Audit Report on Loan Programs, Guam Economic Development Authority, Government of Guam

[Audit Report on Loan Programs, Guam Economic Development
Authority, Government of Guam]
[From the U.S. Government Printing Office, www.gpo.gov]

Report No. 01-I-417

Title: Audit Report on Loan Programs, Guam Economic Development
Authority, Government of Guam

Date: September 21, 2001

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September 21, 2001

Mr. Chris Murphy
Chairman, Board of Directors
Guam Economic Development Authority
ITC Building, Suite 511
590 South Marine Drive
Tamuning, Guam 96911

Subject: Audit Report on Loan Programs, Guam Economic Development Authority,
Government of Guam (No. 01-I-417)

Dear Mr. Murphy:

This report presents the results of our audit of loan programs at the Guam Economic
Development Authority.

Please provide a response to this report by October 22, 2001. The response should
provide the information requested in Appendix 6 and should be addressed to our Pacific
Field Office, 415 Chalan San Antonio, Baltej Pavilion - Suite 306, Tamuning, Guam
96911.

Section 5(a) of the Inspector General Act (5 U.S.C. app. 3) requires the Office of Inspector
General to list this report in its semiannual report to the U.S. Congress. In addition, the
Office of Inspector General provides audit reports to the Congress.

Sincerely,

Arnold E. van Beverhoudt, Jr.
Audit Manager for Insular Areas

cc: Honorable Carl T.C. Gutierrez, Governor of Guam
U.S. Department of the Interior
Office of Inspector General

EXECUTIVE SUMMARY

Loan Programs, Guam Economic Development Authority, Government of Guam
(No. 01-I-417)
September 2001

The Guam Economic Development Authority was established in August 1965 to assist in the
implementation of an integrated program for the economic development of Guam. The
Authority administered five business loan programs that, as of September 30, 1999, had a
total of 155 outstanding loans totaling more than $13 million in principal, interest, and
fees/charges. The two larger loan programs were the Guam Development Fund, with
87 outstanding loans totaling $11.7 million, and the Agriculture Development Fund, with
39 outstanding loans totaling $1.1 million.

The objective of our audit was to determine whether the Authority (1) effectively
administered the loan programs and (2) achieved the objectives for which the programs were
established. The scope of the audit include a review of loans issued by the Guam
Development Fund and the Agriculture Development Fund during fiscal years 1986 through
1999.

We found that there was a need for improvements in the Authority's loan program
operations, lending practices, and collection enforcement practices. Specifically, the
Authority:

Used $1.34 million from the Guam Development Loan Program to cover the bad debt cost
of writing off uncollectible loans and transferred profits of $1.33 million from the sale of
property recovered on a delinquent loan to its own operating fund. These actions were
contrary to legislation establishing the Loan Program and the approved Program Plan.

Lost Loan Program funds estimated at $453,653 and placed additional Loan Program funds
of about $3.6 million at risk of loss because it made loans from the Development Loan
Program to a wholly owned subsidiary corporation and to businesses that had existing
delinquent Program loans or Authority leases. Furthermore, because an arm's-length
relationship did not exist between the Authority and its subsidiary, the normal checks and
balances inherent in making loans to unrelated borrowers did not exist.

May have lost $2.3 million in delinquent loans and placed another $2.2 million in delinquent
loans at risk of loss and lost at least $303,697 and placed another $784,000 at risk because
of the declining value of foreclosed real property and because the Authority did not
effectively approve loans and collect delinquent loans. The Authority did not (1) require that
problem borrowers be referred for management assistance, (2) ensure that its attorneys took
timely action to protect the Authority's interests in loan collateral, and (3) sell repossessed
real property in a timely manner.

We made 10 recommendations to the Chairman of the Authority's Board of Directors to stop
charging losses related to delinquent loans to the Development Loan Program and develop
alternative methods of safeguarding itself against losses from delinquent loans, institute
organizational and procedural changes to ensure that an arm's-length relationship exists
between the Authority and its wholly owned subsidiary with regard to lending practices, and
implement procedures to improve the effectiveness of loan collection practices.

AUDITEE COMMENTS AND OFFICE OF INSPECTOR GENERAL EVALUATION

The Authority concurred with 2 of the report's 10 recommendations and expressed
nonconcurrence with the other 8 recommendations. Based on the response, we considered
eight recommendations unresolved and requested additional information for two
recommendations.

INTRODUCTION

BACKGROUND

The Guam Economic Development Authority was established in August 1965 as a public
corporation "to assist in the implementation of an integrated program for the economic
development of Guam" and "to be a catalyst in the economic development" of Guam by
"aiding private enterprise without unfairly competing with it." The Authority is authorized
to provide loans, issue revenue bonds, purchase mortgages, recommend to the Governor of
Guam the granting of tax rebates and abatements to qualifying businesses, and function as
the Government's financial advisor and manager of industrial park leases. In addition, the
Authority used various trust funds to operate five loan programs.

The five active loan programs administered by the Authority were (1) the Guam
Development Fund, (2) the Agriculture Development Fund, (3) the Microenterprise
Development Fund, (4) the GEDA (Guam Economic Development Authority) Loan Fund,
and (5) the Local Arts Revolving Fund. As of September 30, 1999, the five loan programs
had a total of 155 outstanding loans totaling more than $13 million in principal, interest, and
fees/charges (see Appendix 2). The two larger loan programs were as follows:

- The Guam Development Fund was the trust fund used to account for the Authority's largest
loan program, the Development Loan Program, which was created through Federal
legislation on October 17, 1968. According to 48 U.S.C. 1428a, the Loan Program "shall
include and make provision for loans and loan guarantees to promote the development of
private enterprise and private industry in Guam through a revolving fund for such purposes."
The U.S. Government provided a total of $6.7 million to fund the Program. Also, 48 U.S.C.
1428a required the Government of Guam, before it received any funds, to prepare for the
approval of the Secretary of the Department of Interior "a plan for the use of such funds,"
which the Secretary approved. After the Development Loan Program was created, the
Government of Guam contributed $100,000 to the Program's assets. As of September 30,
1999, the Loan Program had 87 outstanding loans totaling $11.7 million in principal,
interest, and fees/charges.

- Through the Guam Code Annotated (12 G.C.A. 52101 and 52103), the Government of
Guam created the Agriculture Development Fund in 1988 "to aid in the development or
subsidization of poultry, pork, and beef production, agricultural products, processing plants
and equipment loans. This development will be wholly on the basis of a private enterprise."
Further, 12 G.C.A. 52106.1 stated that the Authority "shall make direct loans to and
guarantee loans of responsible non-profit cooperative associations and individual farmers
necessary for expanding facilities for the improvement of marketing of agricultural products
and other related agricultural activities." As of September 30, 1999, the Agriculture
Development Fund had 39 outstanding loans totaling almost $1.1 million in principal,
interest, and fees/charges.

OBJECTIVE AND SCOPE

The objective of the audit was to determine whether the Guam Economic Development
Authority (1) effectively administered the development loan programs and (2) achieved the
objectives for which the programs were established. The original scope of the audit included
a review of loans issued by the Guam Development Fund and Agriculture Development
Fund loan programs during fiscal years 1996 through 1999. We subsequently expanded the
audit scope to include the Authority's administration of the Development Loan Program for
fiscal years 1986 through 1996 to include the years subsequent to the period covered in our
March 1988 audit report on the Development Loan Program (No. 88-53). This is the first
of three reports we plan to issue on the Authority's operations. The other reports will cover
(1) industrial development programs and (2) bonds, leases, and financial activities.

