Investment Raises Questions About State Pension Fund
Over objections from its own advisors, the board of the state’s largest public pension system decided to invest $100 million in a Texas-based partnership after being lobbied by a former board member and a powerful state senator.
The investment, approved in a closed-door session, was extraordinary in several respects. The involvement of both an ex-board member and a lawmaker may be unprecedented. The board rarely overrides its staff and consultants. And the deal was marked by alleged conflicts of interest, including a consultant’s sale of a yacht to the executive overseeing the investment.
Alfred R. Villalobos, a onetime trustee of the California Public Employees’ Retirement System, stood to gain at least $750,000 by persuading the pension board to invest in a $2.5-billion fund operated by Hicks, Muse, Tate & Furst.
In addition to contacting 10 of the 13 board members, Villalobos enlisted the help of state Sen. Richard G. Polanco (D-Los Angeles), who advocated the investment to the two elected officials on the panel.
The controversial investment was narrowly approved in March, although the board’s staff concluded that others had superior track records. The staff also warned that the private firm could profit as much as $40 million a year from fees even if the deal lost money for the pension plan.
The handling of the investment, critics say, raises questions about the pension board’s ability to make important decisions based solely on what brings the highest return to the 1 million public employees who are its beneficiaries.
“This is people’s . . . life savings they are counting on,” said Robert Fellmeth, director of the Center for Public Interest Law in San Diego. “This decision should be really on its merits. It is no place for legislators to be intervening to make sure their friends and people they favor get the money.”
Villalobos and Polanco, who have known each other for years, said there was nothing improper about promoting the investment and they believe that it will be a good one for California. Board members who were interviewed by The Times said they were not unduly influenced by them.
Employees, ranging from city workers and school janitors to judges and state highway workers, are covered by the pension system. Currently more than 300,000 people are collecting retirement benefits.
The integrity of the pension investment decisions is particularly sensitive because the board largely operates in secrecy and controls $120 billion in assets. Normally, pension fund trustees make investment decisions in closed-door sessions and the discussions are never revealed, even after the deals are completed.
Last month, Sen. Adam Schiff (D-Burbank), who chairs the Public Employment and Retirement Committee, attacked the board’s “lack of openness.” And he said that certain circumstances involving the Hicks, Muse transaction, such as an ex-board member contacting trustees, “call into question the propriety of this particular investment decision.”
He made his remarks during a hearing that followed news reports about questionable practices by state pension boards.
In an unusual step, Schiff’s committee released the transcripts of the pension board’s deliberations. Those transcripts, along with other documents and interviews, provide a window into the decision-making process of the nation’s biggest public pension fund.
Yacht Sale Draws Criticism
The $100-million investment, The Times found, was marked by a concerted lobbying effort and friction between investment professionals and a part-time governing board.
All those involved defend their actions as in the best interest of the pension fund and its beneficiaries--employees and retirees of the state and many local agencies.
Polanco said he became impressed with what he learned from Villalobos and Hicks, Muse senior partners. He said that there was nothing unusual about his going to bat for the investment and that he got nothing in return. “It is an outstanding investment,” he said. “I don’t pressure people.”
Villalobos, a former deputy of Mayor Richard Riordan, said he was careful to wait more than a year after leaving the pension board in 1995 before taking any deals to his former colleagues--the minimum time required by the state’s “revolving door” law.
While Villalobos was a member in 1994, the pension board made its first $100-million investment in Hicks, Muse. He was the representative from the state Personnel Board, to which he had been appointed by Gov. Pete Wilson.
That investment received the blessing of a consulting firm headed by Christopher J. Bower.
Nine months after Bower’s firm made its recommendation, he sold a 47-foot yacht to Thomas O. Hicks, chairman and chief executive of Hicks, Muse. Records show that the sale price was $300,000--$45,000 more than Bower had paid two years earlier.
Hicks said in an interview that he did not see the potential for a conflict of interest when he bought the boat sight unseen, after having a relative inspect it.
He noted that Bower’s firm, Pacific Corporate Group, already had submitted its favorable recommendation. “They had finished all their work on us.”
When board staff members learned about the sale the next year, they questioned the appearance of a conflict of interest. Bower responded with a detailed memo, noting that he sold the boat at fair market value. The board’s attorneys concluded that the after-the-fact boat sale did not violate California’s conflict of interest law.
The law prevents an official or consultant from acting on a matter affecting anyone who has been a source of $1,000 or more of income in the previous 12 months.
Bower failed to disclose the yacht sale as required on his 1994 financial disclosure statement, records show. Pension officials have asked him to amend that report to include the transaction.
Hicks said he now regrets the purchase. “Because of what happened,” he said, “I certainly wouldn’t buy a used car from someone involved in the process.”
Disagreement on Companies’ Worth
Last year, Hicks, Muse--which buys companies, reorganizes them and sells them for a profit--approached the pension system with a new $100-million opportunity. The partners purchased radio and television stations as well as products such as Jiffy Pop popcorn, Campfire marshmallows and Chef Boyardee.
