Bankruptcy Judge Approves Complex O.C. Recovery Plan

By DAVAN MAHARAJ and MATT LAIT

May 16, 1996 12 AM PT

TIMES STAFF WRITERS

SANTA ANA — Less than 18 months after Orange County filed the largest municipal bankruptcy in U.S. history, a judge on Wednesday approved its complex recovery plan to borrow nearly $1 billion from Wall Street to repay its debts.

The approval allows the county to emerge from bankruptcy--possibly by the end of June.

U.S. Bankruptcy Judge John E. Ryan described his final approval of the county’s reorganization plan as “a very special day for the county of Orange, its inhabitants, its employees, leaders, businesses, schools, [special] districts and cities.”

The county’s decision to file bankruptcy on Dec. 6, 1994, was “a shocking day etched in the history of Orange County,” Ryan said. “Few of us then would have said with any degree of certainty that the county would survive the bankruptcy crisis, let alone reach this confirmation day.”

The plan’s success--and ultimately, Orange County’s recovery--now depends on whether Wall Street investors, still leery of the county’s tainted financial reputation, will buy up to $920 million of county-issued bonds. Those bonds will be used to repay note holders, vendors and other creditors.

Bruce Bennett, the county’s lead bankruptcy attorney and one of the recovery plan’s two main architects, said he has no doubt that the county will sell the bonds by June. He said the judge’s approval puts the financial crisis “behind Orange County once and for all.”

But he was quick to add that the case will not be over until the county is successful in its litigation campaign against Merrill Lynch & Co. and other Wall Street firms the county blames for its financial crisis.

The most aggressive objections to the county’s recovery plan were lodged Wednesday by Merrill Lynch’s attorneys, who argued in court that Orange County did not have to declare bankruptcy to solve its financial problems.

Ronald Olson, a Los Angeles lawyer representing the brokerage giant, asked the judge not to make any finding that the county was “insolvent” when it declared bankruptcy, saying it would give county lawyers an unfair advantage in their lawsuit against Merrill Lynch seeking $2 billion.

Ryan denied the request, saying that prior to the bankruptcy filing “the county was not able to negotiate with its creditors because such negotiations were impracticable.”

Olson said his client would consider appealing the judge’s decision.

“The fight’s not over,” he said.

Wednesday’s approval of the plan marked a banner day for county officials and residents, whose leaders left office or became targets of criminal and civil investigations after Orange County’s investment pool lost $1.64 billion in late 1994.

The reorganization plan was the product of thousands of hours of work by the county’s bankruptcy attorneys and financial advisors, who coaxed, bargained and even threatened creditors to get their support.

“We had to bully them to get them to do the right thing,” said Christopher Varelas, the county’s chief financial advisor and the other main author of the plan.

“It was like having to take a photograph of 1,000 people and needing them to stay still at the same time. Each day had a crisis. Each solution created more problems,” said Varelas, a vice president with Salomon Bros., the county’s financial advisor. “It is perhaps one of the most complex legal transaction that Wall Street has ever seen.”

Putting together the plan so far has been costly. Attorneys, accountants, financial experts and other professionals have billed the county about $38 million so far.

The cornerstone of the county’s recovery plan, which already has been approved by lawmakers in Sacramento, calls for a diversion of $50 million annually--for 20 years--to pay the county’s debt. The money otherwise would have been used for mass transit, maintenance of county harbors and parks, and other public projects.

The plan calls for full repayment to companies that did work for the county and full reimbursement to county employees who are owed money.

A key component of the plan is the county’s push to recover money from Merrill Lynch and the county’s outside auditor, KPMG Peat Marwick, which it has sued for $3 billion.

The county also plans to set aside $50 million from the sale of bonds to pursue lawsuits against those firms and others it holds responsible for the collapse of its investment fund. The companies deny wrongdoing.

Under the plan, the county promises to distribute any money gained from the lawsuits among the public agencies that invested in the county’s pool. To date, those agencies have been partially reimbursed for their losses. Some, including cities and many school districts, were forced to make deep spending cuts when their investment accounts plummeted in value.

Most cities have recovered 81% of their investments, while schools received about 90%.

