Witness Says Lewis Eyed Auditor Award

Standing amid the ruins of Orange County’s collapsed finances, the county’s chief financial watchdog was still holding out hope that he would win the coveted 1994 excellence award from the Government Finance Officers Assn.

Auditor-Controller Steve E. Lewis pushed for the completion of an outside audit he hoped would show the world what a fine job he had done, according to the testimony of an accountant hired to make sense of the county’s finances. Less than a week before, the county had filed for bankruptcy.

“I expressed surprise that he was even considering that, and indicated that I did not imagine that that would be at all possible,” KPMG Peat Marwick partner Margaret McBride told the Orange County Grand Jury.

The picture of Lewis’ preoccupation with his own reputation--at a time when other county officials were scrambling to contain the financial disaster--is contained within thousands of pages of grand jury testimony.

It is one of many examples that portray an auditor’s office detached and oblivious as the county lurched toward financial catastrophe.

Despite the auditor’s duty as the county’s financial regulator, top staffers testified that they little understood the county’s ill-fated investment strategy.

Deputy Chief Controller Charles Hulse and Accounting Chief James M. McConnell told grand jurors that they did not fully understand basic federal and state laws governing municipal finance. They said they often relied on outside lawyers to sign off on questionable financial dealings.

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Here is how McConnell explained to the grand jury a series of financial transactions that may have violated federal tax laws.

“I guess I didn’t feel that great about it, but I didn’t think it was deceptive, no,” McConnell said. “We assumed that bond counsel knew what they were doing, and they had done this for other agencies, and that they knew their business.”

Prosecutor Jan Nolan retorted: “And don’t the county taxpayers pay you to know your business?”

“Yes,” McConnell replied.

Two weeks ago, the grand jury filed a civil charge against Lewis, accusing him of official misconduct for his role in the largest municipal bankruptcy in U.S. history. Lewis declined to testify before grand jurors, but he sent them a 38-page letter defending his actions. He is the only one in the office to be charged so far.

Together, the tenure of Lewis, Hulse and McConnell totals 77 years, and their combined annual salaries top $275,000.

Brian Sun, Lewis’ defense attorney, said the county auditor’s duties are narrowly defined and don’t include finding fraud in every instance and gauging the soundness of county investments.

“The auditor’s office is not the sort of fraud watchdog the public perceives,” Sun said.

He said Lewis did everything he could to monitor longtime County Treasurer-Tax Collector Robert L. Citron and the county’s financial practices. He said Lewis in mid-1993 urged KPMG Peat Marwick, the outside auditing firm, to evaluate Citron’s investments.

“At least Steve Lewis had the good sense and wherewithal to ask Peat Marwick to take a look,” Sun said.

Last week, the county sued Peat Marwick for $3 billion, alleging the auditing firm failed to warn about the county’s financial meltdown.

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The grand jury testimony shows that from the outset, staffers in the auditor-controller’s office were largely in the dark about how Citron was borrowing and investing hundreds of millions of dollars in public money. Hulse told grand jurors that his office simply didn’t have the ability to make sense of Citron’s exotic investments.

“We felt like we did not have the expertise within the auditor’s office to, you know, double-check their calculations,” Hulse told the grand jury. “We couldn’t afford to have a group of staff become experts in the treasurer operations because they were spread kind of thin.”

So while the auditor’s office scrutinized every other county department, Citron’s operation, which was investing hundreds of millions in taxpayer dollars, was not closely watched, according to Hulse. In four years, Hulse’s office performed one audit of Citron, and it did not thoroughly examine Citron’s investments.

“We presumed [Citron] had the ability since he was--had been a treasurer for a long time, and he had an outstanding reputation,” Hulse said.

Hulse told the grand jurors that Citron--who is now awaiting sentencing after pleading guilty to six felonies in connection with the crisis--was extremely protective of his bureaucratic turf and wary of any second-guessing.

“He didn’t like outsiders coming in and looking at his portfolio,” Hulse said of Citron.

Hulse said his office came to rely on assurances from then-County Budget Director Ronald S. Rubino that Citron’s strategies were sound. Hulse said that in 1993 Auditor-Controller Lewis considered sending a memo to then-Chief Administrative Officer Ernie Schneider raising concerns about Citron’s investments. Rubino, he said, talked Lewis out of it.

“Well, gee, we were surprised that Rubino was so up on what was going on, and he gave that--gave us a little additional comfort,” Hulse said.

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Both McConnell and Hulse said the auditor’s office relied on outside bond lawyers to ease their concerns that the county might have violated the law during a series of complicated financial transactions.

Some of the transactions involved the transfers of millions of dollars from the county’s general fund to allow more tax-exempt borrowing for Citron’s investments--a possible violation of federal tax laws. Prosecutors contend that other borrowing might have violated the law by dodging the requirement that certain debt issues be paid off within a year of issue.

McConnell said staff members were aware of legal limits, but that they relied on outside attorney Jean Costanza to give them a green light that the transactions were legal. Costanza’s firm was hired by the county to advise officials on bond issues.

“That’s what we’re paying the attorneys for,” McConnell testified.

Nolan questioned that explanation. “Then you think it’s [Costanza’s] responsibility and not your responsibility or Steve Lewis’ responsibility to see that prudence reigns in this county. Do you think that’s the best judgment?” the prosecutor asked McConnell.

“I don’t know what to say,” he replied.

McBride, the partner at Peat Marwick, portrayed an auditor’s office that never acknowledged deepening problems and was mired in denial to the very end.

McBride said her firm was hired to audit the county’s finances beginning in 1992. The review was supposed to include the investment pool that Citron managed for the county and scores of school districts and local governments.

McBride testified that although Lewis noted the fund was producing unusually high yields and relied heavily on borrowing, he did not seem worried.

“I don’t recall any expression of concern or problem,” she testified.

County officials vigorously disputed McBride’s characterization of events. Hulse testified that his office had repeatedly asked Peat Marwick for a close look at Citron’s investments.

In her testimony, McBride countered that no one in the county auditor’s office even bothered to mention a 1991 internal audit that had spotlighted irregularities in the county’s investment strategies.

She said a Peat Marwick senior manager who examined the county’s investment pool was assured by then-Assistant Treasurer Matthew Raabe that the county had taken steps to safeguard against a collapse. Peat Marwick saw no need to look any further into the pool’s management, she said.

McBride contends that even when problems arose in the county’s investment pools, county auditor’s officials played down the damage, which by June 1994, had resulted in a $400-million loss in the county pool’s value. Not until the pool’s collapse was imminent did county officials express serious concerns about its health--even discussing imposing a penalty fee to keep the investors from pulling out their money, McBride said.

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McBride testified that Lewis failed to disclose the severity of the problem until after Dec. 1, 1994, the day top county officials announced in a press conference the pool’s stunning losses.

“I think [Lewis] said, ‘We have been told not to talk about this with anyone,’ ” McBride testified.

“I’m your auditor,” McBride said she replied.

“And he said, ‘Well, we’d known before, about three weeks, that there are serious problems with the investment portfolio. We didn’t know exactly how bad they were, but it looks like they’re worse than we had thought.’ ”

At the time of the bankruptcy, McBride told Lewis the 1994 audit was incomplete in several areas. But she testified that Lewis pressed to finish the report by Dec. 31 “in order that he could receive the award for excellence in financial reporting from the Government Finance Officers Assn.”

The audit was never finished, McBride said, because the county appeared unable to provide needed financial information after the bankruptcy.

“They clearly were involved in other things,” she said.