SACRAMENTO, Calif. - A California state court judge has ruled that the CalPERS board circumvented the law by setting up its own payroll system for 10 internal portfolio managers.
The tentative ruling from the Superior Court of California in Sacramento provides an initial victory for State Controller Kathleen Connell, who had sued the board of the $151 billion California Public Employees' Retirement System, Sacramento.
While the ruling will be appealed, it places a darker cloud over the pension fund's ability to hire and retain senior investment professionals. The fund already has experienced difficulties in filling certain positions in recent years.
"The bottom line for CalPERS is, this case would be decided in the appellate court level. This just hastens the day," said Patricia Macht, CalPERS spokeswoman. She said the judge ruled only on a conflict between two constitutional provisions but didnot examine the facts of the case.
"Limitations on compensation for public fund employees has long been a hurdle in attracting the best talent," said Richard Lannamann, managing director of Russell Reynolds Associates Inc., a New York-based executive search firm. "There still are many fine public servants who are outstanding investment professionals overseeing those funds, but the talent pool here is limited to those who are not concerned with maximizing their income," he added.
Last year, the California Department of Personnel Administration refused to put through 11% raises for the affected portfolio managers. Claiming authority under Proposition 162, an amendment to the state constitution that gives CalPERS protection from political interference and gives the board fiduciary responsibility for administering the system, the CalPERS board issued pay letters to Ms. Connell to implement the pay hikes.
Wouldn't honor letters
The controller, who also is a CalPERS board member, refused to honor the letters. The board then decided to set up its own payroll system and cut checks directly to the affected employees. On Jan. 31, Ms. Connell challenged the board's action in state court, arguing that the board is subject to state law (Pensions & Investments, Feb. 19).
At the time, James Burton, CalPERS chief executive officer, said in a press release that the lawsuit would threaten the fund's ability "to maximize and enhance its investment performance." The alternative would be hiring external money managers at a much higher cost, he had warned.
In court, CalPERS argued that it must be able to set salary increases in order to meet its fiduciary responsibility.
The court ruling, which has been temporarily stayed, said that CalPERS is subject to state law like other state agencies. "The authority to administer the retirement fund does not mean CalPERS has become a separate system that is no longer subject to existing state laws that apply to all governmental agencies," Judge Charles C. Kobayashi wrote. "By disregarding the authority of the (Department of Personnel Administration) and the controller, CalPERS has in effect decided the civil service and payroll laws do not apply to it and are not enforceable as to it," he added.
The judge held that Proposition 162 does not give CalPERS the power ignore other state laws. Case law and background materials "clearly indicate that the voters had intended to stop the raiding of the pension funds, not to grant the defendants unlimited authority to ignore state laws governing state employees," he wrote.
If CalPERS officials believed they were right, they should have challenged the controller and Department of Personnel Administration in court, the judge ruled.