UA finance chief cleared in criminal investigation

The Washington County District Attorney has cleared University of Arkansas finance chief Don Pederson of criminal wrongdoing in connection with financial irregularities in the Advancement Division (find all related documents here). An attempted cover-up was not illegal. Was it ethical?

At issue in this particular investigation was the fact that the UA leadership had not disclosed the budget trouble to state auditors when it was discovered in 2012. The state audit conducted in 2013 states (p. 12):

“On October 25, 2012, during the exit conference for the University’s financial audit report for the fiscal year ended June 30, 2012, neither the Treasurer [Jean Schook] nor the Vice Chancellor for Finance and Administration [Don Pederson] disclosed to DLA staff information about the Treasurer’s report on Advancement issued six days earlier.”

The auditors concluded that the information about financial irregularities and the potential of fraud should have been disclosed to auditors, as (one would think) common sense would also dictate. But, it turns out, it wasn’t required by law, and the statement that Pederson did make to auditors in what is known as a Management Representation Letter – in which no mention of financial irregularities was made – was not technically false. Pederson’s base salary is currently $295,000, up from $250k in 2010. Treasurer Schook’s salary is $164,450, up from $118k in 2010.

Report by Arkansas Democrat-Gazette, April 30, 2014
University of Arkansas news release, April 30, 2014
Comment by Arkansas Blog, May 1, 2014

The new (and presumably final) investigation of the Washington County DA was prompted by of a group of state representatives, led by Nate Bell (best known for his far-right politics), who were surprised to see that the DA’s initial investigation had not addressed this particular matter. The result was predictable. The attempted cover-up was certainly unethical as well as poor judgment but apparently not technically illegal. As Arkansas Times’ Max Brantley put it:

“The University of Arkansas shaded, obscured and hid the truth about a huge deficit  in its advancement division. It got caught. Underlings took the fall. Dishonest behavior is not necessarily a  crime and sometimes it has no consequences, outside of public shaming.”

Update: Pederson will retire June 30, 2014 (announcement).

Speaking of dishonest behavior, it is interesting to note that the University of Arkansas Board of Trustees recently enacted a Code of Ethical Conduct (along with new policies on accounting, budgeting, and transparency). The new code states:

“Employees shall conduct themselves in a manner that strengthens the public’s trust and confidence by adhering to the following principles:

  • conduct that is beyond reproach and integrity of the highest caliber;
  • honesty and fairness; and
  • accountability, transparency and commitment to compliance”

Revolutionary stuff! In addition to admonishing everybody to follow all applicable laws (seriously!), the code states:

“Employees involved in the preparation of reports and documents (and information included therein) filed with or submitted to federal, state, and local authorities by the University are required to make disclosures that are full, fair, accurate, timely, and understandable. They may not knowingly conceal or falsify information, misrepresent material facts, or omit material facts. These same obligations also apply to other public communications made by the University.”

The code requires all employees to report suspected violations but there is no specific requirement to actually follow up and investigate such reports. The Academic Daylight blog has reported a number of dubious practices, including the under-reporting of the compensation of certain top administrators, dubious accounting practices in the UA Athletic Department, and violations of internal procedures in the approval of extra compensation to UA faculty. We also found that required workforce audits had not been conducted and that certain reports required by law to be posted online were not.

In none of these issues have corrections been made.

Doing well: Gearhart’s inner circle

Amid budget trouble, money was found for hefty pay raises to some UA top administrators

Arkansas Blog has published information compiled by John Diamond concerning some remarkable pay raises recently awarded to administrators connected to the University of Arkansas’ troubled Advancement Division. Recall that the Advancement Division is still running a deficit attributed to uncontrolled payroll increases. Some of the raises are due to promotions which Diamond contends were granted without following proper procedures. A University spokesman has denied that allegation, claiming that these positions had been posted and their pay reviewed. We haven’t seen the records proving or disproving this but point out that workforce analyses, salary and raise audits required under UA policy apparently have not been conducted in recent years. We have also reported on some remarkable extra compensation awards that were not pre-approved as required by policy.

