Still battling bankruptcy after 10 years

Deirdre Newman

Today is the 10-year anniversary of the county’s day of infamy, the

day its high-flying, high-yield investment strategy imploded, leaving

officials scrambling to deal with a $1.7-billion loss that sent

financial shudders through local schools and city government coffers

that are still being dealt with today.

“I’d have to rank it as one of the most excruciatingly stressful

experiences I’ve ever undergone,” said Mac Bernd, who was

superintendent of the Newport-Mesa Unified School District at the

time and whose board had borrowed $47 million to invest in the Orange

County Investment Pool.

The county still owes more than $800 million and will be paying

off the debt until 2026, said John Moorlach, the county treasurer who

predicted the bankruptcy while he was a candidate for that office.

“We put the whole thing on a credit card, and it’s still squeezing

out vital services, and there will be a price for that still,”

Moorlach said. “There will be a price to pay for the things we didn’t

do that we should have been doing all along, like deferred

maintenance. We just finished one decade, and we have two more

decades to go.”

The bankruptcy occurred because of the blissful ignorance

surrounding Bob Citron’s investment strategy and because of pool

pressure -- cities in the fund encouraging neighboring cities to dive

into the investment pool, Moorlach said. Interest rate hikes led to

the devaluation of funds in the county’s investment portfolio, which

comprised $7 billion in assets and $13 billion Citron had borrowed.

The silver lining of the darkest day in Orange County finance is

the attitude the bankruptcy engendered: oversight, oversight and more

oversight. The state passed a bill requiring an oversight committee

and compliance audits, which were previously voluntary.

Costa Mesa created an investment oversight committee that is still

watching over the city’s money management, said former Councilman Joe

Erickson, mayor during the bankruptcy. The city escaped relatively

unscathed, since it had listened to Moorlach’s warnings that the

investment strategy was inevitably going to self-destruct. It had

only $2.6 million invested at the time of the bankruptcy. Newport

Beach created a finance committee of council members to monitor the

city’s investments. It had $16.2 million invested in the county pool.

WARNINGS GO UNHEEDED, BUT SOME LISTEN

It was Moorlach, of Costa Mesa, who started sounding the alarms

over red flags he saw when running against Citron for treasurer in

the spring of 1994. But few heeded his concerns. Instead, he was

maligned for attacking someone earning rave reviews for the bounty he

was getting for the county, Moorlach said.

“Here’s this young, mean Republican going after this old, sweet

Democrat who’s been doing such a good job,” Moorlach said. “That’s

how I was portrayed. It was political.”

Some of the few listeners were in Costa Mesa.

“I was very, very grateful that John, as a resident of Costa Mesa

and a friend, had warned the city,” Erickson said. “We were able to

pull the vast majority of our funds out of the county pool prior to

the bankruptcy, and that was in large part due to his warning.... I

regret we didn’t take out every penny.”

Moorlach ended up losing the election, getting close to 40% of the

vote. After the bankruptcy broke, he was eventually appointed as

treasurer.

THE LOCAL EFFECT

To survive after the bankruptcy, the Newport-Mesa Unified School

District sold the Bear Street School, made millions in spending cuts

and dipped into the reserves to make it through the end of the school

year.

“It wasn’t only me,” said Bernd, now a superintendent in

Arlington, Texas. “The board was resolute in the recovery issue, and

all of us worked together.”

The district put together an investment advisory committee

comprising community members with private-sector financial acumen.

The city of Newport Beach stopped investing in the county pool

after the bankruptcy, Deputy Treasurer Dick Kurth said. It invests

conservatively and doesn’t speculate, Kurth said.

“We just try to match the maturity of our investment with our

anticipated need of money,” Kurth said.

It also put into place a practice of using five outside investment

advisors to help manage its funds, without giving them custody of the

funds, Kurth added.

Costa Mesa also overhauled its investment policy and does not

invest in the county pool either. It gets a higher rate of return by

investing in a state fund instead, finance director Marc Puckett

said.

The county bore the full debt of the bankruptcy, said Supervisor

Jim Silva, who represents most of Costa Mesa. It received $800

million from suing the financial entities that were supposed to be

watchdogs of the county’s investment policies, like Merrill Lynch and

Morgan Stanley.

Although voters rejected a half-cent sales tax as an option for

mending the morass the bankruptcy created, the county was able to

repay the Newport-Mesa Unified School District 100%, cities 99% and

the county itself 64%, said Silva, who was sworn in a month after the

bankruptcy occurred.

A PAINSTAKING RECOVERY

Moorlach transformed the county treasurer’s department, engaging

in a new investment policy diametrically opposed to Citron’s. The

epitome of the new approach was investing conservatively, he said.

The county’s investment policy is now entirely disclosed, Moorlach

added.

The county escaped the grips of bankruptcy a year-and-a-half after

it happened, Silva said. It restructured its debt, and Silva went to

New York to meet with rating agencies. He was the only supervisor on

the board who hadn’t been tainted by the bankruptcy and therefore had

more credibility. Agency officials asked him why they should give the

county an investment grade rating on bonds that were a year late when

the voters wouldn’t even pass a tax increase to bail the county out,

he said.

It was a pressure-filled question if he ever heard one, Silva

said.

“I felt like the entire county was on my shoulders,” he said. “My

response was that in the year 1995, Orange County had the lowest rate

of unemployment in the state. Because of the low unemployment rate,

the people did not mean they would not pay the bonds. They meant we

could get out of it with a strong economy, and that’s what we’ve

done.”

One of the ironic twists of the bankruptcy is that the county went

back to Merrill Lynch.

Silva still thinks that was a bad idea.

“I think that has been a cruel joke played on the taxpayers,” he

said.

But Moorlach felt the extra income the company could return was

worth it, he said.

“Having access to Merrill Lynch’s competitively priced inventory

of money-market products, one of the largest in the world, has helped

the county to earn a few extra basis points of interest income,”

Moorlach said. “This revenue, which is non-tax, helps to make the

interest payments on our bankruptcy debt. So, yes, it is a cruel joke

perhaps, but more on Merrill Lynch than the taxpayers. But no one’s

laughing, as they have gone beyond the call in customer service

during purchase transactions.”

A MILESTONE APPROACHES

Next year, the county anticipates reducing the debt it owes by

$115 million by using money saved up to buy back some of the bonds,

Silva said. He convinced the board of supervisors to set up a

bond-repayment account, he said. Next year, it will be financially

beneficial for the county to start buying back some of the bonds,

although it will require majority approval by the board, Silva said.

“I don’t like celebrating the bankruptcy,” Silva said. “I like

celebrating the recovery. It’s like you don’t celebrate cancer; you

celebrate the cure. The recovery has been a long, slow process, but

we’ve done it without a tax increase.”

* DEIRDRE NEWMAN covers government. She may be reached at (714)

966-4623 or by e-mail at [email protected].