Is Lehman claim tip of CPS debt iceberg?... Bankruptcy court says CPS owes $1.1 million because of derivatives speculations by Chicago Board of Education

In a strange twist of fate where the "market forces" are coming back to haunt and expose the dealings of the Chicago Board of Education in the derivatives market, lawyers for the now bankrupt Lehman Brothers are accusing to Board of Education of the City of Chicago of not holding up its part of a complicated financial agreement to speculate on future interest rates with a SWAP agreement totaling $95,350,000. The complex agreement was entered on December 8, 2003. The investment in question took place during the time Arne Duncan was CEO of the Chicago Public Schools and Michael Scott was Board President. Substance has been unable to find any public record in the Board agendas and proceedings that noted the controversial investment, or any record (other than a footnote in the annual Comprehensive Annual Financial Report) as to how CPS was investing in the controversial investment deals known as "derivatives".

According to a Brief filed (Lead Case Number: 08-13555-jmp) on November 18, 2009 in front of Judge James Peck of the United States Bankruptcy Court for the Southern District of New York, in response to the Board of Education’s objection to Lehman’s request to be paid, Chicago Board currently owes Lehman Brothers creditors more than $1.1 million and likely will owe Lehman’s future amounts over the course of the Interest Rate Swap Agreement which lasts until March 1, 2034. The Lehman Brothers case is moving ahead on behalf of the company's secured creditors. Lehman Brothers went into bankruptcy on September 15, 2008. The Lehman bankruptcy was one of the main causes of the abrupt decline in the economy following September 2008.

Rather than pay its obligations according to the brief, Chicago Board has attempted to take advantage of Lehman’s bankruptcy and has refused to perform under the Interest Rate Swap Agreement, in essence a breach of contract, according to lawyers in the case.

Attorneys for the bankrupt Lehman Brothers creditors write harsh and damming language as to the Chicago Board’s handling of the whole situation. They have stated in their brief that the Chicago Board has decided to "sit on its hands," and now ask this Court to "bless its conduct."

"This Court should not reward this behavior and, instead, should compel Chicago Board’s performance under the Interest Rate Swap Agreement," the brief asks.

This clearly implying that the Board violated its fiduciary duty under the law to either get out of the agreement, which there are provisions for or continue to pay its obligation however, either option would have required Chicago Board to pay significant amounts to Lehman Brothers. The Board, according to court filings, has done neither in effect dropping the ball on a $95 million dollar 30 year deal the Duncan/Scott administration agreed to.

During the 15 months since the Lehman bankruptcy began, there has been no mention of the controversial (and possibly illegal) derivatives deals at any public meeting of the Chicago Board of Education or in the agendas and other public reports of the Board. All of the members of the Board are supposedly private sector financial experts. Two Board members, Alberto Carrero and Norman Bobins, are retired bankers who would have been in a position to understand the law and the risks involved in the investments nor being discussed in bankruptcy court in New York City. Two other Board members, Peggy Davis and Roxanne Ward, are lawyers. The other two Board members (Clare Munana and Tariq Butt) are also reportedly business experts. The seventh member of the Board, Michael Scott, died reportedly a suicide, on November 16, 2009.

The Board has also refused to publicly discuss its investments, even in its public descriptions of its budget woes. The only indication from Board financial documents that there may be serious trouble comes in a line in the Board's annual budget showing an increase to $400 million from $200 million for "debt service." Nevertheless, CPS CEO Ron Huberman has gone public with the claim that all of the Board's future financial problems are caused by teacher pension costs.

It is clear now that the Chicago Board of Education had invested Chicago Public Schools funds in speculative derivatives through one of the many parts of the now-bankrupt Lehman Brothers investment bank. The information coming out in New York in the Lehman bankruptcy raises questions about how much money CPS lost from its investments over the past six years and what other public money — such as pension obligations which could have been paid into the Chicago Teachers Pension Fund (CTPF) — were gambled with these high risk investments by the Board of Education. The CTPF meets publicly every month, and its meetings have included disclosure of the losses the CTPF had during the period of economic collapse following the Lehman bankruptcy. CTPF is not a party to the New York bankruptcy discussed here.

What else is clear from these court documents is that there seems to have been a complete break down of any fiduciary oversight or management of the CPS budget to safe guard public money.

A careful reading of Board policy and state law indicates that there were serious legal questions about the legality of the speculation engaged in by the Board since 2003. It seems that the Board knowingly violating at least one Board of Education policy and one Illinois State law. During the period in question, the Board still did not protect the investments by taking action when Lehman’s filed for bankruptcy or as it became clear to many in the financial fields as early as 2006 and 2007 that derivatives were extremely speculative investments.

As the most recent legal brief concludes arguing that the Board has engaged in similar self-help (meaning the Board decided to do nothing), despite the fact that it had several available options to receive performance under the contract in conformity with the Bankruptcy Code. The Court should not countenance such disregard for the critical rights afforded to LBSF under the Bankruptcy Code, the brief states: clearly accusing the Board of blatant disrespect for the law.

It has apparently been against both Illinois law and Chicago Board of Education policy to do what CPS did. But the past year did not garner any investigation by the Inspector General James Sullivan of the Board of Education in his December 16, 2009, Annual Summary of reports and investigations for Fiscal Year 2009. This in the light of the CHICAGO PUBLIC SCHOOLS INVESTMENT POLICY, Section: 403.1, Board Report: 08-0827-PO1, Date Adopted: August 27, 2008 that specifically states XVIII. Prohibited Transactions - derivatives that are speculative in nature are prohibited.

Illinois law also prohibits the kind of investments that the court filing and briefs have revealed were being made by officials of the Chicago Board of Education because the Board was required to put its money in banks that met certain public service criteria. There is no evidence the New York and London based Lehman Brothers during the years 2003 - 2008 (when it declared bankruptcy) fulfilled these requirements under Illinois law.

According to 30 ILCS 235/ Public Funds Investment Act Sec. 2.5 Investment policy: clearly states — a public agency is authorized to consider the financial institution's record and current level of financial commitment to its local community when deciding whether to deposit public funds in that financial institution. As is well known now Lehman Brothers was insolvent and the Board of Education failed to protect the public money by not only investing in speculative derivatives but failed in its oversight to pull out of the deal when it had a chance.

In looking for a New Year's resolution it would be nice that someone get to the bottom of these illegal investments and tell the public how much financial liability CPS really holds now because of these bad investments. It would also be nice to see a few people go off in handcuffs for gambling with public money by breaking Board policy and State Law. 


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