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Milwaukee County District Attorney E. Michael McCann's office will open a criminal investigation into museum practices, Assistant District Attorney David Feiss said after the release of the audit.

"We will be investigating to determine whether any of the conduct reported in the audit can be considered criminal conduct," Feiss said. The investigation will look at "the manipulation of grant funds and specific donor funds as well as the falsification of information contained in museum records," Feiss added.

County Auditor Jerome Heer had asked McCann to investigate certain findings in the county audit. But, Feiss said, "we'll review everything in the audit."

The then-top financial officer of the museum, Terry Gaouette, covered up deficits and raids on endowment funds through accounting manipulations and misrepresentations to board members, and then-President Michael Stafford ignored warnings of financial distress, the Milwaukee County Department of Audit alleged.

Gaouette was unavailable for comment Thursday, but he has told auditors that he is being unfairly vilified for failures of fund raising and excessive spending that were not under his control.

His lawyer, Stephen Liccione, said: "There was nothing criminal. There are nine years of independent audits - which the county audit is not - that showed the recording of the museum's financial condition was at all times accurate and meeting generally accepted accounting principles."

In a major surprise late Thursday, the museum's board learned that another accounting change instituted during Gaouette's tenure as chief financial officer could significantly add to the ever-rising projected deficit for fiscal year 2005, already pegged at $10.4 million. That deficit is likely to rise at least $1 million because the museum in 2000 stopped accruing post-retirement health insurance funds for former county employees working at the museum, the board was told. Thursday's news delayed approval of the museum's 2005 outside audit, a document that was released earlier this week.

That development disappointed museum officials who had hoped to put all the audits behind them and start afresh.

Fund-raising deal questioned

Board members on Thursday reviewed a copy of the museum's ethics policy, including issues of conflict of interest, a topic that took on fresh relevance given a new finding by county auditors involving former museum fund-raising director Lisa Froemming. A telemarketing firm hired by the museum was headed by her husband, Michael Phinney.

The audit called the museum's telemarketing fund raising ineffective because 95% of the funds raised were chewed up by fees. Froemming, who left in late 2003, defended the firm's work and said telemarketing for new members is always costly in the short term.

The audit notes that Froemming's successor, Michael Hilliard, a former colleague of Stafford's in Michigan, was paid $94,230 in salary in six months, plus $16,000 for moving and housing-search expenses, flights to and from his home in Michigan and parking, the audit says. Hilliard never moved to Wisconsin.

Private fund raising fell dramatically after Froemming's departure, museum records show.

County auditors in June offered a preliminary look at the museum's near meltdown. Now, in stark detail that combines previously known information with new revelations and a historical overview, they outline sweeping fiscal failures and a coverup that marred the museum's bid for elite status in the new century.

They make no claim that funds are missing or were misappropriated for personal gain.

The audit says the museum's long-term financial situation is so precarious that Milwaukee County should consider selling off some of the 6.5 million artifacts housed in the county-owned facility. Many will never be displayed. If donors agree, then some items could be sold and the money raised used for long-term museum needs, auditors suggest. Museum officials are resisting that idea.

The museum has accumulated massive debt, almost $29 million, since the county turned management over to a non-profit entity, the audit notes. At the same time, it has drained its account for debt repayment. The institution had less than $1 million in debt in 1992 when the switch took place.

Among the audit's other findings:

• Gaouette, the former chief financial and operating officer and one-time acting CEO, "engaged in a series of actions that concealed or misrepresented the severity of MPM's financial difficulties to MPM Board members and Endowment Committee members for an extended period of time."

Gaouette disagrees with some of the audit's conclusions and says Stafford wanted the responsibility of telling the museum's board about financial issues, the audit says. Gaouette resigned in April, as the budget crisis blew up privately at the museum. He signed an agreement that pledged him and museum officials to secrecy about the circumstances of his departure and the details of the severance agreement.

Gaouette's moves violated board policies on use of endowment funds, ran counter to accepted accounting principles, violated restrictions attached to certain donations, and ran afoul of museum corporate bylaws and bank-imposed financial restrictions, the audit says.

Gaouette inappropriately used National Science Foundation grant advances for general museum operations when cash got tight.

The effect of Gaouette's moves was to mask deepening fiscal woes and help balance the museum's budget, if only on paper, the audit charges.

• Stafford, who resigned under pressure this summer after less than two years on the job, acknowledged to auditors that Gaouette informed him of cash-flow and fund-raising problems. E-mails between the two show Gaouette warning of serious budget problems. Stafford said he felt that Gaouette's concerns were exaggerated.

Auditors say the interplay between the two men may never be fully known but say it is clear that Gaouette "had not fully disclosed to the CEO or the MPM Board of Directors the frequent and growing reliance on board-restricted funds to sustain museum operations."

Stafford, the audit says, did not sufficiently heed his chief financial officer's warnings.

"The CFO's treatment of the endowment fund as a reserve account, to be accessed as a contingency fund rather than the restricted trust fund that it was, goes to the heart of MPM's financial crisis," the audit says.

