "socks." What 10 does that refer to? It's in quotes. 11 A. That referred -- to me, that means 12 sometimes where you have accounts where accruals 13 build up or are under or are over and need to be 14 resolved. 15 Q. Then the next says "Loss reserve. 16 Formation of an independent committee to determine 17 losses." 18 Do you see that? 19 A. Yes, sir. 20 Q. Why was that an issue in your mind? 21 A. I don't recall specifically, but I 22 believe that we established -- and I don't 9231 1 remember when -- but a committee that would look 2 at all of the assets to determine what the 3 reserves would be as opposed to not having a 4 committee that did that. 5 Q. So, this may have been an indication 6 about your view that there might be a need for 7 such a committee? 8 A. Yes, sir. 9 Q. Now, this two-page document has Bates 10 stamp KPMG 05494 -- 05494 on both pages. 11 A. Okay. 12 Q. It's a Peat Marwick Bates stamp that's 13 on the document. And then it has "Distribution: 14 Jenard Gross, Gerald Williams, and Michael Crow." 15 Was this document prepared for you to 16 send to Peat Marwick so that they could look at 17 these issues in terms of considering them as part 18 of a management letter? 19 A. I don't think -- I do not recollect 20 specifically why the memo was prepared and 21 distributed. But I think it would have been 22 prepared in just the normal management 9232 1 communication of "Here's issues that are related 2 to the '96 audit" and -- 3 Q. How did this find its way into Peat 4 Marwick's files? Do you know? 5 A. I probably gave them a copy of it. I 6 don't know. I mean, there is no reason why I 7 wouldn't. 8 Q. Well, look at the very last sentence of 9 the document. It says, "At this point, I don't 10 think the above issues would be in the management 11 letter that goes to the Federal Home Loan Bank and 12 board of directors. Probably just an aside 13 letter." 14 A. Yes, sir. 15 Q. What does that refer to? 16 A. The very common practice where if, in 17 the auditor's opinion, they don't deem any of 18 these issues to be a material weakness, then it 19 falls down to the next category which would be, I 20 think, a reportable condition. If they don't deem 21 it's worthy of a reportable condition, then many 22 times, if they consider it -- I'll use the word 9233 1 "immaterial," but that may not be a good word -- 2 they would communicate their findings to 3 management in a letter or, you know, as I've 4 described here, a side letter. 5 Q. How can an auditor know which level of 6 concern a matter would raise prior to actually 7 doing the audit? 8 A. How could the auditor do it? 9 Q. Yeah. How could the auditor know? 10 A. I don't guess -- 11 Q. Well, how can the auditor know whether 12 these issues that you've raised in this memorandum 13 are going to be sufficient to require 14 qualification of the financial statements or are 15 significant enough to be in a management letter 16 that goes to the board of directors and, because 17 it goes to the board of directors, it goes to the 18 Federal Home Loan Bank Board, or to have a side 19 letter on it? How before the audit is 20 conducted -- because the books haven't been closed 21 as of this date. Right? 22 A. Right. 9234 1 Q. How long -- how before completing the 2 audit can the auditor know what he's going to say 3 in which of those documents? 4 A. I don't think that the auditor can. 5 What this -- this is what I'm thinking. This is 6 my judgment based on my having been at 7 Peat Marwick for 10 years and understanding these 8 issues. 9 Q. So, this is your assessment of how you 10 think Peat Marwick is going to deal with the 11 issue? 12 A. Yes, sir. That's what it says. I 13 mean, it says "I don't think the above issues 14 would be in a management letter," but I don't 15 know. 16 Q. I think you testified about your 17 knowledge of the people at Peat Marwick who were 18 on the audit team. 19 A. Yes, sir. 20 Q. One of those people was Joe Parsons, I 21 think, you described. And he was the senior 22 manager on the audit while you were the controller 9235 1 of USAT? 2 A. Pardon? 3 Q. He was the senior manager on the audits 4 of USAT at the time you were the controller at 5 USAT? 6 A. I believe that's correct. 7 Q. And you supervised his activities while 8 you were at Peat Marwick? 9 A. That's correct. 10 Q. And Rick Millinor was the engagement 11 partner for Peat Marwick at the time that 12 Peat Marwick audited the financials when you were 13 the controller at USAT? 14 A. That's correct. 15 Q. And he spoke to you about taking the 16 job as the controller of USAT? 17 A. That is correct, because the client -- 18 it was a policy, I guess, of Peat Marwick that 19 while an audit engagement was going on, you could 20 not talk to one of the auditors with respect to a 21 job. 22 Q. Okay. 9236 1 A. And so, they would have spoken to Rick 2 prior to speaking to me. 3 Q. Okay. When Mr. Millinor spoke to you, 4 were you engaged in an audit of USAT? 5 A. I don't recall, but I don't think that 6 would -- no, I don't think they would have talked 7 to me about doing that until the engagement was 8 complete and the 10K was issued. And I think that 9 was the protocol that was followed. 10 Q. But he spoke to you about the job. Did 11 he recommend you for the job? 12 A. I have no idea. All he did -- 13 Q. Did he suggest that you talk to them 14 about the job? 15 A. No, sir. All he did was tell me that 16 they were going to talk to me about the job, as I 17 recall. 18 Q. Now, you indicated that Jerry Claiborne 19 was the reviewing partner of the audits during a 20 period of time that you were the controller of 21 USAT? 22 A. I believe that's correct, because he 9237 1 was the SEC reviewing partner for the Houston 2 office. 3 Q. Okay. And he reviewed the work that 4 you performed during the period of time that you 5 were at Peat Marwick as an auditor? 6 A. I don't know that Jerry Claiborne and I 7 ever worked on an examination together or an 8 audit. 9 Q. Now, in the last five to 10 years, have 10 the -- either the GAAP or generally-accepted 11 auditing standards, GAAS standards, excuse me, or 12 the SEC standards or bank regulatory standards 13 adopted a requirement that there be rotation of 14 people in doing audits of specific firms? 