Joseph Krist

Publisher

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PREEMPTION AND LOCAL RATINGS

As ESG investing has its turn in the spotlight accompanied by rating agencies debating the merit of scores covering these factors, governance should be an even bigger topic. The pandemic and the decline in the demand for fossil fueled energy are moving state legislatures to consider a variety of laws limiting the power of local governments to regulate a growing number of issues and challenges direct democracy.

The phenomenon of “home rule” and the resulting limits on a locality’s ability to enact regulations, tax increases, or even the enactment of new taxes has long been a factor in municipal credit analysis.  When such laws have limited a locality’s ability to raise revenues or forced them to turn to the voters for approval of taxes, the resulting inability to raise revenues has been a basis for downgrades.  The reliance on higher levels of government for approval of steps which allow localities to manage their affairs is something that should raise the ire of rating agencies and investors alike.

Now legislatures at the state level are going farther in their effort to support certain industries even in the face of declining local support. We see the activity in two primary sectors – climate change and voter initiatives. In the area of climate change, in 2020 the Arizona legislature enacted a law that prevents municipalities and counties from banning new gas infrastructure and hookups and Oklahoma, Tennessee and Louisiana also passed preemption laws regarding natural gas. 

Now, the American Gas Association is building on those 2020 successes to back similar “preemption” legislation in 12 mostly Republican controlled legislatures – Arkansas, Colorado, Florida, Georgia, Indiana, Iowa, Kansas, Kentucky, Missouri, Mississippi, Texas, and Utah. So much for the party’s historic stance on local control always being better. A new Montana bill in the legislature would prevent local governments from “imposing carbon penalties, fees or taxes” based upon carbon use. It comes as the city and county of Missoula, and the cities of Bozeman and Helena, formally adopted a joint agreement this month to work with NorthWestern Energy in developing a green tariff.

The effort comes as the market, in terms of fossil fuels, has essentially already voted on the topic. The current debate comes as the U.S. Energy Information Administration is projecting that the levelized cost of electricity is coming down for new utility-scale onshore wind and solar photovoltaic (PV) projects to levels below all fossil or conventional fuels including combined cycle gas turbine (CCGT) power plants. It makes the fight against movement away from fossil fuels more irrational.

It is a real issue. By late January, 42 California cities had taken action to limit gas use in new buildings. Seattle just took that step.  Recent research and anecdotal evidence suggests that the use of electric appliances and heating is not more expensive than natural gas. So it becomes an more an issue of ideology or resistance to change rather than sound management and local control. We see that as a governance factor which should be given significant weight in the rating process.

In the case of voter initiatives, legislatures in many of the states where the right of voter initiative and referenda is established are being asked to consider legislation limiting or outright revoking the practice. Proponents seek to prevent voters from directly considering a variety of laws. The initiative process has been key to the legalization of cannabis and the expansion of Medicaid under the affordable Care Act. Those two issues, combined with support for climate change legislation seem to be the forces driving these moves to impose control on localities.

We see the relative inability for many localities to fully control their fiscal situations to be a negative weight on credit.

THE PANDEMIC AND NEW YORK CITY

As the cultural center of the nation, New York City unsurprisingly saw major impacts as the pandemic shut down nearly all of the major cultural facilities. Now the New York State Comptroller has released data establishing just what the impact was.

In 2019, New York City’s arts, entertainment and recreation sector employed 93,500 people in 6,250 establishments. These jobs had an average salary of $79,300 and generated $7.4 billion in total wages. Some, 128,400 residents (including nearly 31,000 self-employed residents) drew their primary source of earnings from the arts, entertainment and recreation sector. As of December 2020, arts, entertainment and recreation employment declined by 66%

from one year earlier, the largest decline among the City’s economic sectors.

The arts, entertainment and recreation sector includes three subsectors, the largest of which is performing arts and spectator sports. This subsector accounted for half of the 93,500 jobs in this sector overall. The second-largest subsector, which had 32,700 jobs (35% of the total) with an average salary of $36,600, consists of amusement, gambling and recreation businesses. Museums, parks and historical sites is the third subsector, accounting for 14,300 jobs (15 percent of the total).  

