UPDATE 4-California city goes bust amid claim of false accounting

Thu Jul 12, 2012 12:03am EDT

* Concerns that California could face wave of local bankruptcies

* San Bernardino third California city to declare bankruptcy

* City's revenue fell as housing market collapsed

By Jim Christie

SAN FRANCISCO, July 11 (Reuters) - Officials in San Bernardino, California, scrambled on Wednesday to explain the city's surprise decision to seek bankruptcy protection, with the city attorney backing away from his suggestion that fraudulent accounting may have contributed to the city's problems.

At a late afternoon news conference, City Attorney James Penman, who the day before had told the city council that financial documents had been falsified for years, said: "I do not know if there was criminal intent or not."

Penman added that "evidence of suggested wrongdoing" had been turned over to unnamed government agencies. He declined to elaborate on his comments to the city council.

Mayor Patrick Morris earlier told Reuters that Tuesday night was the first time he had heard of falsified financial information. He said there had been a recent instance in which budget figures were not reconciled with audited financial statements, but said that may have just been "sloppy budgeting analysis."

San Bernardino's city council voted on Tuesday night to file for bankruptcy, marking the third time in recent weeks a city in California opted to seek protection from its creditors. The vote followed a presentation by city staff which said the city would be out of cash within weeks.

The staff report said San Bernardino, a city of about 210,000 residents approximately 65 miles (104 km) east of Los Angeles, faces a crushing budget deficit of $45 million, which represents almost 38 percent of its general fund budget.

Unlike Stockton and Mammoth Lakes, the two other California cities that filed for bankruptcy recently, San Bernardino had given no advance indications its situation was dire. It is not clear why the city had not proceeded with a state-mandated mediation with creditors ahead of a move toward bankruptcy.

"The suddenness of San Bernardino's bankruptcy vote is troubling when other options were available," Dick Larkin, director of credit analysis at HJ Sims, said in a report.

Standard & Poor's Ratings Services downgraded San Bernardino's bond rating on Wednesday to speculative grade from investment grade and placed the rating on its CreditWatch with negative implications for further downgrades.

The city's abrupt action renewed concerns that California could face a tidal wave of local bankruptcies, but the state has so far appeared unaffected by the financial problems of its local cities.

A spokesman for California State Treasurer Bill Lockyer said the bankruptcies will not affect the state as it prepares to issue $10 billion in short-term debt in August.

"We expect heavy investor demand for the revenue anticipation notes," said Tom Dressler, a spokesman for treasurer.

HOUSING BUST RIPPLES

Like Stockton, a city of almost 300,000 that filed for bankruptcy protection in June, San Bernardino has seen revenues plummet as a result of the housing meltdown. And like many cities across California, San Bernardino is saddled with expensive union contracts and public employee pension obligations that were agreed upon in flush times and are extraordinarily difficult to modify.

Home building boomed in Stockton and San Bernardino in the early 2000s, boosting the budgets of the blue-collar cities. But by the end of the decade both cities had some of the highest foreclosure rates in the country, and property values and property tax revenues were in a free-fall.

San Bernardino's general fund revenue peaked at $133 million in 2008 and has been dropping since then. In the fiscal year that ended in June, the city had just over $78 million in general fund revenue.

Mammoth Lakes, a ski resort town of about 8,000 residents, last week filed for bankruptcy due to a nearly $43 million legal judgment against it.

By contrast, Stockton and San Bernardino see Chapter 9 as a way to restructure budgets hammered by steep revenue losses after their respective housing markets crashed.

The municipal debt market saw Stockton's problems building, said Marilyn Cohen of fixed-income investment firm Envision Capital Management in Los Angeles: "Everyone who follows the muni market knew Stockton had got itself into a real pickle."

San Bernardino had money problems but they seemed in hand. "There was no reading the tea leaves on this one," Cohen said.

WORSE THAN MESSY BOOKKEEPING?

Bad record-keeping was a factor complicating Stockton's attempts to keep its books in balance, said Marc Levinson, the attorney representing the city in bankruptcy court, and it may turn out that San Bernardino had similar problems - or worse.

"In Stockton we have the problem that the books and records just weren't very good," Levinson said, noting that also was a problem for Vallejo, California. He represented the former Navy town during bankruptcy proceedings from 2008 to 2011.

A report on San Bernardino's budget and financial options to the city council sheds no light on its bookkeeping issues but does stress the city's expenses have outpaced its revenue.

Despite cutting about $10 million a year and 20 percent of its workforce over the past four years, San Bernardino lacks the cash to meet its contractual obligations, the report said.

To balance its books in recent years, San Bernardino has cut positions, won pay concessions from its employees and imposed new revenue measures. But that only partially offset falling revenue, and the city now faces the end of agreements with its employees to hold down salaries and benefits.

The report proposes San Bernardino cut more costs, consider tax measures to put to voters and seek concessions from its employee unions. That includes potentially asking them to pay part the city's share of contributions to pension accounts.

The report also proposes a hiring freeze, cutting overtime for firefighters, consolidating some services and public works program and deferring equipment purchases.

Additionally, the report urges deferring funding for the city's retiree health and workers' compensation programs, improving revenue collection from fees, including fees for false alarms for police services, leasing city property and looking into using part-time or contract employees and sharing firefighting services with neighboring communities.

The report makes no mention of the city's creditors. According to its fiscal 2010 annual report, the city at the end of that year had $131.8 million in outstanding tax allocation bonds, $47.9 million in outstanding pension obligation bonds and $12.4 million in outstanding lease revenue bonds.

San Bernardino residents were shocked at how their city's bankruptcy plan unfolded. "How do you let it get this far? It's unbelievable," said Victor Garza, a 47-year-old photographer and resident of San Bernardino.

Municipal finance experts, meanwhile, said that even if there is no big wave of bankruptcies in California, they won't be surprised to see more.

"Who knows who's going to be next over there? It's gotten quite fashionable to file in California for Chapter 9," said Matt Dalton, chief executive of municipal bond investment firm Belle Haven Investments in White Plains, New York.

"Bankruptcies are absolutely the worst option until it's the only option," said Steve Duran, city manager of Hercules, California. "I don't think any cities are going there as sort of a convenience."

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Comments (4)
MrBroadshore wrote:
This happens when people in the San Bernadino area vote in Corrupt officials with doing research of what they have done. What these officials did in the pass. Being a Resident in the San Bernadino County. This problem can hurt us here in the county.

When well people wake up and learn that this problem well never go away. Voting these people into office for your city well also add repercussions of what is going on.

Jul 12, 2012 1:11am EDT  --  Report as abuse
Butch_from_PA wrote:
I know our city is still building parks and all kinds of city trucks are moving around during the day with no apparent cargo or reason.

City budgets got fat in the good times and did some big time spending – not saving for any rainy days or reducing spending when times got tough.

I am all for reduced city budgets and taxes – not adding more taxes to pay for sloppy financial administrating. Bankruptcy is in order.

Jul 12, 2012 3:33am EDT  --  Report as abuse
ejhickey wrote:
Isn’t San Bernadino the city that is considering using the power of eminent domain to seize performing mortgages from private investors and then resell the mortgages to other private investors , after taking a cut of the profits for the city coffers? After committing financial negligence bordering on , it looks like San Bernadino wants to add legalized theft to its repertoire.

Jul 12, 2012 12:22am EDT  --  Report as abuse
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