15 A. When I left Peat Marwick, things like 16 that were of no concern to me. I'm not sure that 17 they have or have not. 18 Q. You don't know whether or not that the 19 GAAS standards have been changed or the SEC 20 standards have been changed to require rotation of 21 personnel on audits to avoid becoming too familiar 22 with the people that they are auditing? 9238 1 A. No. I am familiar with that because 2 we've had a rotation of the partner on the job 3 that I'm on or on the -- Peat Marwick currently 4 audits the Adam Corporation, where I'm currently 5 employed, and they have rotated a partner also, 6 yes. There is a requirement. I don't know 7 whether that's a Peat Marwick internal requirement 8 or SEC or GAAS. 9 Q. Okay. Now, I'd like to direct your 10 attention to the USAT Mortgage Finance issue. I 11 asked you a number of questions about it. 12 Mr. Nickens directed your attention to a specific 13 sentence in Exhibit B819, and I'd like you to pull 14 that out. 15 A. Was that at the beginning or the end? 16 Q. I think it was relatively early on. 17 A. Okay. I've got it. 18 Q. And I'd also like to direct your 19 attention to a January 10th, 1986 memorandum to 20 the file from Joe Phillips, which I think the 21 exhibit number is A10594. 22 MR. GUIDO: If we can get the tab 9239 1 number? 571. 2 Q. (BY MR. GUIDO) I'll show you that 3 document. Now, I'd like to show you the document 4 that's Exhibit B819, which is the compilation of 5 the exhibit that Mr. Nickens introduced into the 6 record with the typewritten conversion of 7 Mr. Millinor's handwritten memorandum. 8 If you look at the last sentence, it 9 says, "They point out correctly that if they 10 simply were trying to boost earnings, they 11 wouldn't have acquired the mirror and the gain 12 would be clearly recognizable with no offsetting 13 costs." 14 Do you see that? 15 A. Yes, sir. 16 Q. Now, is the Joe Phillips memorandum 17 that's the last page of that exhibit, is that the 18 representation that it looks like Mr. Millinor was 19 relying upon for this statement? 20 MR. NICKENS: Your Honor, I object. I 21 don't see how he can possibly say what 22 Mr. Millinor was relying upon for this statement 9240 1 unless it's identified in the document. 2 Q. (BY MR. GUIDO) Is there any statement 3 in the memorandum dated January 10th, 1986, from 4 Joe Phillips to the file that would support that 5 sentence? 6 A. (Witness reviews the document.) I 7 don't know. 8 Q. You don't see anything in there that 9 seems to support that statement, do you? 10 A. Let me take some time and read it in 11 detail, and I'll answer it. 12 Q. Okay. I'd appreciate that. 13 A. (Witness reviews the document.) I 14 think in order to answer your question that I 15 would need to get myself much more familiar with 16 all the details of this whole transaction. 17 Q. I'm just asking you whether or not in 18 the memorandum that's attached to it -- obviously 19 there is more that went on than just this 20 attachment, and I'm just asking with regard to 21 this attachment. 22 Is there anything in this attachment 9241 1 that supports that statement that Mr. Nickens read 2 to you? 3 MR. NICKENS: Your Honor, I object. 4 The witness has answered the question. He said 5 that he needed to read the document. After 6 reading the document, he said he didn't feel that 7 he could answer the question. And now at this 8 point, we're just arguing with him. 9 MR. GUIDO: I think I'm asking the 10 witness to respond to a specific question. Does 11 he see anything in that document that supports the 12 statement on the first page of Exhibit B819 that 13 Mr. Nickens felt significant enough to read to him 14 and ask him questions about? 15 THE COURT: What's your question? 16 MR. GUIDO: Is there anything in the 17 Joe Phillips memorandum that's attached to 18 Mr. Millinor's work paper that substantiates that 19 statement in this document. 20 THE COURT: Can you answer that? 21 MR. GUIDO: That's all I want to know. 22 THE WITNESS: My answer to that would 9242 1 be that in reading this, I see enough information 2 that would lead me to believe that if I more fully 3 understood it, I'd understand how one could reach 4 the conclusion or the writing that Mr. Millinor 5 had put here. But I just don't -- without going 6 back and getting all the documentation, I'm not 7 exactly sure. For example, I'm not positive I 8 know exactly what a mirror swap is and what it 9 does. I would have to go back and look at it and 10 understand it. And then -- because I'm guessing. 11 THE COURT: All right. Let's go to the 12 next question. 13 Q. (BY MR. GUIDO) The -- when you were 14 an auditor at Peat Marwick, what was your 15 understanding of what you needed to have from a 16 client to rely upon the client's representations 17 in performing your audit of the accounts and 18 records of that institution? 19 A. I'm sorry. Could you repeat that 20 again? 21 Q. When you were at Peat Marwick as an 22 auditor, what is your understanding of what you 9243 1 needed to have to document representations from 2 the client that you were relying upon in reaching 3 conclusions in the course of the audit? 4 A. Either written documentation from them 5 or in conversations with them and then, in turn, 6 my writing those conversations down and 7 documenting them in the work papers. 8 Q. Okay. Now, I'd like to direct your 9 attention to Exhibit A10594, which is the document 10 that is Exhibit 571. This is a document that has 11 been introduced into the record and we've asked a 12 number of witnesses about it. It has a second 13 page to it which is -- it looks like it's an 14 excerpt from some accounting literature. 15 Do you see that? 16 A. Yes. (Witness nods head 17 affirmatively.) 18 Q. That isn't attached to the Exhibit B819 19 that's part of the documentation that Mr. Millinor 20 relied upon, correct? 21 A. It's not attached. 22 Q. Now, take a look at the attachment to 9244 1 Mr. Phillips' memorandum which is Exhibit A10594. 2 I want to ask you some questions about your 3 understanding of that document. 4 It says -- the issue is "Many interest 5 rate swaps are currently accounted for as hedge 6 transactions with the gain or loss on the early 7 termination of the swap deferred and recognized 8 when the offsetting gain or loss is recognized on 9 the hedged transaction. Practice has been diverse 10 with some gains on terminated interest rate swaps 11 that were accounted for as hedges recognized 12 immediately." The question is: "Should gains or 13 losses on terminated interest rate swaps that were 14 accounted for as hedges be recognized in income 15 immediately or upon termination of the hedged 16 transaction?" 