Federal stimulus did help somewhat. Federal Paycheck Protection Program loans supported 62 percent of firms and 70 percent of employment in the sector. However, NYC & Company (the City’s convention and visitors bureau) estimated that nearly 67 million tourists visited the City in 2019 and accounted for $70 billion in economic activity. In 2020, however, they expect the number of tourists declined to 23 million.

MTA REPRIEVE

The Metropolitan Transportation Authority announced that major reductions would be avoided through 2022. The change in outlook reflects the high level of confidence that the soon to be approved stimulus legislation will provide significant operating fund relief to the Authority. The federal aid will be complimented by higher than projected tax revenues which make their way to the Authority.

With patronage at the MTA bridges and tunnels returning at a much faster rate than is the case with mass transit, the authority’s board also approved a plan to raise tolls at the MTA’s bridges and tunnels by approximately 7 % and to use that money for public transit. The increases will raise the one-way toll at major authority crossings to $6.55 from $6.12 for New York E-Z Pass users and to $10.17 from $9.50 for drivers who do not have a New York E-Z Pass.

Staten Island drivers benefitted for years from both a resident discount and a rebate program, will see the toll to cross the Verrazzano-Narrows Bridge rise to $2.95 from $2.75.

None of this addresses the capital needs of the overall system, especially work which continues to remediate damage from Superstorm Sandy. The $54 billion plan to modernize the system was suspended when the pandemic hit.  The Authority still faces some daunting realities. Some  five million riders used the subway on weekdays a figure which has fallen to about 1.6 million. That is a two-thirds drop. It is far from clear when and if ridership at that level returns. But the immediate heat is off and concerns about ratings and default are abated.

MARYLAND ROAD P3 MOVING FORWARD

The Maryland Department of Transportation (MDOT), MDOT State Highway Administration (MDOT SHA), and the Maryland Transportation Authority (MDTA) today announced the selection of  a private partner for the planned construction and expansion of the American Legion Bridge and I-270. The decision follows the enactment of legislation creating parameters for the P3 which sought to address issues which resulted from the ongoing Purple Line development. Those issues led to the breakup of that P3.

One of the major issues had to do with responsibility for delays and resulting cost increases arising from an extended legal review process. The legislation established limits on how much of the increased costs related to the development phase of the project. The proposal recommended by the state calls for the private partner (Accelerate Maryland Partners LLC ) to be at risk for up to $54.3 million of cost increases through the approval/development process.

The partnership consists of established P3 players in the US. Accelerate Maryland Partners LLC includes: Transurban (USA) Operations Inc. and Macquarie Infrastructure Developments LLC as lead project developer/equity; Transurban and Macquarie as lead contractor; and Dewberry Engineers Inc. and Stantec Consulting Services Inc. as designers.

In the financial proposal, Accelerate Maryland Partners offered a $145 million Development Rights Fee and a $54.3 million Predevelopment Cost Cap. Accelerate Maryland Partners also showed a long-term commitment to the American Legion Bridge I-270 to I-370 project by proposing a higher rate of return on its equity investment in exchange for taking greater construction cost risk upfront, reducing the state’s risk in the project. 

The full approval process is expected to extend through the Spring of this year.

PENN DOT BRIDGE PLAN

The Pennsylvania Department of Transportation (PennDOT) is moving towards a P3 model for its Major Bridge P3 Initiative. The Pennsylvania P3 Board approved the Major Bridge P3 Initiative on November 12, 2020, which allows PennDOT to use the P3 delivery model for major bridges in need of rehabilitation or replacement, and to consider alternative funding methods for these locations.

Now Penn DOT has announced a list of 9 bridge projects which it believes are viable as tolled facilities. The bridges being considered for the Major Bridge P3 Initiative are “structures of substantial size that warrant timely attention and would require significant funds to rehabilitate or replace. Additionally, these bridges were selected based on the feasibility of construction beginning in two to four years to maximize near-term benefits, and with the intention that their locations are geographically balanced to avoid impact to just one region.”

Tolling would be all electronic and collected by using E-Z Pass or license plate billing. The funds received from the toll would go back to the bridge where the toll is collected to pay for the construction, maintenance and operation of that bridge. Pennsylvania takes care of 41,000 miles of roads, fifth highest in the country. It’s also responsible for the third-highest number of bridges, 25,400, more than half of them at least 50 years old and 2,500 in poor condition, second highest in the country.

