PHOENIX – Recent opinions issued by the California attorney general's office may have some municipal advisors and broker-dealers treading carefully to avoid breaking Municipal Securities Rulemaking Board rules, but the net those opinions cast may be fairly narrow, municipal securities law experts said.
California Attorney General Kamala Harris issued the opinions last week in response to requests from public officials who sought clarification some bond practices sometimes employed in the Golden State.
The first opinion, requested originally by former Treasurer Bill Lockyer, said that school and community college districts violate California law if they hire outside firms to campaign for bond ballot measures or purposely incentivize municipal finance professionals to advocate for passage of a bond measure.
The second, issued in response to a request from the Riverside County district attorney's office, said that lawyers who work as city attorneys and also provide bond counsel services may not be paid based on a percentage of a city's bond issuances.
California attorney general's opinions are advisory and not legally binding on courts, but are generally considered authoritative by the officers and agencies who have requested them and given respect by judges.
Lawyers who examined the bond measure opinion believed it could influence practices, even if the type of wrongdoing they target may not be very common.
"The AG opinion focuses on the behavior of school districts but in a way that may further constrict some of these broker-dealer adapted practices -- such as not donating to a campaign until after being hired as an underwriter, "said Dave Sanchez, a public finance lawyer with Sidley Austin in San Francisco and Los Angeles.
"Pay to play" practices in bond ballot campaigns, in which broker-dealers actively supported bond referendums and subsequently won the underwriting business have been highly controversial, but market participants have said increased scrutiny and mandatory disclosures of contributions under Municipal Securities Rulemaking Board rules have rolled most of it back.
California law prohibits using public funds to influence the outcome of an election, including campaigning for the passage of a bond measure. Voter-approved bonds backed by special property taxes are the primary funding source for new school construction in the state.
Harris said school districts violate the law if they hire a firm for services that could be construed as campaigning for the bond measure and also if they contract to receive pre-election services from a firm in an attempt to induce the firm to contribute to the bond ballot effort.
Robert Doty, a lawyer and former financial advisor in California who now runs his own litigation consulting firm, AGFS, in Annapolis, Md., said he doubts the attorney general will drop the hammer on school districts.
"I do not see the AG's office pursuing enforcement actions," Doty said. "More likely, because there has been so much controversy regarding the bond ballot contributions, most market participants already have declined to follow the bond ballot contribution practices, and now still others will be deterred."
But the opinion could have implications for broker-dealers and municipal advisors, who have certain obligations to municipal clients.
MSRB Rule G-17 requires that dealers and muni advisors deal fairly in their business practices.
Rule G-42, approved by the Securities and Exchange Commission in December, imposes on muni advisors a fiduciary duty to place the interests of clients ahead of their own. That rule will take effect in June.
The MSRB has proposed extending its Rule G-37 on political contributions, which includes the required disclosure of such contributions, to cover muni advisors but that has not yet happened.
"I would think it would be a violation of MSRB Rule G-17 for an underwriter or municipal advisor to take action that is contrary to the AG's opinion," Doty said. "Among other things, it would place the issuer clients at risk, which would seem to be an unfair practice in violation of the rule. Maybe there could be an SEC or Financial Industry Regulatory Authority action on that basis."
Sanchez said that the opinion will force muni advisors to be careful in their business practices so as not to violate securities laws.
"Most of the prior attention in this area had focused on the behavior of investment banks because they were the only federally regulated entities. And the banks had largely adapted practices to alleviate concerns," Sanchez said.
"Most municipal advisor firms have not had to address these issues as carefully but they will need to going forward in light of both this opinion, their G-17 obligations and new MSRB Rule G-42," he said. "Amongst other things municipal advisor firms will have to reevaluate how they are compensated for pre-election work and the statements they make about their own conflicts of interest. And because of the way G-17 works they will have to monitor their campaign contributions even if G-37 is never extended to municipal advisors."
Arto Becker, a partner in the Los Angeles office of Hawkins Delafield & Wood, said the opinion on campaign activity does not make a clear statement that certain types of common pre-election work, such as drafting a bond resolution or performing a market analysis, are not considered campaign activity.
"Maybe that's not as clear as one would wish," he said, adding that whether or not something is campaign activity is not a "bright line" test. Becker said that this kind of preliminary work should not be considered campaign activity.
The second opinion on the compensation of lawyers doing double duty as city attorneys and bond counsel probably has a more limited scope, lawyers said. John Hall, a spokesman for the Riverside County District Attorney's office, said the request for that opinion stemmed from a 2011 citizen complaint regarding the legality of allowing contract city attorneys to receive a percentage of bonds issued as compensation for services rendered.
"In a subsequent legal analysis by our Public Integrity Unit, it was opined that the practice of allowing a contract city attorney to receive a percentage of bonds issued constitutes a conflict of interest in violation of Government Code section 1090," Hall said. "As a result, the District Attorney's office notified the subject of the complaint, who adamantly disagreed with our legal conclusion, as did some others in the legal community. Due to the conflicting legal interpretations and because there was no specific case authority on point, our office requested an Attorney General opinion."
The Riverside County DA's office was not surprised that the AG's analysis was consistent with its own, Hall said.
Becker said he didn't think that opinion would be likely to impact many attorneys.
"I think it is a very small group of law firms which serve as contract general counsel and bond counsel for the same public agency," Becker said.
Doty said the opinion on bond counsel fees has "limited facts," because bond counsel not serving as contracted general counsel are not affected.
"It does underscore once again the conflicts of interest that arise from contingent fees tied to the size of bond issues," said Doty.
California allows any member of the state legislature, the governor, lieutenant governor, secretary of state, controller, treasurer, the State Lands Commission, state education superintendent, insurance commissioner, any state agency, and any county counsel, district attorney, or sheriff, to request an opinion from the Attorney General.