Several readers sent accounts from the California press on the latest sordid chapter in a long-standing, large scale pay-to-play scandal at the giant California public pension fund, CalPERS. Earlier this month, state papers reported disclosed that the former CEO, Frank Buenrostro, had cut a plea bargain with Federal prosecutors and was turning evidence on his (alleged) former partner in crime, placement agent and former CalPERS board member Alfred Villalobos. We’d heard privately before that story broke that the charges against Buenrostro were about to be greatly expanded, which is likely what lead the former CEO to fold. But as a CalPERS insider told us, “It was a race to see who was going to cut a deal first.”
For those of you outside California, a post earlier this year gives a sense of the scale of this scandal:
CalPERS’ investments have been controversy-ridden since the early 2000s, but the “pay to play” scandal that Butka alludes to directly implicated the CEO and some board members. The former CEO, Fred Buenrostro, as well as the placement agent, Alfred Villalobos, were indicted in 2011. This is how Matt Taibbi summarized the case:
In California, the Apollo private-equity firm paid a former CalPERS board member named Alfred Villalobos a staggering $48 million for help in securing investments from state pensions, and Villalobos delivered, helping Apollo receive $3 billion of CalPERS money. Villalobos got indicted in that affair, but only because he’d lied to Apollo about disclosing his fees to CalPERS. Otherwise, despite the fact that this is in every way basically a crude kickback scheme, there’s no law at all against a placement agent taking money from a finance firm.
$48 million wasn’t the total Villalobos got; it was $58 million because he was pushing deals to CalPERS on behalf of four additional clients: Relational, CIM Ares, and Aurora Capital. And the part that has been curiously airbrushed out of every media account of this scandal is Villalobos was engaged in improper conduct, even if he had managed to get the needed sign-offs from CalPERS. He wasn’t a registered broker-dealer, as he was required to be when marketing deals on a regular basis.
As we’ll explain in due course, this omission appears to be deliberate, to protect the hides of Apollo and the other fund managers (referred to in the trade as general partners or GPs) who hired a placement agent they knew, or should have known, shouldn’t be in that business at all. And it also obscures the fact that CalPERS had tremendous leverage in dealing with these GPs. One of the remedies available under the securities laws when party who is not licensed engages in securities transactions is rescission, as in demanding that the deal be unwound and the funds returned.
To make a very short story of how this process worked, as Taibbi does state correctly, placement agents had to get written acknowledgments from fiduciaries like CalPERS of the fees paid by general partners. Indeed, many GPs insist on having the documentation in hand before paying the fees.
Villalobos used his personal relationships with Buenrostro and a CalPERS board member, Charles Valdes, who got improper political donations from Villalobos’ firm, to get them to lean on the investment team on behalf of his clients. It was also Buenrostro who signed the waivers without notifying the board as required. In two cases, the waivers were on crudely doctored-up CalPERS letterhead and dated after Buenrostro was no longer with the giant pension fund. There were other sordid chapters, like improper gifts and flights on private jets, but the real juice was in the coverup of the massive fees paid to Villalobos.
And to add insult to injury, as CalPERS beneficiary Tony Butka stressed:
….the 2009/2011 special review of placement-agent activity….culminated in a March 2011 Steptoe Report. That Report came at a cost to plan members of some $11 million, and ultimately CalPERS wound up in litigation, suffered millions of dollars in losses, and criminal charges ensued.
“I’ve never heard of a pension fund paying that kind of money” on an internal investigation, said Ed Siedle, an expert who investigates pension fund portfolios.
Friday, as the plea was entered in court, more seamy details became public. From the Sacramento Bee:
The first two payments were made in paper bags. The last installment came in a shoebox. The handoffs all came at a Sacramento hotel near the Capitol.
In a stunning admission covering years of corruption, the former chief executive of CalPERS said Friday he accepted $200,000 in cash, along with a series of other bribes, from a Lake Tahoe businessman who was attempting to influence billions of dollars in pension fund investment decisions.
Fred Buenrostro, who ran the nation’s largest public pension fund from 2002 to 2008, pleaded guilty in U.S. District Court to a charge of conspiracy to commit bribery and fraud. He has agreed to cooperate with federal prosecutors as they pursue charges against his longtime friend, Nevada businessman Alfred Villalobos, a former CalPERS board member.
Buenrostro, 64, admitted that Villalobos plied him with casino chips and a trip around the world, plus a high-paying job with his investment firm after leaving CalPERS. He also admitted working with Villalobos to create phony documents to ensure that Villalobos earned his multimillion-dollar fees representing a Wall Street private equity firm seeking CalPERS investments.