The plan comes as the Commonwealth is in the midst of a significant debate over funding for PennDOT.  Efforts to put tolls on sections of I-80 in 2008 met fierce resistance from local drivers and the plan as scuttled. It is likely that the tolling of existing free facilities will be met with significant opposition. At the same time, PennDOT saw a net drop in gas tax funding and the Pennsylvania Turnpike’s requirement to pay $450 million a year mostly for public transit drops to $50 million in mid-2022, and the Legislature hasn’t determined how it will replace that money.

A more comprehensive transportation funding approach in PA would be positive for holders of Pennsylvania Turnpike Commission revenue bonds. The diversion of revenues from the Turnpike to the funding of local road projects resulted in significant debt issuance to fund the annual payment requirement. That lowered debt service coverage and negatively impacted ratings. A resolution to those factors would be credit positive.

GAS TAXES

A variety of proposals are being advanced to address the need to raise revenues to fund transportation infrastructure. While Congress debates infrastructure funding at the federal level, states and localities are already trying to raise funds on their own.

Mississippi has had the same motor fuel tax of 18.4 cents a gallon since 1987. Now the Legislature is advancing a bill which would provide for the issue of a gas tax increase to be put to the state’s voters on June 8. The bill proposes a statewide election on whether to increase the gasoline tax by 10 cents a gallon and the diesel fuel tax by 14 cents a gallon.  Sponsors believe that gas tax revenues would then be able to support $2.5 billion of debt for roads.

The New Mexico legislature will consider Senate Bill 168 which would increase the gasoline excise tax from 17 cents to 22 cents per gallon. The legislature estimates that the increase would raise over $63 million annually once fully phased in by 2025, mostly for the state road fund. Only Mississippi, Missouri and Alaska have lower gas taxes. At 22 cents per gallon, the standard gas tax would still be more than 14 cents below the national average. New Mexico lawmakers have decreased the tax twice since last raising it in 1993.

The North Dakota House has passed a bill that adds another 3 cents per gallon to the state’s gas tax which has not been raised since 2005. It is currently 23 cents per gallon. The proposal also raises the annual fee on electric vehicles from $120 to $200, on hybrid vehicles from $50 to $100 and on electric motorcycles from $20 to $50.

Efforts to grapple with the growing adoption of electric vehicles continue. The Utah Legislature failed to advance legislation which would have increased six-month and yearly registration fees for owners of electric vehicles, plug-in hybrids and other alternative fueled vehicles in Utah. The defeat was based in concerns that punitive fees would discourage their purchase.

UBER AND MASS TRANSIT

The pandemic has certainly put a major dent in Uber’s business plan. They only advertise Uber Eats, the food delivery arm of the operation. revenues to the company are now derived as much from food delivery as they are from ride sharing. While it won its costly battle over how its “employees” are legally classified, it lost in England when it was ruled in the courts that its drivers “across the pond” are indeed employees.

So it is in the midst of those environmental factors for Uber that it released a “research report” about their “value proposition” to public transit agencies for Uber to become an embedded part of their systems. The effort to strike a more conciliatory tone towards these agencies marks a sharp turn from their previously adversarial stance. It reflects somewhat of a reality check in terms of the role of public transit.

“Bus, rail, and subways have dominated public transport for the last 80+ years. Those modes are here to stay – simply put, there is no more efficient alternative than high-demand trunk lines on fixed routes to move a large number of people along dense corridors. Efficient public transportation enables cities and towns to flourish by providing mobility for essential workers, older adults, people with disabilities, those who forgo car ownership by choice or by circumstance, and is the only available option by which millions of people access economic opportunities. Without efficient public transportation, cities would grind to a halt.”

At the same time, “Our estimates suggest that only about 1-6% of bus trips could be provided at a lower cost with ridesharing – a relatively modest share of overall trips.”  That sort of sums the whole problem up. In terms of the physical provision of mass transit services, they really aren’t cost competitive and as we economist like to say, produce a number of negative externalities. Whether it is over how they treat the people who drive for them, how the vehicles contribute to gridlock, and the addition of thousands of fossil fueled vehicles. What they can do is offer technology management but so do a bunch of other providers. But then there’s nothing behind the curtain, eh?.