To obtain information on the processing, administration, and collection of loans, we
interviewed officials and/or reviewed records at the offices of the Guam Economic
Development Authority, the Authority's independent public accounting firm, and the Guam
Office of the U.S. Small Business Administration. We also corresponded with an
independent public accountant previously contracted by the Authority and obtained a legal
opinion from our General Counsel (see Appendix 4).

Our review was made, as applicable, in accordance with the "Government Auditing
Standards," issued by the Comptroller General of the United States. Accordingly, we
included such tests of records and other auditing procedures that were considered necessary
under the circumstances.

As part of the audit, we evaluated the system of internal controls related to the financial and
operational management of the Guam Economic Development Authority loan programs to
the extent that we considered necessary to accomplish the audit objective. Based on our
review, we determined that the Authority generally achieved the loan programs' objectives.
However, we identified internal control weaknesses in the areas of loan program operations,
lending practices, and delinquent loan collections. These weaknesses are discussed in the
Findings and Recommendations section of this report. Our recommendations, if
implemented, should improve the internal controls in these areas.

PRIOR AUDIT COVERAGE

During the past 5 years, neither the U.S. General Accounting Office nor the Office of
Inspector General has issued any audit reports on the Guam Economic Development
Authority. However, in March 1988, the Office of Inspector General issued the audit report
"Guam Economic Development Authority's Administration of the Revolving Loan Fund"
(No. 88-53). The report stated that deficiencies related to the Development Loan Program
resulted in unauthorized loan expenditures totaling $1.8 million and delinquent loans totaling
$6.7 million, of which $3.4 million was considered uncollectible. The report contained
17 recommendations, and based on our current review, we determined that
4 recommendations had been implemented and 13 recommendations had not been
implemented.

FINDINGS AND RECOMMENDATIONS

A. LOAN PROGRAM OPERATIONS

The Guam Economic Development Authority used $1.34 million from the Guam
Development Loan Program to cover the bad debt cost of writing off uncollectible loans and
transferred profits of $1.33 million from the sale of property recovered on a delinquent loan
to its own operating fund. These actions were contrary to legislation establishing the Loan
Program and the approved Program Plan. The Authority's Administrator stated that the
Authority did not have adequate financial resources to absorb the costs of writing off
uncollectible Loan Program loans and that the Authority based its actions on legal opinions
which stated that payment of these expenses and transfers of profits were appropriate.

Legal Opinions Concerning Uncollectible Loans

The Office of the Solicitor, U.S. Department of Interior, issued two legal opinions, dated
August 7, 1969 and May 21, 1987, which stated that the use of loan funds for administrative
and write-off costs was not allowed under the Loan Program. The opinions were issued
based on inquiries from the Government of Guam about the use of Program funds. On
February 18, 1988, the Authority obtained a legal opinion from its attorney, which stated that
payments of administrative and uncollectible loan costs were authorized uses of the funds.
The Authority obtained its legal opinion in response to the draft of our March 1988 audit
report (No. 88-53) and, based on the legal opinion, did not implement the report's
recommendation to discontinue the practice of charging the Loan Program for uncollectible
loan expenses. However, the Authority had no record that it had informed the Office of
Insular Affairs of the opposing legal opinion.

Because the Authority's legal opinion contradicted the two prior opinions from the
Department of the Interior's Solicitor, we requested that our General Counsel review all three
opinions to assist us in determining (1) the authorized uses of Loan Program funds and
(2) whether alternatives were available for the Authority to recover some or all of its
administrative and uncollectible loan costs relating to the Loan Program.

On August 18, 2000, the General Counsel, Office of Inspector General, issued a legal
opinion (Appendix 4) on these issues, which stated, "The Authority can use the Fund's
interest or the principle to recover the administrative costs of operating the loan program.
The Authority [however] cannot use the Fund's interest or the principle for uncollectible loan
costs."

We found that during the period of September 1993 to September 1999, the Authority wrote
off, against Loan Program revenues, 11 uncollectible loans totaling about $1.34 million.
However, as noted in our March 1988 report, the Federal law and the Federally approved
Plan establishing the Loan Program provide a possible alternative for the Authority to
recover uncollectible loan costs. Specifically, 48 U.S.C. 1428a states that loans from the
Program "shall bear interest (exclusive of premium charges for insurance, and service
charges, if any) at such rate per annum as is determined to be reasonable and as approved by
the Secretary . . . and that premium charges for the insurance and guarantee of loans shall be
commensurate . . . with expenses and risks covered." In our opinion, this section of the
legislation clearly contemplates that losses related to uncollectible loans would be recovered
through loan insurance or guarantees paid for by borrowers. This opinion is supported by
the August 2000 legal opinion from our General Counsel. Therefore, the Authority should
reexamine the option of charging loan insurance fees, which would allow the Authority to
obtain loan insurance to protect itself against losses related to uncollectible loans.

Property Settlement Payment

Neither the authorizing legislation nor the approved Plan provided specific guidance on the
disposal of property acquired by the Authority through foreclosures. In a January 27, 1989
interoffice memorandum, the Authority's Financial Assistance Officer notified the
Administrator that after extensive litigation, the Authority had received a payment of
$2,199,995 as recovery on a delinquent loan. The Officer stated in the memorandum that
after applying costs totaling $840,707 to pay off the loan balance of $500,000 plus accrued
interest, attorneys' fees, and related costs, the Authority was left with a "GDFA GAIN" of
$1,359,288. However, according to the minutes of a February 8, 1989 regular meeting of the
Authority's Board of Directors, the Board "passed without objection" Resolution No. 89-006,
which required that "any excess" of sales proceeds above the amount of principal, accrued
interest, costs, and attorney fees "be deposited into GEDA's general fund account." This
action was taken based on the legal opinion of the Authority's attorney and despite the
Financial Assistance Officer's memorandum stating that the $1.36 million should be
deposited into the Loan Program account. The Authority's fiscal year 1989 audited financial
statements reported that during fiscal year 1989, a total of $1,327,503 was transferred to the
Authority's General Operating Fund. Because the funds were not deposited to the Loan
Program Revolving Fund, the $1.33 million was not available for future loans, which was
the purpose of the Program.

Recommendations

We recommend that the Chairman of the Board of Directors, Guam Economic Development
Authority, direct the Authority's Administrator to:

1. Discontinue the practice of charging the Development Loan Program for the loss resulting
from uncollectible loans.

2. Provide the Office of Insular Affairs, U.S. Department of the Interior, with documentation
related to the $1.34 million charged to the Development Loan Program for uncollectible
loans and for the $1.33 million from property settlements for its determination as to whether
the funds should be reimbursed to the Development Loan Program.

3. Perform an analysis comparing the Development Loan Program with current Federal loan
programs in order to evaluate options for structuring the Loan Program to allow the
Authority to recover reasonable loan insurance costs. Based on such an analysis, a revised
Loan Program Plan should be submitted to the Office of Insular Affairs, U.S. Department
of the Interior, for review prior to submission to the Secretary of the Interior for approval.

Guam Economic Development Authority Response and Office of Inspector General
Reply

In the May 21, 2001 response (Appendix 5) to the draft report from the Authority's
Chairman of the Board, the Authority expressed nonconcurrence with Recommendations 1
and 2 and concurrence with Recommendation 3. Based on the response, we consider
Recommendations 1 and 2 unresolved and request additional information for
Recommendation 3 (see Appendix 6).

