Young Financier’s Insurance Empire Collapses: Investments of insurance companies owned by Southport Lane Management were swapped for unusual and sometimes worthless assets

http://www.wsj.com/articles/young-financiers-insurance-empire-collapses-1426881926

Young Financier’s Insurance Empire Collapses

Investments of insurance companies owned by Southport Lane Management were swapped for unusual and sometimes worthless assets

MARK MAREMONT and LESLIE SCISM

Updated March 20, 2015 5:51 p.m. ET

Alexander Chatfield Burns cut a dashing figure in young New York financial circles. Still in his mid-20s, he controlled a private-equity firm that owned several insurance companies. He called late-night meetings at a penthouse cigar club and donated the wine for a Guggenheim museum event from a vineyard he later bought. Then one day about a year ago, Mr. Burns checked into a mental-health ward at New York’s Bellevue Hospital, leaving behind an affidavit describing an unusual series of asset transfers. Soon after, he resigned from his company, Southport Lane Management LLC. Now, insurance investigators are sifting through the rubble. Delaware regulators say Southport under Mr. Burns siphoned off millions of dollars of mainstream insurance holdings, replacing them with assets that were “illiquid, grossly over-valued or hard to value, worthless, and in some cases non-existent,” as the state’s insurance commissioner put it in a filing in Delaware Chancery Court.Among unusual assets that ended up on insurance-company books, which traditionally hold conservative bonds and stocks, were rights to a purported Caravaggio masterpiece.

In all, Mr. Burns, now 28 years old, amassed a business including two U.S. insurance companies, two offshore reinsurers, a brokerage firm and a web of dealings with other insurers that left him in charge of investing hundreds of millions of dollars in additional assets.

Regulators seized control of the two main insurance companies last April. One in Delaware now is being liquidated, while one in Louisiana has been sold. Insurance-company losses total nearly $250 million, based on write-downs taken, while insurers still hold tens of millions of dollars in other questionable assets, according to insurance regulatory filings and court documents.

Louisiana Insurance Commissioner James Donelon, whose department opened a fraud investigation, said Mr. Burns “apparently is convincing and good at snookering regulators.”

Nine months after Mr. Burns’s departure, Southport alleged in Delaware Superior Court that he had moved $35 million from regulated insurers to his personal investment vehicle. The company—which is still operating, mainly to help regulators find and recover assets—withdrew the complaint over jurisdictional concerns but said it planned to pursue the claim.

Mr. Burns, in statements sent through his lawyer, called that suit’s allegations baseless. He blamed “highly unexpected” events at the insurance companies that he said forced a restructuring of holdings. He said that Southport complied with all relevant laws and that he doesn’t face any litigation. Mr. Burns hasn’t been accused of wrongdoing in any criminal or civil proceeding.

Aside from his regular compensation, “at no time did I ever, nor will I ever, receive any personal financial benefit from any Southport transaction,” Mr. Burns said.

“Unfortunately,” he added, “Southport’s restructuring, compounded by the timing of my departure, has left ill will among my former colleagues and distortions and exaggerations about my personality and integrity are inevitable.” It isn’t clear how long Mr. Burns stayed at Bellevue; he later moved to South Carolina.

Southport’s acquisitions were part of a wave of new money flowing into the insurance industry after the financial crisis. Private-equity and hedge funds were attracted to the stable business, with its big pools of money available for investment until claims are paid.

ENLARGE

Rights to a purported Caravaggio, above, were among assets put on the books of an insurer controlled by Mr. Burns. PHOTO: COURTESY OF JOAO TEIXEIRA

The raft of new entrants has raised concerns about the ability of the patchwork of state regulators who oversee the industry to screen out unsuitable owners. “Regulators can’t be asleep at the wheel,” said Etti Baranoff, who teaches insurance at Virginia Commonwealth University. “Too many non-insurance experts are trying to find their way into this complex business.”

Mr. Burns, growing up in Westport, Conn., was a financial prodigy. When he was about 13, his mother told Robert N. Gordon, a friend and head of Twenty-First Securities Corp., that her son had determined that a famed options-pricing model “was wrong” and “he had a better idea,” Mr. Gordon recalls. The model, called Black-Scholes, had won its authors a Nobel Prize. Mr. Burns’s mother, a former Citigroup Inc. executive, declined to comment.

