County Closes Books on Bankruptcy Story

More than four years after its financial meltdown caused the nation’s largest municipal bankruptcy, Orange County on Tuesday dropped its final lawsuit from the debacle, clearing the way for 200 cities, schools, other agencies and the county itself to split up $860.7 million.

The money, generated from other lawsuits by the county, will nearly make whole most of the investments in the county treasury and is far more than most observers had predicted. It will be released this fall, bringing to a close a fiasco that shook Wall Street and undermined investors’ faith in what had been considered an ultra-safe municipal bond market.

Losses from longtime county Treasurer Robert L. Citron’s bad bets on low interest rates also prompted predictions that public services would be devastated in one of America’s wealthiest counties.

But by cutting its budget, diverting funds from roads and beaches and taking on a whopping $1.2 billion in new debt, the cash-strapped county and its wealthy transit agency repaid bondholders in full--though a year late--and kept other agencies from collapse.

Rising interest rates in 1994 caused the county to lose more than $1.6 billion in two investment pools administered by Citron. Schools, cities and other agencies had poured $7 billion into the pools. At the time of the bankruptcy, the pools held just 77 cents of every dollar invested.

Schools--the top priority in the county’s bankruptcy escape plan--will have recovered 97% of their investments once they receive their share of proceeds from the lawsuit settlements, county officials said. Cities and public agencies will recover 93%. But the county’s own funds will get back just 35 cents for every dollar of losses, according to figures provided by Tom Beckett, public finance manager for the county.

The $860.7-million recovery, including nearly $450 million from Citron’s main brokerage, Merrill Lynch & Co., “vastly exceeded what anyone expected” at the county, schools and cities when the litigation began, said J. Michael Hennigan, one of the county’s lead lawyers.

Investment experts too were left “slack-jawed” by the success of the suits, said Zane Mann, publisher of the California Municipal Bond Advisor. Mann initially had called the suits nonsense, joking that the county would do better suing the psychics and astrologers that Citron had consulted rather than the county’s brokers, lawyers, accountants and bond raters.

The county settled Tuesday with the bond-rating service Standard & Poor’s. It had sued S&P; for more than $2 billion, accusing the firm of breach of contract and professional misconduct in failing to sound the alarm about Citron’s strategies in 1993 and 1994, when S&P; gave its highest ratings to the county’s bonds.

S&P; Admits Nothing in ‘Very Token Settlement’

In the end, S&P; admitted no wrongdoing and agreed to refund just $140,000, representing a partial repayment of fees it charged the county for rating services in 1994. The amount is a “very token settlement” amounting to a fraction of the firm’s yearly legal fees in the case, noted John C. Coffee, a Columbia University specialist in securities law.

The county decided to seek a settlement after a series of adverse legal rulings that would have made it much more difficult to win a major judgment against the ratings firm.

Despite S&P;’s victory, the county’s total recovery “far exceeds the norm in securities litigation,” Coffee said, adding that it is particularly impressive given Citron’s recklessness before the bankruptcy and guilty plea to fraud charges afterward.

County lawyers calculated that if the extra earnings from Citron’s aggressive investments in 1992 and 1993 are subtracted from the losses of more than $1.6 billion in 1994, the net loss is about $800 million--less than the amount recovered by the lawsuits.

The county’s law firm, Hennigan, Mercer & Bennett of Los Angeles, had reached a $21-million settlement earlier this month with the other remaining defendants, 12 Wall Street firms that had extended Citron credit or sold him volatile securities.

But those and all the other recovered funds likely would have been tied up for months or even years while the S&P; case dragged on, officials said.

Attorneys from the firm met with representatives of the county and other agencies to discuss the S&P; suit--a “very difficult case that was going to take a very, very long time,” said Hennigan, the county lawyer.

“We had collected this amazing sum of money that in all probability was going to have to await the resolution of this case before it could be distributed,” Hennigan said. “There was near-unanimous support for the proposition that we had gone far enough, succeeded enough. . . . It’s like a football game. You’re not just playing against one person.”

Former California Treasurer Thomas W. Hayes, who oversaw the lawsuits on behalf of investors in the county pools, said the U.S. district and bankruptcy courts in Santa Ana will probably take about 120 days, or until October, to give final blessing to the settlements.

“I don’t anticipate anybody trying to slow this down,” he said. “I’m just happy to have it resolved. The people of Orange County are getting back quite a bit of money, and I just want to see it distributed now.”

