San Diego city attorney Michael Aguirre plans to sue a three-member audit committee — whose members include former Securities and Exchange Commission chairman Arthur Levitt and former SEC accountant Lynn Turner — as well as the law firms of Willkie Farr & Gallagher LLP and Vinson & Elkins LLP for millions of dollars, claiming they charged the city excessive fees and failed to fulfill their reporting obligations in connection with the city’s pension debacle.
Aguirre issued a 50-page report last week criticizing the firms and recommending that the city sue the audit committee and Willkie Farr for billing San Diego for more than $20 million of fees for work on a report that was to have been completed by the end of last year, but is now not expected to be finished until at least June. Willkie Farr was hired to work with the audit committee.
Aguirre talked about the report and his recommendations in a brief interview Monday night and said that he also plans to file a lawsuit against Vinson & Elkins, which authored two reports on the pension debacle for the city — regardless of whether the litigation is authorized by the San Diego city council.
“Although I’m going to try to get the council to authorize it, if they don’t, I’ll be taking legal steps directly on behalf of the city with regard to Vinson & Elkins and Kroll [Inc.],” said Aguirre, who was elected city attorney in 2004. “We’re going to follow through with the lawsuits in the next few months ... Under our charter, I have the authority to bring litigation when there’s wrongdoing.”
Kroll is an operating unit of Marsh & McLennan Cos. One of Kroll’s partners, Troy Dahlberg, teamed up with Levitt and Turner to form the three-member audit committee that was hired by San Diego in early 2005 to conduct an independent review and evaluate the findings of separate reports written about the city’s pension problems by Aguirre and Vinson & Elkins.
The audit committee is to provide its report to KPMG, the city’s auditor, which must decide if it can give San Diego audited financial statements for fiscal year 2003, so the city can again begin issuing tax-exempt bonds in the public market. The city has been privately placing bonds in lieu of public issuance.
The halt in bond issuance stemmed from the public revelation in early 2004 that the city had about $1.2 billion in unfunded pension liabilities — now estimated to be between $1.4 billion and $2 billion — due to a number of factors, including the underfunding of annual contributions and the creation of expanded retirement benefits, some of which may not have been legal, according to Aguirre, city officials and the Vinson & Elkins reports. The pension problems surfaced after Diann Shipione, a member of the pension board, complained that bond documents did not accurately disclose information about the pension system.
San Diego took steps to rectify the situation in early 2004, halting bond issuance and filing a material event notice disclosing the problems in a material event notice filed with nationally recognized disclosure repositories. The city, in February, also hired Vinson & Elkins, whose partner Paul Maco was former director of the SEC’s Office of Tax-Exempt Bonds under Levitt and a disclosure expert, to review the city’s pension problems and disclosure practices and to recommend improvements.
Vinson & Elkins wrote two reports. The initial one was completed in the fall of 2004 and detailed how the pension problems occurred over time. It also recommended a series of major steps for the city to take to improve its pension reporting and disclosure practices.
At the time, Vinson & Elkins hoped its investigation and the city’s remedial action would prevent the SEC from taking major enforcement action against the city. The commission and U.S. attorney’s office were investigating the pension problems and the city’s failure to disclose them.
KPMG rejected the Vinson & Elkins report in October 2004, saying in a letter to the city: “We do not believe that the city of San Diego has conducted an adequate investigation in order to conclude that likely illegal acts have not occurred, or that appropriate remedial action has been taken. Such an investigation is necessary in order for an auditor to complete an audit in accordance with generally accepted auditing standards and government auditing standards.”
In another letter later that month, KPMG told city officials: “If the city is prepared to proceed with an appropriate investigation, then we urge you to consider retaining counsel other than Vinson & Elkins.” KPMG questioned “[Vinson & Elkins’] willingness or ability in these circumstances to complete the investigation of, and reach conclusion on, the audit-critical questions … with an objective and independent manner.”
Nevertheless, San Diego expanded its contract with Vinson & Elkins and asked the firm to do a second report. That report, which was completed in July 2005, concluded at least six former officials and City Council members may have violated the federal securities laws by failing to ensure pension problems were disclosed in bond documents. KPMG also rejected that report.