In 2010, at age 23, Mr. Burns launched Southport Lane with several associates, taking majority ownership. It moved into offices on Madison Avenue, decorated with vintage stock certificates, and grew to about 25 people.

Many were experienced finance and insurance managers, attracted in part by Mr. Burns’s plan to buy small property-and-casualty insurers and invest their surplus assets for better returns.

Associates describe Mr. Burns as sometimes socially awkward but gifted with numbers and at structuring complex transactions. “He wanted to be a superrich guy,” said Jeffrey Leach, a former Southport president. “His goal was to build this into a multibillion-dollar insurance operation.”

Mr. Leach and others said they now don’t know what to believe about claims Mr. Burns made about his background.

He said he had attended Yale and often wore Yale apparel, and he traced his Chatfield ancestry to the Mayflower, according to former associates.

Yale said it has no record he attended. Chatfield is the last name of his stepfather, who married his mother when Mr. Burns was 13.

His résumé said Mr. Burns “began his career” at Twenty-First Securities. That firm said he never was an employee, although Mr. Gordon said he “did hang around the trading room a bit when he was a kid.”

The résumé also said Mr. Burns had been a “partner and head of structured products at Belstar Group.” Belstar said he was a contract employee for four months, with “partner” on his business card, and “we terminated the relationship.”

Questions about Yale and his employment were among those on a list sent to Mr. Burns that he didn’t address.

For its first insurance acquisition, Southport bought a struggling workers’ compensation and general-liability insurer called Dallas National Insurance.

Southport renamed it Freestone Insurance Co. and switched its base to Delaware. From the same seller, Southport acquired a reinsurance company, a firm that assumes risk from others.

There were red flags. Southport paid nothing upfront for Freestone but agreed to inject $50 million into it. After the deal closed in March 2013, the insurer’s books showed an added $50 million in “Beaconsfield Funding ABS Trust 2011.”

The name suggested a fairly standard 2011-vintage security, but entities by that name had been established just four days before the deal closed, Delaware corporate records show. The Beaconsfield securities don’t appear in federal regulatory filings.

ENLARGE

Freestone’s former owner, who kept an economic interest in it, questioned Beaconsfield’s value but hasn’t received a satisfactory answer about it, according to the former owner’s Dallas attorney, Michael Gardner.

Southport then bought an insurance company in Louisiana, paying $25 million up front. It turned out this money came not from Southport but from Freestone and related entities, through “a complex financial structure,” according to Louisiana court filings Southport made after Mr. Burns’s departure.

In other words, Mr. Burns gained control of the first insurer by putting up an opaque security whose value was quickly questioned, then allegedly used some of this first insurer’s resources to buy a second insurance company.

The insurance units agreed to let a Southport subsidiary controlled by Mr. Burns take responsibility for managing their assets.

In New York, associates of Mr. Burns say, he often visited the Grand Havana Room, a members-only cigar club. He purchased tables at charity events, where he was photographed with young women on his arm. On the wall of his Greenwich Village apartment was an Andy Warhol print of Teddy Roosevelt, according to Andrea Johnson,who attended some of the functions with him.

“He liked the better restaurants, the best wines, the best cigars,” said Jim McNichols, a former Southport insurance executive.

In 2013, Mr. Burns finished an undergraduate degree at Columbia University’s school for returning and nontraditional students and was lauded by the university for donating $50,000 for veterans’ education.

Before Southport’s first insurance-company purchase had closed, he arranged for a Southport entity to buy a painting, purportedly by Caravaggio, titled “David in the Act of Picking up Goliath’s Severed Head,” according to Delaware court filings. The painting, nearly identical to a Caravaggio in Madrid’s Prado museum, would later play a role in the asset swaps.

The filings show Southport agreed to pay $40 million but put down just $1.5 million, with the rest due more than five years later.

Though it was deemed a likely Caravaggio by a now-deceased Italian art expert, three auction houses have said in the past it was probably a copy painted long ago, according to filings in a Florida court case involving a trust that had owned the painting.

Southport had some impressive names on its insurers’ boards, including four former state insurance commissioners. Bill Richardson, the former New Mexico governor and U.S. energy secretary, became chairman of Southport’s Freestone Insurance.

A spokeswoman for Mr. Richardson said he was “unaware of these diversions” of assets during his six months on the board and participated in a meeting at which directors decided to notify regulators of Freestone’s problems.

