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Russell Moore: The RI Way—Do Business with Those You Sue

Monday, March 10, 2014


Russell Moore asks: How much faith can the state really have in its lawsuit when it retains the services of one of the very entities they’re suing in the first place?

There are folks who tell me that I’m just too damn hard on the Rhode Island state government.

Rhode Islanders like me, I’m told, just don’t get that there’s stupidity, incompetence, and cronyism in state governments from one shining sea to the other. The problem, they argue, is that Rhode Island is such a small and densely populated state where everyone seems to know each other through two degrees of separation and therefore we’re just suffering from overexposure and negative attitudes result.

Putrid Rhode Island gene??

I really wish I could agree with these people. The intense media coverage of Rhode Island does have people focused more intensely on the state government. I am convinced that if you can make it in politics in Little Rhody, you can make it anywhere.

After all, we are a state 45 miles long by 20 miles wide, yet we have three television news stations, a big daily newspaper in The Providence Journal (albeit shrinking), scores of weekly newspapers, non-stop talk radio that begins at 6 a.m. and goes until 9 p.m. at night, as well as incisive, hard-hitting blogs like golocalprov.com and wpri.com. And they’re all competing with one another to find government wrongdoing.

But just when you’re about to be seduced into thinking that maybe there really isn’t a “putrid Rhode Island gene”, to quote 630 WPRO’s Matt Allen (the ole “good enough mentality” or, to put it another way, the tyranny of low expectations, for those not acquainted with this ingenious term) after all, you then come across a situation that could really only happen in Rhode Island. And then you know for certain that there’s really something unique about this place. (And by “unique” I mean strange bordering on ridiculous.)

A parable

For instance, imagine if a person hired a contractor to work on his house. The contractor’s work then turned out to be so substandard that the homeowner was actually injured by the contractor’s negligence. The homeowner was then forced to sue the contractor for his malfeasance. That’s not so out of the ordinary—things like that happen all the time and it’s why we have a justice system.

But then imagine if that person during the lawsuit proceedings then went back and hired the very same contractor for a new, completely different job. It’s unfathomable that a human being could be such an ignoramus as to hire a person he was suing for negligence and downright fraud. Such a person would really have to really be a special kind of stupid. Welcome to Rhode Island!

That’s precisely what the state government did after the monumental financial demise of 38 Studios back in the early summer of 2012. Shortly thereafter, the state filed a lawsuit against a slew of entities, including First Southwest—the state’s financial adviser, led by the ever present Maureen Gurhigian—the company’s Rhode Island office managing director.

Among other things, the lawsuit alleges that First South West failed to tell the Rhode Island Economic Development Corporation—now called The Commerce Corporation—that the loan guarantee money wouldn’t have provided 38 Studios with enough capital to produce it’s game that was supposedly going to bring it a huge return on investment.

Destined for failure

The lawsuit also alleges that First Southwest gave false information about the company’s financial projections to bond rating agencies.

Those are some pretty fierce allegations. It stands to reason, that had the state known that the loan was basically doomed to fail because it would under capitalize the company that the state EDC would not have gone forward with the project. (Look, I realize that so much surrounding this project flew straight in the face of logic and reason, so this is a pretty big assumption. And as far as giving the rating agencies false information about the company’s financial projections—that’s pretty much fraudulent behavior.

Who knows if those assertions are really true or not—after all, they’re just the allegations of a state government that’s desperate to recoup bond money. The company, for its part, has said it plans to defend itself against them. And like anybody else, First Southwest deserves its day in court.

“Terrible job today, can you work tomorrow?”

But here’s what we do know. Ever since the lawsuit was filed heading towards two years ago, First Southwest has remained the state’s financial adviser. First Southwest continues to advise the state’s quasi-public agencies—which are really entities of the government—on bond sales, and other financial matter. It’s hard to overstate how ridiculous that is. It truly borders on Kafkaesque.

It means the state is accusing the company of providing incompetence and fraud, yet remains doing business with them and taking the company’s advice. When the state government, under the administration of Governor Lincoln Chafee, behaves in such a manner, can we really take anything else they’re doing seriously?

Further, let’s hope the state is divulging to bond buyers that it’s currently suing its financial adviser. That would only be fair to the bond buyers. Call me crazy, but it would give me pause to loan money to someone who is suing their own financial adviser, but still paying them for advice.

38 studios is the liability that seems to keep on taking. The word on the street is that the Securities and Exchange Commission is poised to punish the Commerce Commission (therefore, the state taxpayers) for the shenanigans that took place in the lead up and during the bond offering. Expect the punishment to resemble more of a roundhouse punch to the face than a slap on the wrist.

