No One Looks Good in Pictures Painted by Grand Jury Probe : Transcripts: Those involved detail deceit in year before bankruptcy, frantic finger-pointing as magnitude of investment pool losses became clear.

It was just before dawn when Orange County’s leaders, frazzled and frightened, turned on one another.

In hours, one of America’s wealthiest counties would declare bankruptcy. But in the cold, empty Hall of Administration that morning, years of deceit, incompetence and arrogance were about to catch up with the county.

Supervisor Roger R. Stanton, flushed with rage, stood toe-to-toe screaming at the county’s chief administrator, top auditor and the assistant treasurer who two days earlier had helped oust his disgraced boss.

“You, you and you. You’re all in big trouble over this,” snarled Stanton, pointing and jabbing with his finger, according to grand jury testimony obtained by The Times.

On that Dec. 6 morning in 1994, last-ditch efforts to rescue the county’s fast collapsing investment pool were failing. The governor refused to help, as did the state treasurer. A call was placed to the president, to no avail.

Arthur Levitt, chairman of the U.S. Securities and Exchange Commission, tried to force reality on the county’s leadership. You created the problem. You fix it, he told them.

But grand jury transcripts show that the county’s five elected supervisors and its ranking officials were either ill-equipped or unwilling to come up with their own solution.

Milling around the hallways that morning, county officials were gripped by a sickening realization: “If we try to solve it, the argument could be made we were responsible, and we don’t want any indication we were culpable,” then-Finance Director Eileen T. Walsh recalled Stanton saying.

That sentiment seized county government and revealed that the seemingly tightknit “Orange County family” that had worked side by side for years was a dysfunctional mess.

Over nearly 50 days of secret testimony before the grand jury investigating the county’s financial collapse, witnesses told the story of a government riddled with cronyism, career-driven politicians, and bureaucrats obsessed with protecting their backs.

It was a government of fiefdoms ruled by elected officials whose underlings had learned not to question decisions.

This was a bankruptcy that was years in the making.

*

It started with a big lie.

It was the fable of Robert L. Citron, the county’s quirky treasurer-tax collector with a penchant for out-sized turquoise baubles and garish neckties. A man revered as some sort of financial wizard. Seemingly by magic, the arrogant USC fanatic parlayed the idle millions entrusted to him by the county and nearly 200 schools, cities and special districts into $7.4 billion last year.

To the delight of county officials, Citron came up with yet another way of producing cash at a time when the Legislature was taking it away. While other counties dealt with the harsh budgetary realities of the early 1990s, Orange County officials didn’t question their good fortune or the “genius” who supplied it.

By late 1993, the county’s general fund--its principal checking account--was fat and some $100 million in newly tapped interest earnings would soon be pouring in.

Although many of the county’s top officials later told the grand jury that the mushrooming interest payments were a mystery to them, some employees acknowledged that they found them highly curious.

While their bosses pleaded ignorance, mid-level accountants told the grand jury of schemes to pump up the amount of money available to the county through a creative shell game that enabled it to constantly borrow and reinvest new money.

The goal was to feed the general fund, jokingly referred to by county insiders as the “retarded sister” for its failure to produce the same high interest earnings as other, less active county accounts.

But prosecutors told the grand jury there was no magic being performed in the treasurer’s office. There was just a plain, old-fashioned scam.

It began in July 1993, when then-Budget Director Ronald S. Rubino went searching for ways to patch the hole left by the loss of state funds, prosecutors allege. He hatched a plan with his old buddy Citron and then-Assistant Treasurer Matthew Raabe, they claim, to siphon off the interest earnings of other investors and stash them in a rainy-day fund that would one day grow to roughly $150 million.

“[Rubino] said that Mr. Citron had been doing a tremendous job earning interest over the last 20 years, and that the [other] people who were in the fund were being very well rewarded,” Raabe testified.

Besides, it wasn’t really stealing, Citron was quoted as saying in testimony read to grand jurors. After all, the pool’s investors were still reaping a healthy 7.85% in interest on money entrusted to him, a rate they should be “very happy” with, Citron reasoned.

“I didn’t use the . . . term ‘skimmed’ because I felt in my own mind there was nothing wrong with it,” Citron was quoted as telling investigators.

