SAN DIEGO—San Diego City Attorney Michael Aguirre and members of his staff presented to the public on Wednesday a highly critical, in-depth review of the Kroll report in a special community forum at City Hall.
Members of the San Diego City Attorneys Office accused Kroll and company of rolling into town, taking the City for $20.3 million, and failing to fulfill the terms of their contract.
"Kroll did not conduct the comprehensive illegal acts investigation pertaining to violations of federal securities disclosure laws required by KPMG, the City's outside auditor," wrote Aguirre in an Aug. 13 editorial reponse to the Union-Tribune.
"The City Council acted only negligently, the City still needs to pay for all of the illegal pension benefits, SDCERS keeps the same attorney—essentially the same situation that got us in trouble in the first place, and San Diego citizens foot the bill," said Aguirre at the forum.
The City hired the risk management firm of Kroll, Inc. in 2005 to perform an independent investigation in order to reconcile the City Attorney's investigative reports with reports issued by Vinson & Elkins LLP, a law firm representing the City in its SEC investigation, and to conduct an internal investigation of the City's disclosure practices. San Diego has a $1.4 billion pension fund deficit.
KMPG, the company performing the City's audit, refused to release its 2003 audit without seeing the results of Kroll's investigation. The 2003 audit is essential to the City in restoring its credit rating, and borrowing money at competitive rates.
A Waste of Money, a Waste of Time
City Attorney Chris Morris characterized the Kroll report as a "regurgitation" of Aguirre's interim reports.
"Did they reconcile those reports or did they just mimic and mirror the factual allegations that Mike made a year ago? That's exactly what they did, but they charged $20 million," said Morris. "When it came time to answer the ultimate question of who's liable, they punted."
The City Council Knew What Was Going On
According to Aguirre the City Council knew exactly what they were doing in 1996 when they originally underfunded the pension system by adopting MP-1 (Manager's Plan 1). The council could not underfund the pension system without the consent of the pension board, which they secured in exchange for an increase in pension benefits.
"The point is, when you're dealing with eleven, ten, or even nine thousand employees, and you increase everyone's benefits retroactively all the way back to when they began, you're talking about basically hundreds of millions of dollars of debt that's been created," said Aguirre. "That debt was created by the 1996 City Council under the leadership of Susan Golding."
The council underfunded the system in 1996 by changing the method used to calculate the payments to the fund from an actuarial payment method (payments calculated using mathematical processes intended to maintain the fund) to a budgeted payment method (arbitrarily setting payment amounts using a political process, disregarding the monetary requirement to maintain the fund).
Every year since, the council has been provided with the required actuarial rate, but has consistently chosen to underfund the system.
Aguirre cited document after document showing the council acted knowingly to underfund the system, that the pension board went along with the council in exchange for increased benefits, and that the City knew the system was operating with an ever-growing deficit of unfunded liability.
In 2002, the council did the same thing all over again when they adopted MP-2 (Manager's Plan 2), which further increased pension benefits by 2.5 percent retroactively, and eliminated the balloon payments required under MP-1, thereby accelerating the growth of the deficit.
In a Feb. 27, 2002 City Council meeting, SDCERS Board member Richard Vortmann told the council, "The City is not paying from its current year budget the full cost incurred by the current year workforce for their ultimate future pension and retiree health benefits."
At the same meeting, City Auditor Ed Ryan said that the estimated payments were between 6 and 8 million dollars less than the required levels.
"It sounds like our own little version of the social security scandal here," said Councilman Byron Wear.
Similar to the 1996 change to the pension fund, in 2002 benefits were again increased and the underfunding was compounded. Aguirre demonstrated that the council broke the law when they knowingly failed to disclose the financial situation of the pension fund to investors.
These events precipitated an SEC investivation and loss of access to the bond markets for the City of San Diego.
Aguirre further charged that current councilmembers Toni Atkins, Scott Peters, Jim Madaffer and Brian Maienschein were not merely negligent as the Kroll report concluded, but knew full well what they were doing.
He contends that Councilmember Donna Frye cannot be viewed in the same light because she consistently stood up for SDCERS Board whistle blower Diann Shipione, requested an independent audit of the San Diego pension system in 2003, requested the creation of an audit oversight committee, and has protected residential sewer customers from subsidizing large industrial users. When it comes to wastewater issues, Frye herself has served as a whistle blower.
