This article was reported by Sharon R. King and Patrick M. Fitzgibbons in New York and Geoffrey A. Campbell in Washington. It was written by King.

A review by the District of Columbia of its business ties to its financial adviser, Lazard Freres & Co., should be completed within the next few weeks, according to a district finance official.

Questions regarding an undisclosed fee-splitting arrangement between Lazard Freres and Merrill Lynch & Co. in Massachusetts prompted officials in the District of Columbia to review the municipality's dealings with Lazard, said Ellen M. O'Connor, deputy mayor for finance.

The examination comes on the heels of a similar inquiry in Massachusetts involving Lazard Freres. The Massachusetts inquiry has also prompted officials in Wisconsin and Louisiana to take a closer look at transactions involving Lazard.

"We're starting off with discussions with Lazard Freres," O'Connor said. "To figure out where we're all at, the district has contacted the commonwealth [of Massachusetts] and they are providing us with some information regarding the action they took [and] the reasons for it. I have begun and will have additional meetings with Lazard regarding the review of the agreements and the understandings the district had regarding the now of funds and compensation around the swaps that the district did."

O'Connor said the district wants to ensure that no additional fees were paid to Lazard beyond the ones originally agreed to by the district.

We just want to "make sure that the way that the money flowed was as agreed and as determined at that time," she said. "And I'll tell you the truth, I have no reason to believe that it didn't. I'm not being accusational. This is just confirming, doing our homework, nailing it down."

Unlike the fee-splitting arrangement between Lazard Freres and Merrill Lynch in Massachusetts, there was no similar arrangement in the district, O'Connor said.

In recent years, while Lazard has served as its financial adviser, the District of Columbia did two interest rate swaps for which Merrill served as the principal swap agent.

One of the swaps was a 1992 transaction that was part of a refunding of $299.8 million of outstanding bonds. The interest rate swap involved swapping the variable-rate payment on the bonds to obtain a fixed rate of debt service.

The district's swap partners were Merrill Lynch and two minority-owned firms, Pryor McClendon, Counts & Co. and W.R. Lazard & Co. The total fee for the swap was $4.785 million, which included $1.1 million of reserves, O'Connor said.

If the reserves were not needed, they would be kept by the underwriter, O'Connor said. Two-thirds of the fee was to be retained by Merrill Lynch; the other one-third was to be split between Pryor McClendon and W.R. Lazard, O'Connor said.

In 1991, Merrill was the swap provider for the district's first swap, for $230 million of a $336.61 million general obligation general fund recovery bond offering. Pryor McClendon was the swap adviser, according to closing documents on the sale. In the swap, Merrill agreed to pay the floating rate due on a portion of the bond issue and in return, the district agreed to pay Merrill a fixed rate of interest.

Lazard Freres and M.R. Beal & Co., a minority-owned firm, were co-financial advisers on the 1991 transaction.

According to documents on the 1991 bond issue, Merrill Lynch was paid $2.09 million for its work on the swap transaction. The up-front fee represented about 1% of the par issuance of the bonds and was determined based on a commonly used method of calculating swap fees at that time, O'Connor said. Two-thirds of the fee was kept by Merrill and one-third was given to Pryor McClendon, she said.

While no fee-splitting arrangement exists in the District of Columbia, O'Connor said Lazard Freres suggested such an agreement for the 1991 offering, but the district rejected the idea.

"That was specifically discussed and rejected at the time the swaps were done," O'Connor said. "We were specifically given the opportunity to approve the method of compensation and we specifically decided that the compensation to Lazard ought to be that described in their contract for financial adviser. Period. They should be compensated for financial adviser services. And that the compensation for the costs of the swap or the fees and so forth ought to be made directly to Merrill Lynch.

"We looked at other compensation arrangements and decided against them. We did not include in the financial adviser contract any special provisions to reward the financial adviser for the selection of certain types of financings or transactions or whatever. Indeed, the financial adviser contract in the District of Columbia is a flat fee [of] $500,000 a year.

In 1991, looking to broaden its use of minority- and woman-owned firms, the district selected Pryor McClendon to participate on the $230 million swap. It was the first done by the firm, O'Connor said.

"In September 1991, there wasn't a minority- or woman-owned firm that had done a nickel's worth of swaps," said O'Connor, explaining that the district wanted such firms to gain experience in that market.

Meanwhile, questions linger among some municipal dealers concerning any firm's work with Mark S. Ferber, the former Lazard Freres executive who headed the district's financial advisory team.

"Mark had a philosophy: This is a trading business," said one municipal dealer who asked that his name not be used. The dealer said he believed that Ferber felt "if I bring you into a deal" then "we would have to put him into a deal somewhere else."

Malcolm D. Pryor, chairman of Pryor McClendon, said his firm did not have a fee-splitting arrangement with Merrill Lynch or Lazard Freres for any work it did in the district.

"We were hired by the district and we were paid by the district, not by Merrill Lynch or Lazard," Pryor said.

The municipal executive also said he did not know whether Lazard Freres had recommended his firm to participate in the offerings.

"I wasn't in the room when the decision was made," Pryor said. "It wouldn't be unnatural for financial advisers to make that recommendation."

But, he said, "no matter who recommended us, there was no relationship with Lazard [Freres']. We work hard to get business. We owe it to no one."

Merrill officials also said the three firms did not share fees on work in the district.

A spokeswoman for Lazard Freres did not return repeated telephone calls.

It was learned earlier this summer that from 1989 through the end of 1992, Merrill Lynch and Lazard Freres worked together on several swap transactions and shared the fees they generated.

The relationship between the firms was detailed in a contract signed by former Merrill Lynch managing director Douglas Hamilton and former Lazard partner Ferber.

The contract also said that Merrill Lynch, the top swap provider in the nation, would pay Ferber and his staff $1 million a year for advice in structuring and timing swaps.

In late 1991, the two firms did not disclose their relationship to the Massachusetts treasurer, Joseph D. Malone. Malone had requested that all firms interested in underwriting state debt disclose their relationships.

Officials at the Massachusetts Water Resources Authority said Ferber -- who had moved from Lazard to become the vice chairman of First Albany Corp. last February -- also did not adequately disclose the terms of the contract to them. Ferber was serving as the authority's financial adviser at the time.

Pursuant to these revelations, Ferber was dismissed as financial adviser of the water authority and one week later was fired by the board of directors at First Albany.

Ferber and Hamilton had attempted to sell the commonwealth on a swap transaction with minority-owned Reinoso & Co. in late 1991 and 1992. The state ultimately decided against the swap.

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