What’s more, Citron said, “I remember Mr. Rubino saying, ‘If the state doesn’t come through, Bob, this money will certainly save us.’ ”

Raabe testified he was told to keep the scheme to himself.

“They told me they didn’t want department heads informed,” Raabe said, “because [they] were greedy, particularly the people . . . responsible for social welfare programs, the sheriff, people in health care.”

And they didn’t want the pool participants to know either, Raabe continued, “because they had the general view that people didn’t always know what was best for them.”

Citron claimed “that he had checked it out with county counsel and everything was fine.”

But Assistant Dist. Atty. Jan Nolan, addressing the grand jury, said that what the trio was doing amounted to stealing.

“Had the bankruptcy not occurred, this would never have been discovered [and] this scheme ever brought to light,” she said, shortly before Rubino was indicted earlier this month on two felony counts of aiding and abetting Citron’s interest skimming.

“I think the evidence shows pretty much that the three of them sat down,” Nolan continued. “They had a conversation about this. They kicked it around and they all knew what was going on.”

Citron, 70, pleaded guilty in April to six counts of securities fraud and misappropriation of funds, and agreed to assist in the grand jury’s continuing criminal probe. He will be sentenced in February.

But prosecutors said skimming wasn’t enough to feed the county’s appetite for revenue. As a result, Citron cooked up other ways to borrow more money to invest in increasingly exotic and supposedly higher-paying securities, they said.

Along the way, Citron attracted praise instead of scrutiny.

If there were suspicions about the county’s interest windfall or investment risks, none of the supervisors ever expressed them, former County Counsel Terry C. Andrus testified.

Even if ranking officials had expressed concerns, Citron would have resisted any efforts to oversee his operations, former County Administrative Officer Ernie Schneider testified.

Two members of the county budget staff testified that when they did raise questions about the interest earnings, their boss, Rubino, gave them only cryptic answers.

“This is the kind of thing [that] if a grand jury ever asks, you don’t want to know,” budget manager Steve Franks testified Rubino told him.

The first public questioning of Citron occurred during a contentious election campaign in the spring of 1994. John M.W. Moorlach, the first challenger for treasurer in 20 years, expressed doubts about the safety of Citron’s investments.

It was Moorlach’s campaign against Citron that began to expose Orange County’s big secret.

In April, Citron received a telephone call from an attorney on the staff of the U.S. Securities and Exchange Commission in Los Angeles. After the call, Citron “was very concerned and he was nervous,” testified lobbyist Lyle A. Overby, who advised Citron on how to handle attacks from Moorlach.

At Overby’s urging, Citron called Andrus.

“Mr. Citron began by stating that he was in a campaign with some people who weren’t nice, and they were playing dirty politics,” Andrus testified. “He didn’t really think it was the SEC. He thought it was dirty tricks or something.”

The SEC inquiry provoked panic among Citron’s inner circle. A decision was quickly made to meet with the regulators outside Orange County, “where somebody from the press might get wind of the meeting,” Deputy County Counsel Robert Austin testified.

A game plan was devised to prevent damage to the county and its investments.

“Follow-up should be oblique,” Austin’s notes about the meeting read. “Not suggest any particular direction. Otherwise might plant seed for [the SEC’s] follow-up.”

A second note suggested how Raabe and Citron should handle the questions: “Don’t add information. Don’t contribute beyond what they are asking.”

During the three-hour SEC meeting, Andrus testified, “Mr. Citron might have spoken for about five minutes.” Raabe did most of the talking, he said.

On May 5, 1994, shortly after the meeting with the SEC, Andrus testified, there was a conference call involving Austin and the Wall Street rating agencies that advise prospective buyers about the relative safety of bonds and notes.

While reading notes made during that call, Andrus said, he noticed that Austin’s account differed from that of Jean Costanza, a Los Angeles lawyer retained for many years as the county’s bond counsel.

“In Miss Costanza’s [account],” Andrus said, “it appeared that the consequences [of rising interest rates] would be very drastic, and according to Mr. Austin’s notes, it appeared that the consequences would be serious but not as drastic.”

Both Austin and Costanza had been talking to the rating agencies about the vulnerability of Citron’s investment pool. If interest rates set by the Federal Reserve Board continued their upward spiral, a 2% rise in interest rates would wipe out the pool’s liquidity. A 3% rise might sink it altogether.

