O.C. Seized Funds Due Bondholders, State Auditor Says : Bankruptcy: $73 million was put, maybe illegally, into the county’s depleted general fund, Kurt R. Sjoberg says. Handling of another $209 million is questioned.

Six days after filing for bankruptcy in December, Orange County seized $73 million in restricted money due county bondholders and--perhaps illegally--placed it in the county’s own depleted general fund, the California state auditor said Thursday.

State Auditor Kurt R. Sjoberg, whose office is reviewing the county’s books at the request of Gov. Pete Wilson, also questioned whether an additional $209 million should have been transferred into the county’s general fund from other county funds.

In a highly critical letter to Wilson and legislative leaders, Sjoberg said that because of the irregularities he now doubted “the accuracy and reliability” of the county’s estimate of the amount needed to pay its bills through June 30.

The latest discovery represents yet another blow for the shell-shocked county, already shown to have skimmed at least $70 million from others in the county’s collapsed investment pool, while saddling them with part of the county’s losses.

These questionable transfers will aggravate the county’s budget shortfall, Sjoberg said, because the county is legally obligated to return the $73 million set aside for bondholders, and possibly much more.

The state auditor’s letter could prove nettlesome for the Arthur Andersen & Co. accounting firm that has pored over the county books since the bankruptcy filing and that one month ago said the county needed $172 million to cover its expenses through June 30.

Paul Sachs, chief of that accounting team, said he was aware of all the issues raised by Sjoberg’s report, but does not think they would significantly worsen the county’s cash shortfall between now and the end of the county’s fiscal year. He cautioned, however, that the continuing investigation into the county’s financial records and rulings by the bankruptcy court could change that outlook. “We don’t believe there’s reason to worry, but future events may change that,” he said.

In discussing the state auditor’s letter, Sachs also revealed that the county’s general fund was $168 million in the red at the time of the bankruptcy, and an infusion of cash was needed to keep county checks from bouncing.

County officials reacted with pained resignation to the possibility of more bad news, with some warning that bondholders may face delays in being paid interest and principal. Bondholder representatives said they have cause for concern.

“I know this makes the (financial) markets very nervous,” Supervisor William G. Steiner said, “but when you keep adding up the figures and the picture gets more grim, this potential looms.”

Jeffrey Chanin, a financial consultant who works for the creditors committee, said he was troubled but not surprised by the revelations.

“It doesn’t surprise me,” Chanin said. “It’s just one more incident that establishes that the county was not in control.”

Daniel Harrow, Chanin’s partner who also represents bondholders and other creditors on the committee, said it is important to focus on how to solve the financial crisis and not dwell on recriminations.

“We have problems we all have to focus on and resolve,” he said. “It’s clear something went wrong to incur these kinds of loss. . . . I think everyone now needs to focus on fixing the problem.”

In his report to Wilson, Sjoberg said he had been asked to determine if the county’s cash flow analysis for the next six months was accurate, but was unable to complete the task after finding potentially improper or illegal transfers of money into the county’s general fund.

In his letter, Sjoberg stressed that one account emptied by county officials had strict legal limits on its use. The fund, which contained $73 million earmarked to repay bondholders, could be used only for that purpose, he said.

“We will obtain a legal opinion to determine the propriety of this transfer,” Sjoberg wrote.

The other $209 million was transferred from unspecified county funds into the county general fund on the same date. Chief Deputy State Auditor Marianne Evashenk said that she could not discuss the questionable transfers in detail but that they may include money that belonged to some of the 186 cities, school systems and special districts that invested in the pool.

“There is (a total of) $282 million that we are not comfortable with,” Evashenk said.

In addition, state auditors have yet to determine exactly how much the county will have to refund because of alleged improper transfers engineered by former Treasurer-Tax Collector Robert L. Citron.

Last week, Arthur Andersen accountants uncovered evidence suggesting that at least $70 million in interest earnings due other investors in the county investment fund was skimmed into an obscure county fund known as the Economic Uncertainty Fund.

In one month alone, February of 1994, Sjoberg said, Citron diverted “more than $10 million in interest from the investment pool that it did not earn.”

“That’s the concern we have, when did (the misallocation of funds) start and to what extent it was done month in and month out,” he said.

Sachs said that the Economic Uncertainty Fund currently contains enough money to cover the approximately $70 million in refunds due other pool investors.

He also said there should be no doubt as to the accuracy and reliability of his firm’s cash-flow analysis for the county.

The county’s general fund has $84 million left frozen in the investment pool because of the bankruptcy. Sachs believes that money will be freed by the bankruptcy court before June 30. That money, he said, could be used to replace the $73 million improperly transferred from bondholders’ accounts.

Sachs conceded, however, that there is no certainty the county will get access to that money because it may belong to other fund investors. Even if the fund does get access, the money might not be available by the end of the fiscal year.

Sachs said county officials believed they were allowed to move into the general fund the $73 million set aside for bondholders because they had been putting the money away far in advance of when the payments were due. Officials have since been told that they were not allowed to move those funds.