Room for raises at the top

Associate Vice Chancellor for Development Mark Power received a whopping 32% raise, to $194,000. He took over in July 2013 for Bruce Pontious, who left in September. Power’s salary has gone up 57% in four years (he already was listed as Associate Vice Chancellor back in 2010). The salary comparison is based on the Administrator’s Compensation Survey (see last post for details). Chris Wyrick, who was promoted head of Advancement in 2013, now makes twice what he made in 2010. To be fair, he still makes less than his predecessor Brad Choate. It is noteworthy however that he already got a raise after only three months on the job, to $287,000. Shortly thereafter, Wyrick had to publicly explain offensive remarks he was reported having made.

Judy Schwab, another Associate Vice Chancellor in Chancellor Gearhart’s inner circle, got a 10% raise to $165,000, an increase of 26% over four years. Even more remarkable is a 15% raise for treasurer Jean Schook. Schook pleased Gearhart by assigning all blame for the Advancement Division trouble to Brad Choate and Joy Sharp, but found her own financial maneuvers severely criticized by the Legislative Audit.

Scott Varady, working as General Counsel for the System Office, was even awarded two raises in just a few months. He now makes $200,000, 32% more than in 2013. General Counsel has played a significant if somewhat covert role in the whole crisis. For example, they provided the fake justification for withholding records from journalists’ FOIA requests. When the prosecutor’s office investigated possible FOIA violations by UA administrators, the UA attorneys interviewed critical witnesses in presence of Gearhart’s private attorney. The conduct of these interviews on September 24, 2013 was initially revealed by John Diamond in legislative testimony. The UA has confirmed that the interviews have taken place but contends that no related records, notes, transcripts, or emails exist, and no comment has been made as to the purpose. Why did Varady’s taxpayer-funded salary make a sudden jump last December?

Denise Reynolds, named head of budget and HR for Advancement in 2013, received a 3% raise in July 2013 and then an additional 20% in October, retroactive to July. She now makes $92,500, 46% more than only two years ago. She was a witness in the Washington County prosecutor’s investigation of possible FOIA violations. The Democrat-Gazette reported on December 19, 2013 that top administrators Bruce Pontious (now retired) and Graham Stewart (leaving end of January for Vanderbilt) testified that Gearhart told them at a meeting on January 14, 2013 to “get rid” of budget documents, confirming the account given earlier by John Diamond (fired). “Soon after that September meeting with legislators, Reynolds supported Gearhart’s version of what happened. She told the Arkansas Democrat-Gazette that the Chancellor never told her to destroy documents or stop creating them.” The “get rid” quote was included in a draft version of the prosecutor’s report but was edited out of the final version. The Pulaski County prosecutor is currently investigating whether Gearhart lied under oath about what happened at this meeting.

Pay raises for selected University of Arkansas top administrators, 2010-2014 (table was revised to better reflect benefits)

Pay raises for selected University of Arkansas top administrators, 2010-2014 (table was revised to better reflect benefits)

A more comprehensive compilation of pay raises for top administrators (xls format) shows that a number of Vice Chancellors and Vice Provosts have done very well recently, with rates of increase better, and sometimes much better, than 20% over four years being the norm. Most faculty members and other UA employees were lucky to get any raises at all.

Gearhart, Choate, Diamond to testify before Legislature

UPDATE II:
Arkansas Blog relates this tidbit from the hearing:

There was a five-minute break during which Gearhart, Schook, and Pederson huddled up with fellow well-dressed persons and seemed in good spirits. Much of what Choate and (especially) Diamond said painted top UA officials in an ugly light, but little if any of it can be substantiated as unethical or illegal.
One man in the group of UA officials said to Gearhart and Schook, “after they finish asking all these questions, what are they going to do? I mean, what can they do?”

“Nothing,” someone else replied, “they have no authority.”

That’s the attitude.