17 Do you see that? 18 A. I see that. 19 THE COURT: Excuse me. I thought 20 that's what we've been looking at. We have not? 21 That's not the statement you've been looking at 22 before. Is that correct, Mr. Wolfe? When you 9245 1 were answering his questions, you weren't looking 2 at this statement? 3 THE WITNESS: No, sir. I was looking 4 at this statement. 5 MR. GUIDO: B819, Your Honor. There 6 are two renditions of the Joe Phillips memorandum, 7 and that's what I'm addressing. Or I guess now 8 we're talking about the third rendition of the Joe 9 Phillips memorandum regarding this transaction. 10 And this is the one that went -- was in the files 11 of USAT, Your Honor. And it has an attachment to 12 it. When he was looking at the Exhibit B819, he 13 was only looking at the very last page of 14 Exhibit 819, Your Honor, which is just the cover 15 page, Joe Phillips' cover page. 16 Q. (BY MR. GUIDO) Now, jumping down, the 17 question is how to account for these transactions. 18 The consensus in this 84-7 that's referred to 19 here -- do you see that? 20 A. Yes, sir. 21 Q. Okay. It says, "Such gains and losses 22 should not be recognized immediately in income, 9246 1 because the termination of an interest rate swap 2 accounted for as a hedge is closely analogous to 3 the transaction described in the recently issued 4 FASB Statement No. 80, 'Accounting for Futures 5 Contracts.'" Okay? 6 A. Yes, sir. 7 Q. So, it's saying that the swaps should 8 be accounted for -- 9 MR. NICKENS: Your Honor, I would ask 10 that the remainder of the description -- 11 MR. GUIDO: I am going to read the 12 remainder, and I'm going to ask a question about 13 it. And I would appreciate it if you'd give me an 14 opportunity to ask my first question about the 15 first sentence. 16 MR. NICKENS: Your Honor, I think the 17 witness ought to have the benefit of reading the 18 entire statement. That is what the rule of 19 optional completeness is about, so that someone 20 can't read a statement out of context to then ask 21 a question that the witness doesn't have the 22 benefit of the entire context. 9247 1 THE COURT: All right. Let's read the 2 whole thing. 3 Q. (BY MR. GUIDO) Then the sentence goes 4 on, "Under FASB Statement No. 80, the gain or loss 5 on a terminated futures hedge, to the extent it 6 has been an effective hedge, must continue to be 7 deferred and recognized when the offsetting gain 8 or loss is recognized on the hedged transaction." 9 Do you see that? 10 A. Yes, sir. 11 Q. Now, my first question is: Is the 12 consensus that swaps should be accounted for 13 similarly to futures contracts pursuant to FASB 14 Statement No. 80? Is that what that paragraph 15 says in the first sentence? 16 A. Yes, sir. 17 Q. Now -- then under the second sentence, 18 does that sentence say that the gain or loss on 19 the swap must be deferred and only recognized when 20 the instrument that has been hedged has been 21 disposed of and a gain or loss recognized on that 22 instrument? 9248 1 A. No, sir. 2 Q. What does it say? 3 A. It says the gain or loss on a 4 terminated future hedge. 5 Q. Okay. On a terminated hedged 6 instrument. Right? 7 A. Futures hedge. To me, futures are 8 different than swaps. 9 Q. Well, I mean -- but doesn't this 10 document say that the swaps are to be accounted 11 for as if they were futures contracts? 12 A. Technically, I think it says "closely 13 analogous," similar. 14 Q. Well, under GAAP, if you do not have 15 literature that is directly applicable, aren't you 16 obligated to apply the GAAP standard that is 17 closely analogous? 18 A. Yes, I think you would use whatever 19 information is available or industry practice or 20 current convention. 21 Q. Do you know anything about the 22 hierarchy of GAAP? 9249 1 A. Some, yes. 2 Q. Okay. And that there are certain 3 levels of standards. Right? 4 A. That's correct. 5 Q. And the first of the FASB 6 pronouncements, aren't they? 7 A. I believe that's right. 8 Q. And so, that is what one is obligated 9 to look to under the hierarchy of GAAP? 10 A. That's where you start, I believe 11 that's correct. 12 Q. Okay. And you are obligated, under 13 GAAP, to look to the highest level as being FASB 14 for a closely analogous situation in applying 15 GAAP, are you not? 16 A. If it's a direct hit, yes, sir. 17 Q. And if it's closely analogous, you are? 18 If you determine it's closely analogous, you are 19 obligated to apply the FASB standard? 20 A. That would make sense. 21 Q. Okay. Now, this says the consensus is 22 to apply that. So, that seems to me -- what does 9250 1 "consensus" mean in this context? Do you know? 2 A. I think this is an excerpt from an 3 emerging issues task force which is composed of -- 4 I don't know how many -- a group of people and 5 they sit around and hash it out and come up with 6 their consensus. 7 Q. Okay. And they are one of the official 8 bodies that one looks to for interpretations of 9 FASB pronouncements, are they not? 10 A. I think so. 11 Q. Okay. Now, they are saying it's 12 closely analogous and they are directing us to 13 FASB 80, are they not? 14 A. That is correct. 15 Q. Okay. And the second sentence of that 16 paragraph says "Under FASB Statement No. 80, the 17 gain or loss on a terminated futures hedge, to the 18 extent it has been an effective hedge, must 19 continue to be deferred." 20 Do you see that part of the sentence? 21 A. I see that part of the sentence. 22 Q. And then it says, "and recognized when 9251 1 the offsetting gain or loss is recognized on the 2 hedged transaction." 3 Do you see that? 4 A. I see that. 5 Q. Okay. Now, what was the transaction 6 that was hedged by the swaps that were put on when 7 USAT Mortgage Finance was created and the 8 $500 million of mortgage-backed securities 9 purchased? 10 A. Could you repeat that again, please? 11 Q. What was the instrument, asset or 12 liability, that was hedged by the swaps when the 13 $500 million were purchased as part of USAT 14 Mortgage Finance? 15 A. I don't recall specifically, but I 16 would assume it was the reverse repos. 17 Q. Okay. The liabilities. Right? 