“We are still in this contest to get the litigation proceeds,” said Irvine City Manager Paul O. Brady Jr., who represented cities in the delicate negotiations that produced the recovery plan. “We’ve put our eggs in that basket.”

But Olson, Merrill Lynch’s attorney, said Wednesday that “the county has overstated its litigation posture from Day One. Merrill Lynch has said from the beginning that the responsibility lies inside Orange County government, not outside.”

“There is no pot of gold on Wall Street,” Olson added. “Unfortunately, the county has failed to realize this and has set aside another $50 million for continued litigation expenses.”

But county officials and creditors, who have had little to celebrate during the last 18 months, exulted in the recovery plan’s approval.

Bennett J. Murphy, a Los Angeles attorney representing investors who hold several hundred million dollars in county notes, said that Wednesday’s decision represented “the turning point” for Orange County.

“Today is when Orange County has demonstrated not only that it’s back on its feet as a good place to work and live, but a county the bond market has faith in and wants to lend money to,” Murphy said.

Supervisor Don Saltarelli said the judge’s decision “sends a message that Orange County is back. We are vibrant, strong, healthy and doing what needs to be done. It’s a wonderful message to send the rest of the state and country.”

Supervisor William G. Steiner called Wednesday’s development “a remarkable achievement to put this all together so quickly. Most corporations would not have been able to do it this quickly. It clearly indicates that Orange County is willing to pay its debts. It’s a new beginning for us.”

But as the county celebrates its accomplishments in Bankruptcy Court, other courts of law are still determining the fate of several current and former county officials.

The county’s former treasurer-tax collector, Robert L. Citron, who managed the ill-fated investment pool on behalf of the county and dozens of other public entities, has pleaded guilty to six felony counts of fraud and misappropriation of public funds. He is awaiting sentencing.

Citron’s former chief assistant, Matthew Raabe, has vowed to fight the same charges, while the county’s former budget director, Ronald S. Rubino, also has pleaded not guilty to charges that he aided and abetted Citron’s illegal investment practices. Both Raabe and Rubino are expected to stand trial late this summer.

Meanwhile, Steiner, Supervisor Roger R. Stanton and Steve E. Lewis, the county’s auditor-controller, have been accused of willful misconduct in office for their roles in the bankruptcy crisis. If the accusations are found to be true, they face removal from office. All three have denied wrongdoing.

In a separate action in federal court, both Citron and Raabe reached a settlement with the U.S. Securities and Exchange Commission. They did not admit or deny any wrongdoing but promised not to violate any federal securities laws in the future.

The SEC did not impose any additional sanctions on Citron or Raabe, who have also agreed to cooperate with agency officials investigating the county’s financial collapse. Members of the county Board of Supervisors have agreed to similar terms in a separate settlement with the agency.

The county’s reorganization plan was crafted after Orange County voters overwhelmingly rejected a half-cent sales tax increase last June.

After defeat of the tax plan, known as Measure R, county officials and their advisors slashed the county’s budget, diverting money from health, public protection and environmental programs to pay the county’s debts.

In all, the county has eliminated about 1,500 positions since the bankruptcy. It has also cut some programs that helped the weakest of Orange County’s citizens--mental patients, abused children and low-income pregnant women, among others.

Documents filed recently in Bankruptcy Court show that Orange County has the leanest government in the five-county region of Southern California. The county has 5.8 employees for every 1,000 residents, compared with Los Angeles County, which has 8.9, the highest ratio.

“The county can sustain no further budget cuts in its general and administrative functions without impairing [its] ability . . . to provide essential services to its citizens,” said Robert E. Wilson, the county’s assistant chief executive officer.

But Varelas said Wednesday that while it was “unfortunate that people had to lose their jobs and money had to be diverted from other services, the pain has been minimized and is less than we would have thought possible in December 1994.”

At the end of Wednesday’s hearing, Judge Ryan took the unusual step of calling his entire staff into the courtroom to recognize their work on the case during the past 18 months. He also lavished praise on lawyers, the media and even his wife, Terri, who was sitting in the courtroom.

Ryan said that dealing with the Orange County bankruptcy was challenging because there was little case law on the subject.

“I would not say I got everything right, but with your help, I think I had a good batting average,” he said.

