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The Legal Aid Society’s announcement yesterday that it has avoided bankruptcy and is heading toward a more stable future by restructuring its finances, eliminating its debt, and overhauling its administration and management, raises the obvious question: How did New York City’s oldest and best known legal services organization get into such a financially disastrous position? The recipe that brought Legal Aid to the edge of fiscal collapse had many ingredients. In recent years, the agency operated with flawed leadership at both the executive and board levels, leaving none of the people in charge with a firm grip on the organization’s finances. In that atmosphere, decisions were made about spending that Legal Aid could ill-afford given its chronically precarious financial situation, which fell into dire shape in the post-Sept. 11 era. Legal Aid’s chief executive officer, Daniel L. Greenberg, was immensely gifted as a lawyer, strategist and an advocate. But when the board hired him in 1994 with a broadened mandate to oversee the group’s finances as well as its advocacy, little in his background prepared him to manage a budget well in excess of $100 million a year. Mr. Greenberg, who came to Legal Aid after eight years as the director of clinical programs at Harvard Law School, had a clear vision about transforming the society into a full-service law firm for its indigent clients. On the management side, however, he relied heavily on subordinates to run Legal Aid’s internal administration and finances. In his dealings with the board, he preferred to communicate orally, rather than providing its 50 members with written financial reports. For its part, the board did not insist that Mr. Greenberg provide more detailed reporting. Without an awareness of Legal Aid’s deteriorating fiscal health, the board was not able to fully assess the implications of Mr. Greenberg’s proposal for a bold and innovative program for the society’s civil operation in Harlem. The Harlem plan, which among other things called for Legal Aid to construct a new building, relied heavily on fund-raising, an activity that faltered after Sept. 11. Mr. Greenberg declined to comment for this article, other than to say he had “accomplished a lot for clients” and was pleased that his leaving “had resulted in more money being made available to the society.” The depths of Legal Aid’s financial slide was apparently unknown until Mr. Greenberg told the board in a series of meetings in late 2003 and early this year that a $9 million credit line had been exhausted and that another $9 million in credit was needed to keep the agency afloat. By the time the full scope of the crisis emerged, Legal Aid was coping with projected costs that exceeded its anticipated $143 million in revenues by $22 million. Even the added $9 million in borrowing was not enough. Only after New York City provided a one-time only cash infusion of $11 million in June 2004 was the society able to avoid crippling layoffs and buy time to get on track financially. Before the city gave Legal Aid the respite, its top criminal justice official, John Feinblatt, publicly questioned the society’s management, and Mr. Greenberg resigned on June 9, a move that paved the way for the added funding. Looking back, it is clear that the decision to move ahead in October 2002 with borrowing $18 million for the Harlem building added to the society’s substantial burdens. Legal Aid went ahead with the project when its major union contract with attorneys had just expired and increased labor costs loomed on the horizon. At the same time, the agency was suffering directly from the Sept. 11 attacks which forced it to relocate its citywide headquarters from 90 Church Street, which sits on the immediate north side of the World Trade Center site. Finally, the lagging stock market, which went into a further tailspin after the attacks, forced Legal Aid to come up with millions of dollars to shore up its pension fund for managers and non-union employees. Legal Aid was forced to shed more than 100 secretarial and other support positions, a drop of more than 20 percent, mostly through buyouts. More than half of Legal Aid’s annual funding comes from the city and state for defending the indigent in criminal cases. It currently receives $68.8 million a year from the city, and additional funds from the state for criminal defense. Legal Aid also has a multi-million dollar contract with the state to represent children in Family Court proceedings. Its lawyers defend youngsters in delinquency proceedings and protect the interests of children whose parents are accused of abuse. Legal Aid also handles civil cases for the poor on housing, welfare and immigration matters. Most of the funding for its civil work comes from private donations. Legal Aid is unique in its ability to raise funds from the private bar, and relies heavily on its board to help raise about $10 million a year. The board members come from New York City’s most prestigious firms and reflect the deep ties Legal Aid has developed in the legal community over its 128-year history. Board members include lawyers from Cravath, Swaine & Moore; Debevoise & Plimpton; Proskauer Rose; Skadden, Arps, Slate, Meagher & Flom; Sullivan & Cromwell; Wachtell, Lipton Rosen & Katz; and Weil Gotshal & Manges. Winning Personality Mr. Greenberg, a bear of a man with an endearing sense of humor, had been immensely popular in New York public interest circles before he took the job at Harvard in 1987. Only two years after joining MFY Legal Services, a group providing free legal help to the poor in civil matters, Mr. Greenberg was made the head of its office on the Lower East side, a post he held for 14 years. He also served