HEDGE FUNDS

[SPIN]

SPhinX battles over $263 mln in Refco bankruptcy
Thu Jun 7, 2007 5:29PM EDT

By Shurna Robbins

GEORGE TOWN, Cayman Islands, June 7 (Reuters) - A year and a half after the abrupt collapse of commodities broker Refco Inc. (RFXCQ.PK: Quote, Profile, Research, a battle still rages over a $263 million settlement deal that plaintiffs are now trying to reverse.

The chief litigant is the SPhinX Funds, a group of Cayman-registered hedge funds which were valued at $2 billion when Refco's failure pushed them into bankruptcy.

The settlement deal has already been approved by a U.S. bankruptcy court, but the $263 million remains frozen while SPhinX liquidators appeal the agreement by SPhinX's former directors and lawyers, claiming it was never legal.

"The money for the investment portfolios should have been placed in segregated accounts under Cayman Companies Law," said Kenneth Krys, the Cayman-appointed liquidator for SPhinX. "Instead, Refco combined these moneys with its own, leaving those funds vulnerable to all Refco's creditors when it became insolvent."

Refco attorneys declined to comment on the case. But in court filings they contend the original settlement was above board. Using the bankruptcy court as a "one-stop forum empowered to do justice to all comers under the guise of equity" abuses the system, they said.

Hedge funds are investment pools for sophisticated investors with high-risk tolerance. But experts say that it is unlikely investors could have anticipated the alleged fraud and collusion in another company's failure - raising the stakes for more due diligence within this lightly regulated industry.

Refco collapsed in October 2005 when its former CEO, Phillip Bennett, was accused of hiding $430 million in fraudulent loans. Just two days after the fraud disclosure and five days before Refco filed for bankruptcy, SPhinX's investment manager transferred $312 million from Refco to SPhinX accounts before those funds could be secured for general creditor distribution.

Over the next several weeks, tens of millions of dollars were redeemed before Refco filed a preference action seeking to get the $312 million back.

The lawyers and directors for SPhinX would eventually agree to give back $263 million to Refco and waive all future claims in what the liquidators now say was an illegal deal.

But outraged with the terms, SPhinX investors hired their own attorneys and launched an appeal, claiming the SPhinX directors, attorneys and other Refco-affiliated persons shut them out of meaningful negotiations.

Among the issues SPhinX investors raise against Refco and its affiliates is that it exploited a ten-week delay between the $312 million transfer and filing the preference action so unidentified investors could redeem $110 million of SPhinX funds at other investors' expense.

Those primary beneficiaries were former Refco CEO Bennett and Austrian bank, BAWAG, which helped set up the fraudulent loans that brought down Refco.

Raising another conflict of interest is a SPhinX director involved in the settlement, who allegedly set up offshore companies in Anguilla to help Bennett and BAWAG hide Refco's fraudulent loans.

"This case is rather unusual for a liquidator to come into court proceedings and discover the party entering into a settlement agreement was effectively entering into an illegal agreement, because the hedge funds were set up as [Cayman] SPCs," said attorney Gary Lee of Morrison & Foerster, who represents the SPhinX liquidator.

Based on a cellular model, SPCs are not separate legal entities; but a hallmark is the assets of one cell cannot be used to pay for the liabilities of another. To pay off the settlement, money was taken out of several cells' accounts to pay the liability of other cells, breaking the basis of an SPC.

If the U.S. Bankruptcy Court in Manhattan upholds the original settlement this month, the $263 million will be paid out to all remaining Refco creditors, effectively shutting out SPhinX investors.

http://www.reuters.com/article/mergersNews/idUSN0726208620070607