That means we shouldn't expect to be made whole, or anyting close to it, by the lawsuit. If anything, the 38 studios fiasco is going to cost us likely more, not less going forward.

Only in Rhode Island

How much faith can the state really have in its lawsuit when it retains the services of one of the very entities they’re suing in the first place? That alone should have been reason enough for the judge overseeing the proceedings to toss out the lawsuit in its entirety.

So the next time you’re complaining about the state of affairs in Rhode Island and someone accuses you of being a Negative Nancy, just remind them that we’re retaining the services of a company that we’re suing for negligence and fraud. It’s truly something that could only happen in Rhode Island.


A native Rhode Islander, Russell J. Moore is a graduate of Providence College and St. Raphael Academy. He worked as a news reporter for 7 years (2004-2010), 5 of which with The Warwick Beacon, focusing on government. He continues to keep a close eye on the inner workings of Rhode Islands state and local governments.


Related Slideshow: Providence Pension Liability

A new report shows that Providence’s pension fund—even after the recent reform—is still in trouble. The below slides break out the key numbers for the pension fund, including the unfunded liability, the assumed and actual rates of return, the current level of benefits, and how long it will take the city to pay off the unfunded liability. Figures are current as of July 1, 2013 and are taken from the new Jan. 31 actuarial report from Segal Consulting.

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Unfunded Liability in 2013

Total Liability: $1.2 billion

Actuarial Assets: $380.4 million

Unfunded Liability: $831.5 million

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Unfunded Liability in 2011

Total Liability: $1.2 billion

Actuarial Assets: $380.4 million

Unfunded Liability: $831.5 million

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Percent Funded in 2013

Funding Ratio: The ratio of the amount of actuarial assets to the amount owed.

Funding ratio in 2013: 31.39%

Percent unfunded in 2013: 68.61%

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Percent Funded in 2011

Funding Ratio: The ratio of the amount of actuarial assets to the amount owed.

Funding ratio in 2011: 31.94%

Percent unfunded in 2011: 68.06%

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Rate of Return

Former Assumed Rate of Return: 8.5%

New Assumed Rate of Return: 8.25%

What the state’s assumed rate of return is: 7.5%

What Moody’s Investors Service says the assumed rate of return should be: 5.5%

What investor Warren Buffet says the assumed rate of return should be: 6%

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Actual Return on Investment

Actual Market Return in FY 2012: 1.49%

Actual Market Return in FY 2013: 11.35%

Current Assumed Rate of Return: 6.42%

Average Market Rate of Return for FY 12 and FY 13: 8.25%

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Impact of Lower Rates of Return

$72 million:The city unfunded liability increased by this amount when the city lowered its assumed rate of return by a quarter of a percentage point, from 8.5% to 8.25%

$506.2 million: The estimated increase in the unfunded liability were the city to use the 6% assumed rate of return recommended by Moody’s Investors Service.

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Retiree Pay – Fire and Police

Number on Active Duty: 834

Average Annual Pay: $61,325

Number of Retirees: 587

Average Retiree Age: 65.3

Average Retiree Annual Pay: $40,512

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Disability Pensions – Fire and Police

Number on Disability: 418

Average Age: 64.8

Average Annual Pay: $59,028

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Retiree Pay – Other City Workers

Number of City Workers: 2,164

Average Annual Pay: $38,687

Number of Retirees: 1,453

Average Retiree Age: 72

Average Retiree Annual Pay: $18,252

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Disability Pensions – Other City Workers

Number on Disability: 88

Average Age: 66.8

Average Annual Pay: $18,684

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Current Cost of Pension Fund

For 2013

City Contribution: $58.1 million

Employees Contribution: $10.9 million

Net Investment Return: $18.1 million

Cost of Retiree Benefits: $95.4 million

Note: Net investment return is the return on investments after investment and administrative fees have been paid.

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Cost of Pension Fund in 10 Years

Normal Cost: $9.8 million

Additional Cost Because

of Unfunded Liability: $84 million

Total Annual Cost: $94.3 million

Note: Total figure for the year includes a small second payment for the deferred liability.

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Cost of Pension Fund in 20 Years

Normal Cost: $13.9 million

Additional Cost Because

of Unfunded Liability: $118.5 million

Total Cost: $132.4 million

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Paying Off Unfunded Liability

Average annual increase: 3.5%

Number of additional years to pay off: 27

Fiscal year unfunded liability to be paid off by: 2040


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