a term as head of the New York chapter of the National Lawyers Guild. Little in Mr. Greenberg’s background, however, prepared him for the complexities of running an organization as large as Legal Aid, which has nearly 1,400 employees. At MFY, Mr. Greenberg was a managing attorney at two different offices on the Lower East Side, neither of which had more than 10 lawyers under his direct supervision. At Harvard, where he held a professional rather than an academic appointment, Mr. Greenberg was responsible for about 25 percent of the law school’s then budget of about $3.5 million for its clinical programs, according to Jeanne Charn, the law school’s associate director of clinical programs. When Mr. Greenberg took the reins at Legal Aid in 1994, he hired the agency’s first chief financial officer. But sources within Legal Aid said he applied a less than rigorous management style. For example, they said, he discontinued the practice of providing each board member with a monthly financial report, and he did not meet regularly with senior staff and neither asked them for reports or supplied them with monthly financial statements. Patricia Bath, the society’s spokeswoman, who has routinely attended Legal Aid Board meetings for 27 years said, “Danny was not a paper person. He was more likely to talk about what was happening than to give out pieces of paper.” Another Legal Aid insider described Mr. Greenberg as “a charismatic fund-raiser, but not a detail oriented guy.” On the question of why the board did not press him more closely, the insider said that Mr. Greenberg had “a perpetual optimism” that he could raise the funds to meet a shortfall. Actual funds raised in Mr. Greenberg’s last year at Legal Aid fell $3.8 million short of the $14.3 million he had projected, an insider said. Meanwhile, Mr. Greenberg relied heavily upon Theresa deLeon, whom he had hired in 1995 as CFO, and Elaine Kurtz, whom he promoted from chief of human resources to chief operating officer. Ms. Bath confirmed staff complaints that both Ms. deLeon and Ms. Kurtz often said they were “running the place.” Ms. deLeon was fired in September 2003 after it was discovered she had used a Legal Aid credit card to make personal purchases worth more than $30,000. Although she was stripped of her title and had her pay cut, Ms. deLeon remained on staff as a consultant for three critical months � during which the crisis exploded � until mid-December 2003. Ms. Kurtz resigned in June 2004 shortly before Mr. Greenberg. Ms. deLeon reportedly re-paid the $30,000, some of it through deductions from the pay she earned as a consultant. Ms. deLeon said in an interview that while “people had different levels of understanding, we always worked as a team and never made a decision that Mr. Greenberg was not privy to.” She added that everyone was aware of the deficits because they were reported in Legal Aid’s year-end audited financial statements. “We received clean audits every year,” she said, and the auditors never issued any management letters pointing to “any serious control weaknesses.” According to the latest available IRS form 990, which all not-for-profit organizations are required to file annually, Mr. Greenberg’s salary in 2003 was $192,500 while Ms. deLeon was being paid $184,000 as CFO, and Ms. Kurtz,who had returned to Legal Aid as the director of development after working for a year in Miami, earned $170,340. Steven Banks, Mr. Greenberg’s successor as Legal Aid’s top lawyer, its attorney-in-chief, said Legal Aid’s infrastructure for finance, administration and fund-raising did not “match the quality of Legal Aid’s client services.” Mr. Banks said he has reinstituted the practice of having weekly meetings of senior legal, financial and administrative managers, and he requires monthly written reports from senior managers. Mandate Expanded When Mr. Greenberg was hired in 1994, he was given a broader mandate to run Legal Aid than his predecessor of 19 years, Archibald R. Murray. The board designated Mr. Greenberg as chief executive officer rather than executive director, the title Mr. Murray had held. The board had closely overseen Mr. Murray, and required its approval when senior level legal managers were hired or fired. Both Mr. Greenberg and Mr. Murray held the title of attorney-in-chief. In 1998, the board expanded Mr. Greenberg’s portfolio, giving him a new title as president and making him a member of the board. Previously, the presidency had been a hybrid position that was held by an unpaid board member who, nevertheless, had top executive authority over the administrative, as opposed to the legal, side of Legal Aid’s operations. Once Mr. Greenberg became president and a board member, Ms. Bath said, the dynamic in which the board executed its oversight of the executive staff changed. From then on it was not a matter of Mr. Greenberg reporting to the board, but rather of Mr. Greenberg speaking to the board as a member and an officer. “It was reasonable,” she said, for the board to rely on Mr. Greenberg “when he spoke as the president.” A report prepared last summer by Alvarez & Marsal, a consulting firm which is working pro bono for Legal Aid, made clear the results of the board’s failure to get regular written financial reports. “While the Society’s audited financial statements were accurate, lack of detailed interim financial reporting and inadequate fiscal management systems failed to bring the growing deficit squarely to the attention of the board in a timely fashion,” the report stated. Not only did the board not get timely “periodic” financial reports, the consultants wrote, but neither did the city or even Legal Aid’s own “internal practice areas.” In sum, the consultants concluded, Legal Aid’s new comptroller needs to “re-institute proper accounting procedures from the bottom up.” The failure to have a periodic financial reporting capacity is at odds with the standards set by the New York Attorney General’s Office, which has regulatory authority over not-for-profit organizations. In a document issued in June, entitled “Internal Controls and Financial Accountability for Not-for-Profit Boards,” the attorney general states that not-for-profits should have “periodic reports � at least quarterly, preferably monthly.” The periodic reports should compare actual expenditures and receipts with those forecast in an organization’s budget and include “timely” explanations of variations between forecasts and a group’s current financial status. Though the attorney general’s memorandum does not explicitly state that the reports must be written, that is what was intended, said William Josephson, who was chief of the charities bureau in the attorney general’s office when the document was drafted. Without a written report, Mr. Josephson said, it is “impossible” to get a clear picture of how an organization’s actual expenditures and revenues stack up against those that were projected in its budget. Legal Aid’s failure to maintain adequate reporting mechanisms could expose its directors to a finding that they did not act prudently, despite whatever improvements they may have made more recently. Insuring that an organization has adequate financial reporting mechanisms is a “prime” duty of board members of not-for-profits, said Professor James Fishman, an expert in not-for-profit law at Pace University Law School. The failure to maintain such mechanisms “would seem to be a breach of the fiduciary duties of the board,” he said. Even so, Mr. Fishman said it is highly unlikely that the members of Legal Aid’s board would ever be held personally liable. The state’s not-for-profit law insulates directors of charitable organizations from liability except for instances of “gross negligence,” he said. Especially where board members are volunteers, as is the case with Legal Aid’s directors, he said, a court would not likely impose damages unless someone took money from the organization. While private litigants can only recover from not-for-profit directors upon a showing of gross negligence, that higher standard is not applicable in suits brought by the attorney general’s office. It has been widely reported that the attorney general has been investigating Legal Aid’s financial free fall. The office, however, is likely to accept corrective measures adopted in the aftermath of the crisis as an adequate resolution, several sources said. David Samuels, of Perlman & Perlman, who is a former deputy bureau chief of the charities bureau, agreed with Mr. Fishman. The absence of adequate reporting mechanisms, he said, “indicates the board did not exercise the duty of care required by New York law.” Looking at Legal Aid’s most recently available audited annual financial statement � for the 2002-03 fiscal year � “it is hard to understand how the board could have been blindsided,” said Mr. Josephson, who returned to Fried, Frank, Harris, Shriver & Jacobson in August. But E. William Bates, an expert in not-for-profit law at King & Spalding, said no conclusion could be drawn from a failure to have periodic reporting mechanisms. Depending upon the facts, it may have been “prudent” for the board to have relied on a year-end audited financial statement, he said. The question as to what duties are owed by directors, is “very much a fact-specific determination,” and the business judgment rule gives directors “broad leeway,” Mr. Bates said. Since Mr. Greenberg’s departure, Legal Aid has taken a number of corrective measures. Its new chief financial officer, Arun Adya, has established mechanisms for regularized and more sophisticated financial reporting, Ms. Bath said. Finance reports, generated monthly, are now provided to the seven members of the board’s newly established finance committee, and the agency’s management is barred from making any major expenditure without obtaining the committee’s approval. (See accompanying story). Harlem Project Mr. Greenberg was an ardent proponent of a new approach to the delivery of legal services to the poor � providing clients with all the legal help they need at one location. Mr. Greenberg often spoke of how he hoped the Harlem office would serve as a model for the way the agency as a whole eventually would operate. The Harlem plan envisioned an expansion of the existing staff which would be housed in a new five-story building. The larger staff was to include lawyers from different disciplines that could provide Legal Aid’s clients with one-stop shopping. In September 2002, with the assistance of the city’s Economic Development Corporation, $18 million in tax exempt bonds were issued to finance the building. A year later, the new office opened at 128th Street and Madison Avenue with a capacity to hold a 70-person staff, according to an internal Legal Aid document. As of last summer, however, there were only 29 staffers at the office, according to the document. The project was warmly endorsed by the board, which embarked upon an ambitious fund-raising project to support it. According to a description on Legal Aid’s Web site of the “Campaign for Harlem,” the goal was to amass “principal” of “at least $22 million” which would generate interest to support the new program. The combination of an innovative program with a new building offered an ideal fund-raising platform, said a long-time board member who was involved in the effort. Before backing the project, the member said, the board conducted a thorough analysis which concluded that the plan was “sensible and not extravagant.” The board’s inquiry found that the costs