Joseph Krist

Publisher

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We come upon the midpoint of this most unique year. As we enter the second half, we see one of our top five cities by size begin its decent into the abyss from which New York City is just beginning to rise. Houston is now the flashpoint but also is likely to serve as a cautionary tale for communities large and small as they face the full force of the virus. Now, Texas is poised to be the first major example of a failed reopening. As events unfold, it is likely that a paused restart will generate many lessons for the nation at large.

The economy now teeters between an uncertain recovery and a possible second stumble. Cutting through the data, there are some 21 million people collecting unemployment benefits as of last week. The initial claims figures are leveling at 1-1.5 million, a heretofore unacceptable number. This, before many state and local government employees find themselves furloughed our laid off with the new fiscal year for most states beginning July 1.

That unemployment wave is coming with 13% of the US workforce employed by government. The revenue hit has been just too great to maintain headcount. many in the public sector hope that the potential impact of widespread government employment is the argument which moves the needle on pending additional federal aid to states and localities. It would shift the spotlight to general economic impact versus pension costs and other spending issues.

With GDP down 5% in 1Q 2020 and an even steeper decline expected for 2Q 2020, more optimistic scenarios spun by various interests become less likely. The economy will not be rocking by the 4th of July. The hope is that is does not look like the exhausted couples at the dance marathon contests of the Great Depression.  Estimates are that the decline for the entire year 2020 will be 8%.

The Muni Credit News will take a week off the celebrate America’s 244th birthday. It will return for the week of July 12. In the meantime, you can take the Muni Credit News to the beach by checking out our recent Bond Buyer podcast.

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STATES

Recent data from the National Association of State Budget Officers, shows that government was already a diminished source of spending as the pandemic hit. Based on pre-COVID estimates, general fund spending was on track to total $919.1 billion in fiscal 2020, a 5.8% increase, with this growth partially driven by one-time investments and rainy day fund deposits made with surplus funds. After steep declines during the Great Recession, state general fund spending just barely returned to inflation adjusted pre-recession fiscal 2008 levels in fiscal 2019.

Before COVID-19 hit, revenues were on track to increase 3.0% in fiscal 2020 over fiscal 2019, slower than the level of growth observed over the past couple of years. General fund collections from sales taxes were on track to grow 5.0% in fiscal 2020, personal income taxes were set to increase by an estimated 2.7%, and corporate income taxes, a more volatile revenue source, were estimated to increase by 1.0% in fiscal 2020. In fiscal 2021, general fund collections from sales taxes were forecasted to grow 3.3%, personal income taxes by 3.7 %, corporate income taxes by 2.7%, gaming and lottery revenues by 2.5%, and all other revenues by 0.9 %.

On the spending side, the changes are just as profound. Before COVID-19, Medicaid spending from all fund sources was estimated to grow by a median of 5.8 % in fiscal 2020 compared to fiscal 2019 levels. In fiscal 2020, spending from state fund sources was estimated to grow by a median of 6.4 %, with general fund spending growing 5.0 % and spending from other state funds growing 9.9 %. Federal fund spending on Medicaid was on track to grow 7.6 % for fiscal 2020.

Medicaid spending growth was forecasted to slow somewhat in fiscal 2021, based on governors’ proposed budgets. The median growth rate for total Medicaid spending was projected at 3.4% for fiscal 2021. Governors in two states that have yet to expand, North Carolina and Oklahoma, included funding in fiscal 2021 for Medicaid expansion in their recommended budgets.

When governors proposed their fiscal 2021 budgets, fiscal conditions were stable in the vast majority of states, and recommended revenue actions were for the most part limited and modest in size. According to executive budgets, 14 states proposed net increases in taxes and fees while 15 states proposed net decreases, resulting in a projected net positive revenue impact in fiscal 2021 of $2.4 billion. That is all off the table now given the realities of 4Q FY 2020 and the depressed outlook well into FY 2021.

PANDEMIC CASUALTIES – CAPITAL INVESTMENT

One of the ways in which the pandemic has impacted public capital investment is reducing the revenue available from states for distribution to municipalities for local road repair and construction. As a result, many communities are being forced to delay or cancel some projects for lack of funding.

One example may be found in Maryland. The Maryland Department of Transportation recently revised its estimates for highway-user revenue disbursements for the current and upcoming fiscal years in May. The state grants are based on revenues from vehicle-registration fees and taxes for gas, corporate income, rental cars and vehicle titling. The highway-user revenue grant amounts to local governments factor in a jurisdiction’s vehicle miles traveled and vehicle registrations. Early estimates showing transportation revenues to come in $550 million short this fiscal year and $490 million to $560 million short for the new fiscal year, according to the Maryland DOT.

The Massachusetts Port Authority board voted to reduce its five-year, $3 billion construction plan by a third in the face of a worldwide slowdown in air travel brought about by the pandemic. The ambitious multibillion-dollar renovation and expansion of Logan Airport would have included a monorail-like people mover and two parking garages. The board also approved trimming three of seven gates from the expansion of Terminal E.

Passenger counts at Logan are roughly 90% below the levels of a year ago. Massport estimates as few as 13 million passengers will use Logan in the fiscal year beginning July 1, under its worst-case scenario. There were about 42.5 million passengers in 2019. Other Massport operated facilities are experiencing significant utilization declines.

Worcester Regional Airport saw two of the three airlines end service in June. Shipping volume has dropped at the Conley freight terminal in South Boston. The nearby cruise ship terminal has handled as many as 150 ship visits annually yet may not see a single ocean liner this calendar year. There is a clear budgetary impact. The Massport board adopted a new budget for the fiscal year that begins in July that anticipates $600 million in revenue, down from about $900 million two years earlier. The reduction in the scale of the Terminal E expansion is projected to reduce its cost from $700 million to $565 million. Other project reductions include postponement of plans to connect the terminal to Airport Station on the MBTA’s Blue Line.

The biggest casualty to date is the pending $51.5 billion capital improvement plan for NY’s Metropolitan Transportation Authority. The agency faces a $10.6 billion deficit over the next two years with the virus hammering ridership numbers. The subways are carrying some 1 million passengers daily but this is only 20% of the normal pre-pandemic ridership.  At the same time, extraordinary maintenance costs will have to continue in order to drive higher utilization. The question is how permanent is any resulting decline and how bad is it? That drives this decision.

BUSINESS AND GOVERNMENT ON THE SAME PAGE?

The pandemic is turning many notions upside down as they pertain to commuting, working remotely, and urban life writ large. The unique dynamics of the pandemic are leading to some of the most unexpected marriages in terms of near term government finance and fiscal policies. The latest example is an emerging linkage of interests on the part of government and business.

The U.S. Chamber of Commerce has come out in support of increased stimulus for state and local governments. It is not as if business has had its “come to Jesus” moment in terms of its historic stances against taxes and government spending. It is a reflection of business being able to read the emerging tea leaves and realize that the public has noticed that many more resources have been provided to the corporate sector through Congressional action than has been the case for governments.

With in excess of 40 million Americans claiming unemployment over the last twelve weeks, it is apparent that raising individual taxes is an idea that is dead on arrival. So business has figured out that after receiving four times as much aid as governments that there is an appetite for raising taxes on companies. The move to support additional stimulus to government  reflects a real fear of higher taxes on businesses. As the Chamber’s head of policy put it “Part of our conversation with Republicans on Capitol Hill is that ironically, if your concern is big state government, then the last thing you want to do is force states to replace one-time lost revenue with permanent tax increases.” 

The newly adopted stance reflects the realization that the impact of the pandemic will be long lasting as the economy has essentially taken a ten year step back. The downturn has strengthened the position of those who are against tax breaks to entice facilities and jobs, especially if many jobs previously done in offices are done remotely on a long term basis. (No need to bribe Facebook or Amazon if no one is using the offices.)

