Suspected metals fraud in China sparked claims of betrayal by both U.S. bank Citigroup Inc and trade house Mercuria over who would absorb about $270 million in exposure to financing deals, a London court heard on Wednesday.
The court case that kicked off in London on Wednesday is one of a web of legal actions filed in the wake of a probe launched in May by Chinese authorities of suspected fraud at China's Qingdao port, the world's seventh busiest, and nearby Penglai.
Citigroup and Mercuria Energy Trading Ltd had a close business relationship but turned on each other during a frantic several weeks after the suspected fraud was uncovered, seeking to shift financial responsibility onto each other, the court heard.
Citi was worried about reporting a potential "hole" in its balance sheet to regulators while Mercuria was in the process of arranging a huge acquisition of the physical commoditiesbusiness of bank JP Morgan Chase, lawyers said.
China has been investigating whether private metals trading firm Decheng Mining and its related companies used fake warehouse receipts to obtain multiple loans secured against a single cargo of metal.
But the Chinese authorities imposed a lockdown on parts of the two ports where the metal is held, preventing anyone, including Citi, Mercuria and the warehouse operators, from accessing the material, court documents said.
"We expect them (Mercuria) to keep us out of a potential messy situation," according to an email from John Young, Citi's managing director of commodities business development, cited in court documents.
Mercuria's Chief Financial Officer Guillaume Vermersch promised Citi that "Mercuria would make Citi whole if there were issues concerning the underlying metal", Citi lawyer Daniel Toledano said in a court document. "This was no more than Citi expected," he added.
Young suggested that Mercuria be reminded that it had extensive financial arrangements with Citi, including $4 billion in credit and borrowing facilities and over $14 billion of bilateral trade facilities, plus potential help in financing the purchase from JP Morgan.
But Mercuria resisted what it regarded as unfair pressure.
"Mercuria was very disappointed," its lawyer Graham Dunning said, referring to attempts to force Mercuria to absorb the potential losses. "It believes it is entitled to be treated better than that."
Mercuria held copper and aluminium in Chinese warehouses and agreed a series of deals that were effective loans from Citi using the metal as collateral.
Under the repurchasing agreements, or repos, Citi agreed to purchase metal from Mercuria before selling it back at a slightly higher price to include interest on the effective loans.
The two groups were in the midst of several repo deals when the potential fraud in China was uncovered in warehouses in both Qingdao and Penglai. Citi demanded early repayment of the repos and Mercuria refused.
"Citi hoped that...it could force Mercuria to agree on its quick exit from a difficult position and hence enable Citi to fill the potential hole in its balance sheet... which was concerning the regulators in London and New York," Dunning said in a court document.