“Just because it was physically there, even though it didn’t have to be there, the creditors have a right to it,” Sachs said.

Sachs also acknowledged that his team has not yet fully analyzed how much interest the county improperly diverted from local agencies with money in the investment pool to its own accounts.

There is currently about $70 million in interest remaining in the Economic Uncertainty Fund, he said. If the county owes much more than that to pool participants because of improper diversions, that could make the immediate budget gap even wider.

“After we do the reallocation of the interest, if all we have to return is $70 million, then we’re OK,” Sachs said. “If we have to return more, then the general fund will be affected.”

But, Sachs said, his firm’s accountants believe the transfers were limited to a period from February of last year to the bankruptcy.

Sachs also said Thursday that his team of accountants has new evidence showing how poorly the investment pool performed in the five months before the bankruptcy filing. Since July 1, 1994, he said, the $6-billion commingled fund earned about $58 million, a yield of about 2%.

“It really tells the story of what’s been happening,” he said. “His returns were coming down, his costs of borrowing were going up. . . . That’s why the pool collapsed.”

M. Freddie Reiss of Price Waterhouse, the accountants working for the pool participants, raised questions last week about why the account that collected interest earnings for the commingled pool had only $29 million in it at the time of the bankruptcy filing.

The account, Fund 683, was a storehouse for interest earnings that would be disbursed among the 187 pool participants quarterly. Interest accrued since July 1 has not been paid out.

Because of previous revelations that about $80 million in interest due pool participants was improperly diverted into county accounts, Reiss wondered whether millions more might have been improperly removed from Fund 683. “They’re unanswered questions,” he said.

But Sachs said Thursday that his accountants “don’t think there’s any irregularities there.” The total interest due pool participants, he said, includes $29 million that was in Fund 683 and about $23 million that is in other funds.

In other developments Thursday:

* County officials said the Board of Supervisors has set aside $12 million previously earmarked for a host of county projects to pay dozens of accountants, lawyers and others hired to help resolve the financial crisis.

According to Budget Director Fred Branca, the money was carved out of a fund where it would have been used to pay for county cars, employee sick leave and a massive county communications system for law enforcement. Those projects are now on hold.

* The supervisors finished interviews with two candidates for interim county administrative officer and made arrangements to meet Tuesday with front-runner Sanford C. Sigoloff as well as William J. Popejoy, the former chairman and CEO of American Savings & Loan. The board met Thursday with Jan Mittermeier, director of John Wayne Airport; and Ed Dundon, who was superintendent of the Garden Grove Unified School District for two decades.

* U.S. Bankruptcy Judge John E. Ryan ordered the county and county employee organizations back to the negotiating table to come up with a new compromise agreement for employee layoffs. Ryan said the agreement should protect workers’ basic rights to seniority and a grievance process, but satisfy the needs of the bankrupt county to reduce its work force. In court documents filed Thursday, the county proposed to rehire 39 of 152 people laid off earlier this month. Labor groups have rejected those proposals.

* In Sacramento, Assemblyman Louis Caldera (D-Los Angeles) announced plans to introduce a bill to help children who were encouraged by judges to deposit legal awards in Orange County’s troubled investment pool. The measure would require the state to pay the difference between what the children ultimately get back from Orange County and what they would have made in a safer investment fund. The legislation would also repeal a state law that obliged the children to invest $7 million in the county portfolio.

* Assistant Tax Collector Gary Cowan said that because of the bankruptcy proceedings, about $17 million in property tax refunds scheduled for disbursement in coming weeks will not be made, at least for now.

* A subcommittee of county vendors established as part of the bankruptcy proceeding said it has received long-awaited assurances from the county that those who have provided goods or services in the weeks since the bankruptcy declaration will be paid, but there is no agreement yet on paying vendors whose bills date from before Dec. 6.

* The Orange County Employees Retirement System voted to ask the bankruptcy court judge to direct the county to turn over more than $10 million in employee and employer contributions tied up in the county’s frozen investment pool. Funds to meet the retirement system’s January and February payrolls arrived late, officials said, leaving them scrambling to cover $7.5 million in retiree benefit payments for about 5,300 retirees on their payroll.

Meanwhile, county budget director Branca said, the $12.3 million set aside to pay for the services of the small army of high-priced consultants that has arrived in Orange County since the bankruptcy filing may grow still further. The initial amount, for instance, does not include the bills for the underwriters hired last month to refinance the county’s debt.

Supervisor Steiner said the amounts needed to pay the attorneys and consultants were steep but inevitable. “It’s a lot of money,” Steiner said. “It adds to the county’s financial problems, but if the money is not spent the financial problems could get worse.”

Supervisors agreed to set the money aside Tuesday, with guarantees that the board will review all invoices and have power to deny payment.

Contributing to this report were Times staff writers Jodi Wilgoren, Lee Romney, Chris Woodyard, Susan Marquez Owen, Greg Johnson, Eric Bailey and Debbie Kong, and correspondent Shelby Grad.