18 A. That's assuming they were -- yeah. I 19 am making an assumption that they were funded with 20 reverse repos. So, whatever was the funding 21 vehicle. 22 Q. Assume that. Okay? 9252 1 A. I'll assume that. 2 Q. Just assume that for purposes of my 3 question. 4 A. Okay. 5 Q. Now, what happens to reverse repos when 6 the mortgage-backed securities that were financed 7 with their purchases have been sold? 8 A. I'm not sure as to the timing, but the 9 reverse repo would be paid off. 10 Q. Okay. They no longer exist? 11 A. They would be paid off. 12 Q. Okay. When they are paid off. 13 A. When they are -- yeah. 14 Q. Now, under GAAP literature, when 15 something is paid off, doesn't GAAP require the 16 gain or loss to be recognized on that instrument 17 at that time? 18 A. What instrument is that? 19 Q. Any instrument that is paid off. 20 A. I'm not sure I would make a blanket 21 statement like that unless I knew specifically 22 what we were talking about. 9253 1 Q. Well, you indicated that the swaps were 2 terminated or disposed of or paid off. Right? 3 A. The swaps? 4 Q. I'm sorry. The reverse repos. Excuse 5 me. 6 A. Well, they could mature and have to be 7 renewed. 8 Q. I know. But in this situation, what 9 happened when the mortgage-backed securities were 10 sold that were funded with the reverse repos? 11 A. Assuming they were -- number one, 12 making the assumption that they were funded with 13 reverse repos and that the asset was sold, I 14 believe that the reverse repo would have been paid 15 off. 16 Q. Okay. They no longer existed. Right? 17 A. That's correct. The reverse repo no 18 longer exists. 19 Q. Now, does this paragraph and the 20 reference to FASB Statement No. 80 then say at 21 that point in time, the gain or loss on the swaps 22 had to be recognized? 9254 1 A. I don't know that this necessarily 2 applies to that transaction or to what you're 3 saying. 4 Q. Assume it applies to that -- 5 MR. NICKENS: Your Honor, the question 6 becomes meaningless. 7 MR. GUIDO: Excuse me. 8 THE COURT: I'll sustain the objection. 9 Q. (BY MR. GUIDO) Assume that FASB 80 10 applies to a swap transaction. 11 A. Okay. 12 Q. Okay? Just assume that. And the 13 reverse repo is terminated when the 14 mortgage-backed securities are sold. 15 What does your reading of this 16 paragraph indicate to you should happen with 17 regard to recognition of gain or loss on the swap? 18 A. Unfortunately, I am confused between 19 assumptions and what you're asking me and what's 20 actually occurred. Can we start over and come 21 forward? Because I'm -- I mean, I'm trying to 22 answer your question, but I'm not sure what I'm 9255 1 answering. 2 Q. Read the second sentence of that 3 paragraph. "Under FASB Statement No. 80, the gain 4 or loss on a terminated futures transaction, to 5 the extent it has been an effective hedge, must 6 continue to be deferred and recognized when the 7 offsetting gain or loss is recognized on the 8 hedged transaction." 9 A. Okay. 10 Q. Now, is it your understanding that the 11 hedged transaction that was hedged by the swap -- 12 when USAT Mortgage Finance was created and the 13 $500 million of mortgage-backs were purchased 14 funded with reverse repos and there was a hedge 15 that was put in place, was the hedged transaction 16 the reverse repo? 17 A. I don't recall. 18 Q. Was the hedged transaction the 19 mortgage-backed securities? 20 A. I don't recall. 21 Q. Okay. Could the hedged transaction 22 possibly be anything other than one or the other 9256 1 of those? 2 A. It would seem logical to me it would be 3 one of the two. 4 Q. Okay. And the mortgage-backed 5 securities were sold, were they not? 6 A. I think they were. 7 Q. Okay. And the reverse repos were paid 8 off, were they not? 9 A. I would assume they were. 10 Q. Now, under this paragraph, does the 11 gain or loss on the swap have to be recognized at 12 the time of the disposition of the mortgage-backed 13 securities and the paying off of the reverse repo? 14 MR. NICKENS: Your Honor, I object. 15 We've spent about ten minutes arguing with the 16 witness over this in reference to a hedged 17 transaction which does not -- does not appear in 18 here. It says "in a terminated futures hedge," 19 not a hedged transaction. And we -- 20 THE COURT: This paragraph assumes that 21 the hedge is terminated first. 22 MR. NICKENS: Is the swap. Yes, Your 9257 1 Honor. And we're just arguing with the witness on 2 some interpretation that does not apply to this 3 language, and it has no factual basis. This man 4 is here as a fact witness to answer factual 5 questions. 6 MR. GUIDO: And this witness was asked 7 very specifically about a sentence in Exhibit 819, 8 and I am just trying to ascertain whether the 9 document that is Exhibit A10594, which had not 10 completely been provided to him, results in a 11 different conclusion, Your Honor. This person has 12 claimed that he's a CPA. The respondents have 13 asked him questions that qualify him to be able to 14 answer questions. He was the controller of the 15 entity that did this accounting. I'm just trying 16 to understand what his understanding was of this 17 literature. And this specifically mentions not 18 the disposition of the hedge but the disposition 19 of the hedged transaction, Your Honor. And this 20 witness has just testified that the hedged 21 transaction is either the mortgage-backed security 22 or the reverse repo. He's also testified that the 9258 1 mortgage-backed securities were disposed of 2 pursuant to this memorandum from Mr. Phillips and 3 that it's his understanding when it was disposed 4 of that the reverse repo was paid off. 5 I'm trying to ask him the one final 6 question, Your Honor, and that is: Pursuant to 7 this paragraph, if either the mortgage-backed 8 securities or the reverse repo, which he says, 9 logically, only one or the other of them could be 10 the hedged transaction, was disposed of, did the 11 gain or loss on the swap have to be recognized? 12 THE COURT: Do you know the answer? 13 THE WITNESS: The problem I'm having is 14 that this is -- as we talked earlier -- a highly 15 technical area. This transaction went to the top 16 of Peat Marwick and, unfortunately, it would take 17 me time and additional review in trying to 18 understand exactly -- it's not as cut and dry to 19 me as it is apparently to others. And I'm not -- 20 I can't answer the question definitively. 