Mr. Burns had ties to Gov. Nikki Haley of South Carolina, home to two insurers for which a Southport company managed certain assets. Mr. Burns hosted a campaign fundraising lunch for Ms. Haley at Southport’s New York offices in 2013 that her office says raised $26,500. Most came from Mr. Burns and Southport entities, campaign-finance records show.

A spokesman for Ms. Haley said she and Mr. Burns didn’t discuss state business at the fundraiser, and he never sought help with insurance matters during the several times they met.

Mr. Burns said, “None of my contributions have ever been improper nor have any been made with any ulterior motive.”

Not long after Southport gained control of its two main insurers, regulatory filings show, it began selling millions of dollars of their conventional stock and bond investments. These were replaced with investments that appeared to be mainstream but that, according to court testimony in Delaware, often turned out to be anything but.

Freestone’s then-CEO H. Marcus Carter Jr. confronted Mr. Burns about the shifting asset mix in January 2014, according to Michael Pickens, a former Arkansas insurance commissioner who served on Freestone’s board. Mr. Burns gave assurances all would be well, said a person familiar with the matter.

On Jan. 31, 2014, the start of Super Bowl weekend, Mr. Burns left Southport offices and shortly thereafter checked himself into Bellevue. Days later, Ms. Johnson said, he texted her saying, “I’m at the hospital. I had a nervous breakdown. Everything’s fine.” She said she visited him there.

“We were all just absolutely shocked,” said Jamie Sahara, then a Southport reinsurance executive. “How did he completely disappear on us?”

Mr. Burns left behind a notarized affidavit, reviewed by The Wall Street Journal, taking sole responsibility for a frenzy of asset swaps at the Delaware and Louisiana insurance companies about three weeks earlier.

In the affidavit, he cited a client’s complaint that a Southport-managed portfolio contained investments for which there was no active market. Mr. Burns ordered the “illiquid portfolio” placed in the accounts of Southport’s insurance companies, he wrote.

Mr. Pickens, the Freestone director, said board members were stunned when their CEO briefed them about unusual investments they now held.

As for Mr. Burns’ hospitalization, Mr. Pickens said he thought “it was probably a ruse to keep his butt out of jail.” Mr. Burns didn’t respond to questions about his hospitalization.

Directors of Freestone and another insurer hired a law firm to investigate and alerted regulators.

A report by valuation adviser Duff & Phelps—commissioned by the law firm and placed into Delaware court records last month after legal intervention by the Journal—provides the most comprehensive public record of what happened.

Some money was used for private-equity investing, Duff & Phelps said. It said it couldn’t readily account for much of the rest.

A $25 million preferred-stock investment in an offshore insurer was “worthless,” the report said, in part because ownership was never transferred to Freestone.

Documents showed that $100 million from Freestone and other Southport-controlled insurers had been invested in a telecom startup, but there was no sign that much cash changed hands, Duff & Phelps said. “Where the hundred million dollars went, we don’t know,” the report’s author, Jerome M. Arcy, testified in Delaware Chancery Court. Mr. Arcy has left the firm and declined to comment.

As for the purported Caravaggio, Duff & Phelps said $128 million, part of it Freestone’s money, had been funneled into entities that owned rights to the painting. The entities would have value only if the artwork was sold for more than the $38.5 million still owed to the seller.

Freestone wrote down its assets by about $136 million after receiving the Duff & Phelps report, becoming insolvent. That still left it with $70 million in hard-to-value holdings on its books. Delaware moved last July to liquidate the company.

“We’re still determining where the money went,” said James J. Black III, an attorney for Freestone’s receiver. He said receivers in Delaware and elsewhere are pursuing Mr. Burns “for his conduct,” without elaborating.

Mr. Burns blamed Freestone’s insolvency on losses dating to before his firm acquired the company that weren’t discovered until later.

One of the South Carolina insurers for which a Southport company managed trust money booked a $113 million loss from it in last year’s third quarter. Two other insurers that Southport either owned or managed money for also had about $40 million face value of illiquid assets.

Mr. Burns moved to an apartment in a renovated historic building in downtown Charleston, S.C. Last fall he purchased land at Brays Island Plantation, an exclusive golf, equestrian and bird-hunting resort about 60 miles away.

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