Recommendation 1. Nonconcurrence.

Guam Economic Development Authority Response. The Authority stated that it chose
not to obtain loan loss insurance because of the high cost to the borrowers and that its Chief
Financial Officer has been assigned "to evaluate the creation of a loan loss reserve account
to off set future losses, utilizing a portion of the interest earned on the [Guam Development
Fund] loans."

Office of Inspector General Reply. By its nature, the Loan Program Revolving Fund
should not be charged for uncollectible loans because the Fund would otherwise eventually
be depleted. Our General Counsel's opinion emphasized that the Authority cannot legally
use the Fund's principal or interest to recover the cost of uncollectible loans. Therefore, the
use of a portion of interest earned on the Development Fund loans to set up a loan loss
reserve account also would not be acceptable. The Authority must seek other legal
alternatives to recovering the losses from uncollectible loans and not charge such losses to
the Development Loan Program. The Guam Development Fund Act enabled the Authority
to find alternatives for recovering uncollectible loans, such as premium costs, collateral, or
insurance. Although the Authority resists implementing a loan insurance program because
of cost considerations, it should recognize that the beneficiaries were granted their loans
under less stringent requirements after having been turned down by more traditional lending
institutions. Accordingly, it is not unreasonable for the cost of loan insurance to be borne
by all of the beneficiaries of the Loan Program, namely the borrowers.

Recommendation 2. Nonconcurrence.

Guam Economic Development Authority Response. The Authority stated, "GEDA is
able to provide the requested documentation on the $1.34 million in loans that were charged
off and the $1.33 million gain from a property settlement. However, GEDA does not concur
that it should reimburse the fund for the deficiency balances on the loans that were written
off and for the gain received under the property settlement cited in the audit report." The
Authority also stated that "if the [delinquent] accounts had stopped accruing interest once the
account was classified as 'in default' then the unpaid balances would most likely have been
recovered through GEDA's collection efforts over a nearly fifteen year time span." The
Authority also detailed the sequence of events related to the $1.33 million gain from property
settlement and concluded that the audit report "fails to identify any legal basis of why a
lender would not be entitled to receive any amount in excess of the original principal,
interest, and related expenses."

Office of Inspector General Reply. Regarding the charged-off loans of $1.34 million, the
Authority has not provided any documentation to support that collection efforts were made
and were successful in recovering the defaulted amounts. The General Counsel's opinion
is clear that losses from uncollectible loans may not be charged against the Development
Loan Fund. Therefore, we believe that the $1.34 million should be reimbursed to the Fund.
Regarding the $1.33 million gain from property settlement, the Authority's response
indicates that at least $2.6 million from the Development Loan Fund was used in the
Authority's efforts to redeem the property that secured the defaulted loan. We believe that,
to the extent that recoveries were made, such recoveries should have been used to reimburse
the Fund for both the principal and interest owed on the loan and the $2.6 million used
during the property settlement efforts. Lastly, the recommendation does not require the
Authority to immediately reimburse the Fund for the loan write-offs or the property
settlement gain. Rather, the recommendation simply asks the Authority to provide
information to the Office of Insular Affairs for a final determination as to whether the money
should be reimbursed to the Development Loan Program.

Recommendation 3. Concurrence.

Guam Economic Development Authority Response. The Authority stated that it
recognizes that "there may be a need for GEDA to re-evaluate the [Development Loan
Program] to meet the island business community's current financial needs." The Authority
further stated that its Financial Services Supervisor will be responsible for developing a
strategic plan that includes such an evaluation.

Office of Inspector General Reply. The response did not specifically state that options for
structuring the Loan Program to allow the Authority to recover reasonable loan insurance
costs would be included in the proposed Strategic Plan.

B. LENDING PRACTICES

The Guam Economic Development Authority lost Loan Program funds estimated at
$453,653 and placed additional Loan Program funds of about $3.6 million at risk of loss
because it made loans from the Development Loan Program to a wholly owned subsidiary
corporation and to businesses that had existing delinquent Program loans or Authority leases.
This occurred because the Authority did not have written policies or procedures adequate to
ensure that loans to subsidiaries or to delinquent borrowers and lessees were subject to a
strict evaluation and approval by an Authority official of the borrowers' ability to repay the
loans. Furthermore, since an arm's-length relationship did not exist between the Authority
and its subsidiary, the normal checks and balances inherent in making loans to unrelated
borrowers did not exist.

Guam Business Development Corporation Loans

The Authority created the Guam Business Development Corporation on August 28, 1991
(see Appendix 3). Regarding the establishment of the Corporation, the minutes of an
April 13, 1995 Board of Directors meeting state:

Counsel recommended that GBDC (Guam Business Development Corporation) go forward
and get organized as the Governor is going to give GEDA some very heavy responsibilities
in the immediate future which are going to require GBDC's assistance. The chairman noted
that the operation of GBDC would give GEDA a valuable tool as well as more flexibility in
its operations. Counsel pointed out that GBDC can purchase supplies for GEDA without
going through the Procurement Law, and can be useful in other areas where governmental
regulations might otherwise interfere.

On July 13, 1995, the Authority's Board of Directors adopted Resolution No. 95-013, which
stated, "3. Independence from governmental restrictions. That as a private corporation,
GBDC not be constrained by government of Guam statutes, rules or regulations applicable
to instrumentalities of the government of Guam."

Through September 1999, the Authority authorized three Program loans to the Corporation:
two loans totaling $1.4 million to buy land and build a warehouse as a manufacturing facility
for a locally based business and the third loan totaling $1.2 million to pay for towing a large
surplus U.S. Navy floating dry dock from Hawaii to Guam. As of September 30, 1999, the
total amount drawn down and outstanding on the three loans was $2.1 million. The
$2.6 million originally loaned to the Corporation was 38.8 percent of the $6.7 million
Federal Government contribution to the Loan Program. Under the conditions of the Federal
contributions (48 U.S.C. 1428b), funding for any single project was limited to 25 percent
of the Federal contributions.

We noted that the Authority did not maintain an arm's-length relationship with the
Corporation. For example, the Authority (1) issued two of the three loans to the Corporation
at the lowest interest rate allowable under the Loan Program's authorizing legislation; (2) did
not charge loan fees on the third loan, as was required from other borrowers; (3) did not
require that the Corporation have three bank declinations before applying for a Program loan,
as required by the Authority's Standard Operating Procedures; and (4) made loans without
Corporation-generated revenues being available to repay the loans. Additionally, the Board
of Directors of the Authority and the Corporation were composed of the same individuals,
and this precluded an independent assessment of the Corporation's loan applications.
Considering the weak financial positions of the Corporation, the Authority, and the
Government of Guam, we believe that outstanding loans totaling almost $2.1 million as of
September 30, 1999 were at risk of loss.

Loans on Behalf of Manufacturing Company. On December 30, 1991, the
Authority loaned the Corporation a total of $675,000 to purchase a 3/4 acre lot for about
$330,000 and build a warehouse estimated to cost $345,000 for the use of a specific
manufacturing company that had an outstanding Authority loan at the time. The Corporation
planned to repay the loan with the manufacturing company's warehouse rental payments.
At the February 23, 1996 special meeting of the Corporation's Board of Directors (same
Board members as the Authority's), the Board issued Resolution 96-001, which stated that
"the building itself was designed specifically for [the company's] machinery and equipment,
making it difficult to lease to any other party." The final costs to build the warehouse were
about $1.2 million, or almost $900,000 more than the initial estimate. As a result, the
Authority had to refinance the $345,000 loan to pay for the increased construction costs. On
January 28, 1994, the Authority approved a new $1.4 million loan with a 25-year term at
4.5 percent interest per year. The Corporation had drawn down a total of $1,229,302 by
August 30, 1996. According to the promissory note, the Corporation did not have to make
a principal payment on the loan until February 28, 1999.