UPDATE:
Full audio from the committee meeting
Brad Choate: Says UA ‘snookered’ legislative auditors. John Diamond describes Gearhart anger and freeze-out of newspaper
6 tell their sides of UA unit woes

All the main players in the saga of the University of Arkansas Advancement Division budget trouble are scheduled to appear and testify before the Legislature’s Joint Performance Review Committee today at 1 pm (agenda, meeting documents, press coverage here, here, and here). The meeting will give Brad Choate, who says he was scapegoated by Chancellor Gearhart, the chance to finally present his side of the story. This is significant because Choate signed an agreement with the University barring him from discussing these matters in public, except to assist an official investigation. The Legislative Audit Committee, at its December meeting, declined to hear Choate’s testimony. Choate’s prepared statement (actually, two versions of it) still found its way to the press (for a full list of related documents, see previous post). He says that he was “thrown under the bus” by Gearhart, contending that he merely continued practices that he inherited from his predecessor (Gearhart). His statement might be dismissed as self-serving but does make some plausible points. It is hard to understand why the Legislative Audit (DLA) never interviewed him, or several other officials with intimate knowledge of the Division, during their investigation. DLA also failed to interview Chancellor Gearhart and the time period under investigation was restricted to the years 2009-2012, excluding Gearhart’s own tenure as head of Advancement. DLA adopted many of the conclusions blaming Choate from treasurer Schook’s report despite her own (and finance chief Pederson’s) implication in questionable practices.

Former budget director Joy Sharp will for the first time testify in public to her role in the fiasco. She was the only UA employee punished with a pay cut. Both Sharp and Choate ultimately lost their jobs but Choate kept his $350k salary.

Former PR chief John Diamond will also testify, for the second time. His allegations that financial documents were destroyed were confirmed by investigations and other witnesses. Nevertheless, assistant prosecuting attorney Dave Bercaw chose to find that no laws were broken. The statement by Gearhart, confirmed by several witnesses, to “get rid” of Advancement Division budget documents was redacted out of the prosecutor’s final report. The prosecutor states that the document in question did not fall under a Freedom of Information request of the Arkansas Democrat-Gazette (failure to comply with FOIA is actually a criminal violation). Diamond and the newspaper dispute that. Diamond’s frustration about this “significant error” is palpable – he blew the whistle on outrageous behavior (albeit only after he had been fired), only to find that investigators are going out of their way to not see anything.

Legislators have also been unhappy with omissions in the prosecutor’s report and have demanded further investigation of CFO Pederson. And the Pulaski County prosecutor is reviewing whether Gearhart committed perjury when he denied, at the September meeting, ever having ordered the destruction of documents.

University harmed by resistance to accountability, transparency

The long awaited Investigative Report (pdf) by the Arkansas Division of Legislative Audit (DLA) was published Tuesday. Along with it, an Internal Audit Report (pdf) by University System auditors was also published. Both analyze the events and failures that led to the accumulated $4.2 million budget deficit in the University of Arkansas’ Advancement Division under then Vice Chancellor for Advancement Division (VCAD) Brad Choate. Academic Daylight has published an initial analysis. More analyses and background info can be found at Arkansas Blog, mostly written by Max Brantley (also here, here and here) and in the reporting of Arkansas Democrat Gazette journalists Tracie Dungan and Lisa Hammersly.

Self-inflicted PR desasters

The report constitutes the latest in a sequence of self-inflicted PR disasters for the University: first, a budget shortfall over several millions, accumulated due to sloppy accounting practices, was not detected for more than a year; then the University attempted to keep the details from the public, which prompted a FOIA (Freedom of Information Act) lawsuit by the state’s most powerful newspaper, the Arkansas Democrat-Gazette. The University’s position was legally untenable if not outright deceptive and officials soon had to disclose the records in question, as well as initiate audits both by the University System’s own internal audit division and the Legislative Audit, a step that had been contemplated earlier but wasn’t deemed necessary until public outcry made it inevitable. The newly appointed Division head Chris Wyrick went to work restructuring the unit with much fanfare but when the media wanted to know details, University officials again opted to stonewall, a tactic which was protested by the Media Relations director John Diamond and allegedly led to his firing. Diamond’s revelations about a hostile work environment and an institutional culture averse to transparency and accountability to the public inflicted further damage on the University’s reputation. Have officials, first and foremost Chancellor David Gearhart (who Diamond alleges issued a “no-talk-directive”) learned any lessons? Time will tell.