As with the previous investment, Pacific Corporate Group reviewed it and recommended a commitment. Because more than 12 months had passed since the yacht purchase, the consulting firm had no legal conflict of interest.
But the Public Employees’ Retirement System’s staff, records show, concluded that Hicks, Muse was paying too much for the companies it was buying and chose not to take the investment to the board for approval.
Hicks decided to fight the staff decision. “It’s important to us to maintain a long-term relationship with CalPERS,” said Hicks, who is planning a new $2.5-billion fund for 1998.
Hicks said he hired ex-board member Villalobos “to make the case directly to the board. It’s the only time we’ve ever had to do it.”
Villalobos quickly began contacting board members, setting up meetings with Hicks and his partners in an attempt to secure the investment. He said his fee for the work was within the standard range for a $100-million investment--$750,000 to $2.5 million.
At 53, Villalobos knows his way around California politics. A Republican, he held an appointed job in state government under Gov. Ronald Reagan. In 1993, Riordan named him a deputy mayor, reportedly at the urging of City Councilman Richard Alatorre, who once hired Polanco as an aide.
But Villalobos left City Hall at the end of 1993, after Times reports that years earlier he had filed for personal bankruptcy and had been sued by a Lake Tahoe casino over gambling debts.
Early this year, he was hired by Hicks, Muse as a “placement agent” and began talking to former colleagues on the board. One was Jerry Cremins, a longtime labor leader and retired president of the state Labor and Construction Trades Council, who was appointed by the Legislature.
Cremins said that after talking to Villalobos, he asked the staff several questions about the investment and was not satisfied with the reasons for rejecting it. He became a champion of the Hicks, Muse fund and began talking it up with other board members.
“There’s always some tension between staff and board,” he said in an interview. “The board ultimately makes the decision.”
Both Villalobos and Cremins sought Polanco’s support for the investment. Then the senator contacted two elected officials who sit on the pension board--state Controller Kathleen Connell and Treasurer Matt Fong, who both depend on lawmakers to approve their budgets.
Connell said she talked to Polanco once by phone and characterized the conversation as a “for-your-information call.”
Polanco introduced Fong to Hicks, Muse officials, according to a Fong aide. At a follow-up meeting, Fong told Polanco he could not support the investment.
Speaking Out for, Against Deal
In rancorous meetings in February and March, the board and staff debated the merits of the deal--with Cremins urging an investment in the fund, transcripts show. He noted that several other public retirement funds had invested in the partnership.
Barry J. Gonder, a senior investment officer for the pension system, argued that the last Hicks, Muse fund had made a 22% annual return for its investors--respectable, but far less than several other partnerships with new investment opportunities.
He complained that the Hicks, Muse executives were drawing multimillion-dollar salaries and that the Texas firm stood to profit even if the fund it created lost money for its investors.
State Controller Connell, who had 20 years of investment experience before winning her first elective office, angrily rebutted Gonder’s arguments. “I don’t care how many millions they make, as long as we make millions as well,” she said. “The way that venture capital deals are structured is so that the partners can become wealthy.”
The fund’s chief investment officer, Sheryl Pressler, reminded Connell that the controller had once said: “When we don’t sleep at night because our investments aren’t doing what we want, we don’t want our partners to sleep at night.”
The board in February asked Pressler and her staff to review the investment and make the deal if they chose to move ahead.
But within a month, the staff decided not to invest in Hicks, Muse. And this time, a consultant who replaced Pacific Corporate Group advised against the investment.
Although Hicks, Muse was a “high-quality organization,” the pension system already had too much money in partnerships with similar buyout strategies, said the consultant. And the firm was paying too much for some of the companies it was buying.
Connell praised the deal in part because Hicks, Muse was proposing to invest as much as 20% of its money in Latin American countries--emerging markets where the potential for big profits appeared high. But the consultant contended that Hicks, Muse lacked sufficient experience in international investments.
Unconvinced, Connell asked the board to authorize an investment of up to $200 million--double the proposed amount.
Fong, who had also been approached by Polanco, unsuccessfully urged the board to delay until the staff could compare Hicks, Muse with other investments.
Eventually, on a 7-4 vote--with Connell and Cremins in favor and Fong opposed--the board ordered the staff to complete the Hicks, Muse investment of $100 million.
The chairman of the investment committee, Charles P. Valdes, abstained.
In an interview, Valdes noted that Polanco had tried to reach him just before the meeting. He said he could remember only two other occasions in his 14 years on the board when a lawmaker had tried to contact him regarding an investment. The most recent one, he said, involved a proposal to invest in a car plant in Southern California.
“We didn’t do the investment,” said Valdes, who is a California Department of Transportation attorney. “If I recall correctly, this investment ultimately went bankrupt.”
