Prior to its collapse in October, 2005, the firm had over $4 billion in approximately 200,000 customer accounts, and it was the largest broker on the Chicago Mercantile Exchange.
Investors had been attracted to Refco's history of profit growth—it had reported 33% average annual gains in earnings over the four years prior to its initial public offering.
Refco Inc. entered crisis on Monday, October 10, 2005, when it announced that its chief executive officer and chairman, Phillip R. Bennett had hidden $430 million in bad debts from the company's auditors and investors, and had agreed to take a leave of absence.
Refco said that through an internal review over the preceding weekend it discovered a receivable owed to the company by an unnamed entity that turned out to be controlled by Mr. Bennett, in the amount of approximately US$430 million.
Bennett's company then paid the money back to Refco, leaving Liberty as the apparent borrower when financial statements were prepared.
Refco also announced a tentative agreement to sell its regulated futures and commodities business, which is not covered by the bankruptcy filing, to a group led by J.C.
Their largest private investor was Thomas H. Lee Partners, a highly regarded buyout fund, and the reputation of its managers has been similarly sullied.
On March 2, 2006, a lawyer representing Refco's unsecured creditors began steps to sue the IPO underwriters for aiding and abetting the fraud, or for breach of fiduciary duty.
[1] In April 2006, Christie's auction house sold Refco's prized art collection, which included photographs by Charles Ray and Andy Warhol.
Though no detailed report on Bennett's transactions has yet been made public, anonymous sources cited by The Wall Street Journal and other publications have stated that the debt stemmed from losses in as many as 10 customer trading accounts, including that of Ross Capital, and the widely reported October 27, 1997, trading losses of hedge fund manager Victor Niederhoffer.
Ross Capital has also been named by the Wall Street Journal's anonymous sources as one of the firms with losses that somehow led to Bennett's $430 million debt.
Apparently, in the fiscal quarter before the story broke, Bennett failed to execute his temporary Liberty Strategies-hidden repayment of debt.
On March 15, 2006, information leaked by the U.S. prosecutor's office revealed that Refco held offshore accounts holding as much as $525 million in fake bonds.
The company held the "securities" for Bawag P.S.K., the Austrian bank with which Refco had a close relationship, discussed in part above, and for a non-U.S. hedge fund called Liquid Opportunity.
The likelihood that the fake bonds represent some kind of ongoing criminal activity does not bode well for the principals of Refco, BAWAG, or Liquid Opportunity.
On May 16, 2005, the company disclosed that it had received a "Wells notice", indicating it might face charges related to improper short selling at its Refco Securities unit and other matters.