So, the audit report – initially expected around May – is finally here. The University’s reaction has been the claim that it just confirms what their own internal investigation (conducted by Treasurer Jean Schook and reproduced as appendix C in the DLA report) already revealed. But while the DLA confirmed the misconduct of VCAD Brad Choate and his budget manager Joy Sharp (both were terminated as of June 30, 2013 but interestingly, only Sharp suffered a salary cut from $91k to $68k while Choate’s $350k pay was continued), Treasurer Schook and Vice Chancellor for Finance and Administration (VCFA) Don Pederson are also held responsible for their lack of oversight and perhaps collusion (reported in the Democrat-Gazette after this blog). In this light the Chancellor’s decision to rely exclusively on an internal report prepared by Schook herself under Pederson’s supervision, rather than calling in external auditors right away, seems inexcusable. Ultimately the question remains unanswered how a deficit amounting to almost $2 million by June 2011 was only “discovered” by the VCFA a full year later.

Flawed budget procedures

The UA System audit has received less attention than the DLA report but its findings concerning shortcomings in the UA’s general budget process are highly relevant. This audit observes a general lack of financial documentation: “financial documentation was not sufficiently available to audit the decentralized budgeting controls within the Advancement Division in accordance with generally accepted auditing standards. (…) we never received any budget files for the Advancement Division.” (p. 4). Schook “stated there were very few accounting records and no organized historical records for the Advancement Division” since 2008 (p. 5). DLA auditors also “experienced difficulty obtaining Advancement financial records” and point out that the content of Sharp’s computer’s hard drive was not backed-up when she was reassigned.

UA System auditors found that “there were no written procedures governing the budget process for the University and that the University does not budget all available funds campus-wide. (…) “We noted Finance and Administration has not provided written instructions on how to effectively monitor the budgetary process to the colleges and divisions.” Further:

“We were informed by the Controller that Finance and Administration did not monitor college and division accounts in a deficit position until May of each year (eleven months into the fiscal year). (…) The Vice Chancellor for Finance and Administration also informed us that unappropriated reserves are not budgeted. Requests for funding from the reserves are made by the college or division’s management to the Vice Chancellor for Finance and Administration. The Vice Chancellor for Finance and Administration makes final decisions on fund transfers from unrestricted reserves. However, requests are approved in consultation with the Chancellor for any questionable items. We observed that there was no consistent documentation when requests were not approved.

The University’s current centralized budget process creates an audit risk environment (related to impact and likelihood) that adverse transactions may occur and not be detected on a timely basis.”

Will lessons be learned?

The University has promised to revise its budget procedures (and, true to form, created a new highly paid administrative position for the task). But it resists some of the recommendations of both audits. And clearly, these reforms, if they materialize, would not have been considered without the audit reports and the public pressure that made them necessary.

Again: will University officials learn the lessons? Do Gearhart, Pederson and Wyrick understand that their resistance to transparency and accountability has damaged the institution far more than the budget deficit? Do they understand that the ability and willingness to honestly assess and correct mistakes made – one’s own mistakes, not just those of one’s underlings – is a strength, not a weakness?

Highlights of the UA Legislative Audit Report

The long awaited investigative report (pdf) by the Arkansas Division of Legislative Audit (DLA) was published today. ReportHighlightsA detailed analysis is to follow. Some highlights from the report (verbatim taken from page 1):

  • “Review of Advancement financial records revealed deficit cash balances of $2.14 million and $4.10 million at June 30, 2011 and 2012, respectively.
  • The Treasurer’s Office posted Advancement accounts receivables of $2.1 million and $2.5 million at June 30, 2011 and 2012, respectively, which partially obscured the deficits in the financial statements.
  • The Vice Chancellor for Advancement Division [Brad Choate] did not exercise proper fiscal oversight and did not comply with University policies and procedures.
  • Advancement revenues remained relatively constant over the four-year period reviewed, while expenditures increased significantly from $7.94 million to $13.23 million, resulting in an overall decline in the combined Advancement and Foundation cash balance.”