WEST VIRGINIA INCOME TAXES

One of the more interesting proposals to be made in this 2021 budget season comes out of West Virginia. The Governor has proposed eliminating the state’s personal income tax. The debate now underway includes several different plans to make up for the lost revenue the end of the income tax would bring. One idea the governor has is a “tiered” system of severance taxes. The tiered system would tie severance taxes collected by the state on oil, natural gas and coal extraction to current market prices for each commodity.

Each commodity would be taxed at one rate as long as the price remained below a designated level, but would be taxed at increasing rates as the price rises. Previous attempts to change the state’s severance tax scheme proposed that when the price of natural gas was less than $3 per thousand cubic feet, it would be taxed at 5%. As the price of gas rose, the rate would increase correspondingly, maxing out at a 10% rate when prices exceed $9 or more per thousand cubic feet.

The debate occurs in the absence of a formal legislative proposal from the Governor. When a tiered system was included in legislation in 2017, the plan included provisions that when the price of natural gas was less than $3 per thousand cubic feet, it would be taxed at 5%. As the price of gas rose, the rate would increase correspondingly, maxing out at a 10% rate when prices exceed $9 or more per thousand cubic feet.

The proposal comes as states with progressive income tax schemes have had better than expected revenues as those at the top of the scale were better able to keep their jobs and maintain income. The proposal also comes as the reality of low energy prices continues to sink in. In 2017, the state estimated that the revenue impact from a tiered severance tax system would be at best neutral. It expects that current price dynamics will remain for an extended period.

NEW JERSEY BUDGET

Governor Phil Murphy released his budget proposal for FY 2022. It comes after the state extended its fiscal 2021 year end and enacted tax increases. This plan does not add to those increases. The proposed FY2022 budget addresses one of the major drags on the state’s credit by including an additional $1.6 billion to meet the goal of contributing 100 percent of the Actuarially Determined Contribution (ADC) to New Jersey’s pension system a year earlier than initially planned. The proposed $6.4 billion pension payment, which includes contributions from the State lottery, would mark the first time the State has made a full contribution since FY1996. 

The $44.83 billion spending proposal assumes 2.4 percent growth in total revenue and includes a sizable surplus of $2.193 billion, just under five percent of budgeted appropriations. The proposed FY2022 budget increases state aid to schools by $576 million. The State’s Garden State Guarantee, which provides two years of free tuition at four-year institutions for students with household incomes of less than $65,000 is funded in the budget.

The FY2022 budget proposal also increases total resources for NJ TRANSIT to $2.65 billion, nine percent over FY2021 and 15 percent over FY2019. As a result of last year’s millionaires tax enactment, the proposed FY2022 budget includes $319 million in direct tax relief for middle-class families, which will provide up to a $500 rebate to over 760,000 couples and individuals with qualified dependents. The budget also includes $1.25 billion in funding to support various property tax relief programs.

The proposal checks off a significant number of boxes in terms of the state’s historic areas of concern: pensions, NJ Transit, state aid to limit local property taxes; middle class tax rebates, and debt issuance. It’s the surest sign of all that 2021 is an election year in NJ. Nonetheless, if adopted the overall impact on the state’s credit would be positive.

PUERTO RICO DEBT PLAN

Puerto Rico’s Financial Oversight and Management Board (FOMB) announced a new plan support agreement (PSA) with holders of $18.8 billion out of a total $35 billion in general obligation (GO) and Public Buildings Authority (PBA) debt. The new PSA reduces the approximately $18.8 billion of GO and GO-guaranteed liabilities by 61 percent, to $7.4 billion, resulting in an extra $2.7 billion in a principal debt cut compared to the agreement reached in February 2020. The deal reduces GO debt service payments by $4.7 billion, as well as cutting the maximum annual debt service by 22%, to $1.15 billion, relative to last year’s PSA.

The deal includes a contingent value instrument (CVI) that pays an additional amount to bondholders if Puerto Rico’s economy outperforms the projections in the FOMB-certified May 2020 commonwealth fiscal plan. The CVI relies on collections of 5.5% of the commonwealth’s 11.5% sales and use tax (SUT) pledged to Cofina that exceed estimates. The creditors who are a party to the agreement would receive 45% of the increment above the amount projected, subject to annual and lifetime caps. GO and PBA bondholders would receive $7.4 billion in new bonds and $7 billion in cash. 