When the project was completed in June 1996, project costs consisted of $370,281 to buy
about 1.2 acres of undeveloped land and $1,207,031 to build a 10,416-square-foot
warehouse. However, the Corporation had insufficient revenues to make its first loan
principal payments (due February 28, 1999) and subsequent principal payments to the
Authority because the manufacturing company did not make the required payments on the
lease and vacated the building in March 2000. On September 24, 1999, the Authority
approved a resolution authorizing payments of interest only for 12 months on the
Corporation's 1994 loan because the manufacturing company "is seriously in arrears of the
rental payments, which payments were to be used to repay the debt incurred by GBDC." In
addition, the Administrator said, "This action . . . will assist in easing the cash flow of GEDA
under the dire financial situation that currently exists in Guam." Finally, the Administrator
told us that this was "a bad deal from the get go" and that he had "inherited a bad deal." A
prior Administrator had the same concerns, as noted in the minutes of the Authority's
October 9, 1991 Board of Directors meeting, which stated that a prior Administrator "was
concerned that GEDA could be criticized for doing too much for the [manufacturing]
company." As of September 30, 1999, the Corporation owed a total of $1,196,202
(excluding interest) on this loan.

Loan to Tow Dry Dock. On May 6, 1999, the Authority authorized a $1.2 million line of
credit to the Corporation from the Loan Program for a 2-year period at an annual interest rate
of 5 percent. The purpose of the line of credit was to pay for the costs of moving a surplus
U.S. Navy floating dry dock from Hawaii to Guam.

In an April 30, 1999 Board of Directors meeting, the Authority's Administrator
recommended that "the interest on the loan be the average U.S. Treasury rate with no spread
and no fees." According to the same Board minutes, the Administrator said that "the interest
and principal [will] be paid at maturity, because GEDA feels confident that by the end of the
year [1999], the drydock could be leased to the SRF [ship repair facility] operator and start
repaying the loan." However, the Administrator subsequently told us that the anticipated
time frame for use of the dry dock had not materialized because additional funds of up to
$4 million were needed to pay for necessary dry dock repairs at a construction facility
outside Guam. In addition, after the repairs are completed, another $1 million would be
needed to move the dry dock to the State of Oregon to be certified before it could be used
to start generating revenue.

The security for this $1.2 million loan was questioned by the Authority's Programs and
Compliance Officer 2 days before the line of credit was approved. In a memorandum to file
dated April 28, 1999, the Compliance Officer stated:

I am however, concerned that this loan will be unsecured. . . . In order to secure GEDA's
lien on this dry dock, the Mortgage would need to be executed by the Governor of Guam on
behalf of the Government of Guam. Failure to so secure the lien would result in: 1) a $1.2
million unsecured loan made from the Federal fund to GBDC; 2) no method to enforce
repayment on the loan from the Gov't. of Guam from the income to be obtained by
GovGuam from the lease of the dry dock; 3) lease income received can be easily diverted to
the GovGuam General Fund.

As noted in the memorandum, the Government of Guam, not the Authority, owned the dry
dock. Finally, according to the Authority's former Deputy Director, the dry dock cannot be
sold because it was obtained without cost as U.S. Navy surplus, and the Government of
Guam had to agree to conditions restricting its disposal because at least two other United
States localities wanted the dry dock. As of September 30, 1999, the outstanding amount
owed on this loan totaled $895,161 (excluding interest) and had increased to $984,703 by
December 31, 1999, and the Government may have to spend about $1 million to return the
dry dock to the U.S. Navy in Hawaii.

In our opinion, the Authority used the Corporation to avoid having to comply with
Development Loan Program requirements and, in effect, granted itself loans in
non-arm's-length transactions despite the lack of adequate security and adequate revenues
of the Corporation to repay the loans. Based on available financial statements from fiscal
years 1992 through 1999, we estimated that during the 8-year period, the Corporation had
earned $229,000, spent $1,310,000, and had an equity deficit of $486,000. We do not
believe that the loans made to the Corporation met the Program's requirements for prudent
lending, limits on maximum loan amounts, prohibition of conflicts of interest, and adequate
loan collateral.

The Authority should provide detailed information about these loans to the Office of Insular
Affairs for its determination of whether the Authority should reimburse the Loan Program
the amount of the outstanding loans and stop making additional Program loans to the
Corporation without verifiable sources of repayment and adequate security for the loan
amounts.

Loans to Delinquent Borrowers

The Authority made loans and/or released loan funds totaling over $2.1 million for six loans
to four borrowers, although the borrowers were delinquent in paying prior loans or, in one
case, an existing lease with the Authority (see Table 1).

Table 1. Questionable Subsequent Loans

___________________________________
*Revenues lost on these three subsequent loans totaled $453,653. Revenues considered at risk
on the three loans not marked by asterisks
totaled $1,697,123. All amounts in this column include delinquent principal, interest, and
service charges due as of September 30, 1999.
We classified the loans as "lost" or "at risk" based on our assessment of the borrowers' ability to
repay.
**Although the loan agreement for the $1.2 million loan was signed in December 1996, the
Authority did not release the loan proceeds
until June 10, 1997.

In accordance with its own operating procedures, the Authority should determine "that there
is reasonable assurance of payment" of loans (GEDA's Standard Operating Procedures,
Volume I, Chapter I, Paragraph 6.B(2)) and perform "a penetrating examination of the
borrower's financial condition and repayment ability" (Volume I, Chapter V,
Paragraph 19.I). However, as a result of the Authority's actions, Loan Program funds of at
least $453,653 had been lost, and additional Loan Program funds of at least $1,697,123 were
at risk of loss.

For example, in the largest of the subsequent loans listed in Table 1, the Authority approved
a loan of $1.2 million on December 20, 1996 but did not release the funds until
June 10, 1997 because the borrower had not paid the loan closing fees of $5,580. In a letter
to the borrower dated June 9, 1997, the Authority's Administrator stated that the delay in
issuing the loan had cost the Authority more than $1,000 in lost interest and that if the
closing costs were not paid by the following day, the loan commitment would be withdrawn.
The delay in payment of the closing costs was significant because the business had also not
made any payments on its two previous line-of-credit loans, one issued in January 1997 for
$250,000 and the other issued in March 1997 for $99,700. As of September 30, 1999, the
only amounts collected from this borrower on the three loans came from rental payments the
Authority garnished from other assets of the borrower. These garnished payments were
insufficient to pay even the interest on the $1.2 million loan. According to the Authority's
Administrator, the three loans were made because the prospects for the business looked very
good in early 1997, before the Guam economy weakened, and the loan collateral was very
good. We found no mention in the loan files of any actions taken by the Authority to
reevaluate the additional proposed loans, to consider revising the loan terms, or to require
that the two prior letter-of-credit loans be paid or at least be brought current before the
$1.2 million loan was released.

Recommendations

We recommend that the Chairman of the Board of Directors, Guam Economic Development
Authority, direct the Authority's Administrator to:

1. Require a written analysis and official certification by the Administrator of the ability of
the Guam Business Development Corporation to repay any future loans or other advances
of funds made from the Loan Program prior to making any such loans or advances.