“Incorrect journal entries”

The excerpts make clear that the audit confirmed sloppiness and lack of oversight by former Vice Chancellor (VCAD) Brad Choate and his budget director Joy Sharp, but also shed light on the responsibility of the Treasurer (Jean Schook) and the Vice Chancellor for Finance and Administration (VCFA), Don Pederson. The report lists “incorrect journal entries”, “noncompliance with generally accepted accounting principles and University policies and procedures”, “deficiencies in internal controls”, and “lack of oversight by the VCAD” (p. 4) attributable to the former. But the auditors also fault Pederson for not disclosing a troubling internal report to DLA auditors in 2012 (p. 4). There were also yearly discretionary fund “subsidies” authorized by VCFA (p. 6). The Treasurer’s Office approved a “proxy arrangement” between Joy Sharp and her sister, “which conflicts with sound accounting practices” (p. 9). Most disturbingly, the auditors identify “Inaccuracies in Advancement financial statements prepared by the Treasurer’s Office relating to accounts receivable” (p. 7, 10). By June 2011, the division had a cash deficit of close to $2 million, which the Treasurer evened out by posting $2.1 million “accounts receivable”, which was subsequently reversed. “The Treasurer indicated to DLA that this is the University’s typical practice to eliminate deficits on the financial statements at June 30.” (p. 11) University officials dispute that this is a “typical practice” (their response is included as appendix A in the report) but clearly, somebody in Finance must have been aware of the deficit at this point – they were trying to make it disappear. Yet allegedly it only came to light a full year later.

Unanswered questions

The report raises other questions which remain unanswered. AdvancementBudget As quoted above, the DLA says that “revenues remained relatively constant” while “expenditures increased significantly” by 67%. That is actually not consistent with the budget numbers presented in Exhibit I.

A significant portion of the Division’s revenues come from the University Foundation, “based on a percentage of a three-year rolling average of investment earnings on unrestricted endowment donations” (Exhibit I, note 3), and the figures given fluctuate between $2.1 and $6.3 million (“relatively constant”?) The report doesn’t address these fluctuations. Generally speaking, Foundation finances are off-limits even for the Legislative Audit and remain a grey area in the report. Crucially, a significant portion of Advancement operations, on average $2.6 million per year, representing more than 20% of total expenditures, was financed by “Advancement Foundation direct payments to vendors”. Not the remotest hint can be found about the identity of these “vendors” and the services in question! These direct payments were approved by the VCFA or his assistant and were “neither budgeted nor accounted for by Advancement”. The authorization forms and supporting documentation “were not maintained by the University”. As a result of this practice of excluding Foundation funding from budgeting, “Advancement’s financial position is not complete and transparent” (p. 9). This seems to go to the heart of the issue, namely the systematic secrecy surrounding Foundation funding.

Missing data at the heart of the affair

The DLA has tried its best to provide a complete budget overview for the fiscal years 2009-2012 (it is unfortunate that 2013 was not included in the audit) but as revealed in footnote 3 to Exhibit I, data are still missing. For 2009, the amount for direct payments (which, as mentioned above, were not accounted for) was unavailable, resulting in both revenues and expenditures being understated for that year – possibly by millions. Given the assertion that these payments were “neither budgeted nor accounted for”, the question arises (but isn’t answered) to what extent we can rely on these figures – if at all. Clearly, the 2009 budget is understated. It is a mystery why then the auditors chose 2009 as baseline for their budget trend (Exhibit II), which they misleadingly say increased 67% over three years. When taking fiscal 2010 as baseline, the first year with complete data (but are they complete? How can we ever know?) and also the last with a balanced budget, the increase was only 22%. It seems that the authors of the report decided to settle on a story that was easy to tell (look at that – 67% increase!) but hides some of the complexities of what really happened. The report observes that personnel costs increased by almost $2 million, or 29%, over three years (p. 10), which was a significant driver for the deficits in fiscal 2011 and 2012. Still, personnel costs account for only 66% of total expenditures. Little if anything can be learned from the report about the remaining $4.5 million, and least of all about the $2.7 million in “direct payments”. Why shouldn’t the public know how the Advancement Division “advances” the University, what they are spending 20% of their budget on? Is there anything improper to hide? No? Then why is it being hidden? Go to the University’s BudgetUA web site, which is supposed to promote financial transparency, and you’ll find only salary information – nothing about operating budgets and other stuff. Why?

This lack of financial transparency is not acceptable for a public University. But it is how the University leadership likes it.