21 THE COURT: All right. Next question. 22 Q. (BY MR. GUIDO) Is it your 9259 1 understanding of generally-accepted accounting 2 principles that in applying those principles, the 3 regulator has to take -- I mean the accountant has 4 to take into consideration regulatory 5 prescriptions? 6 A. Do the GAAP auditors have to account 7 for regulatory -- 8 Q. No. 9 A. No? 10 Q. As an accountant applying GAAP, does 11 GAAP require the accountant, when applying its 12 accounting conventions, obligate it to take into 13 consideration regulatory prescriptions? 14 A. I don't think so. And specific -- as 15 an example, to make sure I understand what you're 16 saying, I recall a regulation that when loans were 17 sold, losses could be deferred for regulatory 18 purposes. But for GAAP, that would not occur. 19 Q. Okay. 20 A. And so, it was added -- it became a 21 RAP/GAAP difference. 22 Q. So, at least in the situation where the 9260 1 regulatory standard was more lax than the GAAP 2 standard, the GAAP standard prevailed under GAAP, 3 to your understanding? 4 A. What I'm saying is that I don't think 5 the regulatory literature or regulations had 6 anything to do with GAAP. 7 Q. Okay. That's fine. I just wanted to 8 know what your view was. 9 Now, I want to direct your attention to 10 Exhibit B1410. 11 A. Is that in here? 12 Q. Yes. That's in the packet of materials 13 that you've seen that were shown to you earlier. 14 It is the memo from Joe Parsons to Mike Crow dated 15 January 5, 1987. 16 A. Was that early on or later? 17 Q. I'm sorry. I just don't -- 18 A. You don't know? 19 20 (Discussion off the record.) 21 22 Q. (BY MR. GUIDO) Now, Mr. Nickens asked 9261 1 you some questions about the attachments to this 2 document. 3 A. Yes, sir. 4 Q. And directed your attention to the 5 writing at the bottom of the page that made 6 reference to the documents that are USAT's 7 responses to the audit concerns that were raised 8 in this memorandum. 9 A. Yes, sir. 10 Q. And one of them is the United Financial 11 Group's high-yield corporate securities statement 12 of strategies and objectives, which is at KPMG 13 24417. 14 Do you see that? 15 A. I have it. 16 Q. Now, look under -- see under 17 "investment portfolio," the second paragraph? 18 A. "It is management's intent" -- 19 Q. Do you see that paragraph? 20 A. Yes, sir. 21 Q. Now, does that paragraph state that it 22 was management's intent to sell out of its 9262 1 investment portfolio junk bonds in order to 2 generate gains to bolster net income? 3 A. I don't see that. 4 Q. Okay. So, that doesn't say that it was 5 management's intent to sell out of its investment 6 portfolio to generate gains to bolster profits? 7 A. I do not see that wording. 8 Q. Okay. Can anyone, by a fair reading of 9 the various bullet points in that paragraph, infer 10 that it was management's intent to sell out of the 11 investment junk bond portfolio in order to 12 generate gains to bolster profits? 13 MR. NICKENS: Your Honor, the witness 14 has asked to be now "every man." He's asked to be 15 the reasonable man. That is the role of the Court 16 and not a fact witness. 17 MR. GUIDO: Your Honor, Mr. Wolfe was 18 the controller of this entity. He dealt with the 19 auditors. This was provided to the auditors as a 20 representation by the client. I think we're 21 entitled to know what he believes a reasonable 22 interpretation of that paragraph would be. 9263 1 THE COURT: All right. Denied. You 2 may answer. Do you understand the question? 3 THE WITNESS: Could you repeat it? I 4 think -- to make sure I understand. 5 Q. (BY MR. GUIDO) Could a reasonable 6 reading of that paragraph lead one to the 7 conclusion that it was management's intention to 8 make sales of junk bonds out of the high-yield 9 corporate securities investment portfolio to 10 generate gains in order to bolster profits? 11 A. (Witness reviews the document.) When I 12 read this, it tells me that sales may occur or 13 could occur due to the items as identified here 14 which could result in gains or losses, not 15 necessarily one or the other. 16 Q. My question for you was: Is it a 17 reasonable reading of this that it was 18 management's intent to make sales out of the 19 high-yield bond portfolio for the purpose to 20 generate gains to bolster profits? 21 A. My answer to that would be "no." I 22 don't believe that this policy was intended to 9264 1 bolster earnings. 2 Q. Okay. Now, let's take a look at KPMG 3 24421, which is United Financial Group 4 mortgage-backed securities statement of strategies 5 and objectives. 6 Do you see that paragraph? 7 A. Uh-huh. (Witness nods head 8 affirmatively.) 9 Q. It says it is -- under "investment 10 portfolios" again. It says, "It is management's 11 intent to hold these securities on a long-term 12 basis. However, sales may be executed from time 13 to time to" -- and it lists a number of purposes. 14 Now, is a fair reading of that that one 15 could conclude that it was management's intent at 16 United Financial Group to make sales out of the 17 mortgage-backed securities investment portfolios 18 in order to generate gains to bolster profits? 19 A. Are we on this page or back on the 20 other one? 21 Q. I'm on the page that deals with 22 mortgage-backed securities now, 24421. 9265 1 A. Okay. Well, I think -- 2 Q. Which has a different set -- 3 A. I understood you to say investment 4 securities. You mean mortgage-backed securities? 5 Q. Mortgage-backed securities. 6 A. Maybe I didn't hear you right. 7 Q. It says "Sales from the investment 8 portfolios of mortgage-backed securities." 9 A. Okay. I got you. (Witness reviews the 10 document.) 11 Can you reword your question because -- 12 THE COURT: We'll take a short recess. 13 MR. GUIDO: Okay, Your Honor. 14 15 (A short break was taken 16 at 2:32 p.m.) 17 18 THE COURT: Be seated, please. We'll 19 be back on the record. 20 Mr. Guido, you may continue. 21 MR. GUIDO: Thank you, Your Honor. 22 (2:52 p.m.) 9266 1 Q. (BY MR. GUIDO) I'd like to turn your 2 attention now to Exhibit 1481, which is the 3 February 6th, 1987 management letter to the board 4 of directors from Peat Marwick. I think it's in 5 there. I'd like to direct your attention to Page 6 3 of the document. 7 A. Numbered Page 3? 8 Q. Numbered Page 3 of the document. 9 A. Okay. 10 Q. See it says at the top, "investment 11 securities"? 