SEC accuses city of Victorville, others of fraud in bond sale

Ever since the Department of Defense shut down George Air Force Base in 1992, the high desert town of Victorville has struggled to reinvent itself.

The city encouraged massive residential and retail development. It invested in two new power plants. And it moved to transform the shuttered base into a thriving cargo airport.

But those efforts have mostly backfired, creating financial headaches and scandal for the city of 115,000 residents, perched 90 miles from Los Angeles on the edge of the Mojave Desert.

On Monday it got worse. The Securities and Exchange Commission accused the city, a key financial advisor and others of defrauding investors in a $13.3-million bond sale in 2008.

The SEC alleged that Victorville, its Southern California Logistics Airport Authority, an assistant city manager and bond underwriter Kinsell, Newcomb & DeDios Inc. in Carlsbad dramatically overstated the value of airport hangars to raise needed funds through the bond offering.

The suit, filed Monday in U.S. District Court in Los Angeles, contends that the authority valued the properties at $65 million when the city, the authority and the underwriter knew they were worth less than half that amount. The complaint also alleged that the financial advisors never disclosed that they took $2.75 million in bond proceeds.

The federal agency alleged that the false information made it impossible for potential investors to make informed decisions about the risk of buying the bonds.

“Financing redevelopment projects by selling municipal bonds based on inflated valuations violates the public trust as well as the anti-fraud provisions of the federal securities laws,” said George S. Canellos, co-director of the SEC enforcement division.

“Public officials have the same obligation as corporate officials to tell the truth to their investors,” he said.

The once fast-growing high desert city and the airport authority plan to “vigorously fight the case,” said Terree A. Bowers, a lawyer for Victorville. He dismissed as “technical” much of the fraud allegations.

“These actions are somewhat questionable given the city’s emerging recovery from the Great Recession,” said Bowers, a former U.S. attorney in Los Angeles. “It is certainly worth debating whether this lawsuit is in anyone’s best interest.”

The lawsuit comes at a pivotal time for Victorville. The city has been struggling to rebound from the recession and from such self-inflicted wounds as its ill-fated investment in a hybrid gas and solar power plant, defaults on bond payments and even a deficit-ridden municipal golf course.

The latest blow from the SEC, however, could crimp the city’s borrowing efforts further, said former Victorville City Council member Terry Caldwell, who left the council in 2010.

“The SEC complaint is a cloud over the city, especially in the bond market if the city wants to sell bonds for future projects,” he said.

Caldwell said the airport remains a crucial part of the city’s future economic success. The authority has been trying to develop a 132-square-mile area on and around the old George Air Force Base as a logistics airport for cargo traffic and aircraft maintenance and storage.

In addition to the city, the authority and the underwriter, others named as defendants are KND Affiliates; J. Jeffrey Kinsell, president of Kinsell Newcomb; Janees L. Williams, vice president of Kinsell Newcomb; and Keith C. Metzler, assistant city manager of Victorville. KND Holdings Inc., parent company of KND Affiliates, also was named as a relief defendant.

The suit also alleged that KND Affiliates misappropriated bond proceeds it collected as construction and property management fees related to the building of airplane hangars. Kinsell, a half owner, “had no construction experience,” the complaint said.

Lawyers for the bond underwriters and Metzler did not return telephone calls.

The crux of the government’s allegations centered on the city’s use of so-called tax-increment bonds to pay for a variety of developments. The projects included four hangars and a power plant.

Tax-increment bonds are not backed by the general treasury of the issuing government. Instead, they are secured and repaid from increases in property tax revenues that flow from the new value of improvements to the land, structures and real estate market conditions.

In early 2008, the airport authority borrowed $35 million in a private deal with a major bank, which the SEC wouldn’t name. Soon after, the authority sold $13.3 million in bonds to pay off part of that debt. That sale was premised on the value of the four hangars, which the city, the authority and the underwriters said was $65 million, according to the SEC suit.

That amount, the SEC alleged, was “vastly inflated.” The hangars were worth less than half that amount, roughly $28 million, according to the suit.

What’s more, the suit claimed, the defendants “knew that the assessed value of hangars was inflated.”

The authority, unable to raise enough money, eventually defaulted twice on its bonds.

Last July, a San Bernardino County grand jury investigation found that the city spent $103 million on the aircraft hangars, but that some $13 million of the funding remained unaccounted for.

Given the state of the city’s finances, Victorville Councilwoman Angela Valles, elected in 2010, said she was surprised that the SEC focused solely on the use of bond funds for the airport hangars.

“I was a little shocked,” said the outspoken critic of past city handling of financial matters. “That’s all they got? There’s $13 million missing.... It’s weak.”

Still, Valles said she has yet to see concrete evidence of corruption among city officials related to SEC investigation. “Is it incompetence or corruption? I still don’t know,” she said.

The allegations are the latest in a series of financial calamities that that have plagued the recession-flattened city.

The grand jury found that Victorville officials relied on questionable — possibly illegal — measures for years in a desperate attempt to avoid insolvency. They dipped into sanitation funds to help keep the city’s treasury solvent and lent water agency funds to bail out the city’s electric utility, the report said.

The grand jury report also blasted the city, whose council members also serve on the authority’s board, for diverting $2 million in airport bond funds to buy land for a city library.

“The city’s solvency, capacity to provide current services and ability to repay large debt obligations is a growing concern,” the grand jury report stated.

The airport authority was created to re-purpose the former military base for civilian use and serve as an economic driver for development in the high desert. The base closure eliminated about 5,000 military and 700 civilian jobs, a blow from which Victorville never fully recovered.

The city’s financial problems were exacerbated by the multimillion-dollar loss on a proposed hybrid gas and solar power plant near the airport. The 500-megawatt power plant was initiated and funded by the airport authority’s board.

The grand jury criticized the authority for failing to “conduct proper due diligence” before hiring Inland Energy Inc. in Newport Beach to oversee the development of the site.

Inland Energy also recommended that the city enter into a $182-million contract in 2007 with General Electric Co. to buy turbines for the plant. The bond issue at the heart of the SEC case was aimed at helping to make a down payment on the turbines.

Unable to secure the rest of the financing, Victorville was forced to pay GE $50 million to settle the resulting contract dispute.

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