• More than $7 million was withdrawn from $10.9 million in museum endowment and debt-repayment funds, on Gaouette's orders, without authorization by the board's Endowment Committee between June 2002 and March 2005. Another $3.5 million of the $10.9 million was authorized, but after the fact.

Gaouette repeatedly misrepresented the status of the museum's endowment funds by claiming to have set aside cash that did not actually exist, by dramatically overstating market losses and understating withdrawals, and through other misrepresentations, the audit says. Withdrawals annually from endowment funds were supposed to be limited to 3% of the funds' balance to support museum general operations.

• In the fiscal 2004 museum budget, Gaouette, then acting CEO, included $2.08 million in sponsorship revenue for the "Quest for Immortality" exhibit, even though virtually all of that money already had been counted as revenue in 2002 and 2003. It was "an apparent effort to balance a difficult budget," the audit states.

• Museum budgets dramatically overstated anticipated grant revenues. And unrealistic budgeting was common; in 2004 Gaouette budgeted retail sales to make $325,000, despite consistent major deficits in that area in previous years.

Gaouette acknowledges he oversaw the fiscal 2004 budget but says Stafford took an active hand in the 2005 product.

• The museum improperly accounted for the cost of setting up several smaller exhibits. It did so by calling the time of employees involved a capital rather than an operating expense, even though it did not document how much time the employees actually spent working on the projects. Capital costs can be spread over several years, whereas operating expenses must be taken immediately. As a result, the budget for the 2002 fiscal year understated expenses by $525,700 and that of 2003 by $189,600, the audit says.

• An aggressive strategy of opening off-site gift shops lost $1.35 million over six years and came in $3.3 million under budget because of "unrealistic budget projections," the audit says. The budget deficits from the retail shops were consistently more than $500,000 a year.

• Concessions and catering operations ran slightly in the black over a four-year period but lagged budgeted amounts by $1.9 million in that period.

• Despite high-profile exhibits and much higher spending, museum attendance was only modestly higher in 2005 than in 1992, the year the county transferred management responsibility to Milwaukee Public Museum Inc.

• The Egypt "Quest" exhibit netted $850,000, about $264,000 less than expected. The recent "Pearls" exhibit was a major financial loser ($523,000) because revenue was off 43% from budgeted figures and the exhibit cost 81% more than expected.

• The museum's $1,000 limit per transaction on business credit cards was routinely violated, at times by splitting transactions to keep them under the limit.

• While encountering budget problems in August 2004, the museum inexplicably agreed to pay $6 million to buy the space in the museum center being vacated by Discovery World's anticipated relocation to the lakefront. The deal called for a lump sum of $5 million payable in September 2006. The museum planned an education center for the space. The museum might be able to escape the deal by invoking a contingency in the agreement, but Discovery World could challenge that.

• As recently as January 2005, Gaouette and Stafford signed a seven-year, $2.75 million financing lease for equipment to convert the IMAX theater to a dual-use planetarium-movie venue. There is no evidence of board discussion of the arrangement.

A major donor had given $1.8 million for the project with the understanding that the museum would purchase the system for that amount. Instead, the museum spent the donor's initial $500,000 gift on other things and went with a more expensive long-term lease.

The lease plan, new museum President Dan Finley and board Chairman John E. Schlifske said in their audit response, "was in clear contravention to the planetarium donor's wishes and understanding."

Museum board failures

The audit faults the museum's volunteer board for lack of diligent, probing oversight, while emphasizing that it was kept in the dark on key issues.

"In placing complete trust in museum management, the MPM board failed to adequately scrutinize staff reports and indirectly fostered a corporate culture that discouraged frank discussion of the 'downside' risks associated with the aggressive growth experienced by MPM," auditors conclude.

The same culture was exhibited when the museum board's Executive Committee failed to notify county officials of the museum's financial crisis as it unfolded shortly before the County Board voted on a new 20-year lease deal worth $63 million in March, the audit notes.

That deal was shelved after the Journal Sentinel reported on the museum's budget woes in May. Under the old lease, Milwaukee County contributes $3 million a year in tax funds to museum operations and pays for some maintenance projects. This summer, the county reluctantly agreed to guarantee a $6 million private loan bailout for the museum, which struggled to meet payroll and subsequently instituted mass layoffs and budget cuts to stay afloat.

In a written response attached to the audit, the new museum management team, led by Finley and Schlifske, said it generally concurred with the findings. They added another cause to the list of reasons for the financial crisis: significant reductions in governmental support. Milwaukee County has reduced its aid to the museum as the facility grew more reliant on private fund-raising.

The museum board is "truly sorry" that it relied too heavily on trusted management, the two men wrote. "This trust dulled the board's critical analysis and lulled it into accepting overly optimistic reports." The board, they said, "had an entirely different understanding of MPM's financial situation than what was actually happening."

The board takes full responsibility for its mistake, they wrote. The board already has approved new fiscal policies designed to promote openness and fiscal responsibility, they wrote. Finley came aboard in August.