2. Provide to the Office of Insular Affairs detailed information about the outstanding loans
to the Guam Business Development Corporation for determination as to whether the
Authority should reimburse the Development Loan Program the amount of the outstanding
loans and stop making additional Program loans to the Corporation without verifiable
sources of repayment and adequate security for the loan amounts.

3. Develop and implement policies and procedures to ensure that Authority personnel take
prudent action, such as performing analyses of repayment ability and requiring that prior
loans be brought current, to protect the Development Loan Program resources in instances
when delinquent borrowers or lessees request additional Program loans.

In addition, we recommend that the Board of Directors, Guam Economic Development
Authority:

4. Amend the Guam Business Development Corporation's Articles of Incorporation
to create a separate Board of Directors, comprised of members other than Guam Economic
Development Authority Board members, employees and their spouses, and appoint a new
Board of Directors for the Guam Business Development Corporation accordingly.

Guam Economic Development Authority Response and Office of Inspector General
Reply

In the May 21, 2001 response (Appendix 5) to the draft report from the Authority's
Chairman of the Board, the Authority expressed nonconcurrence with Recommendations 1,
2, 3, and 4. Based on the response, we consider the four recommendations unresolved (see
Appendix 6).

Recommendation 1. Nonconcurrence.

Guam Economic Development Authority Response. The Authority stated that it does not
consider the Guam Business Development Corporation's (GBDC) ability to repay the loans
an issue because the primary source of funds for repayment is lease income on assets of the
borrower and that since the Authority is the parent corporation of GBDC, the Authority has
substantial assets to fully satisfy any amounts owed by the GBDC. The Authority also
stated, "[i]n the event GEDA determines that the loans to GBDC are in default, GEDA's
substantial assets are able to fully satisfy any amounts owed."

Office of Inspector General Reply. Our review indicated that both loans (for the
warehouse and the dry dock) to the GBDC, a subsidiary of the Authority, were at risk. In
January 1994, the Authority approved a promissory note to postpone repayment of the loan
principal for 5 years. The manufacturing company was in arrears in its rental payments to
the GBDC. Without this income, the GBDC did not have available funds to repay the loan.
In addition, at the time of our review, the dry dock had not generated any income because
additional funding of $5 million was needed to repair and certify the dry dock for operation.
Therefore, we question the GBDC's repayment ability for either these loans or any future
loans or fund advances since both loans were not generating any income for GBDC. Further,
the Authority's argument that its own resources would be sufficient to pay off the GBDC
loans supports our conclusion that the Authority and the GBDC did not have an arm's-length
relationship with adequate checks and balances.

Recommendation 2. Nonconcurrence.

Guam Economic Development Authority Response. The Authority said that it considers
the loan of $1.4 million for land purchase and warehouse construction and the loan of
$1.2 million for dry dock towing to the GBDC as two separate projects that individually fell
below the statutory lending cap of 25 percent of the $6.7 million Federal Government
contribution to the Loan Program. The Authority also defended the rationale for the two
loans, stating that the warehouse construction project and the purchase of the dry dock would
create economic benefits for Guam.

Office of Inspector General Reply. The Authority's argument that the two loans should
be viewed separately when applying the 25 percent funding limitation is not valid. Under an
arm's-length relationship with a private borrower, two separate loans to the same borrower
would be considered jointly with regard to the 25 percent funding limitation. Therefore, we
believe that the two loans to the GBDC should also be considered jointly, even though they
were for different purposes. Additionally, following the Authority's argument, it could make
additional loans to the GBDC for any number of distinct purposes as long as the individual
amounts did not exceed the 25 percent limitation. Under such a scenario, the loan fund could
easily be depleted, given the GBDC's previous financial record. Regarding the economic
justification for the two loans, the loan for warehouse construction was in default, and the
facility has been vacant and unused since March 2000. The loan for relocating the dry dock
was also of questionable economic benefit because the dry dock remains unused and it has
been estimated that an additional $5 million will be needed for repairs and certification of
the dry dock before it will be usable.

Recommendation 3. Nonconcurrence.

Guam Economic Development Authority Response. The Authority stated that it has
policies and procedures in place to administer and monitor the Development Loan Program
and that the loans involved taking calculated risks. The Authority then described several
loans that were successfully repaid by the borrowers and stated that these successful loans
were made under the same procedures as the delinquent loans cited in the finding. However,
the Authority concluded that it will review its current practices to determine if there are
deficiencies.

Office of Inspector General Reply. While we acknowledge that the Authority had many
successful loans, the finding focused on instances in which the Authority made loans to
businesses that were already delinquent on prior loans. In our opinion, the Authority was not
prudent in safeguarding the Loan Program's assets by repeatedly taking the unreasonable risk
of giving new loans to borrowers who were already delinquent. If the Authority had
effectively implemented its existing policies and procedures, it would not have approved
subsequent loans until problems with the prior loans had been settled. A primary concern
of the Authority should be to reasonably protect the Loan Program from abuses by
delinquent borrowers.

Recommendation 4. Nonconcurrence.

Guam Economic Development Authority Response. The Authority stated that creating
a separate Board of Directors for the GBDC composed of members other than Authority
Board members will not address the issue of maintaining an arm's-length relationship
between the two entities because the Authority will still have a controlling interest in the
GBDC. However, the Authority stated that it will work to establish insider lending policies
and procedures, consistent with industry standards.

Office of Inspector General Reply. Our review indicated that there was no separation
between the Authority's Board and the GBDC's Board because the members of both boards
were the same. As a result, the Board of Directors of the Authority could not perform its
tasks independently from the Board of Directors of the GBDC and vice versa. Also, there
were no internal controls that would prevent the Authority from unilaterally approving any
of GBDC's requests because both boards were the same. We believe that if the Authority's
Board was separate from the GBDC's Board, there would be a greater likelihood of
independent action by the Authority and the GBDC in dealings with each other. For
example, the Authority's Board might have reviewed the loan applications from the GBDC
more carefully before approving the loans for the warehouse and the dry dock.

C. COLLECTION ENFORCEMENT

The Guam Economic Development Authority may have lost $2.3 million in delinquent loans
and placed another $2.2 million in delinquent loans at risk of loss because it did not
effectively approve loans and collect delinquent loans, and lost at least $303,697 and placed
another $784,000 at risk because of the declining value of foreclosed real property.
Specifically, the Authority did not (1) require that problem borrowers be referred for
management assistance, (2) ensure that its attorneys took timely action to protect the
Authority's interests in loan collateral, and (3) sell repossessed real property in a timely
manner. These conditions occurred because the Authority had not provided training to
ensure that personnel had the necessary loan collection skills, had not developed policy
guidelines to ensure that the Authority's attorney took prompt action against delinquent
borrowers, and had not established policies to ensure that repossessed real properties were
sold timely.

Procedural Requirements

The Authority's Standard Operating Procedures (Volume II, Chapter IV, Paragraph 44) state
that "immediately upon receipt of notice of default, [the] Loan Division shall" ensure the
borrower and the Authority are "doing everything possible to bring the loan to current status"
and maintain strict followup "to avoid excessive accrual of interest." In addition,
Paragraph 75 of the Procedures states, "A loan will be transferred to the 'in liquidation'
classification when it is necessary to resort to the collateral or to otherwise enforce collection
when the Agency's interest in the collateral . . . may be in jeopardy."