The agreement will be presented as part of the plan of adjustment (POA) the fiscal panel is due to file in court by the March 8. The new agreement’s cash and debt consideration to bondholders provides a 27% average reduction for GO bondholders and a 21% average reduction for PBA bondholders. The chairman of the FOMB said the GO and PBA deal now has the support of 60% of bondholders. Court approval the deal must be submitted to a vote in which two-thirds of participating bondholders vote in favor in each class of bonds. 

In a nod to the populist pressures facing the Governor, he said would not support a plan that includes an agreement between the Official Retirees Committee and the oversight board for an 8.5 percent cut to government pensions exceeding $1,500 a month, which would affect 25% of retired public workers. It sets up as another example of pensioners being favored over bondholders as was the case with the City of Detroit bankruptcy.

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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TAXING TECH

It took a long time and an extended legal battle for states to get the ability to tax sales on the internet. Fortunately, the issue was settled before the pandemic occurred. This allowed states to reap some of the “benefits” of the move to online retailing that reflected stay at home orders. Now the effort to tax one of the most valuable industries – technology companies – have moved to a new phase.

The Maryland legislature has passed the nation’s first tax on the revenue from digital advertisements sold by companies like Facebook, Google and Amazon. The legislation is estimated to generate as much as an estimated $250 million in the first year after enactment. The intent is to use those monies to aid education in the state.  

The effort comes as Connecticut and Indiana have introduced bills to tax the social media industry.  Prior efforts have fallen short in West Virginia and New York. Industry opponents of the tax include telecom companies and local media outlets.  Opponents claim that the tech companies will pass the cost to their advertisers (mostly small businesses) as a reason not to tax.

A company that makes at least $100 million a year in global revenue but no more than $1 billion a year would face a 2.5% tax on its ads. Companies that make more than $15 billion a year would pay a 10 % tax. Facebook’s and Google’s global revenues far exceed $15 billion. the Maryland tax would be the first to be applied solely to the revenue a company got from digital advertising in the United States.

It is an idea pioneered in Europe where the tech companies face less favorable government regulation. France has imposed a 3 percent tax on some digital revenue. Austria taxes income from digital advertising at 5 percent. The tax will be litigated by the companies. They feel that because the largest tech companies are not based in Maryland, the law would tax activity that originated outside the state, violating the Constitution.  When sales taxes were approved, the issue of a physical nexus for tech companies and the jurisdiction levying taxes against them it was argued prohibited those taxes.

LOUISIANA

We have had states as a declining credit sector for some time. Now that the budget season for states is fully underway, the problems being faced by states due to the pandemic have become clearer. They are trying to formulate budgets to meet the requirements of increased pandemic related costs, declines in economic activity, and high unemployment. While there is hope regarding vaccines and the potential revival of economic activity, the outlook for states is uncertain at best.

So we were surprised to see that Moody’s has chosen now to revise the rating outlook of the general obligation, lease and State Highway Improvement Revenue Bonds of the State of Louisiana to positive from stable. “Louisiana’s positive outlook reflects the significant progress the state has made restoring its financial reserves and liquidity in recent years by aligning revenue and spending in a post-energy boom era, rebuilding borrowable funds and generating budgetary surpluses in consecutive years.” We acknowledge these improvements. However, the state’s major industries – fossil fuels and petrochemicals – face enormous pressures in the near and long term.

The other major industry is tourism. Moody’s acknowledges that “the state’s recovery, however, depends in part on the economic recovery of New Orleans, the state’s largest city and a popular tourism destination. Ultimately, tourism may indeed return to pre-pandemic levels but that remains a highly uncertain proposition. Mardi Gras was cancelled this year. Issues related to climate change continue to have a significant impact on the state’s longer term outlook. The state’s historic vulnerability to climate issues continues.

So we ask ourselves what is it that moved a change in outlook now? We continue to believe that with states at the center of managing the vaccine rollout and continuing uncertainty about ultimate levels of federal funding, the outlook can only be uncertain at this time.

ILLINOIS

With all of its problems in addition to the pandemic, Illinois is one state that we are confident will not receive an improved outlook. Gov. J.B. Pritzker of Illinois presented his proposed budget for FY 2022. It comes in the wake of the defeat at the ballot box of a proposed constitutional amendment establishing a graduated income tax. Voters chose to maintain the existing flat income tax at 4.95%.