of renting and owning were comparable, the member said, because space that could accommodate the expanded staff was hard to find in Harlem. Also it was possible that rented space would require extensive renovations. Ownership offered intangible benefits as well as the opportunity to build equity in the building. Prior to Sept. 11, the board raised $8 million in pledges, but after the attacks, fund-raising for the project fell off. The environment for charitable giving was more difficult, and Mr. Greenberg and his staff were absorbed in raising money to deal with legal problems spawned by the terrorist attack, the member said. Because the pledges provided for the donors to make their contribution over five years, only $4 million has actually been received. Some of that money was spent to support the Harlem program, the member said. On the question of whether the board member would have pursued the project with hindsight of Legal Aid’s problems, the member equivocated. Until early this year, “I never heard that the society was in distress and had the impression that it was disciplined in what it was spending.” “When I attended the groundbreaking in September 2002, I was happy as a clam,” the member said. “It was a joyous occasion.” An internal Legal Aid document, which analyzes the agency’s space costs at 14 offices around the city, reveals that the cost of a 29,000-square-foot building in Harlem is by far its most expensive. Total space costs for the new building come to $65.68 a square foot, more than one-third higher than the next most expensive office which is in the Bronx. The comparable “total facility” costs for the headquarters at 199 Water Street is $20.41 per square foot. And Legal Aid paid $32.62 per square foot for its office on Montague Street in Brooklyn, which it recently left mid-lease to save money. On an annual basis, Legal Aid paid $1.9 million for the Harlem office. That comes to $65,000 for each employee using the space as of last summer, according to the internal study. Several commercial real-estate experts said that $65,000 per lawyer would be comparable to what a law firm might pay in Midtown Manhattan, but that $65,000 per staff member would be out of line even for Midtown. At $65 a square foot, “there is plenty of quality space in Midtown,” New York’s most expensive commercial rent district, said Moshe M. Sukenik, a managing director at Newmark & Co. A broker with another commercial real-estate firm, said that “$65 per square foot is a big number � they [Legal Aid] would be better off renting and selling.” (Legal Aid plans to sell the Harlem building as part of its financial recovery. See accompanying story). The $18 million in bonds for the Harlem building were issued in October 2002, the same month the agency’s contract expired with the Association of Legal Aid Attorneys. It was not until a year later that a new labor pact was signed. But that contract provided for a 2 percent raise for the attorneys retroactive to the date the old contract expired. Those lump sum payments were issued only a few weeks before Mr. Greenberg first told the board’s executive committee that the agency’s credit line had been exhausted. According to Legal Aid’s IRS form 990 filings, in four of the five years prior to the Harlem office borrowing, year-end operating deficits ranged between $3.1 million and $4.4 million, with the deficit rising to $9.9 million in the fifth. In the fiscal year that the bonds were issued, which ended June 30, 2003, Legal Aid reported its operating deficit ballooned to $17.3 million. That report was filed in May. During those years, Legal Aid sources said, management began to use the credit line to cope with a developing structural deficit. Prior to then, they said, the credit line had been used during the times Legal Aid awaited funds from its various sources, which arrived irregularly throughout the year. Legal Aid officials declined to put a figure on the dislocation costs associated with the Sept. 11 attacks. But 500 staffers, including the executive staff and all of the specialized citywide legal units, such as its appeals bureaus and Homeless Rights Project, had to be moved. Additionally all files kept at headquarters had to be cleaned to remove contaminants. Though much of the cost was recovered, there were serious cash flow shortages until insurance monies and funds from the Federal Emergency Management Administration were received. During that same stretch of time, the downturn in the stock market affected its pension program for management and non-unionized staff. Because the plan guaranteed a specified level of payments, federal regulators required Legal Aid to maintain a certain fund level to assure it could meet its pension obligations. The society was forced to pay $5 million to shore up the fund for 2003-04 fiscal year and another $2.5 million in the current year. Negotiating from the ‘Heart’ Ironically, the Alvarez & Marsal report found the organization’s commitment to excellence in serving its clients under Mr. Greenberg’s leadership also contributed to the crisis. “Much of the current financial predicament stems from the Society’s willingness to provide high levels of legal services to the indigent of New York without sufficient analysis as to whether this representation was being paid for by the taxpayers or donors or by no one,” the report stated. The consultants recommended that Legal Aid’s practice areas take measures to assess what services can be provided with the grants it receives. The purpose, the consultants said, is to assure that in future discussions with funders “we will be negotiating with our heads rather than our hearts.” � Daniel Wise can be reached at [email protected].

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