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Ever since New York Attorney General Eliot Spitzer announced his investigation of Merrill Lynch’s research analysts, he has vocally defended the rights of states. But other states’ privileges soon may leave the New York attorney general quietly fretting. At the very least, Spitzer now faces more negotiating, months after he closed a deal with the investment bank. It is a hassle he might have spared himself had he not accepted an unprecedented provision sought by Merrill Lynch: The bank will not have to pay a dime to any state unless all 50 states, the District of Columbia and Puerto Rico sign. Spitzer pushed Merrill to settle on May 21, after he exposed the investment bank’s analysts disparaging stocks in private that they had recommended publicly. To placate Spitzer, Merrill agreed to change several internal policies and pay a $100 million penalty, which New York and the other 49 states would split. No previous global settlement, not even the massive tobacco settlement, required absolute unanimity. At the negotiating table, companies may demand full consensus, say current and former state law enforcers, but the states’ dealmakers conventionally remind them that, according to the laws of reality, at minimum one or two states will refuse to sign. “If you were to say to me that they’d all fall behind me, I’d say you’re absolutely nuts,” said John Perkins, a former president of the North American Securities Administrators Association, called NASAA. Instead of 52 jurisdictions, settlements ordinarily rely on a minimum number of states, often 35 or 40, signing a deal. So far, 25 states have indicated that they accept the agreement, said Royce Griffin, the general counsel of NASAA, which is coordinating the settlement’s logistics. Spitzer’s agreement to achieve perfect participation has dismayed some of the holdout states, and they cite it as a reason for their hesitation. Says one state regulator: “Even if I think it’s in the best interest of my state to sign, it still doesn’t make much sense to actually sign. I should still wait until the 49 other states sign up. Or else I may not get any money.” Once a regulator signs, the right to sue is lost. The hope had been that states would see their money by September. Each jurisdiction is scheduled to receive a proportional share of a pool of $50 million, with individual sums ranging from $500,000 to $5.5 million. Griffin still believes that 40 of the jurisdictions will join the settlement by NASAA’s target date, Aug. 9. Some of the missing may be detained by the need to use finesse in presenting the settlement in a way that satisfies both local laws and the powers to whom they answer. State securities regulators report to a variety of higher offices, like secretary of state, attorney general or commissioner of finance. Spitzer still expects that every one of his peers will sign up. “We’ll see. I hope we’ll get them,” he said, softly, then added, “I am confident that this deal, every piece of it, will be going forward very shortly.” Merrill declined to comment on whether the company is willing to negotiate over its demand for 100 percent participation. “We’re working with the New York AG’s office and NASAA and hope to have all 50 states sign on,” said Merrill spokesman William Halldin. UNANIMITY SPOILED South Dakota is likely to spoil the unanimity. The state’s current securities commissioner, Gail Sheppick, said he will not sign, and cites a variety of reasons. He also plans no action against Merrill Lynch because he disagrees with the notion that states should be investigating the research departments of national securities players like Merrill. While Sheppick, on paper, could liberate Merrill Lynch from its financial obligation, Merrill Lynch’s embattled leaders themselves will be taking a risk if they do not pay the states that have signed, said Debra Bollinger, senior counsel in Virginia’s State Corporation Commission. “I can’t imagine that if the states got down to one, two, three states, that they would renege on their deal. They would look very bad to Congress, and very bad in the press,” she said. Paying will not hurt Merrill Lynch in the pocketbook. The company’s $100 million fine, according to The Wall Street Journal, is less than one-third of its annual postage costs. To reduce the missing to just those one, two or three may require some labor from Spitzer. Officials in New Jersey, Ohio, Florida, California and Missouri — all states active in securities enforcement — continue to review the pact. New Jersey and California head NASAA’s ongoing investigation into other Wall Street investment banks, in concert with New York. OUTSTANDING ISSUES Among the issues that states continue to discuss: � Wronged investors are not getting direct remuneration. States can create restitution funds with their share, but most regulators (those in 13 states were contacted for this story) say that it is too difficult — or expensive — for states to identify affected investors. To find the direct victims of this fraud on the market, regulators would need to determine who received a Merrill Lynch analyst’s report, whether they received it directly or indirectly, and whether they relied on that in their stock purchasing, said Bollinger of Virginia, which plans to settle. Spitzer said that plaintiffs’ lawyers are better equipped to assess individual claims for restitution, and that his office’s public release of evidence will help investors everywhere bring their individual grievances. Yet one state official chides the absence of direct help for investors as hypocritical. If most of the states are not capable of mounting an intricate enforcement action against a big investment bank, how will investors with far fewer resources pay for the work their case requires? In South Dakota, Sheppick postulates that, in his state, the fall of Merrill Lynch’s stock prices after the investigation has hurt investors’ retirement accounts more than analysts’ recommendations of dot-coms caused them to throw away money. He says only one wronged investor has complained. � Arbitrary punishment. Some of the hesitant regulators argue that one should know the extent of damage before one exacts a penalty. To this camp, setting a punitive damage amount when one does not know the actual damage amount seems unfair. Then, too, the Merrill Lynch settlement is awkward for the ongoing investigations of other banks. Each will likely reveal a different degree of offending behavior. “Are they now to be fined $100 million?” asked Sheppick. The sum, while not perfect, is fair as punishment, say the settlement’s advocates. “We know that there were billions lost in the dot-com fiasco. We know there’s a million or more people that bought this crap,” said Ralph Lambiase, Connecticut’s securities regulator and a member of the NASAA task force overseeing the larger probe of Wall Street stock research. � The fire wall between research and investment banking. Holdouts believe it should be stronger and more absolute than what the settlement provides, in light of the recent flurry of legislation in Washington, D.C. Advocates note that the new legislation will make the firewall part of the settlement moot, anyway. In a June interview, Spitzer said, “There are very real constraints on what types of remedies are available through one litigation and one settlement. Although people may think that I confuse my role, I’m not the SEC.” � The language stipulating an end to all investigations. Ohio officials say they are deciding whether the wording is too broad. “You’re settling all cases for all states with regard to civil and criminal matters. You can’t just sign off on that, you don’t know what you’re giving away,” said Betty Montgomery, the attorney general, who advises state securities commissioner Debbie Joyce. DEFYING CONVENTION That some regulators perceive flaws in the Merrill Lynch settlement should not be a surprise. The pact defies convention in at least three other aspects, beyond the need for unanimity. The investigation did not isolate a pool of harmed investors before settlement. The states have never taken joint action in the area of stock analysts. And one state’s staff conducted the entire probe and just about all of the negotiations alone. Together, the states will examine the other banks for at least the next year. The board of NASAA has allocated more than $2 million for the task force to pursue dishonest stock research. Currently, the states’ task force is shopping for document management systems. For instance, 600,000 documents from Bear Stearns landed on June 17 at the New Jersey attorney general’s office. To preserve this first settlement, Spitzer will have to finagle or coerce the holdouts. Sheppick doubts that Spitzer will face a groundswell of resistance, based on conversations with officials in five other states. “I’ve not talked to a state yet that thought it was a right deal, but they want to show unity.” The South Dakotan said he has spoken to about five states. If Spitzer wants to lobby his fellow securities regulators, he can do it face to face this week. The NASAA commissioners arrive in midtown Manhattan for their annual summer meeting on Thursday and Friday.

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