MIXED SIGNALS ON HIGHER EDUCATION

Depending on where you look, the outlook for state universities is either benefitting from the pandemic or is being hurt by the pandemic. We were intrigued by two stories we saw recently on the subject about enrollment trends in two neighboring states – West Virginia and Pennsylvania.

The first story centered on the Universities of West Virginia and Kansas and highlighted what is reported as increased demand due to students wanting to stay closer to home as the result of the pandemic. The schools reported anecdotal evidence of increased demand but offered no tangible data to back it up. While much of the focus was on cultural issues driving the demand it was also clear that as much as anything the economy was driving demand for lower cost higher education options. It isn’t clear which is the primary driver.

The second story however, highlights many of the concerns facing the higher education sector overall. The Pennsylvania state higher education system is facing a different set of circumstances. Recent data released by the Commonwealth showed that projected first-year enrollment is down at Pennsylvania’s 14 state universities. The decline is not precipitous – 2% vs. last year’s pace of acceptances. Completed applications were down 6% this year.  The impact was not consistent across the board but some cited institutions saw nearly 20% declines in demand. Officials cited the corona virus pandemic as one reason for the lower numbers, but they also said there was a continuing decline in high school graduates.  

PURPLE HAZE OVER MARYLAND P3

The unfolding drama underway at the Maryland P3 developing and constructing a suburban light rail system moves to its next phase. In a move which had been anticipated, Purple Line Transit Partners (PLTP) filed a notice of termination. In 60 days, PLTP could withdraw from the project, effectively crippling it when it had finally able to begin construction. PLTP, as we have previously chronicled, had threatened the move.  It comes as negotiations continue over the size of project cost overruns and how those additional costs would be distributed to the various entities comprising the P3.

The actual notice clearly indicates that this is essentially a catalyst for ongoing discussions. A resolution is thought to depend on the employment of a new contractor. The current contractor and the state are in disputes over performance and payment. The contractor claims that litigation and regulatory related delays account for much of the overruns. The state has granted the contractor a five-month extension for delays related to the lawsuit but no additional money, saying the other delays are the contractor’s responsibility.

PANDEMIC CASUALTIES – GOVERNMENT HEADCOUNT

The profligate hiring practices of the DeBlasio administration are quickly coming back to haunt it as additional aid from either the State or the federal government is not forthcoming. While the City waits to see if additional aid materializes, it has had to prepare for the reality that current headcount levels – 325,00 – for the City are untenable. Now the Mayor is considering furloughing or laying off some 22,000 city employees.

It is likely that some headcount reduction is necessary. We believe that for now the announcement of potential layoffs is a bargaining tactic as the City looks to the State and federal governments for more aid. It is important to remember that the Mayor has greatly expanded headcount during his tenure by some 10%. The proposed reductions would still leave the City with some 8,000 more positions filled than at the start of his administration. Many, including ourselves have regularly cited rapidly expanding headcount  as a credit risk as the growth in headcount could not be sustained in other than an optimal economic environment.

The headcount issue arises in a number of situations. In Chicago, the Mayor recently garnered some unwanted attention when she discussed the role of police headcount as an economic development tool. The Mayor expressed the view that “defunding the police” means “you are eliminating one of the few tools that the city has to create middle-class incomes for black and brown folks. ” Not real productive jobs, not better teachers, not better services. Policing as a tool of economic development. It is the kind of thinking that makes one wonder how serious the City is about matching its service priorities to the real needs of the City.

What is unfortunate is that this kind of thinking has been tried and failed before. Thirty years ago, NYC’s then Mayor David Dinkins undertook a program of hiring for traffic control officers and parking enforcement officers as a way of providing entry level employment. Over time, the jobs began to be occupied less and less by formerly unemployed residents. It became instead a mode of entry employment to immigrants. It became a less effective economic empowerment tool for the very people it was intended to help.

Localities would be hard pressed under the best of circumstances

HOUSE PROPOSES BOND FRIENDLY INFRASTRUCTURE BILL

The Moving Forward Act (H.R. 2) includes bond financing provisions such as advance refunding bonds, an increase of annual state volume cap, creation of new Qualified Infrastructure Bonds, and the restoration of certain tax credit bonds. It also makes the NMTC permanent, gives LIHTC a major boost, delays the phase down of the ITC, and increases the Historic Tax Credit, among many other provisions.

H.R.2 includes provisions to establish a permanent minimum 4 percent rate for the LIHTC, increase the annual LIHTC allocation amount, temporarily reduce the test for bond-financed housing to 25 percent and permanently extend the NMTC at $5 billion, increase the historic tax credit (HTC) applicable percentage from to 30 percent for five years and delay the phase down of the renewable energy investment tax credit (ITC) until 2026.

The new Qualified Infrastructure Bonds (QSIBs), which are modeled after Build America Bonds, would have their direct-pay subsidies phase lower to 38% in 2025, 34% in 2027, and 30% permanently thereafter. The legislation also would restore tax-exempt advance refunding 30 days following enactment into law and authorize the issuance of $30 billion in qualified school infrastructure bonds (QSIBs) over three years.

NUCLEAR STUMBLE

The latest piece of negative news to come out of the Plant Vogtle expansion project is an announcement of changes to the timing of certain planned activities at its Plant Vogtle Units 3 & 4 new nuclear construction project. The changes reflect the impacts of workforce reductions earlier this year as the project needed to enforce social distancing while it continued construction.

Georgia Power and Southern Nuclear Company, an affiliated entity that manages project construction, are employing an aggressive site work plan that targets regulator-approved in-service dates of November 2021 for Unit 3 and November 2022 for Unit 4, dates that have not changed following the latest schedule adjustments. That schedule is viewed as aggressive. It is also likely to further extend in service dates and increase costs.

Georgia Power announced in April that it would reduce its workforce at the construction site by about 20% to mitigate the effects of the corona virus pandemic, including on labor productivity. Georgia Power expressed its view that the reduction would enhance operational efficiencies by increasing productivity of the remaining workforce and reducing fatigue and absenteeism. The company also hoped that  the reduced workforce would facilitate increased social distancing and compliance with the latest recommendations from the US Centers for Disease Control and Prevention.

It seems likely at this point that the project will experience further delays. It remains a drag on the credit of all of its participants and customers. It increases the likelihood that the messy litigation between MEAG and JEA will continue.

Disclaimer:  The opinions and statements expressed in this column are solely those of the author, who is solely responsible for the accuracy and completeness of this column.  The opinions and statements expressed on this website are for informational purposes only, and are not intended to provide investment advice or guidance in any way and do not represent a solicitation to buy, sell or hold any of the securities mentioned.  Opinions and statements expressed reflect only the view or judgment of the author(s) at the time of publication, and are subject to change without notice.  Information has been derived from sources deemed to be reliable, but the reliability of which is not guaranteed.  Readers are encouraged to obtain official statements and other disclosure documents on their own and/or to consult with their own investment professional and advisors prior to making any investment decisions.

Joseph Krist

Publisher

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NEW YORK CITY HOUSING AUTHORITY

The New York City Housing Authority (NYCHA) has been a troubled entity for some time. It has identified capital needs in excess of $40 billion. These include basics like fixing roof leaks and heating systems which did not operate this winter. They have little to do with “amenities” on either a unit by unit or project by project basis. Now, NYCHA’s already strained finances are absorbing yet another blow as the result of the pandemic. The NYC Independent Budget Office (IBO) recently delivered its analysis of the financial hit being taken by the nation’s largest public housing agency.