Do the Enhanced Benefits Have to Be Paid?
According to Aguirre, although the Kroll Report concluded that certain pension benefits approved by the City Council in 1996 and 2002 were illegal, they still must be paid. Aguirre claims that paying for the enhanced benefits will cost taxpayers more than $500 million. The City is currently seeking relief in the courts.
The Fourth District Court of Appeal has accepted a writ filed by the City of San Diego asking that the illegal benefits granted in 1996 under MP-1 and in 2002 under MP-2 be revoked.
According to a Aug. 17 press release from the City Attorney's Office, the Court of Appeal is requesting all other parties to file a response before August 28, 2006: San Diego City Employees' Retirement System; San Diego Municipal Employees Association; Local 127 American Federation of State County and Municipal Employees AFL-CIO; San Diego City Firefighters Local 145; and Plaintiff Chuck Abdelnour.
A jury trial is set for October 2006.
City Still Hasn't Settled with the SEC
Deputy City Attorney Mark Blake explained that on Sept. 20, 2005 the City released a proposed consent decree with the SEC.
"We basically admitted all violations of securities laws and that we were prepared, as the City, to settle with the SEC. A week later the City Council approved the City Attorney going forward in negotiating with the SEC," said Blake.
"Then on Nov. 30, we actually sat down with the SEC, indicating the willingness to do whatever it took to get this thing behind us. To date, the SEC has not settled with us."
Whose Interests Do Kroll and KPMG Serve?
The law firm of Wilkie Farr & Gallagher represents KPMG.
At the Aug. 8 City Council meeting where Kroll presented their report, when Aguirre asked Michael Young, co-counsel with Benito Romano of Wilkie Farr & Gallagher whether their firm defended KPMG in a case in which KPMG was charged with tax shelter fraud, Young answered, "We did."
"Look at how ludicrous this is," said Aguirre. "The lawyer who got $10 million to investigate us represents KPMG in the largest tax shelter fraud case in American history. Do you think they're independent from each other?"
"Here's KPMG—you've got the nine partners indicted, it's a disaster. They have to pay $450 million," continued Aguirre. "Guess who entered the picture to help out KPMG? Mr. Levitt."
Arthur Levitt, senior member of the three-person Audit Committee for the City of San Diego, presented the Kroll report to San Diego city officials on Aug. 8.
"Arthur Levitt steps forward and vouches for KPMG at a critical hour," said Aguirre. "Is that independent, or is KPMG a little beholden to him?"
According to Aguirre, Sanders and Aguirre met with representatives of KPMG in the fall of 2005 and gave the firm the green light to go ahead and prepare the city's financial statements, saying they were willing to admit the City's wrongdoing in order to preclude the necessity of the investigation, but KPMG refused to acquiesce, insisting the Kroll investigation was necessary.
"As you look at the power brokers who were involved on the other side of this—the Wilkie Farrs, the KPMGs, and the Arthur Levitts of the world—they viewed San Diego as an easy mark—where they could swoop into town and take us for $20 million, which they've done," said Morris.
"That angers me as a citizen of San Diego, and it angers me as a City Attorney. They've waltzed off with the money."
Where Are We Now?
According to Aguirre the City is in a time of crisis.
Aguirre reported that the City's wastewater system is in disrepair and under an EPA order to replace 50 miles of pipe a year. The water system must expand the capacity of the City's cleansing system and new technologies are needed to maintain the system.
Aguirre also disclosed that the City is not in compliance with a Department of Health Services order. The storm water system is facing a water quality control board order that is going to require a billion or more dollars, and the City has no way to finance it. In addition, there's no plan and no money available to catch up with repairs to the City's streets.
Calling for strong leadership and citizen support, Aguirre advocated a top-to-bottom housecleaning of City Hall to correct the fundamental errors in the system, and get the City on a track that will ensure a healthy financial future.
"I would never recommend anyone put a dime more into the City until we're absolutely organized in such a way as to make sure that every dollar is spent for the public purpose," said Aguirre.
"The biggest thing I see is that pressure to spend the resources of the City on private, selfish interests is overwhelming. Doing things in the interests of the few at the expense of the many is what got us in the trouble we're in today."
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