With regard to actions to be taken to assist delinquent borrowers, the Procedures state that
loan delinquencies in excess of 60 days "will trigger intensive servicing activity by the loan
officer since this is prime symptom of underlying problems" (Volume II, Chapter I,
Paragraph 5.b(2)) and that the loan supervisor may require field visits in cases involving new
loans that have the potential for problems and older problem loans (Volume II, Chapter III,
Paragraph 13). Further, Paragraph 13.c of the Procedures states that "where determination
has been made that a new loan has problem potential," the loan personnel should "counsel
the borrower to the extent practicable with a view toward forestalling future financial
difficulties," "review [the] adequacy and reliability of accounting records," and "determine
whether management assistance is needed, or if borrower desires assistance." In addition,
Chapter IX, Paragraph 83, states, "Specialized management assistance services will be made
available to identify and resolve management deficiencies and/or prevent deficiencies from
occurring in the future."

Finally, with regard to security collateral, the Procedures (Volume I, Chapter VI,
Paragraph 25.A) state that "all loans shall be of such sound value or so secured as reasonable
to assure repayment. It is important, therefore, that the collateral securing each loan be
carefully evaluated. The files should contain documentary evidence of such values."

Collection Actions

Paragraph 11 of the Development Loan Program Plan requires that Loan Program procedures
parallel those used by the U.S. Small Business Administration's (SBA) small business loan
program. We found that the SBA's delinquency rates for regular business loans issued in
Guam and Micronesia were 13 percent of the total number of outstanding loans and
15 percent of the outstanding balances. In comparison, the Authority had delinquency rates
of 66 percent of the total number of outstanding loans and 75 percent of the total amount of
outstanding balances.

We judgmentally selected for review 20 loans (16 Development Loan Program loans and
4 Agriculture Program loans) out of 126 loans that were outstanding as of
September 30, 1999. Of the 20 loans reviewed, 11 loans (7 Development Loan Program
loans and 4 Agriculture Loan Program loans) had been delinquent for at least 1 year and
averaged almost 3.5 years delinquent. Based on our analyses of the case files for each of the
11 loans, we considered the outstanding balances of unpaid principal, interest, and fees for
3 of the Development Loan Program loans totaling $2,307,979 to be uncollectible. We also
considered the outstanding balances of unpaid principal, interest, and fees for the remaining
four Development Loan Program loans and the four Agriculture Loan Program loans totaling
$2,238,799 to be at risk (see Table 3).

Table 3. Selected Delinquent Loans as of September 30, 1999

*This was a Program-guaranteed loan that the Authority purchased from the issuing bank when
the borrower declared bankruptcy in
February 1993. All available assets have been liquidated and funds applied to pay outstanding
interest and part of the outstanding
principal. The number of years delinquent was computed from the date of the original
guaranteed bank loan in 1991.
**The "Years Delinquent" for this loan was calculated from the expiration date of an agreement
that allowed the borrower to make
interest-only payments for a specific period of time.
***For this loan, all available assets have been liquidated, and funds have been applied to pay
outstanding interest and principal.
****Because these two loans were also included in Table 1 of Finding B, to avoid duplicate
counting the delinquent loan balances are
not included in Appendix 1 as Funds to Be Put to Better Use.

Based on our review of the Authority's efforts to collect these delinquent loans, we
determined that improvements need to be made in the areas of financial
analysis/management assistance and legal actions.

Financial Analysis/Management Assistance. Although the Authority performed on-site
visits at businesses with delinquent loans, Authority staff did not perform thorough financial
analyses of the businesses' ability to generate cash flows adequate to bring their delinquent
loans current and continue loan payments. Authority staff also did not refer any of the
delinquent businesses for management assistance. None of the loan files for the
11 delinquent loans reviewed included a detailed financial analysis of the ability of the
business to repay the delinquent loan. According to both the Authority's Administrator and
the Program and Compliance Officer, Authority staff needed specialized training in financial
analyses to perform such reviews and to make management assistance recommendations.
Further, the Authority's loan officials said that as of March 31, 2000, they had not made any
referrals for management assistance for at least 5 years. The loan officials stated that Guam
did not have adequate business advisory resources to which "problem" borrowers could be
referred. In our opinion, thorough financial analyses and appropriate recommendations to
management would help business owners focus on key areas of the struggling businesses to
improve their chances of recovery or, where necessary, ensure that the Authority took faster
action to collect on collateral before it became unavailable or lost its value. For example:

- On October 5, 1990, the Authority issued to a manufacturing company a Development
Loan Program loan of $450,000, of which the company drew down $447,631. The borrower
soon had problems making loan payments, and the loan was restructured on April 1, 1993
to reduce the interest rate and extend the loan term for an additional 2 years and 3 months
by reissuing the loan effective January 1, 1993 and keeping the existing 7 year payment
term. However, by September 30, 1999, only 3 months before the loan term was to expire,
the borrower owed $374,738, including interest and fees, and was 4.1 years behind in loan
payments. When the borrower filed for bankruptcy on November 12, 1999, only $91,697
had been paid on the loan's principal. The Authority had acknowledged that the borrower
had serious problems by placing the loan in "nonaccrual" status on December 5, 1997 and
referring the loan to its attorney for collection action on January 22, 1998. However, the
Authority had no record of having performed a detailed financial analysis of the company
or of referring the company for management assistance. Either action might have helped the
company in its financial difficulties or at least would have alerted the Authority to take
timely action to recover whatever funds it could through foreclosure on the loan collateral
rather than let the situation continue for 4 years. Because the company filed for bankruptcy
in November 1999, as of March 31, 2000, the Authority was not in a position to initiate
foreclosure proceedings against the company.

- On November 24, 1993, the Authority issued to a farming business a 3-year Agriculture
Development Loan of $402,565, of which the company drew down $234,866. Although the
Authority restructured the loan in January 1996 and again in October 1997, the borrower
made only five payments on the principal and, as of September 30, 1999, owed a total of
$266,158, including interest and fees. The Authority had initiated legal action against the
borrower on March 14, 1997, but the loan files contained no evidence of a financial analysis
of the borrower or referral for management assistance. The business appears to have had
financial difficulties from the beginning of the loan period, yet the only apparent effort made
by the Authority to resolve the problem was to restructure the loan rather than to try to
identify and correct the basic causes of the business's financial difficulties.

Legal Actions. For at least 3 of the 11 delinquent loans reviewed, the Authority did not take
legal action, in a timely manner, to collect the unpaid loan. The Authority used the same
legal counsel from February 1, 1995 through December 31, 1999, and according to the
Authority's Administrator, the legal counsel was not aggressive in initiating collection
actions.

On two occasions during 1994 the Authority took action to foreclose on the collateral of
delinquent borrowers, issuing a foreclosure notice to one borrower and initiating foreclosure
action against a second borrower. Shortly thereafter the borrowers agreed to begin repaying
the delinquent loans, and the Authority stopped the foreclosure actions and signed
forbearance agreements with the borrowers. However, neither borrower complied with the
agreements and, as of September 30, 1999, had not made any principal payments since the
dates of the forbearance agreements. According to the Administrator, foreclosure
proceedings were not restarted in a timely manner against the two borrowers because the
legal counsel had not been aggressive in acting on the Authority's requests. In
February 2000, the Authority sent one of the delinquent cases to its new legal counsel for
collection action. However, as of March 2000, no further action had been taken in the
second case, relating to a telecommunications company.