In the Mayor’s Executive Budget and the state budget enacted in April, the city and state did not provide any additional funds for NYCHA for corona virus response. The city’s funding for NYCHA grew by $34 million from 2020 through 2024 to reflect new collective bargaining agreements with NYCHA workers, but otherwise was unchanged from January’s Preliminary Budget. The state did not appropriate any additional new funding for NYCHA as part of the current budget. The rent NYCHA charges its tenants is pegged to their household income. As incomes fall due to the economic downturn, NYCHA’s rental revenue from tenants will decrease. IBO estimates that with the present economic downturn, NYCHA’s tenant rental revenue will be $85 million (8 percent) less in 2020 and $140 million (14 percent) less in 2021 than estimates produced by NYCHA this past December.

Tenant rental revenue makes up over one-third of NYCHA’s total operating revenue. Tenant rents are pegged at 30 percent of household income, so when tenants become unemployed or lose income, the rents they owe NYCHA decrease proportionally. Tenants are required to recertify their household income with NYCHA annually, but are also able to recertify their income to adjust their rent any time their income or household composition changes under a Rent Hardship Policy. With high unemployment expected to continue through the year, IBO projects that NYCHA will receive only $840 million in 2021—$140 million less than expected.

Through the CARES Act, NYCHA received $150 million from the Public Housing Operating Fund. These funds are based on operating expenses and are, as of yet, unavailable to offset any loss of rental income. CARES public housing operating funds can be used for eligible operating and capital expenses as well as corona virus-related activities.

The difficulties of NYCHA were already clouding the future fiscal outlook in New York. The Authority is effectively competing with both the state and city governments to finance its capital needs. NYCHA will continue to be a source of pressure and drag on the City’s finances. The pandemic is slowing capital expenditure through deferrals of all but essential maintenance during the pandemic but that just leads to an increasingly expensive backlog. And NYCHA remains under a federal consent order. A federal monitor was imposed last year by the Trump Administration to ensure NYCHA would perform work related to lead paint, mold, and pest infestations that will bring the housing authority into compliance with the law.

DATA BEGINS TO TELL THE STORY

The focus was all on the headline number when the latest retail sales data was released by the U.S. Department of Commerce. Yes, the April to May change of 17% was a great number. The reality is that the May 2020 number was 6.1% below the May 2019 number.

State by state data is beginning to come in and the picture is not pretty. Texas collected about $2.6 billion in state sales tax revenue in May, leading to the steepest year-over-year decline in over a decade. Motor fuel taxes, for example, were down 30% from May 2019, marking the steepest drop since 1989. And the hotel occupancy tax was down 86% from May 2019, marking the steepest drop on record in data since 1982. On average, Texas cities got 11.1% less in this year’s June tax distribution than they got last year; the May distributions were down an average of 5.1%. 44 Texas cities — including Houston, San Antonio, Dallas, Austin and Fort Worth — each saw double-digit percentage decreases in sales taxes.

Sales tax diversions to cities across the state of Mississippi are down from 2019. Cities across the state will receive $34.8 million for sales tax collected in April compared to $37.6 million in 2019. That is a decline of 7.45%. In New Jersey, the sales tax was one of the worst-performing revenue sources in May, falling nearly 30% off the pace set during May 2019. The Tennessee Department of Finance and Administration Commissioner announced that revenues for May were $981.9 million, which is $197.3 million less than the budgeted monthly revenue estimate. State tax revenues were $184.7 million less than May 2019, and the overall revenue for the month represented a negative growth rate of 15.83%.

May sales tax collections in Illinois fell by $181 million compared to the same month one year earlier, a decline of more than 24%. That follows a 21% year-over-year decline in April of $146 million. Wisconsin estimates year-to-date tax collections are down $380 million compared to this time last fiscal year. The agency estimates $1.3 billion in tax revenues for the month of May, $66 million below May 2019 revenues. Tax collections in April 2020 were $870 million less than collections in April 2019. New York State’s tax receipts in May were down $766.9 million or 19.7% from the amount of money that had been collected in May 2019. Total receipts for May 2020 were $2.694 billion.

SANCTUARY CITIES

The Supreme Court let stand California’s sanctuary law that forbids local law enforcement in most cases from cooperating with aggressive federal action to identify and deport undocumented immigrants. The law had been challenged by the Trump Administration.  The Administration had tried to withhold grant monies for popular law enforcement programs from jurisdictions which had declared themselves to be sanctuary cities.

The Edward Byrne Memorial Justice Assistance Grant (JAG) Program is the primary provider of federal criminal justice funding to states and units of local government. It was that money that the Administration sought to withhold from localities.

Grants fund among other things: law enforcement;  prosecution and courts; prevention and education; corrections and community corrections;  drug treatment;  planning, evaluation, and technology improvement; crime victim and witness assistance (other than compensation); and  mental health and related law enforcement and corrections programs, including behavioral programs and crisis intervention teams. Since FY2012, appropriations that are available to be allocated through the JAG program have generally been around $340 million each fiscal year.

PANDEMIC CASUALTIES – PORTS

Data is starting to come in on May port operations around the country as the damage being done by the pandemic continues. The Port of Los Angeles, the nation’s busiest, reported a 29.8% year-over-year decline in twenty-foot-equivalent (TEU) containers, moving 581,664 shipping receptacles compared with 828,662 in the same period of 2019. Year-to-date, the Port of Los Angeles is running 18.4% behind 2019ls through May. The Port of Long Beach processed 628,205 containers in May. That is a 9.5% increase compared to 2019’s 573,624 TEUs. It is also a statistical fluke as 28.8% of the TEUs moved— some 181,060 — were empty containers that had been stored at Long Beach and were shipped back to ports and other locations in Asia.

The Port of Oakland reported a 17% decrease in May, processing 184,995 TEUs compared with 223,095 in 2019. The Port of Virginia on June 15 reported the facility had a 22.7% decline in May, processing 112,913 containers compared with 146,018 last May. Georgia’s Port of Savannah reported a 9.65% decrease in container volume in May, which moved 337,360 TEUs compared with 373,394 in the same month ago. Port Houston saw a 15.1% drop in TEUs to 222,250 compared with 263,061 in the same period a year ago.

PANDEMIC CASUALTIES – AIRPORTS

Fitch Ratings weighed in this week with its views of the situation facing airports. As we all know, the airline industry has been among the hardest hit as the result of the lack of demand for flying during the pandemic.  Fitch has applied a stress test to airport credits based on the following assumptions: enplanement declines of approximately 50% in calendar year 2020 (relative to 2019), with a recovery of 85% in 2021, 95% in 2022, and 100% in 2023 (relative to 2019). 

Fitch outlined several airport characteristics and offered examples of potentially impacted credits. “Large airports that serve as fortress hubs for a single carrier may have greater vulnerabilities with regards to recovering its connecting segment of passengers when compared to O&D traffic.” Examples include large airports with elevated risk like Charlotte, Chicago-Midway, LaGuardia (NY)  and Dallas-Love Field. “Airline revenues for regional airports tend to be better protected against volume declines as they are closely tied to cost recovery mechanisms under lease agreements.” 

Some regional airports, particularly those with a more limited underlying traffic base, would be susceptible to downgrades under Fitch’s more severe stress scenario. This includes airports in Buffalo, Burlington, Dayton, Fresno and Harrisburg. They are all on negative watch. As for the major international airports, they are better positioned. Where there are single terminal based credits, such as those at JFK in New York, single terminal projects tend to have relatively low liquidity cushions relative to entire airport facilities. Two single terminal credits at JFK have been downgraded.

SAFETY NET HOSPITALS

At the onset of the pandemic, we expressed concerns about the potential impact of  the pandemic on the financial position of “safety net” hospitals. These institutions tend to serve sicker populations with less access to health insurance and a limited ability to pay for services. These populations have been inordinately impact by the pandemic through larger rates of infection and hospitalization than for the population as a whole.