Andrus testified: “The word ‘disaster’ was used in Costanza’s notes.”

*

Seven months later, Costanza’s scribbled memo would turn out to be prophetic.

But with Citron’s June 1994 reelection on the line and a $1.3-billion slate of summer borrowings at stake, county officials embarked on a plan to keep the SEC inquiry secret, according to grand jury testimony.

On the advice of outside attorneys, the county deliberately delayed a request by SEC investigators for financial documents for four to five weeks, Austin testified.

“There was a feeling that if [the SEC] didn’t get the documents until after the election, that the matter would be kept more confidential,” Austin said. “The concern was that they would start contacting the broker-dealers and asking them a bunch of questions, and that would alert people to an investigation by the agency.”

Andrus decided not to reveal the SEC inquiry to his prime client, the Board of Supervisors, for fear the county’s ranking officials would blab and trigger a run on the troubled investment pool, Austin testified.

Later, Schneider testified, Andrus told him he didn’t tell the supervisors “because if I told one I might have to tell them all. If I told Harriett [Wieder] it would be everywhere.”

When Schneider asked why Andrus had kept him--the county’s highest-ranking officer--in the dark about the SEC inquiry, Andrus replied: “Because you didn’t need to know.”

Having successfully kept the SEC’s inquiry under wraps, Citron went on to win reelection. And the county continued its dicey investing, issuing more than $1 billion in new bonds and notes that summer.

Costanza, who was assuming the leadership role in the crisis, maintained the secrecy. She told county attorneys that potential buyers of county bonds and notes did not need to know that SEC investigators were probing the risks in the fund, Andrus testified.

And no one was alerted that Citron’s magical aura was fast disappearing.

Raabe testified that he had begun to fear Citron’s seeming inability to resist risky investments. Especially after the increasingly frail and timid treasurer told him in May or June that he had been consulting psychics to make financial decisions, and they’d already predicted his election win, Raabe testified.

In June 1994, after the county issued $600 million in taxable notes--purely to redouble some of its investments--Raabe made Citron promise “that would be the very last time he would leverage any securities.”

A month later, Citron’s favored broker, Merrill Lynch & Co., expressed new doubts.

Broker Michael G. Stamenson asked Raabe to meet him for dinner at the Four Seasons Hotel in Newport Beach, Raabe testified. “He said that he and Merrill Lynch were concerned . . . about the amount of leverage Mr. Citron was continuing to increase in the investment fund.” But Citron brushed aside Stamenson’s cautions, Raabe testified, and continued to leverage the pool even more.

By September 1994, Raabe said, he was concerned enough to call Stamenson and ask the broker to have Merrill Lynch “put pressure on [Citron] to curtail some of the investment activities. I thought that the leveraging was getting out of hand at that point.”

A month later, Raabe testified, he was near panic. Risking Citron’s wrath, he shared his concerns with Schneider and Auditor-Controller Steve E. Lewis. On the advice of Costanza, the officials decided to hire a New York firm to analyze the pool.

Raabe ordered a senior employee in the treasurer’s office not to execute any securities trades without his approval. “She asked me if that included Mr. Citron, and I said yes,” Raabe testified.

Led by Schneider, an emergency committee of Finance Director Walsh, County Counsel Andrus, Auditor-Controller Lewis and Assistant Treasurer Raabe “would meet regularly after Mr. Citron went home.”

For weeks, the New York firm analyzed the investment pool, Raabe testified, and at first it appeared that the county faced a trading loss of half a billion dollars.

But on Nov. 3, Raabe gathered a group that included Deputy County Counsel John Abbott, to explain that the county’s loss would be $2 billion if it had to sell off its securities. Abbott said the meeting was “couched in terms of not letting the information out until we are ready for it to get out.”

But that same day, the county’s troubles began to multiply.

Irvine Water District Chairman Peer Swan came in demanding to withdraw $400 million from the pool. The pool’s problems were downplayed, Abbott testified, for fear Swan would leak the county’s troubles to others.

During the meeting, someone from the county suggested continuing to keep the financial troubles secret from the elected supervisors, Abbott said. Swan vigorously agreed, saying, “We absolutely don’t want them knowing. All hell would break loose,” Abbott recalled.

On Nov. 8, with the supervisors still out of the loop, the possibility of declaring bankruptcy first came up during a meeting in Andrus’ office, Abbott recalled.