The county’s attorneys and financial advisors accepted congratulations from other lawyers--even those not involved in the proceedings--who packed the courtroom Wednesday.

Varelas cracked a smile but said he was not going to celebrate.

“I’ll be a lot more ecstatic after I sell the bonds,” he said.

Times correspondent Shelby Grad contributed to this report.

(BEGIN TEXT OF INFOBOX / INFOGRAPHIC)

Debt Dates

Key developments in Orange County’s financial crisis:

1994

* Dec. 2: After stock market closes, officials verify rumors that county investment portfolio has lost nearly $1.5 billion in value.

* Dec. 4: County Treasurer-Tax Collector Robert L. Citron, portfolio manager, resigns from post he held 24 years.

* Dec. 6: Orange County files largest municipal bankruptcy in U.S. history, freezing assets of investment pool.

* Dec. 8: Internal audit shows county auditor warned officials more than a year earlier that investment pool was not adequately supervised.

1995

* Jan. 12: County sues Merrill Lynch & Co., alleging it concocted exotic investment

scheme that broke state law and led to collapse. Merrill Lynch vigorously denies the allegations.

* Jan. 21: County audit discloses possible bookkeeping falsifications; $85 million in interest was diverted from pool participants to account managed by Citron.

* Feb. 24: County Administrative Officer Ernie Schneider and Assistant Treasurer Matthew Raabe are fired.

* April 27: Citron pleads guilty to six felony charges relating to county bankruptcy.

* July 10: Orange County supervisors reach rollover agreement delaying payment of $800 million in short-term debt for one year; Standard & Poor’s downgrades county bonds to “D” rating, lowest possible.

* Aug. 7: Supervisor Gaddi H. Vasquez announces he will leave office Sept. 22, with 15 months left in his term.

* Aug. 22: Supervisors approve recovery plan before a crucial state deadline.

Plan calls for taking $570 million from transportation agency and forcing cities

and special districts to postpone payment of or possibly forgive more than $800 million in debt.

* Sept. 30: Supervisor Roger R. Stanton announces he won’t seek reelection when his term ends in December 1996.

* Nov. 18: Supervisor William G. Steiner announces he won’t seek reelection when his term ends in December 1998.

* Dec. 17: Orange County Grand Jury accuses Supervisors Stanton and Steiner

and former county Auditor-Controller Steve E. Lewis of official misconduct and indicts former county Budget Director Ronald S. Rubino on criminal charges.

1996

* Jan. 24: After 13-month investigation, U.S. Securities and Exchange Commission accuses Citron, Raabe and five supervisors of misleading investigators.

* April 31: In a major step toward recovery, county obtains insurance and top-notch rating from Wall Street.

* May 3: Creditors overwhelmingly support county’s bankruptcy recovery plan.

* May 15: Federal judge OKs county’s bankruptcy recovery plan.

Source: Times reports

Researched by JANICE L. JONES / Los Angeles Times

(BEGIN TEXT OF INFOBOX / INFOGRAPHIC)

Bankruptcy Recovery Summary

The bankruptcy recovery plan approved by U.S. Bankruptcy Judge John E. Ryan on Wednesday calls for Orange County to fully repay investors who bought county bonds and individuals and companies that provided services to the county and its employees. Key elements of the plan:

NEW BOND SALES

* To raise money to complete the plan, Orange County will sell $800 million in insured, long-term, tax-exempt bonds backed by county buildings, parks, golf courses and land. The bonds, known as certificates of participation, will be repaid with sales taxes and motor vehicle license fees previously intended for other projects such as mass transit.

* The county will sell $120 million in new taxable bonds to retire some pension bonds issued in 1994.

WHO GETS WHAT

* Investors in the county’s notes will be repaid more than $700 million.

* County vendors will be repaid about $65 million.

* County employees will be repaid about $35 million for sick leave, vacation pay, salary and merit increases.

* The county will establish a $50-million litigation trust fund to pursue lawsuits.

* County pool investors will share $430 million in secured claims to be paid first if the county collects in its lawsuits against financial firms and others.

* Other pool investors will share $385 million if the county collects in lawsuits after secured claims are paid.

Sources: Second Amended Disclosure Statement and Second Amended Plan of Adjustment, U.S. Bankruptcy Court