One of the institutions we cited as having these vulnerabilities was Boston Medical Center, a safety net facility in one of the most affected states. So we were interested to see that this week Moody’s affirmed the Baa2 rating on BMC’s debt. “Although the system will report depressed margins in fiscal 2020 relative to budget and prior year performance due to corona virus, BMC should meet all bond covenants and generate positive operating cash flow, owing to funding from the CARES Act and the Commonwealth, and management’s swift actions to raise liquidity and minimize operating losses.”

BMC has sizeable exposure to Medicaid as one of its affiliates operates primarily Medicaid managed care plans. High exposure to Medicaid and the reliance on supplemental funding at BMC, as well as government-determined funding rates for the insurance products offered by that affiliate, will continue as credit challenges. The rating also assumes that BMC does not face a “second wave” of corona virus cases.

SUTTER HEALTH BACK IN COURT

Under the category of “it ain’t over ’til it’s over”, Sutter Health is asking the courts to revisit the terms of a settlement it entered into with the State of California to settle antitrust violations by Sutter. The settlement, which is pending final approval was supposed to take place in February. Since then, the pandemic has occurred and now Sutter is complaining that the terms of the settlement are too onerous.

Sutter’s lawyers filed a motion requesting the California state Superior Court in San Francisco to delay approving the settlement for an additional 90 days, due to “catastrophic” losses stemming from the COVID-19 pandemic. That would delay approval from the original February date to sometime in September. In the interim, Sutter has not made any payments or instituted changes required by the settlement in its operations.

Sutter reported an operating loss of $404 million through April, citing declining patient revenue and expenses resulting from the pandemic. System officials said that loss took into account the more than $200 million the system received in COVID-19 relief funds from the federal government via the CARES Act. Sutter agreed to limit what it charges patients for out-of-network services and increase transparency by allowing insurers and employers to give patients pricing information.

Some of the specific settlement terms Sutter now considers problematic include a provision that calls for Sutter to end its all-or-nothing contracting deals with payers, which demanded that an insurer that wanted to include any one of the Sutter hospitals or clinics in its network must include all of them. Limits on rate increases included in the terms of the settlement.

A recent analysis by a healthcare economist at the University of Southern California found that Sutter has earned an average 43% annual profit margin over the past decade from medical treatments paid for by commercial insurers. A 2018 study from the Nicholas C. Petris Center at the University of California at Berkeley found that healthcare costs in Northern California, where Sutter is dominant, are 20% to 30% higher than in Southern California, even after adjusting for cost of living.

According to Sutter, “There are certain provisions that, if they went into effect today, would interfere with Sutter’s ability to provide coordinated and integrated care to patients in California.” Sutter generated $13 billion in revenues in 2019 so it’s becoming more obvious that Sutter hopes that delaying the final approval will allow it to rack up more losses in an effort to reduce the amount it will be forced to pay.

GOVERNMENT AS EMPLOYER

This week the Chairman of the Federal Reserve testified before Congress as to the impact of the pandemic on the economy. That testimony shed light on the role of government throughout the country at all levels as a significant source of employment. 13% of the American workforce are employed by state and local governments.

Much of the questioning revolved around what could happen without the provision of additional stimulus aid from the federal government. State and local governments already have laid off 1.5 million workers. And that is before the budget process for FY 2021 has been completed. The Chairman agreed that the slow pace of economic growth following the Great Recession was partly attributable to spending cuts that had been made by state and local governments. The Fed estimated that state and local government austerity measures were a drag on economic growth for 23 out of 26 quarters between 2008 and mid-2014. That austerity resulted in 3.5% less in economic growth by the end of 2015.

We have not seen any discussion about the role of government as a source of demand for goods and services. Obviously, as headcount is reduced and projects are  delayed and/or eliminated the demand for various supplies is also reduced. For many smaller issuers at the local level, these steps have already been taken as they are below the thresholds based on population to receive aid from the enacted federal stimulus packages. Those communities have begun the process of furloughs and project delays to the detriment of their small local economies.

ANOTHER STUMBLE FOR JACKSONVILLE ELECTRIC

It is at the center of a scandal, it has effectively temporary management, and it faces significant legal and potential financial risk. The Jacksonville Electric Authority (JEA) is facing more of that after a federal District Court judge ruled the power purchase agreement between Georgia’s joint action agency, MEAG Power, and JEA, is “valid and enforceable”. The 20-year, take-or-pay contract obligates JEA to pay unconditionally, regardless of whether electricity is delivered or units are completed its share of the Plant Votgle expansion project in Georgia. 

JEA argued that the contract was not valid as the City Council had not approved it.  That claim was rejected. It was not a total loss for JEA as the judge did agree to lift a stay he had imposed on JEA from pursuing a claim of negligent performance by the Municipal Electric Authority of Georgia. Cohen also allowed MEAG to continue its breach of contract claim against JEA. This will force JEA to litigate its issues within the framework of the power purchase agreement.

The negligent performance issue stems from a 2017 agreement entered into by MEAG on behalf of its project partners of which JEA was one. The agreement was designed to reflect the impact of the bankruptcy of Westinghouse, the manufacturer of the plant’s reactor. Under the new deal, JEA’s obligation increased to $2.9 billion (up from $1.4 billion) and the completion date was delayed from April 2016 to November 2021. JEA contends that it should have been able to review and approve the plan and that it did not occur. Under the new deal, JEA’s obligation climbed to $2.9 billion and the completion date was delayed from April 2016 to November 2021.

Litigation uncertainty has weighed negatively on JEA for some time. It has led some to question the City’s (not just JEA’s) willingness to meet its debt obligations. JEA has taken an aggressive stance in its litigation approach questioning not only the validity of the contract but also the security for MEAG debt. This despite the concerns raised by the ill-fated attempt to privatize the utility last year. Put all of this together and the outlook for the credit remains quite negative.

Disclaimer:  The opinions and statements expressed in this column are solely those of the author, who is solely responsible for the accuracy and completeness of this column.  The opinions and statements expressed on this website are for informational purposes only, and are not intended to provide investment advice or guidance in any way and do not represent a solicitation to buy, sell or hold any of the securities mentioned.  Opinions and statements expressed reflect only the view or judgment of the author(s) at the time of publication, and are subject to change without notice.  Information has been derived from sources deemed to be reliable, but the reliability of which is not guaranteed.  Readers are encouraged to obtain official statements and other disclosure documents on their own and/or to consult with their own investment professional and advisors prior to making any investment decisions.

Joseph Krist

Publisher

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PANDEMIC ECONOMY

The Federal Reserve will leave interest rates near zero for the foreseeable future . It projects the unemployment rate to end 2020 at 9.3% and remain elevated for some time, coming in at 5.5% in 2022.  Officials are expecting output to contract by 6.5% at the end of this year compared to the final quarter of 2019, before rebounding by 5% in 2021.

The last time the Fed released projections was in December, when officials expected 2020 unemployment to close out at 3.5% with 1.9% inflation and 2% growth. Now, the Fed chair, Jerome H. Powell, said at a news conference that the latest unemployment data probably understates the extent of unemployment. 

So will exports pick up as other countries enter various phases of reopening? The Organization for Economic Cooperation and Development predicts that the global economy will contract 6% this year if a second wave of the virus is avoided. If a second wave does occur, world economic output would fall 7.6%, before rebounding by 2.8% in 2021. The two scenarios are viewed as having equal probabilities of occurring. The OECD projections are sobering in that export demand will not be able to drive growth. That demand has driven export growth in the energy, transportation, and agricultural sectors and they remain dependent on them.

PANDEMIC DOES DRIVE SOME BENEFIT

The Pennsylvania Turnpike Commission has announced that the cashless, all-electronic tolling (AET) system instituted in March to minimize the spread of the COVID-19 virus will become permanent. Customers will move through the toll plaza lanes at posted speeds without stopping. Changes like that along with the effort in some states to use the huge reductions in traffic as an opportunity to undertake major projects more efficiently have been unanticipated benefits of the lockdowns.