12 A. Yes, sir. 13 Q. And then down at the bottom, it says 14 "Trading versus investment accounting treatment 15 for corporate debt and mortgage-backed 16 securities"? 17 A. Yes, sir. 18 Q. And that's the section. And it carries 19 over to Page 4. This is sort of a follow-up from 20 my previous question. It says, "A separate 21 trading account has not been established for 22 corporate debt securities since management has not 9267 1 entered into such trading account activities. All 2 transactions have been for investment purposes 3 only, after full review by the investment 4 committee. A new manager for the department will 5 begin employment in May of 1987 and at that time, 6 if the association decides to commence trading 7 activity, a separate account will be established." 8 Do you see that? 9 A. Yes, sir. 10 Q. And then it finishes with "All 11 corporate debt securities and MBS transactions are 12 discussed and reviewed weekly by the investment 13 committee to ensure compliance with management's 14 intent. Additionally, a copy of the investment 15 committee minutes are sent to each member of the 16 board of directors." 17 Do you see that? 18 A. Yes, sir. 19 Q. Now, that's under the section 20 "response" under "trading versus investment 21 accounting treatment for corporate debt and 22 mortgage-backed securities." 9268 1 A. Yes, sir. 2 Q. Did you participate in providing that 3 response to the management letter? 4 A. I'm sure I did, yes, sir. 5 Q. And is it your understanding that the 6 statements that were made at the time in that 7 management letter were accurate statements? 8 A. Yes, sir. 9 Q. I'd now like to turn to the financial 10 statements that you were asked to look at, and I'd 11 like you to first take a look at Exhibit 3034, 12 which is the 10Q. And I'd address your attention 13 to Page 6, I think, is what Mr. Nickens had you 14 take a look at. 15 Do you see the sentence, "The increase 16 for the three months ending June 30, 1985, 17 reflects gains on the sale of 134.7 million of 18 mortgage-backed securities and 50 million of 19 commercial loans"? 20 A. You're in the third paragraph? 21 Q. On Page 6, the final paragraph. Look 22 at three lines from the bottom. That's where the 9269 1 sentence starts. 2 A. Okay. I see. 3 Q. Do you know whether or not there were 4 any swaps that were used to hedge the transactions 5 in mortgage-backed securities? 6 A. No, sir. 7 Q. You do not know? 8 A. I do not know. 9 Q. I'd like to direct your attention to 10 Exhibit 3022 and direct your attention to Page 32 11 which Mr. Nickens had you look to. 12 A. I'm sorry. What page? 13 Q. Page 32. If you'll look on the 14 right-hand side, it's probably easier. Look at 15 the Bates stamp 12878. 16 A. Got it. 17 Q. And it's the third paragraph from the 18 bottom. It says, "In 1986, purchases and sales of 19 mortgage-backed securities totaled 6.5 billion and 20 4.8 billion respectively." 21 Do you see that? 22 A. Yes, sir. 9270 1 Q. And then "This increased activity 2 during a period of falling interest rates 3 reflects, in part, the company shifting from 4 higher coupon rate to lower coupon rate 5 mortgage-backed securities in order to curtail the 6 prepayment risk." 7 Do you see that? 8 A. Yes, sir. 9 Q. Do you know what the reasons were other 10 than in order to curtail the prepayment risk that 11 are referred to by that phrase "in part"? 12 A. I don't understand the significance of 13 "in part," no, sir. 14 Q. Okay. 15 A. Or remember. 16 Q. Okay. That's fine. Then it says 17 "These transactions produced gains on sales of 18 mortgage-backed securities during 1986 totaling 19 $71.7 million. However, as a result of such sales 20 and repurchases, the yield on the mortgage-backed 21 securities portfolio decreased to 9.39 percent at 22 December 31, 1986, from 11.60 percent in 9271 1 December 31, 1985." 2 Do you see that? 3 A. Yes, sir. 4 Q. Okay. Now, is there any way of 5 ascertaining what the net yield was when one 6 considers the cost of the liabilities to fund 7 those mortgage-backed securities that the yield 8 decreased from 9.39 percent to 11.6 percent? I 9 mean to 9.39 percent from 11.6 percent? 10 A. Is there a way to? 11 Q. Yeah. 12 A. Yes, sir. 13 Q. How? Looking at this statement. 14 A. Oh, looking at this statement? 15 Q. Yeah. 16 A. Oh, no, sir. But there is a way to 17 determine it. 18 Q. Is there? How do you do that? 19 A. As it relates specifically to these -- 20 Q. Yeah. Specifically to these -- 21 A. To the liabilities that relate to these 22 specific -- 9272 1 Q. Yeah. 2 A. No, sir. 3 Q. There is no way -- 4 A. Not from reading that sentence, no, 5 sir. 6 Q. Now, the -- is there any way of 7 ascertaining whether or not those mortgage-backed 8 securities that were sold were part of a 9 risk-controlled arbitrage? 10 A. No. 11 Q. Is there any way of ascertaining what 12 the market value was of the swaps that were part 13 of those sales that were part of that 14 risk-controlled arbitrage? 15 A. Not in reading that sentence. They are 16 not mentioned. But it may be mentioned elsewhere 17 in this document. I don't remember. 18 Q. Let's move on to -- it doesn't have a 19 Bates stamp -- Page 54 of the document, which I 20 think is OFD12901. It doesn't have the numbers, 21 but based on what precedes it. 22 Do you see the interest rate exchange 9273 1 agreements there? 2 A. Yes, sir. 3 Q. Is there any way of ascertaining 4 whether or not those interest rate exchange 5 agreements have anything to do with the 6 mortgage-backed securities that are mentioned on 7 Page 32 of that document? 8 A. Could you repeat your question? 9 Q. Is there any way of ascertaining 10 whether or not those interest rate exchange 11 agreements that are discussed on Page 54 or 12 OFD12901 have anything to do with the 13 mortgage-backed securities that are discussed on 14 OFD12878? 15 A. There is no reference in this to those. 16 Q. Okay. Is there any way of 17 ascertaining, looking back at OFD12878, what the 18 net yield was on the risk-controlled arbitrage? 19 A. I'm sorry. What page? 20 Q. Going back to Page 32. 21 A. 32. Okay. I was going by the little 22 numbers. 9274 1 Q. Why don't you stay where you are? I'll 2 strike that for purposes of brevity. Okay? Let's 3 just stick with Page 54. 4 A. Okay. 5 Q. Is there any way of ascertaining what 6 the market value was of those interest rate 7 exchange agreements that are discussed on Page 54 8 by the discussion on Page 54 of those? 