That same day, Abbott, Austin and Raabe received what Abbott called the “Angel of Death call.”

The county’s hired SEC specialist “explained in graphic and somewhat gory terms, frightening terms, what he perceived to be the possible worst case or doomsday scenario with respect to the pool. . . . He went through what a $2-billion loss would mean nationally, not only to the municipal market, but to the treasury market,” Abbott recalled in his testimony.

A series of increasingly panicked conference calls and meetings followed. Andrus brought up whether Merrill Lynch and Citron could be held liable for the debacle.

On Nov. 10, Raabe and other county officials finally alerted supervisors in a series of individual meetings.

As the group continued making the rounds, then-Supervisor Gaddi H. Vasquez asked Andrus to stay behind, Andrus testified.

“Is this what Moorlach appeared to be talking about?” Andrus said Vasquez asked him.

“Yes, it sure sounds like it,” Andrus replied.

Two weeks later, on Nov. 22, during a conference call with Standard & Poor’s rating agency, Raabe continued to assert that “there was no pending disaster. That this was just a liquidity problem,” Abbott testified. Costanza reassured the agency that “there really wasn’t a major problem as far as cash flow is concerned.”

By Dec. 1, a Thursday, even Costanza could no longer contain the problem. The county held a press conference to announce its investment pool had a so-called “paper loss” of $1.5 billion.

Two days later, the New York firm analyzing the county’s investments predicted a meltdown if the pool wasn’t liquidated by the time Wall Street opened the following Monday morning.

That day, a Saturday, Costanza called an emergency dinner meeting of top county officials--excluding Citron and the supervisors--at Prego, an Italian restaurant in Irvine.

The mood was tense, Abbott told grand jurors. Where the talk had previously been of liquidity, now the word was liquidate, he said.

Increasingly alarmed, someone suggested using cash in the Economic Uncertainty Fund--Rubino’s secret rainy-day fund--to bail out the county, Abbott recalled.

But Raabe quickly responded, “ ‘Well, we really can’t use all that money because it’s not all ours.’ And he went on to explain that it was partially the county’s money, but also partially the other investors in the pool,” according to Abbott’s testimony. “I think a lot of people were miffed by that.”

But, Abbott testified, Lewis also “had knowledge that it wasn’t all the county’s money. . . . I think he expressed, well, that X amount of this is the county’s money. . . . It was kind of clear what was everybody’s else’s money.”

Abbott testified that Lewis told the group that Austin had approved the shift of other participants’ interest earnings into the fund.

Abbott said he was shocked by the revelation. “It seemed fairly clear what was going on was illegal.”

As the anxiety mounted, Walsh testified, “There was a sentiment among certain county officials that everyone should get together and tell the same story.”

After the dinner ended around 10 p.m., Abbott and Andrus returned to the Hall of Administration and spent the next couple of hours researching what responsibility the supervisors had over Citron and if or how they could oust him, Abbott and Andrus testified.

The next morning, Andrus, Schneider and Costanza drafted a resignation letter and drove with Raabe and Lewis to the treasurer’s home. After a distraught Citron was persuaded to resign, Andrus called Walsh to have a psychiatrist tend to the county’s once-vaunted financial wizard, Walsh testified.

Later that day, the supervisors finally were summoned to the Hall of Administration to be briefed on the dismal condition of the county’s finances. In order to avoid violating public meeting laws, the supervisors had to be told individually.

Schneider’s aide, Lynne Fishel, recalled that the county’s elected leaders were cranky at having been called to the office at 1 p.m. on a Sunday.

“Several supervisors were wanting to leave and were wondering why one supervisor was being briefed ahead of them,” Fishel remembered. “I was out in the foyer and kind of running interference with the board members and trying to keep them in their offices to wait for their briefing.”

Throughout that day and into the night, county officials, consultants and attorneys tried to piece together a deal to liquidate the portfolio.

Paranoia erupted at a special closed session attended by the supervisors and Lewis, when Abbott started taking notes of the discussion. “There was concern or contention why I was taking notes during that meeting, and no one should take notes,” Abbott testified. “It got very contentious, as you may imagine. Everyone was looking to see who represented who.”

