Citi Slicker

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It was an awkward moment. Sandy Weill, the world's most powerful banker, came face-to-face with Eliot Spitzer, the toughest cop on Wall Street. Both were among the guests at a Sept. 10 lunch hosted by New York City Mayor Michael Bloomberg at Gracie Mansion. Their exchange was brief. But Weill, 69, CEO of Citigroup, indicated he was eager to talk about the ugly business that Spitzer, the ambitious New York State attorney general, has been finding in his probe of the financial behemoth. Within days a high-level session followed, and even Spitzer was impressed with Weill's sense of urgency.

The meeting that followed, at the attorney general's Manhattan office, between Spitzer and Charles Prince, the new head of Citi's subsidiary Salomon Smith Barney, marked the beginning of what is shaping up as a far-reaching peace treaty. Spitzer, who used a $100 million settlement with Merrill Lynch to reform stock research on Wall Street, wants a similar and more expensive pact with Citigroup to address systemic abuses in the way lucrative initial public offerings (IPOs) of stock have been showered on CEOs who sent investment-banking business to Citi. Spitzer is still digging for dirt, so any deal may be several weeks away. But the whole episode signaled a thaw in Weill's ice-age thinking. Playing to fat cats at the expense of retail investors was no longer defensible. Almost overnight, what had been de rigueur was deplored, and Weill's giant firm had been singled out as the poster child for big bad banks.

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Weill, says a longtime friend, has become "horrified and embarrassed" by the mud-spattered image of Citi, which stands accused of unethical and illegal behavior on multiple fronts. Among the alleged transgressions: doling out shares of hot IPO shares to WorldCom executives in a bribelike manner to win banking business, devising complex financing to help Enron conceal debt and having stock analysts hype the shares of companies that were investment-banking clients. While Salomon Smith Barney was making the VIPs rich, another Citi subsidiary was charging consumers high fees and above-market interest rates on loans, according to charges Citi just settled with the Federal Trade Commission (FTC).

Citi, which denies doing anything illegal, remains under special scrutiny from at least five investigating bodies. Citi negotiators are now leading an effort to settle all matters regarding IPO allocations and analyst conflicts with all regulators and on behalf of all of Wall Street. The Citi team met with Spitzer last week and then had an initial "global" settlement session with the Securities and Exchange Commission (SEC). The National Association of Securities Dealers (NASD) and the New York Stock Exchange are in close contact with the discussions and will be part of any comprehensive deal. People close to those talks call them "preliminary." Under discussion is setting up stock research as a subsidiary company with no obligations to the firm's bankers.

Among the areas that Spitzer aims to reform is the IPO allocation process. One immediate goal, say sources close to him, is the disgorgement of profits that executives reaped through generous allotments of IPO shares in the late 1990s — a period during which those shares were virtually guaranteed to rise sharply. Spitzer is expected to file a legal action as early as this week. A likely target is former WorldCom CEO Bernard Ebbers, who made $11 million in trading profits over four years on IPO shares he bought through Salomon, according to documents obtained by Congress. Spitzer would like to prohibit IPO allocations to executives that can't be justified by the amount of business those executives provide their broker through personal accounts. "You cannot give shares in an effort to persuade the CEO of a big company to bring business to your investment bank," Spitzer told TIME. "That's commercial bribery." Spitzer also hopes to fully separate stock analysts from investment bankers — an area in which he came up short when dealing with Merrill Lynch but that remains on the table in talks with Citi. The SEC is expected to set new rules that will also require some separation.

Amid all the probing, Citi's stellar financial results — the company posted earnings of $8.9billion in the first half of 2002, a 26% jump from the same period last year — are being seen in a different light. The stock has fallen 39% so far this year. Weill's 23million shares have lost more than $400million in value. But just as grating to Weill is the threat to his legacy of bringing down the walls between banks, brokers and insurers. More than any other, it was Weill whose persistent lobbying persuaded Congress to deregulate the industry in 1999, a step that helped catapult U.S. financial-services firms to global prominence. Citigroup now has $1 trillion in assets and operates in 101 countries.

New York's John LaFalce, the House Banking Committee's top Democrat, has asked for broad hearings into whether "the expanded authority" banks have enjoyed since 1999 is leading them to take on too much risk and "whether further safeguards are needed." The prospect of new restrictions jars Citi's bankers, who believe they have a leg up on counterparts who have failed to move as boldly as Citi to become global financial supermarkets.