9 A. In general, yes. 10 Q. There is? How do you do that? 11 A. If you were aware of what the current 12 market rates were at that time versus what the 13 contractual arrangements were of the swaps, you 14 could estimate approximately what it was worth if 15 you were knowledgeable in those areas. 16 Q. What do you need to know -- 17 A. I couldn't, but there are people that 18 can. 19 Q. You're a CPA. Right? 20 A. Yes, sir. 21 Q. And do you know what it takes to be 22 able to mark a swap to market? 9275 1 A. More than I know. 2 Q. Let's move to the next exhibit, A3023, 3 which is the year end December '87 financial 4 statements. And I want to direct your attention 5 to Page 40 of that document. 6 A. Okay. 7 Q. Mr. Nickens said -- well, he directed 8 your attention to the line that says 9 mortgage-backed securities and has mark-to-market 10 rates for '87 and '86 on there. 11 Do you see that? 12 A. Yes, sir. 13 Q. Now, is there a difference between the 14 impact of disclosure of mark-to-market on a 15 financial statement as opposed to recognizing the 16 mark-to-market in the income or financial 17 statements of the institution? 18 A. A difference in -- I mean the number -- 19 Q. Is there a difference between 20 disclosure and recognition under accounting 21 literature? 22 A. Oh, yes. 9276 1 Q. Okay. And what is the difference? 2 A. One would be recorded in the income 3 statement. The other would be a disclosure item. 4 Q. Okay. And this is a disclosure. 5 Right? 6 A. That is correct. 7 Q. And this isn't finding its way into the 8 income statement, is it? 9 A. No, sir. 10 Q. Okay. Now, the trading versus 11 investment issue that we've been discussing the 12 last two days of your testimony, that has not been 13 a discussion in relationship merely to disclosure, 14 has it? We've been discussing it in terms of 15 whether or not it has to be recognized -- the 16 mark-to-market has to be recognized in the income 17 statement, have we not? 18 A. My understanding of the questions 19 you've been asking me regarding investment versus 20 trading dealt primarily with -- I don't remember 21 the Bates stamp, whatever you call it -- but those 22 long lists where they would show a billion of 9277 1 purchases and a billion of sales and was more of a 2 hypothetical question as to whether or not that 3 would raise an issue whether or not that was 4 trading. 5 Q. Okay. Now, if something was trading 6 and it resulted in -- under GAAP, if it resulted 7 in marking the portfolio to market, right? 8 A. Right. 9 Q. That would also require whatever that 10 market adjustment to be to flow through the income 11 statement into the balance sheet, would it not? 12 A. I believe if it was deemed to be a 13 trading account, it would be recorded in the 14 income statement similar to what you see here on 15 this Page 40 on the balance sheet where it says 16 "trading account security" and you flip over to 17 Page 41 and you see "trading account securities 18 income." And I'm assuming, without getting into 19 the backup, that those are one and the same 20 accounts. 21 So, my answer would be yes, that 22 trading account income would be recorded. 9278 1 Q. Okay. If it was classified as a 2 trading account? 3 A. That's correct. 4 Q. Okay. But if it was classified as an 5 investment account, at this point in time when 6 this financial statement was prepared, it only 7 needed to be disclosed -- 8 A. That was -- 9 Q. -- on the balance sheet? 10 A. That was the proper accounting for it, 11 yes, sir. 12 Q. So, therefore, it wouldn't have an 13 effect if it was an investment account, even 14 though it was disclosed, on the net worth of the 15 institution as reflected in the 10K? 16 A. The gain or loss due to market 17 appreciation or depreciation on an investment 18 account would not be recorded in the income 19 statement. 20 Q. Now, I'd like to ask you some questions 21 about Exhibit 10748, which -- 22 A. Is that in my pile? 9279 1 Q. That's in that pile that Mr. Nickens 2 showed you earlier today. 3 A. What was that number? 4 Q. 10748. It is the accounting department 5 staffing memorandum that you wrote. 6 A. Okay. Got it right here. 7 Q. Now, look at the third paragraph down. 8 "It is obvious something must be done to ensure 9 100 percent accuracy considering the recent 10 criticisms of the examiners who had their points 11 but certainly in my opinion have no basis to 12 conclude that our books and records are 13 inadequate. And the apparent agreement by Jenard 14 has stated he, too, based on the examiners' 15 findings, has problems with the books and records. 16 While I would be the first one to admit the 17 accounting department is not perfect, I feel that 18 under the current operating environment of cost 19 reduction, the accounting department has done its 20 fair share and has, in view of the limited 21 resources, produced an outstanding product. 22 However, due to the severe criticism which the 9280 1 accounting department has come under, I feel that 2 our existing product is inadequate." 3 I'd like to direct your attention to a 4 document that has been introduced as 5 Exhibit T8054, and it's at Tab 403. Excuse me. I 6 have the wrong one. It's T8014. It's dated 7 April 16th, 1987. And it's an examination -- 8 examiner's document. 9 This is a letter dated April 16th from 10 Daniel Thomas to the board of directors of USAT, 11 and I'll direct your attention to the second page 12 of the document. It says, "We also note that the 13 amount of net worth reported as of June 30, 1986, 14 has subsequently been revised to increase reported 15 net worth by $13.2 million. However, we are aware 16 of at least five amendments to the June 30, 1986 17 quarterly report. The directorate is" -- I 18 presume that's the board of directors -- "is 19 advised that frequent and/or routine amendments 20 are, at best, viewed unfavorably and, at worse, 21 give the impression of adjusting the line items to 22 reflect a predetermined position. As members of 9281 1 the board, you have the responsibility to 2 determine the true condition of the association. 3 This office is very concerned that United's true 4 condition has not yet been revealed. Exacerbating 5 our concern is the questionable state of United's 6 books, records, and systems as noted in the report 7 at" -- it says "ages." I presume it's "Pages 24 8 and 25. Of further note is United's history of 9 net operating losses and its dependence on 10 nonoperating income to produce profits." 