NEW YORK — In one of the largest securities fraud settlements ever, financial services giant Citigroup Inc. has agreed to pay $2.65 billion to settle a class action suit brought by investors who bought WorldCom Inc. securities before the telecommunications company went bankrupt in 2002.
It was the second biggest settlement of a securities class action case ever, after a $3.2 billion settlement by services giant Cendant Corp. in 2000 over accounting fraud that cost shareholders billions, according to New York state Comptroller Alan G. Hevesi.
And the deal with Citi is just the first step, Hevesi said Monday in announcing the settlement.
The comptroller, who is taking the lead in the class action case, said he was pursuing similar agreements with 17 other investment banks that could result in a further $2.8 billion in money for WorldCom stock and bond holders.
The other institutions include J.P. Morgan Chase & Co., which could be liable for up to $1.2 billion, as well as Banc of America Securities and Deutsche Bank AG, he said.
Hevesi said the other investment banks — which along with Citi underwrote some $17 billion in WorldCom bond issues in 2000 and 2001 — have 45 days to agree to a settlement similar to Citi's or face trial next January.
"This is not the end of our third-party litigation," Hevesi said in pledging to pursue all legal remedies against the institutions that backed WorldCom.
Citigroup's brokerage division was a key backer of WorldCom securities before the telecom firm filed for the biggest bankruptcy in history in July 2002 amid accounting irregularities. Last month, the company — now known only as MCI — emerged from bankruptcy and shed more than $35 billion in debt.
Hevesi said that the $2.65 billion Citi is paying would be allocated with $1.45 billion to bondholders and $1.2 billion to shareholders.
He and the state's attorneys declined to say what investors' total losses were or what percentage the settlement represented of those losses, saying that the size of the class was still an issue and valuing losses was complicated.
Lawyers' fees will also come from the settlement amount.
Citi's shares fell $1.31, or 2.8 percent, to close at $45.41 on the New York Stock Exchange.
The settlement — which was negotiated by Citi chief executive Charles Prince and approved by the Citi board over the weekend — covered allegations of misconduct by Citi and its investment divisions as well as former star telecom analyst Jack B. Grubman.
Grubman, who worked at Salomon Smith Barney in the late 1990s, was fined $15 million and permanently banned from the securities industry last year for what regulators called "fraudulent, misleading and otherwise flawed research reports." Citi has since reorganized its investment divisions to segregate analysis from investment banking operations.
In its settlement announcement, Citigroup, which is headquartered in New York, denied violating any law but said it was settling "solely to eliminate the uncertainties, burden and expense of further protracted litigation."
Prince said the settlement was designed "to put an unfortunate chapter behind us so we can focus on our continuing prospects for growth."
Citi said that after the WorldCom settlement, its litigation reserve for investment cases would total $6.7 billion. Pending claims against the bank are related to the collapse of Enron Corp., its April 2003 settlement of federal inquiries into investment research activities, and its involvement in preferential initial public stock offerings.
Todd Thomson, Citi's chief financial officer, said the reserves also could be used to cover WorldCom claims that are not part of the class action suit that was settled.
Citigroup will take an after-tax charge for the settlement and the increase in litigation reserves of $4.95 billion, or 95 cents per share, in the current quarter.
John Coffee, a Columbia University law professor who specializes in corporate governance and securities law, said the higher reserves figure is "recognition that the litigation environment has turned more hostile." He called the Enron case "the 600 pound gorilla" and noted that a settlement in the case is not expected for some time.
Enron collapsed in 2001, also amid allegations of improper accounting and fraud.
The case involving WorldCom was brought on behalf of those who had purchased WorldCom stock and other securities during the period from April 29, 1999, through June 25, 2002.
Lawyers on the case said the starting date coincided with WorldCom's issuance of its first quarter earnings report in 1999, which they allege included false revenue and earnings numbers. The closing date was when WorldCom announced it would restate results for all of 2001 and the first quarter of 2002.
The WorldCom scandal became public in June 2002 after a company official uncovered an internal accounting scheme.