The Governor’s plan contains no new tax increases and avoids major service cuts.  It seeks to end business tax breaks. The business tax changes include reversing a phase-out of the state’s corporate franchise tax, eliminating an additional tax credit for companies receiving other state incentives that create construction jobs, capping the discount retailers get for collecting state sales tax, limiting accelerated depreciation under a federal tax change and accelerating the already scheduled expiration of a tax exemption for biodiesel fuels.

The plan would also extend repayment of state borrowing, shift earmarked revenues to the state’s general fund and use existing federal COVID-19 relief funding to address a budget deficit of more than $2.6 billion. The dedicated revenues that would be shifted to general government operations are a 10% share of state income taxes that local governments are due to receive. 

The State’s long standing credit issues remain. The Governor’s proposal would cover the state’s required pension contribution totaling nearly $9.4 billion. For the current budget year, the state has nearly $5 billion in unpaid bills and $4.3 billion in short-term borrowing, including $2.8 billion from the Federal Reserve that must be repaid over three years.

The budget debate will occur in a significantly changed political environment in Springfield. After being replaced as Speaker of the Illinois House, Michael Madigan has resigned his seat. One of the last of the old school machine politicians, Madigan was as often an obstacle to progress as much as he could be an ally and his departure is as credit positive as anything else.

GAS TAXES

A confluence of forces has pushed transportation funding – particularly roads – towards the top of the priority list in many states with budget season upon us. They are all approaching the issue from various perspectives and the resulting proposals for funding reflect those diverse standpoints.

In Wisconsin, the top two revenue sources for the state’s transportation fund — fuel taxes and vehicle registration fees — fell short of projections by more than $116 million combined in Fiscal Year 2020. Transportation dollars included in a federal relief package passed in December are estimated by the American Association of State Highway and Transportation Officials estimates to provide Wisconsin with about $188 million in transportation funding.  The Wisconsin Department of Transportation projected fuel tax revenues would remain below 2020 levels for next two years and total revenues in 2022 are expected to be the lowest since 2013.  

In Washington, the state legislature is considering a proposal which would bring the state’s gasoline taxes to $0.85/gallon. That would be the highest combined gasoline tax in the nation. The increased gas tax is estimated to  raise more than $16 billion dollars over the next 16 years for Washington transportation projects. Conversely, Ohio Governor Mike deWine has proposed cutting state funding for public transit. The woes of public transit agencies during the pandemic have been clearly shown. Consequently, bipartisan pushback on the Governor has been strong.

CALIFORNIA MUNICIPAL UTILTIES

The ongoing saga which is Pacific Gas and Electric over the last few years led to many calls for a public takeover of the utility and its transmission and distribution assets. Whether it be the damage resulting from wildfires or the impacts of the resulting policy of rolling blackouts, efforts to separate Californians from the troubles of PG&E are increasing.

One municipality at the forefront of such an effort is the small city of Gonzales, CA. This city of 9,000 has formed an electric utility, the City Gonzales Electrical Authority. The Authority has contracted with a power supplier to deliver wholesale electric power via a community-scale microgrid. The microgrid is designed to integrate a mix of 14.5-MW-AC of solar energy, 10-MW/27.5 MWh of battery energy storage and 10-MW of flexible thermal generation. The initial customer for the power is the Gonzales Agricultural Industrial Business Park, which houses processing facilities for fresh vegetable and wine producers.

Concentric Power, the power supplier, will develop, design, build, operate and maintain the microgrid assets, including both generation and distribution. The distribution assets will be transferred to Gonzales Municipal Electric Utility. The initial term of the energy services agreement is 30 years and the project is expected to break ground in mid-2021 and be ready for service in 2022.

The GEA microgrid power program’s objectives include, among other things, an integrated microgrid system that, at least in early phases, is independent from the Pacific Gas & Electric power delivery system. One of the industrial park’s major tenants already produces some of its own renewable-based power. This project will enable the park to integrate these existing distributed energy sources and operate the industrial park facilities independent of the larger transmission grid.

We think that projects like this are just the start for municipal utilities across the country. Microgrids have the potential to improve reliability and resilience for systems of all sizes. By virtue of public ownership of distribution assets, the utility is able to make decisions based on value and efficiency rather than the dividend needs of a corporate parent.