11 Is that the reference to the criticism 12 that you were discussing in Exhibit A10748? 13 A. In general, yes. 14 Q. Pardon? 15 A. In general, I would say that it's a 16 result -- I'm not sure what this letter is a 17 result of. Is this the result of the examination? 18 Q. The letter is a letter of the 19 examiners, I think. 20 A. Yes. 21 Q. Okay. 22 A. My comments were a result of that 9282 1 examination, not necessarily that paragraph. 2 Q. Okay. But the examination itself? 3 A. That's correct. 4 Q. Okay. I'd like to show you another 5 document, which is Bates stamped -- and this is 6 for the prior year. It's Bates stamped May 20, 7 nineteen-eighty -- it's dated May 20th, 1986, and 8 it's from Mike Crow to you. This says "Looking at 9 the Peat Marwick proposed management letter, this 10 thing looks pretty bad. It makes it look like we 11 have materially deteriorated since year end 1984 12 if you compare this management letter with the 13 management letter last year. This is a potential 14 explosive issue, as I am sure you are aware. Can 15 we please discuss?" 16 Now, is this memorandum what you were 17 also referring to in your May 20th, 1987 memo to 18 Mike Crow at Exhibit A10748? 19 A. No, I don't think so. 20 Q. Now, I'd like to -- you were asked a 21 number of questions about the Peat Marwick 22 auditors of USAT. Do you recall those questions 9283 1 and your views of their capabilities? 2 A. This morning? 3 Q. Yeah, by Mr. Nickens. 4 A. I recall, I guess, in general terms. 5 Specifically -- 6 Q. You said you thought they were highly 7 qualified and competent. Do you recall that? 8 A. Yes, I did. 9 Q. Are you aware that Peat Marwick was the 10 subject of an enforcement action by the OTS for 11 failure to properly audit trading versus 12 accounting issues and mark-to-market in accordance 13 with GAAP? 14 A. No. 15 Q. Were you aware that Peat Marwick 16 consented to an order as part of that enforcement 17 action that specified particular levels of 18 experience and education for its audit personnel? 19 A. No, sir. 20 Q. Were you aware that it consented to an 21 order that specified audit and GAAP standards that 22 it was to follow in the future when auditing 9284 1 insured depository institutions? 2 A. No, sir. 3 Q. Were you aware that it was ordered as 4 part of that enforcement action to pay $186.5 5 million in restitution? 6 A. No, sir. 7 Q. Now, you also stated in your opinion 8 that Charles Hurwitz and Barry Munitz, among other 9 people, were honest individuals, to your 10 knowledge. 11 A. That's correct. 12 Q. Were you aware that this year, a 13 Delaware court had found that they had breached 14 their fiduciary duties in connection with 15 transactions between Federated and MCO to its 16 share -- to their shareholders? 17 A. No, sir. 18 MR. GUIDO: No further questions, Your 19 Honor. 20 21 22 9285 1 2 3 RECROSS-EXAMINATION 4 5 (3:15 p.m.) 6 Q. (BY MR. NICKENS) Mr. Wolfe, are you 7 aware that the Court withdrew those findings? 8 A. I am completely unaware of the whole 9 issue. 10 Q. Mr. Guido didn't mention that to you? 11 A. Doesn't surprise me that they would 12 have. 13 MR. NICKENS: No further questions. 14 MR. GUIDO: Your Honor -- 15 16 REDIRECT-EXAMINATION 17 18 (3:15 p.m.) 19 Q. (BY MR. GUIDO) You said you weren't 20 aware that they had withdrew. 21 Were you aware that they -- that the 22 Court had vacated its decision as opposed to 9286 1 withdrew the decision? 2 A. I was not aware of anything related to 3 it. I have not kept up with MCO or Federated or 4 anything other than what I read in the paper on 5 occasion. 6 MR. GUIDO: No further questions, Your 7 Honor. 8 THE COURT: Fine. 9 MR. NICKENS: I don't have anything 10 further. 11 THE COURT: Thank you, Mr. Wolfe. You 12 may step down. 13 THE WITNESS: Thank you, sir. 14 15 (Discussion off the record.) 16 17 THE COURT: Are there other matters to 18 consider before we -- 19 MR. GUIDO: No, Your Honor. 20 THE COURT: We'll adjourn until -- 21 MR. GUIDO: We have a scheduling issue 22 that we have to work out; but it looks like either 9287 1 next week or the week after we will be bringing 2 Mr. Bruce Williams back for cross-examination and 3 redirect, Your Honor. And we're trying to work 4 that out at the present time. 5 THE COURT: All right. We'll adjourn 6 until 10:00 o'clock on Monday. 7 8 (Whereupon at 3:16 p.m. 9 the proceedings were recessed.) 10 11 12 13 14 15 16 17 18 19 20 21 22 9288 1 STATE OF TEXAS COUNTY OF HARRIS 2 REPORTER'S CERTIFICATION 3 TO THE TRIAL PROCEEDINGS 4 I, Marcy Clark, the undersigned Certified 5 Shorthand Reporter in and for the State of Texas, 6 certify that the facts stated in the foregoing 7 pages are true and correct to the best of my ability. 8 I further certify that I am neither 9 attorney nor counsel for, related to nor employed 10 by, any of the parties to the action in which this 11 testimony was taken and, further, I am not a 12 relative or employee of any counsel employed by 13 the parties hereto, or financially interested in 14 the action. 15 SUBSCRIBED AND SWORN TO under my hand 16 and seal of office on this the 5th day of 17 December, 1997. 18 ____________________________ MARCY CLARK, CSR 19 Certified Shorthand Reporter In and for the State of Texas 20 Certification No. 4935 Expiration Date: 12-31-97 21 22 9289 1 STATE OF TEXAS COUNTY OF HARRIS 2 REPORTER'S CERTIFICATION 3 TO THE TRIAL PROCEEDINGS 4 I, Shauna Foreman, the undersigned 5 Certified Shorthand Reporter in and for the 6 State of Texas, certify that the facts stated 7 in the foregoing pages are true and correct 8 to the best of my ability. 9 I further certify that I am neither 10 attorney nor counsel for, related to nor employed 11 by, any of the parties to the action in which this 12 testimony was taken and, further, I am not a 13 relative or employee of any counsel employed by 14 the parties hereto, or financially interested in 15 the action. 16 SUBSCRIBED AND SWORN TO under my hand 17 and seal of office on this the 5th day of 18 December, 1997. 19 _____________________________ SHAUNA FOREMAN, CSR 20 Certified Shorthand Reporter In and for the State of Texas 21 Certification No. 3786 Expiration Date: 12-31-98 22