S.C.R. NO.












WHEREAS, the Employees' Retirement System was established in 1926 to provide retirement allowances and other benefits to state and county government employees; and

WHEREAS, since its inception, the Employees' Retirement System has experienced rapid growth in membership, benefit payments, and assets, and pays pensions for more than thirty thousand former employees and beneficiaries; and

WHEREAS, concerns have been raised in recent years about the ability of the Employees' Retirement System to meet the needs of future retirees, in part because of the system's investment decisions; and

WHEREAS, for example, the Employees' Retirement System has recently gone against the advice of its investment adviser, maintaining ties with an underperforming investment firm; and

WHEREAS, in particular, the system's Board of Trustees recently voted to halve the assets under management, while keeping 3Bridge Capital in charge of $165,000,000 in state money. This decision, however, contradicted a recommendation by Callan Associates, Inc., to terminate 3Bridge for losing tens of millions of system dollars; and

WHEREAS, while Callan's report to the Board of Trustees noted that 3Bridge had made money-losing investments, including buying stock in the now-bankrupt telecom giant Global Crossing, the Board of Trustees believed that outright termination would be unfair to 3Bridge, which had been affected by the poor economy, declining stock market, and a change in Employees' Retirement System performance measures; and

WHEREAS, the decision to retain 3Bridge comes at a difficult time for the system, which is under growing pressure to increase assets through better investment performance as the number of retirees grows and the State refuses to cover the full cost of the fund; and

WHEREAS, 3Bridge is classified by the system as a value manager, and is tasked with seeking out quality stocks at bargain prices. However, for several years, it has been at the top of a watch list of four or five of the pension fund's most poorly performing investment managers; and

WHEREAS, in the last three years, 3Bridge's Employees' Retirement System portfolio has lost 5.7 per cent annually, which compares with a median gain of 2.7 per cent per year in value portfolios nationwide over the same period; and

WHEREAS, although in more than fourteen years that 3Bridge has managed Employees' Retirement System assets, it has averaged 10.7 per cent annual returns, Callan Associates noted that ninety per cent of value managers had better returns. The median is 12.6 per cent, while the top ten per cent of firms gained 14.1 per cent; and

WHEREAS, by comparison, Callan reported that 3Bridge's average annual returns ranked in the bottom ten per cent of comparable value managers in the one-, two-, three-, five-, and ten-year periods ending last December 31st. Since December 1999, as the stock market soured, the 3Bridge portfolio has lost $90,000,000; and

WHEREAS, in 2000, on Callan's recommendation, the system started judging 3Bridge's performance against growth-oriented stock managers instead of value managers, since 3Bridge was apparently investing in riskier stocks than the typical value fund; and

WHEREAS, this change in standards could account for some of 3Bridge's recent losses as the company changed its investment style to adapt to the new standards. In the first quarter of 2001, the system again changed the benchmark back to value funds; and

WHEREAS, despite these changes in standards, the poor performance of 3Bridge nevertheless should have been sufficient reason to terminate the firm, rather than giving them additional time to improve their returns; and

WHEREAS, given the growing number of retirees, the need to maximize Employees' Retirement System investments requires the system to move more quickly to terminate underperforming firms if they fail to show rapid improvement; and

WHEREAS, an April, 2000 financial audit of the Employees' Retirement System by the Auditor and the certified public accounting firm of KPMG LLP found several deficiencies in the financial accounting and internal control practices of the system; and

WHEREAS, these deficiencies included:

(1) Failure to plan for contracting delays to execute bank custodian and security lending services contracts, with a resulting loss of approximately $1,000,000 in income to the system;

(2) Failure to properly monitor and enforce remedies against the bank custodian, costing the system $12,500 in reduced fees;

(3) Failure to properly plan its "data purification project" to verify membership data, resulting in untimely execution of contracts and extensions. The Auditor noted that the system had not reduced the time it spends in verifying pension benefits even after spending approximately $740,000 on this project; and

(4) Failure to ensure that retirees received their final pension payments in a timely manner, with retirees being underpaid as much as $15,000;


WHEREAS, there is a need for the Auditor to conduct a management and performance audit of the Employees' Retirement System, as well as a follow-up of the Auditor's financial audit, to ensure that the system meets the needs of future retirees; now, therefore,

BE IT RESOLVED by the Senate of the Twenty-first Legislature of the State of Hawaii, Regular Session of 2002, the House of Representatives concurring, that the Auditor is requested to conduct a management and performance audit of the Employees' Retirement System; and

BE IT FURTHER RESOLVED that the Auditor is requested to include in its audit a review of the investment decisions of the Board of Trustees, including a review of investment expenses, the number of investment managers retained by the system, how investment managers are selected, criteria used to retain investment firms, the rate of return for each investment manager's portfolio, a comparison of these investment decisions with retirement systems in other jurisdictions; and

BE IT FURTHER RESOLVED that the Auditor is requested to conduct a follow-up review of its April 2000 financial audit of the system to ensure that the system has satisfactorily resolved the problems uncovered by the Auditor in that previous audit; and

BE IT FURTHER RESOLVED that the Board of Trustees and the staff of the Employees' Retirement System are requested to cooperate fully and respond promptly to the Auditor's requests in conducting this audit; and

BE IT FURTHER RESOLVED that the Auditor is requested to report findings and recommendations, including any proposed implementing legislation, to the Legislature no later than twenty days before the convening of the Regular Session of 2003; and

BE IT FURTHER RESOLVED that certified copies of this Concurrent Resolution be transmitted to the Auditor and to the Administrator and the Chairperson of the Board of Trustees of the Employees' Retirement System.






Report Title:

Employees' Retirement System; Management and Performance Audit