The drop in driving has also yielded some new revenue patterns leading to some innovation in transportation funding. Beginning July 1st, the statewide gas tax in Virginia will increase by five cents this year and next and there will be a highway use fee implemented. The highway use fee is designed to generate more of a user fee. The Commonwealth says the average fee is expected to be $19 annually for most vehicles, which would represent 85 percent of the difference between the amount of fuel tax on a vehicle that gets an average of 23.7 miles per gallon and the amount of fuel tax on a more fuel-efficient vehicle. To offset these changes, vehicle registration fees will be reduced by $10 or between 20% and 25%.

RATINGS AND WHAT THEY ARE TELLING US

The pandemic continues to pressure a variety of ratings. We are as interested in these actions as much for what they reflect about given sectors as they do about the individual impacted  credits. As the various restrictions on activity are gradually relaxed, the longer term impacts of the pandemic on particular sectors come into clearer focus. Here are a few visible examples of credit downgrades which are reflective as much about sector concerns as they are about individual credit details.

S&P Global Ratings lowered its underlying rating (SPUR) on the Pennsylvania Economic Development Financing Authority’s (PEDFA) $106 million–bonds outstanding and accreted interest–series 2013A senior parking revenue bonds to ‘B+’ from ‘BB+’. The parking system buyout was an important component of the plan to keep Harrisburg out of bankruptcy. Now, “While the system currently has capacity to meet its financial commitments on existing obligations, we believe the lingering weak operational performance and ongoing adverse economic conditions brought on by the current economic recession will impair the obligor’s financial capacity to meet its future commitments on all its obligations.”

S&P Global Ratings lowered its rating on Harris County-Houston Sports Authority, Texas’ senior-lien series 2001A, 2001G, and 2014A bonds to ‘BBB’ from ‘A-‘, and its rating on the authority’s second-lien series 2014C bonds to ‘BBB-‘ from ‘BBB’. At the same time, S&P Global Ratings affirmed its ‘BB+’ rating on the junior-lien series 2001H bonds, and its ‘BB’ rating on the third-lien series 2004A-3 bonds. The outlook for all ratings is negative. The reason: Anticipated decline in pledged revenues in 2020 due to the onset of COVID-19 and weakness in the energy sector; Unaudited fiscal 2019 pledged tax revenue providing 1.51x, 1.35x, 0.67x, and 0.74x maximum annual debt service (MADS) coverage on the senior-, second-, junior-, and third-lien bonds, respectively.

S&P Global Ratings revised the outlook to negative from stable on St. Louis Municipal Finance Corp., Mo.’s series 2014 city parks leasehold improvement dedicated revenue debt, issued for the city of St. Louis. “The projected drop in the city’s key revenues because of economic restrictions imposed as a result of the COVID-19 pandemic will materially limit the city’s ability to maintain structural balance within the current and following fiscal years.”  The downgrade has a one in three chance of happening in as little as six months.

S&P Global Ratings lowered the Port Authority of New York and New Jersey’s senior secured series 6 and 8 special project bonds issued on behalf of JFK International Air Terminal LLC one notch to BBB from BBB-plus. S&P is forecasting that annual passenger volumes for the Terminal 4 project will be 57% lower in 2020 than a year ago and would not recover to 2019 levels until 2024. Passenger volumes are projected to gradually improve throughout the year from a 92% drop in the second quarter, to 70% in the third quarter and 50% in the fourth quarter. The Queens Ballpark Co. LLC bonds issued to build Citi Field, the home of baseball’s New York Mets, received a downgrade to BB-plus from BBB. The status of the 2020 season is still “up in the air” and the team is openly for sale.

So those are the specifics of each story. The broader picture is that there will be many credits which rely directly or indirectly on economic activity to produce revenues to pay back bonds. The particular impact of tourism and travel overall (to include business travel) on many credits is stronger than one might think. Even for more locally driven economic activity, the limits on economic activity have been real and immediate for many credits. If you couldn’t go shopping, you didn’t need to go into town and park, eat. Even if you did want to attend, sports and concerts will not be available due to postponements and cancellations.

MC CORMICK PLACE

The Metropolitan Pier and Exhibition Authority, IL (MPEA) was able to successfully sell some $882 million of sales tax backed revenue bonds to fund the convention facilities at McCormick Place in Chicago. At the time of the sale, the Authority rightly made disclosures about the potential impact of the pandemic on economic activity as well as the number of events cancelled and the potential for more.

Even as the State of Illinois begins to emerge from the restrictions imposed as the result of the pandemic, the impact of the pandemic continues to emerge. The Association of Manufacturing Technology today called off its upcoming International Manufacturing Technology Show scheduled for Sept. 14-19. The event, which is held in Chicago every other year, was slated to bring nearly 130,000 attendees to McCormick Place and account for more than 99,000 nightly stays at Chicago hotels. MPEA estimates IMTS’ local economic impact, including ancillary spending on restaurants and transportation, to be $247 million alone.

This announcement follows the cancellation of the Radiological Society of North America’s (RSNA) 2020 annual meeting. The RSNA event—which was planned for late November and early December—and IMTS would have accounted for more than 200,000 out of 586,000 room nights that were expected from McCormick Place events during the second half of the year, according to MPEA. The convention center had lost 95 events to COVID-related cancellations that would have accounted for 744,000 room nights.

Bondholders can take some solace from the fact that the revenues covering debt service are not directly generated from the convention center. Things like ticket revenues are not pledged. The loss of events however, puts a major damper of one of the major drivers of economic activity and sales taxes for debt service so it matters. Hotel, car rental, and restaurant taxes are the Authority’s prime source of revenue with a dedicated portion of state sales taxes providing the remainder. The Authority’s tax sources have been among those most directly exposed to the economic restrictions of the pandemic.

The State has shown its commitment to the credit when budget disputes over the last five years resulted in an inability by the State to pass a budget. An enacted budget triggers payments for the Authority’s bonds. that means that those monies are subject to appropriation. When a budget has not been adopted, the State Legislature has enacted enabling legislation that facilitated the necessary transfers of revenue to pay debt service.  

RESERVE FUNDS MATTER AGAIN

Over recent years, the covenants which serve as the basis for the security of bond repayments have been steadily weakened. In the municipal bond market, this has shown up most clearly in the continuing move towards reducing the requirement for reserve funds. Historically, a fully funded debt service reserve fund equal to maximum annual debt service was the gold standard. Over time these requirements were gradually reduced for many borrowers with fund sizing reduced to six months debt service and in some cases reserve requirements were eliminated.

When objections were raised to lower levels of reserve protection, investors were told that new realities had replaced old thinking and after all, many issuers has established long records of repayment without resorting to draws on their reserves. Issuers were convinced that reserve funds represented stranded assets that only inflated the amount needed to borrow to fund reserves. The move towards weaker reserve positions was supported when there were effectively no ratings repercussions for issuers lowering or eliminating reserves.

The pandemic has now shown the value of reserves. As the situation unfolds, we are beginning to see issuers disclose that they either have or will likely have to make draws on their debt service reserve funds to cover their next debt service payment.

PRESSURE ON PROPERTY TAXES

The pandemic and its impacts on municipal operations and finances are becoming clearer by the day. While much attention is rightly focused on the impact on sales and income taxes, property taxes are another item which must be considered. In New York, the City Council is considering two proposals which would allow some taxpayers to defer property tax payments. The proposals reflect the fact that many New York homeowners are facing lost or much-diminished incomes and are worried about their ability to pay their property taxes, which are due in a few weeks. Many commercial property owners report that they, too, may have trouble paying their property taxes because some of their tenants—of apartments and/or commercial space—are unable to pay their rent, leaving landlords with insufficient income to pay all of their bills.

