Couple says Goldman misused shares to assist short-sellers

March 27, 2012, 1:00 PM UTC

Update, March 28, 9:52 AM

Silicon Valley entrepreneurs say they were mistreated by Goldman, joining other critics of the firm.

FORTUNE — Two Silicon Valley entrepreneurs suing Goldman Sachs say the Wall Street firm mislabeled shares in the couple’s brokerage account in order to be able to assist short-sellers who were betting against the company the couple founded.

A lawyer for the couple, Sehat Sutardja and Weili Dai, co-founders and executives of the semiconductor company Marvell Technologies (MRVL), said the claim will be added Tuesday to a complaint the the couple filed with the Financial Industry Regulation Authority earlier this month. The couple sued Goldman a year ago in a San Francisco court. That case was thrown out and lead the couple to resurface their suit as a FINRA complaint set to go to arbitration. Sutardja is the CEO of Marvell. Dai is the company’s manager of communications.

The suit claims that Goldman cost the married couple $100 million by duping them into selling a portion of their Marvell shares to cover a margin loan at the height of the financial crisis. “Goldman had no legal right to lend out shares that didn’t belong to the firm,” says Phil Gregory of Cotchett, Pitre & McCarthy, who is representing Sutardja and Dai. “This whole case is about Goldman trying to make Goldman look better, and my clients suffering for it.”

In the amendment, the couple allege that in January 2008 Goldman (GS) removed Sutardja and Dai from the ownership records of more than 20 million shares of Marvell stock the couple held in a Goldman brokerage account. The couple say they agreed to allow Goldman to add the firm’s name to the stock ownership records, but that the shares were supposed to classified as held for the benefit of either Sutardja or Dai. Instead, the couple says their names were removed completely.

At the time, interest from investors wanting to bet against Marvell’s stock was soaring. The number of Marvell shares borrowed by short-sellers more than doubled from 16 million in mid-September 2007 to nearly 37 million by the end of January. The couple allege that by putting their shares in Goldman’s name, the firm was able to lend those shares to short-sellers, allowing them to increase their bets against Marvell. Goldman also collected fees from the hedge funds and other investors who borrowed the shares. Short-sellers are restricted from betting against stocks in which they have not secured the rights to borrow the shares. Sutardja and Dai say they would have objected to lending out their shares to investors who were betting against their company’s stock. The couple say they do not know how many shares Goldman lent to short-sellers, or if the firm did at all. Sutardja and Dai have reclaimed the shares, which were never sold from their account.

A Goldman spokeswoman says the firm never used Sutardja and Dai’s shares to help short-sellers bet against the couple’s company. Goldman says it was Marvell’s general counsel and not an employee of Goldman that instructed the transfer agent on how to reclassify the couple’s shares. “Goldman Sachs has consistently denied and continues to fight Dr. Sutardja and Ms. Dai’s claims, which are currently in arbitration with FINRA,” says a Goldman spokeswoman. The Marvell shares in question, according to a Goldman spokeswoman, “were locked up in an account for the benefit of the clients, were not available to be lent and were not, in fact, lent out at any time.”

Goldman has recently come under increasing fire for allegations about the way the firm treats its clients. In early March, a recently departed Goldman executive Greg Smith wrote in a New York Times op-ed that the firm’s culture had become toxic and that its employees regularly put the firm’s interests ahead of clients. He didn’t offer specific examples. Goldman denies the claims. Sutardja and Dai are not the only ones to complain about Goldman’s securities lending operations. On Monday, the New York Times reported that a former hedge fund manager turned chicken farmer believes Goldman’s mishandling of his trades by the firm’s securities lending division caused his once successful $1.5 billion fund to collapse.

Sutardja and Dia are not without controversy themselves. In 2008, Marvell Technology paid a $10 million fine to settle allegations from the Securities and Exchange Commission that the company backdated the options it paid out to its executives. As part of the settlement, Dai, who was once Marvell’s chief operating officer, paid a personal fine of $500,000 and was bared from being a director or officer of a publicly traded company for five years.

That was the same year the couple’s Goldman troubles began. At a Goldman broker’s suggestion, Sutardja and Dai bought shares in another technology company Nvidia (NVDA) in mid-2008, using a margin account in which their sizable holding of Marvell shares had been pledged as collateral. The couple quickly amassed a large position in Nvidia’s shares. A Goldman analyst had recently begun recommending the technology company. However, according to the couple’s suit, at the same time Goldman was telling Sutardja and Dai and other clients to buy Nvidia, Goldman was selling its own stake, slashing the company’s investment in the technology firm by 60%.

Shortly after Sutardja and Dai purchased Nvidia shares, the stock plunged. Marvell’s shares were falling as well. In late 2008, Marvell’s shares dipped briefly below $5. Sutardja and Dai, according to the suit, got a call from their Goldman broker who said that they would have to sell 9 million Marvell says to cover the losses in their account. The broker, according to the suit, allegedly said stocks trading for under $5 a share could not be used as collateral for a margin account. The couple say they offered to come up with other collateral to back the margin loan, and that Marvell’s shares rebounded above $5 within a few days. Nonetheless, they said they felt pressured to sell. What’s more, the couple’s suit alleges that Goldman and a hedge fund run by Goldman were buying Marvell’s shares at the same time the firm was forcing Sutardja and Dai to sell. Both Nvidia and Marvell’s shares have since more than doubled from their late 2008 lows. The couple claim they lost more than $100 million because of their force sales.

“Our claim alleges Goldman was trying to get into Marvell at the same time they were forcing my clients to sell,” says Gregory. He says at the height of the financial crisis Goldman was looking for any excuse to reduce its lending in order to make its balance sheet look better to regulators and the firm’s own investors. Sutardja and Dai got caught in the crossfire. “Based on the information we have, the order from New York was for the firm’s brokers to close as many margin loans as possible. My clients were forced to sell even though the rational for the margin call no longer existed.”

Update: The story has been updated to clarify that the case of Sutardja and Dai moved from a San Francisco court to FINRA arbitration, and to update Goldman’s comment on the case.