County and OCTA Teamed Up for Bailout

The county shouldered most of the financial burden for the treasury collapse. County officials recognized that the only way to mollify irate investors was by repaying most of what they’d lost, giving priority to schools.

They hoped to persuade voters in June 1995 to approve a half-cent increase in the county sales tax, but wound up borrowing heavily when that failed, and diverting state transit funds, property taxes and motor vehicle license fees that otherwise would have gone to the county and the Orange County Transportation Authority.

By allowing transit funds to be diverted to repay $202 million in new bonds, the transportation authority also took on a large share of the bailout. But that money aside, the authority will have recovered 92% when the settlements are distributed.

Former authority executive director Stan Oftelie, who chaired a committee of pool creditors after the bankruptcy, said the county’s settlement of the final lawsuit took many officials by surprise. Public agencies around the county haven’t plugged the settlement money into their budgets because no one knew when it would become available, he said.

“There’s a saying that the world doesn’t end with a bang, it ends with a whimper,” Oftelie said. “There are still a few more steps before the process is over.”

A Pleasant Surprise for Several Agencies

Anaheim officials were among those surprised by the settlement, said city spokesman Bret Colson.

Because Anaheim had large budget reserves, the bankruptcy never interfered with major projects or day-to-day operations. But the recovered money “will allow us to more fully fund projects on the west side of the city in addition to replenishing our reserves,” Colson said.

Previous defendants who settled with the county include auditor KPMG Peat Marwick LLP, which paid $61.4 million; Wall Street firms Morgan Stanley, Dean Witter ($69.6 million), Credit Suisse First Boston ($52.5 million) and Nomura Securities International ($47.9 million), and law firms LeBoeuf, Lamb, Green & MacRae ($45 million) and Brown & Wood ($23 million). None admitted any wrongdoing.

The $860.7 million also includes $27.7 million that Merrill Lynch paid to settle a criminal investigation by then-Dist. Atty Mike Capizzi, again without admitting wrongdoing, and $25.8 million in interest accumulated on payments so far.

The resolution of the county’s suits leaves one significant lawsuit remaining: a separate action against Merrill Lynch filed by 14 cities and agencies that, unlike other investors in the county treasury, chose not to surrender to the county their right to sue the brokerage.

Their attorneys have suggested the suit could recover perhaps $50 million in losses, costs, interest and damages. It is pending in Contra Costa County Superior Court.

A Merrill Lynch spokesman declined to discuss prospects for a settlement.

Michael Kahn, a lawyer for the cities and agencies suing the brokerage, said there are no settlement talks, adding that he will push for the earliest possible trial when the two sides return to court next month.

“We’ve gotten most of our money, but we want all of our money,” Kahn said. “Our clients believe that Merrill Lynch’s behavior should be exposed to the public, and when a jury hears the full story, they will be appalled.”

Of the total recovered in the county’s suits, $9.7 million will go to Hayes, the former state treasurer overseeing the lawsuits. The formula to pay Hayes, devised by the agencies that lost money, called for him to get nothing until settlements totaled $200 million, and then 1 1/2% of anything over that.

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Times staff writer Greg Hernandez also contributed to this report.

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Financing the Bankruptcy

Orange County emerged from its 1994 bankruptcy in 1996, but will continue paying for it well into the next century. The county borrowed about $1 billion to restore most losses suffered by the 200 agencies that lost money when two county investment pools collapsed. Status of the debt, which won’t be repaid until 2026. Dollar amounts in millions:

Program: Recovery Certificates of Participation

Total borrowed: $760.8

1999-2000 payment: $62.5

Repayment due: 2026

Revenue Source: Diverted state transit dollars that would have gone to the Orange County Transportation Authority, plus property tax revenues that would have gone to the county’s parks department, flood control district and redevelopment agency. Diversions end in 2016.

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Program: Series A Recovery Bonds

Total borrowed: $278.8

1999-2000 payment: $14.5

Repayment due: 2015

Revenue source: State motor-vehicle license fees that otherwise would be available to the county general fund. County intends to use proceeds from the bankruptcy lawsuits to pay $247.5 million still owed on the bonds.

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Program: Special Financing Authority Revenue Bonds

Total borrowed: $155

1999-2000 payment: $7.5

Repayment due: 2014

Revenue source: Delinquent property taxes, related penalties/interest

Source: County of Orange; Graphics reporting by JEAN O. PASCO / Los Angeles Times