The City’s Independent Budget Office recently discussed two proposals which would offer property owners the option of deferring taxes due on July 1. The first would apply to owners whose primary residence has an assessed value below $250,000 (the vast majority of one-, two-, and three-family houses, coops, and condos qualify under this test) and whose household income is below $200,000 (according to census data, only about 10 percent of homeowners in the city would be excluded by the this criterion). Owners who meet these criteria and who faced some health or economic hardship due to Covid-19 can apply for the right to defer their July 1 tax payment until October 1 without incurring penalty or interest.

IBO does not have the access to homeowner income data or information on individual and household impacts of Covid-19 that would allow it to offer a robust estimate of how much revenue would be deferred. IBO did provide a “rough estimate” using property values, census income data, and zip code health statistics. That analysis suggests about $500 million in collections could be shifted from July to October, which is about one-third of what small property owners usually pay on July 1. It is notable that when looking at the zip code level, areas hardest hit by Covid-19 have low homeownership rates. Homeownership and property values are generally higher in zip codes with relatively low Covid-19 infection rates.

The second proposal would also offer owners of commercial properties with assessed value over $250,000 the chance to defer property taxes due July 1, but on different terms. Property owners would have to pay a quarter of their deferred payment by October 1, 2020 and pay the remainder by May 1, 2021 with interest accruing at a rate of 9 percent. Owners with either commercial or residential tenants would be required to offer rent forbearance during the deferral period.

Properties affected by the Covid-19 public health orders or occupied by tenants who were impacted would be eligible. Many properties would be eligible under this proposal and these properties are responsible for a much greater share of baseline property taxes than small property owners. However, the accrual of interest and the requirement to offer rental forbearance during the deferral period will likely discourage many from participating. IBO does not have an estimate of the amount of revenue that would be deferred. Both of these proposals would take effect on July 1.

There will be many similar situations across the country. For many municipalities, property taxes are the primary source of revenues and collections have historically held up pretty well during times of economic difficulty. That has been cited by the rating agencies as a reason why general obligation downgrades may be as numerous as feared. The IBO rightly notes that “this time however, is different.”

VIRGIN ISLANDS

Over time we have commented on the dire fiscal straits in which the US Virgin Islands Power Authority has existed over recent years. Whether it be the impact of Hurricane Maria, the potential for the Authority to be unable to purchase needed fuel, or the national economic disaster, the Authority has faced many challenges often escaping serious default by the thinnest of margins.

It appears that the Authority’s luck is about to run out. Press reports cite multiple sources for the view that the Authority is likely to default on debt maturing July 1. Moody’s said toe the Daily Bond buyer ““Our Caa2 senior electric system revenue bonds rating and Caa3 subordinated electric system revenue bonds rating with a negative outlook continue to reflect a high probability of default for the U.S. Virgin Islands’ Water and Power Authority (WAPA). We expect WAPA will likely be able to make debt service payments on the rated senior and subordinate electric system revenue bonds on July 1. However, WAPA will be challenged to refinance the unrated bond anticipation notes due this July 1, 2020, or extend their maturity. WAPA has very limited cash on its balance sheet, which is likely insufficient to redeem all outstanding bond anticipation notes at maturity.”  Fitch released a statement that “maintenance of the ratings watch reflects risks related to the authority’s debt profile and near-term maturities. WAPA faces debt service obligations on July 1, 2020, that include scheduled bond anticipation note (BAN) maturities totaling approximately $49 million that will require external financing or maturity extension. ”

It can be argued that a debt default by the Authority has been inevitable and that it  would take an event of that magnitude to drive needed changes in the Authority’s operations. The Authority is weighed down by a dependence upon oil as its primary fuel,  a weak economy , and an unsupportive rate environment. The note holders are in a weak position behind the senior debt holders and it is not clear what practical remedies are available to address the Authority’s problems. Some investors who had gotten used to the availability of triple tax exempt income at a spread were tempted to take the plunge on VI debt after the Puerto Rico default, even though it was clear that the Authority’s credit was on a knife edge.

NEW YORK HOSPITALS REPORT THE DAMAGE

With the city serving as the epicenter of the pandemic, it is no surprise that the major not-for-profit health systems experienced significant financial pressure. The results for the first quarter of 2020 bear this out.

Northwell Health, the state’s largest private health system with 19 hospitals, lost $141 million. New York–Presbyterian lost $128.5 million on the operations of its 10 campuses. Montefiore Health System, which runs facilities in the Bronx and the Hudson Valley, lost $96.8 million. The results represented loss margins of 4% to 6% for the systems. Mount Sinai Hospital did manage to make a profit, reporting $33.3 million in operating income in the first quarter. This was however, a drop-off of about one-third from its performance in early 2019.

Northwell received $1 billion from federal Cares Act programs, New York–Presbyterian got $567 million, and Mount Sinai received about $263 million. They also received advance Medicaid payments. Those payments however, are required to be repaid within one year. If that does not happen, outstanding balances would carry a 10.25% interest rate.

Hospitals are hoping that the next stimulus package would convert resulting loans into grants. They are also hoping that additional aid to state and local governments could provide additional resources if it is part of the next bill.

LOST IN THE FOG OF THE PANDEMIC

This time the fog smothering an airport’s operations is from the economic downturn’s impact on travel. In any other time, the completion of a significant major infrastructure would get much well deserved attention. But as is the case with so many other things during the pandemic, the new LaGuardia airport central terminal was officially opened. That marks the completion of the major project component and leaves the overall expansion/rehabilitation about 50% complete.

At a time when some major public/private partnership projects have hit serious snags, this project seems to be poised to represent how a well crafted P3 project can actually realize the promise of the concept. Ironically, it is the fourth P3 project to be successfully completed in New York. The successful implementation of these P3 projects in an area historically resistant to the concept is another example of the idea that if you can make it there, you can make it anywhere. The project only bolsters the case for P3 proponents.

Disclaimer:  The opinions and statements expressed in this column are solely those of the author, who is solely responsible for the accuracy and completeness of this column.  The opinions and statements expressed on this website are for informational purposes only, and are not intended to provide investment advice or guidance in any way and do not represent a solicitation to buy, sell or hold any of the securities mentioned.  Opinions and statements expressed reflect only the view or judgment of the author(s) at the time of publication, and are subject to change without notice.  Information has been derived from sources deemed to be reliable, but the reliability of which is not guaranteed.  Readers are encouraged to obtain official statements and other disclosure documents on their own and/or to consult with their own investment professional and advisors prior to making any investment decisions.

Joseph Krist

Publisher

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RATING IMPACT BECOMES CLEARER

We noticed in a variety of ratings reports that a common theme is emerging. The impact of the pandemic and the containment and mitigation restrictions imposed by states and cities on sales taxes is unsurprising. In all of those situations – whether they be direct sales tax revenue bonds or general obligations supported by a significant reliance on sales activities – when they have led to negative outlooks for ratings they come accompanied by estimates of the probability of downgrade.

It looks like the most commonly cited probability of a downgrade is one in three. That probability has been assigned to a diverse range of credits and include those with historically strong credit profiles to those who have had more difficult histories. They are diverse geographically and diverse in terms of the way they generate revenues. This week alone the credits receiving negative outlooks with that 33% probability of downgrade ranged from AAA credits backed by heretofore solid economies to BB distressed city credits.

It is hard to tell exactly why some credits have not been providing timely information to the rating agencies but we took note of several credits this week which saw ratings withdrawn due to inadequate financial reporting. They tend to be smaller credits where information systems may not be up to date which makes revenue collection and accounting and reporting more difficult.