Supervisor Vasquez described a frenzied scene at the Hall of Administration. County officials and other people Vasquez said he had never seen before had to raise their voices just to be heard.

“There were people on cell phones talking in code words . . . that were totally unfamiliar to me. I did not know who these people were,” Vasquez told the grand jury. Vasquez, who had been on the board since 1987, resigned in September under pressure in the bankruptcy’s wake.

In a frantic search for help, county officials turned to Gov. Pete Wilson, U.S. senators and others, but were rebuffed by all. Supervisor Wieder suggested that the county simply ask the Federal Reserve Board to lower interest rates, Walsh recalled to the grand jury.

Wieder, a four-term board veteran, seemed most concerned that her retirement nest egg in the county pool not be diminished, Raabe testified.

When all their ideas failed, Raabe proposed selling the entire portfolio to Wall Street investors and swallowing a $1.3-billion to $1.7-billion loss.

That suggestion led to Stanton’s angry outburst at Schneider, Raabe and Lewis, saying that they were “the ones responsible for the mess, and that he was not going to take the blame,” according to the testimony.

The proposed sale also sparked a huge debate among county officials over the fiscal and political fallout of such a move, Raabe said.

By the time they finally agreed to dump the portfolio, Wall Street investors had lost interest and prepared for a fire sale.

In the end, bankruptcy appeared to be the only option.

Supervisors were flabbergasted.

“I perceived it to be more of what I would call a political, you know, ‘I need to distance myself from this to save my political integrity,’ I guess, for lack of a better term,” Fishel testified.

Andrus sensed a similar mood.

“My experience has been with most elected officials that when there’s bad news, they tend to look at it primarily in light of how it will affect them,” he said.

*

More than a year after the bankruptcy was declared, the finger-pointing and scapegoating continues throughout the Hall of Administration and among Wall Street financial firms.

The supervisors, auditor-controller, former county counsel, former assistant treasurer, former budget director and broker-dealers all refuse to accept responsibility for the county’s financial woes.

About the only one who has stepped up to claim any blame for the disaster is Citron. But even he now is claiming he was suffering from “dementia” and was manipulated by savvy Merrill Lynch dealers.

As for the supervisors, they promised to implement dramatic changes in county government to prevent another fiscal calamity, but so far little has been done. Their fiefdoms are still intact.

Supervisor William G. Steiner testified that he is not to blame because he relied on county staffers to do their jobs in a competent manner.

But when prosecutors asked him what duties his job required, he seemed to struggle for an explanation.

“There was no orientation as a new member of the Board of Supervisors. There was no training program,” he testified. “It was more or less to some extent sink or swim.”

It wasn’t until prosecutors asked him to read a section of state law spelling out the duties of a supervisor that he became acquainted with his legal obligations to the electorate, transcripts show.

Steiner told the grand jury he never thought it was his responsibility to supervise the conduct of other elected officials in the county.

In fact, he told that panel, he didn’t review Citron’s annual reports about the county treasury.

“I was not able to read the volume of material coming across the desk unless someone brought it to my attention,” said Steiner, adding that he relied on his office staff to help decide what warranted his personal attention.

But aides to supervisors testified that they didn’t have the financial backgrounds to fully understand the ramifications of all the paperwork that preceded the county’s massive 1994 borrowings.

Steiner’s executive assistant, Dean Olsen, admitted he had no idea why the county borrowed nearly $1 billion that summer and didn’t “have the knowledge” to ask questions about the deals.

The aides, in turn, were quick to deflect blame, saying they relied on the county administrator to provide sound recommendations.

But Schneider said he too lacked the expertise and the authority to oversee the treasurer’s operations.

Prosecutors, meanwhile, put the responsibility for supervising officials such as Citron squarely on the Board of Supervisors. And 19 grand jurors agreed, charging Stanton, Steiner and Auditor-Controller Lewis with willful misconduct in office.

“The supervisors have a lot of power,” Raabe testified. “I think there’s a lot of power that most of us are somewhat naive about. And I think when something happens, the first reaction of the power people is to find someone to blame.”

Andrus told the grand jury that even board members eventually grasped the implications of the county’s financial collapse.

He said he couldn’t recall which supervisor equated bankruptcy with “political suicide.” But, he said, “It was.”

Times staff writers Rene Lynch, Ken Ellingwood and Dexter Filkins contributed to this story.