Aguirre has contended that the Vinson & Elkins reports, for which he says the city was billed about $6 million by the law firm, were “a whitewash” that failed to fully hold city officials legally accountable. Aguirre, who conducted his own investigation of the pension debacle, issued reports that were much harsher against the former officials, claiming they had engaged in wrongdoing and intentional misconduct.
But Aguirre also faults Vinson & Elkins for not being able to resolve its differences with KPMG to come up with a report on the pension problems and allegations of wrongdoing that would have allowed the city to obtain audited financials in 2004.
In the report issued last week, Aguirre slams the audit committee and Willkie Farr, claiming they have charged the city excessive fees without the proper documentation for work that has still not been completed.
The report says that San Diego has been charged $900 per hour by Levitt, $750 per hour by Turner, and $450 per hour by Dahlberg.
The city attorney alleges that the committee billed the city for expenses associated with telephone calls, emails and meetings in which the committee lobbied the local newspaper to write editorials in support of the city’s paying the committee more money for its work.
“They didn’t want to give detailed bills because they didn’t want people to find out that they were spending lots of time on stuff they shouldn’t have been doing,” Aguirre said in the interview. “They used our money to lobby the newspaper to get the newspaper to lobby us to give them more money and that was not reflected in their bills.”
“Both [Vinson & Elkins] and Kroll were exploiters of vulnerabilities of the city,” Aguirre said. “Instead of helping the city do what it was required to do, they coordinated their efforts to help the people that were under investigation escape responsibility because that’s where the money was.”
The report claims the audit committee and Willkie Farr breached their contractual and professional duties to the city, failed to complete their work within specified deadlines, expanded the scope and cost of the work without authorization from the city council, violated city billing guidelines by submitting bills without proper documentation; and failed to operate independently from Vinson & Elkins or city officials.
Rather than independently review and evaluate the Vinson & Elkins and Aguirre reports, the audit committee began working with Vinson & Elkins, according to Aguirre. The audit committee sent a letter to the city council on June 10, 2005 stating that it had reviewed the work plan laid out by Vinson & Elkins and would “provide Vinson & Elkins guidance as to the structure and format for presenting their findings and work product to KPMG,” the Aguirre report said.
“Kroll’s independence from Vinson & Elkins was compromised as early as April of 2005,” the report said. “According to invoices submitted by [ Vinson & Elkins], members of the Kroll team began working directly with [ Vinson & Elkins] on preparing and drafting [ Vinson & Elkins’] second report.”
In fact, the audit committee obtained a memo from Vinson & Elkins detailing the findings of its second investigation before Vinson & Elkins provided the information to the city council and city attorney, the report said.
“It is difficult to see how Kroll could maintain its objectivity and independence in the task for which it was retained by the city — the review, evaluation and comparison of the [ Vinson & Elkins] and city attorney reports — when Kroll was working directly with [ Vinson & Elkins] in creating the firm’s follow-up report,” the Aguirre report said.
“Kroll also unilaterally elected to assert control over the production of documents in response to a series of subpoenas issued by the U.S. Attorney’s office and the SEC,” despite the fact that Vinson & Elkins was supposed to represent the city before the SEC, the Aguirre report said.
In a statement issued in response to the report, the audit committee, said Aguirre’s report “is filled with factual inaccuracies and unsupported conclusions” and that “Throughout the course of this assignment, the audit committee has acted professionally and independently, and will continue to do so.”
The committee complained: “Mr. Aguirre’s repeated efforts from the beginning of the investigation to undermine the audit committee’s authority and independence by falsely characterizing the audit committee’s mission and investigative activities have only served to increase the cost to taxpayers, prolong the time required and hindered the committees’ ability to complete an unbiased investigation, consistent with the SEC’s guidance for cooperation.”
The committee said that it was established by the San Diego city council, that its audit contract was approved and signed by the city attorney, and that it serves “at the pleasure of the council and mayor.”
“They along with the independent auditors for the city have been briefed regularly on the progress of the audit committee’s work and have been supportive of our work,” the committee said.
Attorneys at Vinson & Elkins and Willkie Farr could not be reached for comment. Levitt declined to comment beyond the audit committee statement.