Most of those allegations had been aired publicly already. What was new Friday was the blockbuster admission that Buenrostro took $200,000 in cash from Villalobos. In his written plea agreement, Buenrostro said Villalobos paid him in three installments in 2007, “all of which was delivered directly to me in the Hyatt hotel in downtown Sacramento across from the Capitol.”
According to Buenrostro, Villalobos told him to be careful how he deposited the cash in order to avoid detection by banking authorities. “Villalobos told me to be sure to ‘shuffle’ the currency before making any deposit, as the bills were new and appeared to be in sequential order,” Buenrostro wrote.
Later, after he’d left CalPERS and the investigation into their relationship gained momentum, Buenrostro said he accepted an additional $50,000 from Villalobos, paid by check.
As one of our correspondents noted, “Gawd, this is like the Teamsters Central States Pension Fund and Las Vegas! It was only recently they got free of federal supervision.”
And this isn’t the only litigation against Buenrostro and Villalobos. The California state attorney general filed suit in 2010, and the SEC lodged a separate action in 2012. The state AG managed to get Villalobos’ assets frozen, which included, per the Mercury News (hat tip EM):
….20 bank accounts, two Bentleys, two BMWs, a Hummer, art worth more than $2.7 million and 14 properties in California, Nevada and Hawaii.
CalPERS made the expected pious noises about the latest developments. From its press release:
We condemn the misconduct and ethical breaches admitted today by Mr. Buenrostro. The violation of the sacred trust of our members, employers, and the public can’t be tolerated, and that trust must never be compromised.
“CalPERS has taken aggressive steps to implement policies and reforms that strengthen accountability and ensure full transparency. We are committed to serving our 1.6 million members with the highest ethical standards and trust.
CalPERS looks forward to justice being served in this case and for the individuals involved to be held accountable for their actions. We will continue to cooperate with the prosecutors and others in law enforcement and are grateful for their dedicated efforts on this matter.
The locals are not terribly impressed. From Ana, via-e-mail:
I live directly across the street from CalPERS headquarters, and looking off my balcony I can see the building is enveloped in a haze of denial and obfuscation. They are circling the wagons over there. ;)
PS: I do not believe for one minute that only these two people were aware of what they were doing. There had to be people in their mutual offices who knew of and assisted in all the jet setting, meeting scheduling and so forth that was involved.
And as we pointed out in our earlier post:
There are plenty of reasons for skepticism. First, CalPERS has such a well-established pattern of pay-to-play abuses that the legislature barred those payments in 1997. Astonishingly, a CalPERS board member got the law overturned.
But second is the decision to hire a law firm. Generally speaking, corporations will elect to pay the higher price tag of law firms for this sort of investigation precisely because they want to take advantage of attorney-client privilege; otherwise, you’d use a consultant or accounting firm for this sort of work…
The third reason to be skeptical is CalPERS is perfectly positioned to do accountability theater. Their beneficiaries have little ability to influence the organization. Seven of the thirteen member of the board are selected by the state government or are members of it.
And if CalPERS were really living up to its “the lady doth protest too much” claims regarding transparency, pray tell where is the accounting on the deals it cut with the private equity firms that paid the eye-popping fees to Villalobos? When it released the Steptoe report, CalPERS tried to assuage the public by claiming it was going to recover $200 million….in fee credits. As we wrote:
….we have absolutely no idea whether this fee recovery proved to be remotely worth its face amount. As readers of this blog know well from the junk credits in various mortgage settlements, anything other than cold, hard, cash payments are likely to have a lot of air in them. Moreover, CalPERS has never released a detailed agreement, which raises the possibility that this was never properly papered up.
Moreover, this deal assures that CalPERS will continue to do business with the very same firms that hired an clearly dubious placement agent, by virtue of not being properly licensed and supervised by the SEC. By contrast, when a Defense Department contractor is found to have engaged in abuses, they are put in a penalty box and barred from doing new business for a set period of time.
Moreover, as we can see now that we have access to private equity fund limited partnership agreements, even if CalPERS got these fee reductions, the odds are high that they were simply offset by charges elsewhere. These agreements called for reductions in management fees. But recall that investors like CalPERS have a high percent, typically 80%, of other fees that private equity firms charge (most important, transaction and monitoring fees) credited against those management fees. So if the management fees are reduced, the private equity fund is very likely to wind up whole by virtue of getting to keep more of those other fees than it would have otherwise.
That’s why, as the Sacramento Bee stressed in a recent editorial, the time is long past for CalPERS and other public pension funds to provide far more in the way of disclosure of the fees paid and other details of their dealings with private equity general partners. As the SacBee pointed out:
The reasoning behind the disclosure waiver was to protect investment strategies. But they seem to have done a better job of protecting the ability of public equity firms to line their pockets with the public’s money. This is an issue ripe for legislation.