Dairy Farmers Get Settlement of $20 Million : Agriculture: More than 1,000 of the state’s milk producers will benefit from the accord with a group of banks. At the center of the case was Knudsen’s buyout of Foremost Dairies.

More than 1,000 California dairy farmers will split a $20-million legal settlement, ending three years of legal battling in a convoluted fraud case against a consortium of banks, attorneys announced Tuesday.

The case, which was settled in Los Angeles Superior Court on Monday, alleged that a group of banks used $25 million worth of raw milk as a kind of secret collateral when they financed Knudsen Foods’ leveraged buyout of Foremost Dairies.

Under terms of the settlement, the banks admitted no liability, and the fraud charges were dropped. However, the farmers are still free to pursue their claims for payment for millions of gallons of milk in the pending bankruptcy proceeding against Knudsen. The $20 million covers only their emotional distress claims.

The dispute dates to 1986, when Knudsen Foods of Los Angeles was the biggest dairy operation in the West.

Unfortunately for the dairy farmers who supplied the company with raw milk at the time, Knudsen was big but not strong. The company was struggling to reduce a crushing $266.2-million debt incurred in its leveraged buyout of archrival Foremost Dairies.

On July 14, 1986, Knudsen failed to meet a scheduled payment of about $25 million to an estimated 500 dairies statewide. Two months later, the company filed for protection under Chapter 11 of the U.S. Bankruptcy Code. The following June, the farmers banded together and sued Knudsen’s lenders for fraud, misrepresentation and negligence.

Knudsen’s non-payment “was a catastrophe for many farmers in this state,” said Michael Bidart, the farmers’ attorney. “Many of them had heart attacks, lost their farms and went bankrupt as a result. . . . These people are survivors, are tough. They were wronged and took it like real troopers. But they suffered, really suffered.”

Hanford dairy farmers Eddie and Eva Teixeira lost more than $90,000 when Knudsen refused to pay its suppliers. Subsequent money problems--compounded by the death of his partner and brother-in-law Joe Vaz--soon took their toll. Eddie Teixeira suffered a heart attack, and his Teixeira and Vaz Dairy was sold.

“My husband couldn’t continue on,” Eva Teixeira said in a telephone interview. “He had a heart attack. His partner was killed. He couldn’t handle all the work.”

According to Bidart, the dairy farmers were the “unwitting providers of capital” in Knudsen’s complicated financial dealings, a string of leveraged buyouts that stretched back to the early 1980s.

In 1983, Knudsen Foods was acquired by Winn Enterprises, a publicly traded trust, for $74.8 million. Winn had borrowed heavily to buy the dairy giant, and soon after the purchase, Knudsen began losing money.

Wells Fargo, another defendant in the case, financed Winn’s acquisition of Knudsen and started to finance the $57-million Foremost leveraged buyout. But in the final stages of negotiations, Wells Fargo announced that Winn hadn’t put enough of its own capital into the deal and told the company to come up with $20 million more.

The deal fell through in 1985, and Citicorp stepped in.

Citicorp “solicited Knudsen to refinance the existing debt of Knudsen and to finance the acquisition of Foremost, offering as an inducement the fact that the additional $20 million of equity would not be required,” according to court documents filed in the case.

Bidart said Citicorp had figured out that twice each month, right before Knudsen was scheduled to pay farmers for their raw milk supplies, Knudsen had about $25 million worth of milk in its pipelines--milk that was not yet paid for.

So Citicorp arranged to make a special advance payment of $20 million to Knudsen twice each month to allow Knudsen to pay the farmers for the milk. Citicorp figured that if Knudsen did not succeed, Bidart said, it would not give Knudsen the special payment to pay farmers for their milk. Knudsen would keep the milk, and the farmers would go without their money, Bidart said. And Citicorp would not lose any money.

“The effect of that is that the dairymen were the unwitting providers of capital,” Bidart said. “The dairymen put up their good milk, not knowing what was going on.”

When they found out, they sued the lenders. And on Monday, in front of Superior Court Judge Jack Tenner in Los Angeles, the attorneys for the banks and the dairymen reached the settlement announced Tuesday.

“The banks are not admitting any liability at all,” said William J. F. Roll III, attorney for the banks. “We are doing this to avoid the expense, inconvenience and distraction of protracted litigation. . . . The banks firmly believe that they will recover all of the $20 million, plus associated costs, by way of their indemnity claim against Knudsen and its affiliates.”

Attorneys for Knudsen could not be reached for comment.