County Racing to Seal a Deal With Option Bs

Orange County was feverishly negotiating late Friday with a group of dissident investment pool participants that is in a position to block resolution of the county’s bankruptcy, raising the specter of a default on county bonds and the appointment of a trustee by Gov. Pete Wilson.

But both sides expressed optimism late Friday that a settlement could be reached.

In recent weeks, concern had reached the governor’s office that a protracted legal wrangle by the dissident cities and agencies could endanger the county’s attempt to borrow enough money to retire $800 million in notes and bonds coming due in June, and jeopardize the county’s plan to emerge from bankruptcy by June 30.

Pressure to reach a settlement has been slowly building since late March, when U.S. Bankruptcy Judge John E. Ryan expressed concern that one group that lost money in the county’s investment pool would not share in the millions the county hopes to recoup from the Wall Street firms the county blames for its $1.64 billion in losses.

The judge said that in normal circumstances any money recovered from litigation would be equally distributed to those who are owed money by a bankrupt party.

“That’s not happening here,” Ryan told the county’s bankruptcy lawyers. “I’m putting you on notice that I have a problem with how this [group of municipal and agency investors] is being treated.”

The county has filed multibillion-dollar damage suits against Merrill Lynch & Co., the giant Wall Street brokerage firm that sold most of the securities on which the county lost money, and KPMG Peat Marwick, the county’s outside auditor that failed to detect problems with the pool’s investments.

Both Merrill Lynch and Peat Marwick deny any wrongdoing and have vowed to vigorously defend themselves in court.

Adding to the pressure is a looming legislative deadline for an overall resolution of the Orange County bankruptcy.

Under provisions of a bill by state Sen. Lucy Killea (I-San Diego) signed into law last year, Gov. Wilson is required to appoint a trustee on May 1 or thereafter if a final bankruptcy settlement appears unlikely. Wilson could delay the selection if he feels the county and others are on the verge of resolving their disputes.

The dissident investors negotiating with the county are 14 cities and government agencies that last year selected Option B under the county’s settlement agreement with the other pool investors. Under that option, they received 77% of the amount they had in their investment pool accounts before the investment losses were recognized.

Unlike the vast majority of the 198 pool participants that chose Option A, however, the 14 dissident agencies--which became known as the Killer Bs--retained their rights to sue for their losses instead of assigning such rights to the county. For surrendering their rights to sue, the Option A agencies were initially given a series of IOUs for their unpaid balances and promises they would share in litigation proceeds.

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In rejecting the county’s IOUs, the dissidents explained that they lacked confidence in the county and preferred to rely on themselves to get back the money they lost.

Although it had offered to let those choosing Option B the right to sue, the county proceeded to take legal actions aimed at keeping the dissidents from exercising that right.

Judge Ryan’s comments, and the fear that the bankruptcy plan would not get court approval before the county is able to sell more bonds to retire $800 million in debts due in June, caused the committee representing bondholders to meet with Wilson’s staff.

The governor’s office “was extremely concerned over avoiding any default on the $800 million because the state is right in the midst of the note season,” said Robert J. Moore, attorney for the bondholder’s committee.

“To the extent that there’s any serious threat of a massive default, it would have potentially very serious consequences throughout the state and to the state itself,” Moore said. “That’s why [the Senate] intervened in the first place” to establish a trustee if needed.

James L. Markman, city attorney for Buena Park, one of the dissenting cities, said the county raised the prospect of a trustee who might not be sympathetic to the dissidents to force the groups to accept the county’s terms for a settlement.

“We were being threatened with that,” Markman said. “We were told that a trustee would come in, take our whole position and trash it. I would call that an attempt to extort us.”

But, Markman said, the county suddenly softened its position this week, and earnestly began trying to reach “an equitable settlement.”

The Option B cities and agencies claim the county owes them $83 million--more than double the amount the county said it would pay under terms of the bankruptcy recovery plan. Last October, the group sued the county and Merrill Lynch.

Scott Johnson, chief counsel for a special state Senate committee on the Orange County bankruptcy, said an emissary from the governor’s office had weighed in on Wilson’s behalf with the various participants in the settlement tussle.

He said that Wilson’s deputy chief of staff, Kevin Sloat, warned both parties the governor would appoint a trustee if a resolution wasn’t reached soon.

“There is no doubt that everyone in the Capitol who is following this wants it settled,” Johnson said. “Orange County needs to get to market. The bondholders are extremely adamant about not rolling over those notes again--and who can blame them?”

Sloat declined to comment. But one Capitol insider said that Wilson plans in the coming weeks to begin the process for selection of a trustee.

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Patrick Shea, lead attorney for participants in the Orange County Investment Pool, said he expects a settlement, as does Bruce Bennett, the county’s lead bankruptcy attorney.

Shea said the agreement would call for the Bs to support the county’s recovery plan in return for “an agreed-upon distribution not inconsistent with the treatment of the A’s.” But he hinted the Bs may have to drop their lawsuit against the county.

“There are risks for everyone involved,’ Shea said. “We’re better off resolving this” before the May 1 deadline.

After Ryan’s remarks, both sides began talking about a settlement and sat down to negotiate last month at a session in San Diego presided over by a retired judge.

Irvine attorney Ronald Rus, who formerly represented agencies that are part of the Option B group, said that by holding out the Bs will end up better off than those who chose Option A.

“By sticking to their position, [the group] has finally demonstrated that the emperor has no clothes,” Rus said of the county. “The Bs are going to get everything the A’s got, plus everything the A’s gave up.”

The idea that the Bs might ultimately fare better has been a source of consternation for others. At the monthly meeting of the League of California Cities Thursday night, Irvine City Manager Paul O. Brady Jr. expressed concern that the hold-out investors could get a better deal.

“We want to make sure that the Bs don’t receive more than the A’s,” Brady said.

The Option B agencies are the cities of Buena Park, Yorba Linda, Atascadero, Claremont, Milpitas, Montebello, Mountain View and Santa Barbara; and the Buena Park Redevelopment Agency, the Santiago Water District, the Yorba Linda Water District, the Yorba Linda Redevelopment Agency, the Santa Barbara Redevelopment Agency and the Montebello Redevelopment Agency.

Times staff writer Davan Maharaj and correspondent Shelby Grad contributed to this report.