Regarding the telecommunications company, on February 14, 1992, the Authority issued
the company a 15-year Development Loan Program loan of $150,000, which was fully drawn
down. On March 21, 1994, the Authority placed the loan in "nonaccrual" status, but the
Authority did not refer the loan to its legal counsel for collection action until
September 19, 1997. According to the Authority Administrator, as of March 7, 2000, the
Authority's legal counsel had not taken action on the referral. In fact, the Authority's new
legal counsel had to ask the Authority to provide the current status on this and other
delinquent cases that had previously been referred for legal action. During a meeting on
April 5, 2000, the Administrator told us that legal action was in process and that the
prospects were good for collecting the $153,492 that was delinquent as of that date.

Real Property Obtained by Foreclosure

The Authority did not have written policies or procedures specifying when to dispose of real
property obtained through foreclosure on defaulted loans. According to the Authority's
Administrator and Chief Financial Officer, the objective of foreclosing on real property was
to recover as much of the unpaid loan as possible.

However, the Authority did not act aggressively to dispose of real property acquired through
foreclosures because management had not requested or obtained formal direction from the
Board on how to handle the sale of Authority assets in a weak real estate market with
decreasing property values. The Administrator stated that the Authority attempted to sell the
properties in 1996 but that the offers received were very low. He further said that the
Authority decided to delay the sale of foreclosed property until real estate values increased.
However, according to the President of the Guam Board of Realtors, the Guam real estate
market began to deteriorate in 1996, with appraised values of property decreasing 10 to
20 percent each year at least through 1999, with no prospect of a change in this condition in
the near future. Therefore, by holding the foreclosed properties, the Authority (1) had
incurred losses that we estimated to be at least $303,697 on properties which either were sold
or reduced in value between the first appraisal after acquisition and the most recent appraisal,
(2) had not collected about $784,000 on unsold properties that would then be available for
lending, and (3) lost potential interest that would have been earned if these funds had been
loaned.

As of October 1, 1996, the Authority owned 11 parcels of real property that it had obtained
through foreclosure action on defaulted loans originally totaling $1,444,286. The Authority
valued the properties at $901,020, which included the total amount of unpaid loan principal,
interest, and fees at the time of acquisition, as shown in Table 4.

Table 4. Real Property Acquired Through Foreclosure

__________
*As of September 30, 1999, the Authority's most recent appraisals of these properties were dated
in July 1996. If the same amount is shown in both
the "First Appraisal" and "Most Recent Appraisal" columns, this indicates that only one appraisal
was performed.
**Subsequent to the "First Appraisal," the property was designated as a historical preservation
district, and the Authority was prohibited from selling
the property. Therefore, the property essentially has no commercial market value.
***Two properties were acquired through the foreclosure of one loan.
****These losses totaled $303,697.

In one example, on October 19, 1989, the Authority acquired a one-tenth interest in a
53,474-square-meter (more than 13 acres) undeveloped parcel of property on Guam through
foreclosure to recover $123,968 owed by a Development Loan Program borrower. We found
no evidence in the loan files to indicate that the Authority attempted to sell this undivided
interest. However, according to two appraisals, by waiting, the value of the property
declined by almost 50 percent between 1989 and 1996. In addition, based on available
records, the property was subdivided in 1998, but, as of December 31, 1999, the Authority
still did not have clear title. If the Authority had been able to force the sale of this
undeveloped property in 1989 at the appraised value of $4,776,000, we estimated that the
Authority's one-tenth share before expenses would have been $477,600. Based on the 1996
appraised value of $240,000 for a one-tenth share, the Authority lost at least $237, 600.
Because the property apparently has been subdivided but the Authority's portion has not
been clearly identified, the Authority should take action to resolve the matter as soon as
possible and then sell its share of the property.

The remaining properties listed in Table 4 were all owned in their entirety by the Authority.
Because the latest appraisals were performed in 1996, as of September 30, 1999 the current
values of the properties were unknown. Based on the general decline of property values on
Guam, however, we believe they were below the 1996 values.

Recommendations

We recommend that the Chairman of the Board of Directors, Guam Economic Development
Authority, direct the Authority's Administrator to:

1. Provide Authority loan officers with specialized training in financial analysis and refer
businesses in financial difficulties for management assistance.

2. Establish and implement policy guidelines for timely action by Authority attorneys in
addressing Authority requests for legal action on delinquent loans.

3. Establish and implement an Authority policy to sell repossessed real property as soon as
possible after repossession unless a specific written justification is prepared and approved
by the Board of Directors to delay the resale. The Authority should also take action to sell
currently owned repossessed property.

Guam Economic Development Authority Response and Office of Inspector General
Reply

In the May 21, 2001 response (Appendix 5) to the draft report from the Authority's
Chairman of the Board, the Authority expressed concurrence with Recommendation 2 and
nonconcurrence with Recommendations 1 and 3. Based on the response, we consider
Recommendations 1 and 3 unresolved and request additional information for
Recommendation 2 (see Appendix 6).

Recommendation 1. Nonconcurrence.

Guam Economic Development Authority Response. The Authority stated that it is staffed
with professionals who have extensive lending experience but that it "recognizes the need
for continued development of its staff to meet increased mandates and demands for its
services." Therefore, it developed a training plan in October 1999 and tasked the
Administration and Operations Manager to assess the staff's training needs and develop a
training schedule. The Authority also stated that it does not concur that it "did not take any
action in development of financial management and referral services for program loan
clients." The Authority further stated that "in-house business counseling is not a viable
alternative, as there exists a conflict of interest and a liability to GEDA should its Loan
Officers engage in counseling its borrowers on any aspect of their business operations."

Office of Inspector General Reply. We acknowledge that the Authority is staffed by
professionals who have extensive commercial lending experience, especially in upper
management. However, we believe that the Authority needs to develop the skills of the
employees who work with the borrowers on a day-to-day basis. With regard to financial
assistance, our review indicated that the Authority had not made any referrals during the last
5 years. We disagree that providing advice to businesses would constitute a conflict of
interest because we did not envision that the advice or counseling would be provided by the
loan officers but by other staff within the Authority dedicated to that task. Further, the Board
adopted Volume II of the Standard Operating Procedures, which requires that the Authority
provide various levels of assistance to delinquent borrowers. By doing so, the Authority
would be able to help the businesses correct problems early and avoid more serious problems
later. This approach is taken by the U.S. Small Business Administration, which provides
management assistance services to participants of its programs. Nevertheless, we have
revised the recommendation to require that the Authority provide loan officers with
specialized training in financial analysis and refer businesses in financial difficulties for
management assistance, leaving it to the Authority's discretion whether to refer troubled
businesses to outside sources for management assistance or to develop an in-house capability
to provide this service.

Recommendation 2. Concurrence.

Guam Economic Development Authority Response. The Authority stated that it had hired
a new legal counsel, centralized its legal counsel activities with a Special Projects
Coordinator tasked with the responsibility to monitor requests for legal assistance, and
restructured its organization as related to the collection of accounts that are 30 to 90 days
delinquent and those that are over 90 days delinquent.

Office of Inspector General Reply. Although we commend the Authority for the actions
taken, the recommendation was for establishment and implementation of policy guidelines
for timely legal action on delinquent loans. The response did not indicate whether such
guidelines, specifying the time frames for legal action, had been developed.

Recommendation 3. Nonconcurrence.

Guam Economic Development Authority Response. The Authority stated that procedures
for the disposal of foreclosed real property are documented in Volume III of the Standard
Operating Procedures. The Authority also stated that it has made efforts to dispose of
repossessed property in a timely manner but that "economic conditions have prevented
several attempts for reasonable recoupment of losses." The Authority also noted an error in
a section of Table 4 of the finding and explained the circumstances related to specific
examples of repossessed property cited in the finding.