Other rating actions confirm trends we have identified early in the pandemic. Moody’s downgraded the Washington State Convention Center Public Facilities District’s senior lien lodging tax bonds to A1 from Aa3 and downgraded the subordinate lien lodging tax bonds to A3 from A1, respectively. The outlook has also been revised to negative from stable. The downgrades and negative outlook affect $1.3 billion in debt outstanding. “The downgrade of the PFD’s senior and subordinate lien lodging tax bonds to A1 and A3, respectively, is driven by the substantial declines in lodging tax revenue following the outbreak of the corona virus pandemic. Previously healthy and growing pledged revenue driven by the strength of the underlying Puget Sound economy have dropped to nearly zero as business and leisure travel to the Seattle metro area has largely ceased.” Moody’s expects debt service coverage from pledged revenue to be sufficient for the July 2020 debt service payment but, coverage from regular lodging tax revenue is likely to be less than sum sufficient in 2021. 

PUERTO RICO

The U.S. Supreme Court unanimously ruled that members of Puerto Rico’s Financial Oversight and Management Board do not require U.S. senate approval because the board’s handling of the island’s $125 billion bankruptcy is limited to Puerto Rico’s fiscal issues and it only exercises local, territorial authority. The decision will likely give the Board more confidence to exercise its oversight powers. That is positive for the long run viability of the Commonwealth credit as there are many hurdles to overcome for the Commonwealth to achieve any level of fiscal stability.

The case was brought by Aurelius Investment and a public employees union. They had hoped that they would have their claims receive better treatment without the Board. The decision comes as the creation of the Board is about to mark its fourth anniversary. It says that ““Congress has long legislated for entities that are not states — the District of Columbia and the Territories,” he wrote, both making law for those places and creating structures for allowing local officials to make and enforce local laws. This structure suggests that when Congress creates local offices using these two unique powers, the officers exercise power of the local government, not the Federal Government.” 

Now it will be interesting to see how the Board uses its newly reinforced powers to manage the recovery of the Commonwealth’s finances. The issue of its legality now much more settled, the Board will have a stronger position from which to negotiate. That does not mean that legal pressure is off the board. Representatives of the utility workers union continue to challenge the Board’s role and existence. And there will be continued resistance to any outside oversight.

PANDEMIC CASUALTIES – MEDICAID EXPANSION

The last couple of years have seen growing electoral support for the expansion of Medicaid eligibility under the Affordable Care Act. It had even begun to occur in some of the “reddest” states. Two of those states are recently in the news however, for announcing delays in the implementation of expansion. The pandemic and its resulting pressure on state budgets is driving these decisions.

A deal in deep-red Kansas to expand Medicaid to about 150,000 poor people has been tabled for this year.  The Governor and legislative leadership had reached agreement but there was resistance among some conservative lawmakers over issues related to abortion. With the impact of the pandemic added to the equation, there was not enough support at present to move forward with expansion. This despite the fact that expansion was a significant issue in the 2019 election for Governor.

Oklahoma has the nation’s second-highest uninsured rate but that was not enough to keep the Governor from vetoing legislation to expand Medicaid. The expansion was slated to commence on July 1 but political issues have now combined with the pandemic to stop that.  Voters will still have a chance to authorize the state would not take effect this year.

While not a direct expansion of Medicaid, some states had been attempting to enact legislation creating a “public option” for health insurance. The most prominent were Colorado and Washington. In Colorado, legislation was pending that would offer an insurance plan at an estimated 7 to 20% cheaper than private options by paying doctors and hospitals less. The state projected about 18,000 people newly able to afford coverage would sign up for the plan.

Washington will still attempt such a plan but expectations are being tempered. In both states, the hospital sector has been opposed to proposed lower reimbursement levels especially as these institutions try to recover from the impact of limits on many services as the result of the pandemic.

P3 CHANGES

I’ve written on the issue of public/private partnerships and their role in the development of large scale infrastructure projects for some time now in a variety of publications. In some situations, such partnerships (P3) have generated positive results for their sponsors and municipalities in terms of both cost and efficient execution of the projects. Those successes encouraged others to consider and adopt the concept for several large scale transportation projects. Now, however, a couple of high visibility P3 projects have seen those partnerships lose partners or see their projects returned to traditional providers to complete projects.

The market has already had time to digest and analyze the decision by Denver International Airport (DIA) to terminate the P3 created to renovate and expand its Great Hall terminal complex. Now, we see that the P3 created for the expansion in Maryland of the Purple Line Rail Project is losing a partner. The design/build entity for the project – Purple Line Transit Constructors (PLTC), a joint venture between Fluor, The Lane Construction Corp. and Traylor Bros. Inc. – announced “that it has not been able to successfully negotiate time extensions for schedule delays and for the extra costs it has incurred during the last three years on the project.

The move follows announcements last year that certain major construction entities were withdrawing from the P3 space. The impacts on project costs, schedules, and ultimately the rate of return earned by the P3 participant have made those returns less attractive to these companies. Because of the size and visibility of projects like DIA and the Purple Line, many see these moves as signs of the demise of the concept.

We disagree. Each project should include a review of all available funding, financing, and execution modalities when they are being considered. There is clearly a role for the private sector in the development of public infrastructure. That role however, does change from project to project. That is a risk which potential private participants should consider further when they negotiate the terms of their participation in these projects.

SOUTH CAROLINA PUBLIC SERVICE AUTHORITY

The South Carolina legislature has decided to delay its process for determining the future for the troubled utility until next year. The budget difficulties associated with the corona virus pandemic have taken precedent. The legislature passed legislation providing for enabling the overall government to continue operations. Part of that legislation includes restrictions and oversight provisions governing Santee Cooper which are expected to remain in effect until May 31, 2021.

Governance will be provide through the Santee Cooper Oversight Committee. The Committee will be comprised of the governor, president of the Senate, speaker of the House, and the chairmen of the Senate Finance Committee and House Ways and Means Committee. The Committee will review for approval many of the contracting activities of the Authority as well as providing for review of many of the Authority’s functions.

Santee Cooper wanted to negotiate coal and rail contracts, refinance existing debt and conduct a request for a proposal process for including solar projects. The legislation provides for the Authority to be able to issue debt, and to resolve outstanding claims and lawsuits. The legislation specifically limits the authority from entering employment contracts with terms longer than six months.

The ability to manage and negotiate litigation is important as the Authority hopes to execute a settlement of a class action suit against it. A proposed settlement is scheduled for a court hearing on July 20. That proposal would require Santee Cooper to pay $200 million in cash over three years and to freeze rates for four years. That suit was filed within weeks of the cessation of construction at the Sumner nuclear facility.

Now the utility’s stakeholders including its bondholders are facing another year of risk and uncertainty. The decision as to whether to maintain or sell the utility can now be evaluated in the light of all of the impacts of the pandemic and economic realities.

MUNICIPAL LIQUIDITY BORROWING

Last week we noted the adoption of a budget for FY 2021 by the State of Illinois. With that process out of the way, the state has announced its next step in financing itself as it deals with the fiscal impact of the pandemic. It has executed an agreement to sell $1.2 billion of one-year, general obligation backed notes to the Federal Reserve. The issue will be the first to close under the Municipal Liquidity Facility program. The one year notes will come at a rate of 3.82% based on the Fed’s formula for determining rates. The move comes after the State decided that a public debt sale would not have yielded the most favorable results.

The rate of 3.82% is based on MLF pricing guidance that includes a base tied to the overnight swap index and a spread based on an issuer’s ratings. The New York Fed put out a pricing guidance as of June 1 that put a borrower rated at the lowest investment grade level— BBB-minus across the board — at 3.83%. The State had been able to gauge the market’s appetite for the State’s notes through a prior recent bond sale which made the 3.82% note rate the more favorable alternative. The Illinois legislature had to amend legislation governing short-term borrowing by the State to forgo a competitive sale requirement. This allowed the State to sell directly to the MLF for fiscal 2020 and 2021.

