Judge Backs Key Merrill Argument in County Suit

Orange County was dealt a crucial setback in court Friday when a judge gave Merrill Lynch & Co. the go-ahead to forge a defense that blames the county’s bankruptcy on the Board of Supervisors and other elected officials.

The ruling ultimately could help undermine Orange County’s effort to recoup its unprecedented financial losses through a $2-billion lawsuit against the Wall Street brokerage. The suit accuses Merrill Lynch of selling the county illegal and risky securities that ultimately forced its slide into insolvency.

Since the early days of the bankruptcy, county officials and Wall Street brokers have been pointing fingers at each other and trying to distance themselves from culpability in the worst municipal bankruptcy in U.S. history.

It’s a scenario that will be played out again as Merrill Lynch, bolstered by Friday’s ruling, tries to put the conduct of county officials on trial later this year. County officials, however, contend they have sufficient evidence to show that the brokerage took advantage of the county and is financially responsible for its losses.

Outside court, Merrill Lynch attorney Ronald L. Olson said he was elated by the outcome.

“This is the first step in establishing and putting the blame where it belongs, at the feet of the county,” Olson said. “This is an important victory for us.”

Shifting the blame for the bankruptcy to the county--and away from itself--is the crux of Merrill Lynch’s defense, making the ruling by U.S. Bankruptcy Judge John E. Ryan one of the more significant developments to date in the case.

The county’s bankruptcy attorney, Bruce Bennett, downplayed Friday’s losses and said any effort to project how the defense would work to Merrill Lynch’s advantage is premature.

“This was a day about procedures, nothing else. Nobody was dealt a major setback,” Bennett said.

Orange County was forced into bankruptcy in December 1994 after Treasurer-Tax Collector Robert L. Citron’s risky investment strategy produced a $1.64-billion loss shared by the nearly 200 cities, schools and other government entities that had pooled their money.

Since those devastating losses, Citron has resigned and pleaded guilty to fraud and misappropriation of public funds, and his former assistant, Matthew Raabe, and the county’s former budget director, Ronald S. Rubino, are fighting felony charges for their roles in the bankruptcy. Of the five supervisors in office at the time of the bankruptcy, two were were near retirement, a third has resigned and the other two are fighting accusations of misconduct in office.

Still more lies ahead, according to federal and local investigators who are now looking at the roles brokers, lawyers and other financial professionals played in the county’s financial collapse.

In issuing his ruling Friday, Ryan said Merrill Lynch “should have the opportunity to develop the facts.” Ryan retains the ability to strike such a defense in the future if the facts warrant.

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The county’s lawsuit argues that Merrill Lynch duped Citron into buying securities that were illegal under state constitutional guidelines limiting the amount of debt a county can incur.

Merrill Lynch sold the county 68% of the securities in its $21-billion investment portfolio, which included $14 billion bought with borrowed money, according to the suit. Merrill Lynch should have known better, the county’s suit contends.

But Merrill Lynch, which denies any wrongdoing, contends that Citron was a knowledgeable and experienced investor who knew exactly what he was doing, and had the blessing of the Board of Supervisors when he repeatedly represented to brokers in writing that the securities agreements were legal.

“What about the public policy of holding public officials responsible for their actions or inactions?” Olson asked, contending that after years of happily reaping the benefits from similar investment tools, the county is now back-pedaling.

The county’s attorneys, however, bristle at that argument. A common refrain among them is: “A bookie’s bet isn’t legal, even if the bookie says it is.”

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Friday’s rulings by Ryan were not a complete sweep for Merrill Lynch. The judge prevented the firm from using a handful of other potential defense arguments and drastically scaled back the amount of background investigation requested by the brokerage, decisions that will keep the case from slowing to a halt.

County attorney Bennett said he was pleased by those decisions, which he said virtually ensure that the trial will begin this year.

“The good news is that this accomplishes the goal we were seeking: to go to trial this year. And that’s a very good thing for the county.”

Merrill Lynch had asked Ryan’s permission to begin seizing financial records and other information directly from all the investors in the county’s pool--a mammoth task which some suggested could take more than 400 days.

The county argued that giving Merrill Lynch that opportunity would halt the case in its tracks.

Ryan set a tight, 30-day timetable that left the parties groaning. He also admonished both sides to work together and to keep the bickering to a minimum in a case that has generated thousands of pages of documents.

“You need to work together and come up with what is appropriate, necessary and feasible,” Ryan said, and then held up his hands to hush attorneys who were rising to their feet. “I don’t want a lot of briefs.”

* RAABE TRIAL SET

September trial scheduled for former assistant treasurer. A21