Office of Inspector General Reply. Despite the procedures that exist in Volume III of the
Standard Operating Procedures, we maintain that the Standard Operating Procedures do not
include a policy specifically requiring the timely disposal of properties obtained through loan
foreclosure. With regard to Table 4, we have corrected the section on "Properties Sold Since
October 1, 1996" and revised the related sections of the finding accordingly. Based on the
revised Table 4, we concluded that at least $303,697 may not be available for future loans
as a result of the Authority's delays in selling the properties. Of the 11 parcels acquired
through foreclosure action on defaulted loans through October 1, 1996, the Authority lost
$5,097 on a sale of one parcel and had a total potential loss of $298,600 for four other unsold
parcels based on the decline in value between the first appraisals and the most recent
appraisals.

APPENDIX 1

CLASSIFICATION OF MONETARY AMOUNTS*

APPENDIX 2

GUAM ECONOMIC DEVELOPMENT AUTHORITY
OUTSTANDING LOANS BY FUNDING SOURCES
AS OF SEPTEMBER 30, 1999

APPENDIX 3
Page 1 of 2

GUAM BUSINESS DEVELOPMENT CORPORATION'S
LEGAL STRUCTURE AS OF DECEMBER 31, 1999

On August 28, 1991, the Guam Economic Development Authority created the Guam
Business Development Corporation from a predecessor corporation when the Authority's
Board members, acting as the Corporation's Board, adopted amended articles of
incorporation. The Corporation was a wholly owned subsidiary of the Authority. Article 3,
Section 3.01, of the Corporation's articles of incorporation states in part, "This Corporation
is formed for the purpose of promoting the economic development of the Territory of Guam,
acquiring and developing real property within the Territory of Guam and to promote the
various interests of the Guam Economic Development Authority and the funds which it
administers." Section 3.02 includes paragraphs defining the Corporation's powers, which
include borrowing and lending money, buying and selling property, buying and selling
securities, and promoting and improving land.

In a legal opinion dated March 22, 1989, the Authority's legal counsel responded to the
question, "Can [the Authority] form a subsidiary and then loan it money from the [Guam
Development] Fund in order for the subsidiary to then use the money on a project which will
benefit Guam's economy?" The legal counsel's opinion stated, "The answer to [the]
question is 'yes,' provided that the money is actually loaned to the subsidiary and the
subsidiary uses the money in a way which develops Guam's economy, such as housing."
The legal counsel also stated, "In conclusion, [the Authority's] enabling legislation expressly
contemplates the type of loan under consideration here. The [Guam Development Fund] Act
and [the Authority's Guam Development Fund] Plan would also permit a loan of this nature.
The only considerations which might bar the loan are [the Authority's] necessary inquiry as
to whether funds are otherwise unavailable and the potential conflict of interest in loaning
funds to a corporation staffed by [Authority] officers or employees." The legal counsel
provided this guidance so that the Authority could address the issues in the loan process. In
a subsequent legal opinion dated October 29, 1993, the Authority's legal counsel stated that
"it is my opinion that procurements made by a corporation in which [the Authority] owns
stock are not subject to the [Guam Procurement Law]."

In a memorandum dated June 1, 1994, the Director of the Guam Department of Revenue and
Taxation determined that the Corporation "is an exempt entity as to all taxes levied under
Guam law." The official minutes of an August 4, 1993 meeting of the Authority's Board of
Directors, when discussing transferring Authority surplus to the Development Program, state,
"The Administrator explained that this [Guam Development] Fund is quite restrictive and
the funds could be better used if put into the [Authority's] subsidiary which has a great deal
more flexibility." The minutes also note that the Administrator "ask[ed] that the Board also
authorize any surplus . . . be likewise transferred to the GBDC [Guam Business Development
Corp]."

On August 18, 2000, the General Counsel of the Office of Inspector General issued a legal
opinion (Appendix 4) in response to a question about the appropriateness of the Authority's
lending to its subsidiary. The General Counsel stated, "The Authority can give a loan to a
wholly owned subsidiary if the statutory eligibility criteria are met."
APPENDIX 4

Graphic file of text not included by OIG

APPENDIX 5

Graphic file of text not included by OIG
APPENDIX 6

STATUS OF AUDIT REPORT RECOMMENDATIONS

Finding/Recommendation Reference: A.1

Status: Unresolved.

Finding/Recommendation Reference: A.2

Status:

Finding/Recommendation Reference: A.3

Status: Management concurs; additional information requested.

Action Required: Provide an action plan that includes the target date and title of the
official responsible for evaluating options for restructuring the
Loan Program to allow the Authority to recover loan insurance
costs and for submitting a revised Loan Program Plan to the
Office of Insular Affairs, U.S. Department of the Interior.

Finding/Recommendation Reference: B.1

Status: Unresolved.

Action Required: Reconsider the recommendation, and provide a response
indicating concurrence or nonconcurrence. If concurrence is
indicated, provide an action plan that includes the target date and
title of the official responsible for submitting a written analysis
and certification of the Guam Business Development
Corporation's ability to repay any future loans or funds advanced
from the Loan Program prior to making such loans or advances.

Finding/Recommendation Reference: B.2

Status: Unresolved.

Action Required: Reconsider the recommendation, and provide a response
indicating concurrence or nonconcurrence. If concurrence is
indicated, provide an action plan that includes the target date and
title of the official responsible for providing information on
outstanding loans to the Government Business Development
Corporation to the Office of Insular Affairs, U.S. Department of
the Interior, and stopping the practice of approving Loan Program
loans to the Corporation without verifiable repayment sources and
adequate security for the loans.

Finding/Recommendation Reference: B.3

Status: Unresolved.

Action Required: Reconsider the recommendation, and provide a response
indicating concurrence or nonconcurrence. If concurrence is
indicated, provide an action plan that includes the target date and
title of the official responsible for implementing policies and
procedures for analyzing the repayment ability of borrowers and
requiring that payments on prior loans be current before
additional loans are given to loan applicants.

Finding/Recommendation Reference: B.4

Status: Unresolved.

Action Required: Reconsider the recommendation, and provide a response
indicating concurrence or nonconcurrence. If concurrence is
indicated, provide an action plan that includes the target date and
title of the official responsible for amending the Articles of
Incorporation of the Government Business Development
Corporation to create a Board of Directors separate from that of
the Guam Economic Development Authority and for appointing
new Board members for the Corporation accordingly.

Finding/Recommendation Reference: C.1

Status: Unresolved

Action Required: Reconsider the recommendation, and provide a response
indicating concurrence or nonconcurrence. If concurrence is
indicated, provide an action plan that includes the target date and
title of the official responsible for providing financial analysis
training to loan officers and developing procedures for referring
businesses that have financial difficulties for management
assistance.

Finding/Recommendation Reference: C.2

Status: Management concurs; additional information requested

Action Required: Provide an action plan that includes the target date and title of the
official responsible for developing and implementing policy
guidelines that include time frames for taking legal action against
delinquent loan referrals.

Finding/Recommendation Reference: C.3

Status: Unresolved

Action Required: Reconsider the recommendation, and provide a response
indicating concurrence or nonconcurrence. If concurrence is
indicated, provide an action plan that includes the target date and
title of the official responsible for developing and implementing
policies and procedures for the prompt sale of property upon
foreclosure on delinquent loans unless specific written
justification is given by the Board to delay such sale.