The State has not used its full authorization for short-term borrowing. The Legislature has authorized up to $5 billion of notes to fund tax shortfalls resulting from the pandemic. The State qualifies to borrow up to $9.7 billion under the terms of the Liquidity Facility program. It is anticipated that Illinois will sell additional notes especially if expected federal legislation provides inadequate resources to fund state and local tax shortfalls. This issue represents just over 20% of the State’s expected short term borrowings.

As Illinois takes advantage of this facility for state governments, the program is being expanded. The Federal Reserve said on Wednesday it will allow governors of U.S. states to designate transit agencies, airports, utilities and other institutions to borrow under its municipal liquidity program. Governors will be able to designate two issuers in their states whose revenues are generally derived from operating government activities. The program is being expanded to allow all U.S. states to be able to have at least two cities or counties eligible to directly issue notes to the municipal liquidity facility regardless of population. Until that change, only U.S. states and cities with a population of at least 250,000 residents or counties with a population of at least 500,000 residents have been able to make use of the program.

PENNSYLVANIA INTERIM BUDGET

Many states are likely to enact FY 2021 budgets in the full knowledge that those plans will have to be revisited as the impacts of the pandemic can be more fully determined. One state has gone so far as to enact an interim budget. The Commonwealth of Pennsylvania has adopted what is effectively a five month budget. The temporary, no-new-taxes budget plan maintains current spending levels while the Legislature watches to see how badly corona virus-related shutdowns damage tax collections and whether the federal government sends another aid package to states.

The action comes in the face of estimates of a $5 billion hit to revenues due to the pandemic. As adopted, the budget includes full-year money for many public school budget lines, as well as for state-supported universities, debt service and school pension obligations. But much of the rest of the state’s operating budget lines would be funded through Nov. 30. The plan takes pressure off local school district credits. It does leave counties in a state of limbo, even though they are the main expense point for many social services. Those credits remain under significant pressure.  

PANDEMIC CASUALTIES – HOSPITALS

No matter where you look in the flow of information out about the costs of the pandemic continues to run negative. A recent story on the problems with smaller and rural hospitals getting federal aid reflective of their costs and reimbursements provides some data. Around Chicago, The University of Chicago Medical Center got the state’s largest share in the high-impact funding round, with a total of $72 million—or 10 percent of the $694 million spread across 33 Illinois facilities. Nonetheless, monthly revenue declines of $70 million in March and April and negative cash flow of $35 million for each month occurred. Rush University Medical Center was losing about $40 million a month prior to resuming elective surgeries in early May. 

The smaller community safety net hospitals have fared poorly, an issue we recently highlighted. St. Anthony Hospital was the only independent safety net in Chicago to qualify for a high-impact payment, getting $21.5 million for admitting 264 COVID patients.

As for rural hospitals, over a six year-period, median overall profit margins declined for all rural hospital types except for critical access hospitals (CAH), according to aHealth Affairs study released last week. The study  analyzed data from the Centers for Medicare & Medicaid Services (CMS).  Nonprofit CAHs saw median overall profit margins rise between 2.5% to 3.2% from 2011 to 2017, while all other rural hospitals experienced declines ranging from 0.4% to 5.7% over the same period. The study concluded that rural and 2010, noting the amplified struggle by provider organizations in states that did not expand Medicaid as part of the Affordable Care Act.

NEW JERSEY TURNPIKE

The pandemic may have crushed utilization rates on the New Jersey Turnpike – they were down 61% in April. The pandemic has not stopped the need for planning for capital investment for its roads and establishing ways to fund it. So in the midst of all the disruption, the New Jersey Turnpike Authority (NJTA) approved a resolution passing a $24 billion Long Range Capital Plan and associated toll rate increases to fund it. The NJTA operates the New Jersey Turnpike (Turnpike) and the Garden State Parkway.

The vote comes at a perilous time for all transportation credits. In this case, the Authority has not been a frequent toll increase entity. It can take advantage of the fact that the last toll rate increase in  January 2012 was 53% on the Turnpike and 50% on the Parkway. There have only been eight toll increases in the 69 year history of the Turnpike. The 2020 toll rate increase is smaller than three of the last five since 1991. The plan incorporates smaller annual increases as it includes the initial approval for toll rates to be increased according to a still undetermined index, with a 3% annual cap, starting on January 1, 2022.

It is hoped that the use of an index based formula for determining tolls will reduce politization of the issue which has historically pressured the Authority’s ratings. It has been nine years since the last effort to legislate roll backs of increases. In the near future, the concern is likely more due to pressure for the Authority to deliver annual “surpluses” to the State. The current agreement governing those transfers between the Authority and the State runs out after FY 2021.

PANDEMIC CASUALTIES – CULTURAL FACILITIES AND TOURISM

The outlook for bonds backed by revenues from cultural facilities are in for a longer road than they had hoped to recovery. While sports can resume some level of operation through money from television rights contracts, by definition things like museums cannot. This puts them in a unique orbit in the universe of cultural facility debt.

The Metropolitan Opera announced that it has canceled the first few months of its 2020-season, and will now open its doors next season with a special gala performance on December 31st. The company’s performances will then continue through June 5, 2021. Those with tickets to canceled performances with have the value of their tickets credited to their Met account, the company said, with that value transferable to another performance through the end of the 2021-22 season. Tickets to canceled performances can also be refunded or have their value donated to the Met. 

The risk of extraneous events -natural, terrorism to name two – to the financial position of any of the established cultural institutions nationwide.  The pandemic presents challenges so unique that it is difficult to imagine a return to status quo for many of these institutions. The New York market reflects trends seen in many places. Half a century ago, the majority of attendees at major cultural facilities in New York came from New York. Broadway shows had an 80/20 ratio of natives to tourists. A near thirty year effort has reversed those ratios for almost every major cultural activity.

The pandemic however, highlights the risks of a tourism based economy. Until the economy is restored to support good levels of disposable incomes, economies which rely on those incomes will be hurt. Another issue is whether new workplace realities reduce the number of people and business entertainment to a serious degree.  In cities like San Francisco and New York, these two forces converge.  We expect that many other facilities will face similar decisions and challenges.

SCHOOL DISTRICTS

We will find out what the taxpayers think at least those in New York State when they vote on school budgets next week. Districts can get approval on only one budget resolution, voters are not offered a menu of options. NYS districts will all suffer reduced state aid. Many will show what a contingency budget looks like and in many cases it will not be pretty. Given economic realities, tax increases would seem to be off the table. We do not expect to see many approvals for exceeding the 2% tax cap.

The state’s largest district is funded through NYC. New York State’s enacted budget for state fiscal year 2021 eliminated a proposed 3.0 percent increase in school aid that had been included in the Governor’s Executive Budget, presented in January, before the Covid-19 pandemic emerged. The state’s enacted budget only provided a $96 million (0.4 percent) increase statewide for the upcoming school year, with state aid to New York City falling by $18 million (0.2 percent) compared with the prior year. Under the enacted state budget, the city’s Department of Education (DOE) shortfall in state education aid, relative to the aid the city expected in January, grew to $360 million.

For New York City, the $717 million pandemic adjustment reduced total state school aid by 6.3 percent compared with a 2.6 percent cut for the rest of the state. This expected to be offset in the end by CARES Act funds. The updated state financial plan incorporating the state’s enacted budget projects that over $8.0 billion of the anticipated $8.2 billion reduction in aid to-localities funding for fiscal year 2021 will remain in place through 2024. Alas, the CARES Act provides only one-time relief, restoring funds lost through the pandemic adjustment after 2021 would require additional federal funding.

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