MUNICIPALS AND ELECTRIC VEHICLES

The City of St. Louis has just enacted a series of bills mandating electric vehicle readiness and charging stations in new construction and certain rehab projects. The city is mandating that beginning in January 2022 single family (new construction) have one electric vehicle ready space per dwelling unit. Beginning in January 2022 multifamily residential (new construction and rehabs of more than 50% of building area) have one electric vehicle ready space for five to 20 parking spaces; two electric vehicles spaces and one charging station for 21 to 49 parking spaces; and if 50 or more parking spaces exist, 5% of them be electric vehicle ready and 2% have charging stations.

Beginning in January 2022: nonresidential (new construction and rehabs of more than 50% of building area) have one electric vehicle space for 10 to 30 parking spaces; two electric vehicle spaces and one charging station for 31 to 49 parking spaces; and if 50 or more parking spaces exist, 5% of them be electric vehicle ready and 2% have charging stations. Beginning in January 2024: single family (new construction and rehabs of more than 50% of building area except where parking is more than 50 feet from the main structure, or has insufficient electrical service capacity) have one electric vehicle ready space per dwelling unit.

Beginning in January 2025: multifamily residential (new and rehabs of more than 50% of building area) have one electric vehicle ready space for five to 20 parking spaces; two electric vehicles spaces and one charging station for 21 to 49 parking spaces; and if 50 or more parking spaces exist, 10% of them be electric vehicle ready and 2% have charging stations.

The legislative process also produced cost estimates for compliance with the requirements. Those costs include needed panel capacity, conduit and wiring which could cost $750 to $2,000 each for new, multifamily construction and $1,500 to $10,000 in retrofits. The cost for one- to four-family residential, the city said, can range from $380 for an EV-ready outlet and $800 to $1,170 for charging stations. The cost for one- to four-family residential, the city said, can range from $380 for an EV-ready outlet and $800 to $1,170 for charging stations.

In Arkansas, the state Department of Energy and Environment launched a program this month using nearly $1 million from Volkswagen’s environmental mitigation fund to provide rebates to public and private applicants that install Level 2 EV stations, which can charge electric vehicles in eight hours or less using a 240-volt output. Arkansas has an estimated 202 EV charging locations with 434 individual stations. While nearly one-third are in greater Little Rock, Thirty-seven of Arkansas’ 75 counties have no charging locations.

ANOTHER EXAMPLE OF TRANSIT’S FINANCIAL WOES

The revenue losses experienced by mass transit systems across the country have been in the news for some time but with so much focus on NY’s MTA, the impact on other big city systems gets a bit lost. The latest example comes to us from the Pacific Northwest.

In Seattle, Sound Transit faces a projected $6 billion reduction in tax revenue due to the COVID-19 recession. Sound Transit’s board requested last week that the new federal transportation secretary to provide an extra 30% Federal Transit Administration (FTA) contribution to major projects in progress. That would translate into a $1.9 billion windfall for ongoing extensions. Sound Transit is looking for that funding in addition to some $2 billion received under the initial stimulus package.

The agency has already implemented several tactics to deal with its funding needs.  At the federal level, there is estimated to be $70 billion Congress already approved for low-interest, deferred-payment loans through the Transportation Infrastructure Finance and Innovation Act (TIFIA) currently unspent. Sound Transit knows how that funding source works as it is the biggest TIFIA client, having borrowed $3.3 billion for five projects. 

WINTER STORM GENERATES UTILITY HOT AIR

As public sentiment drifts inexorably towards the demand for electric power from renewable sources, the ice storms which plagued the country last week generated a host of claims that the resulting power outages highlighted the “dangers” of renewable fueled electric generation. Claims are that the rolling blackouts imposed across several states would not have occurred if wind and solar generation were not part of the equation.

One municipal utility in Colorado offers a different perspective. Platte River Power Authority in Colorado is a long time municipal bond issuer. In this instance, the storm led PRPA to ask consumers to reduce their power consumption because of a cascading series of events that threatened the power supplier’s ability to meet anticipated demand . In the summer, consumers across the country face requests like that especially in the case of hot weather.

The energy emergency throughout Colorado and the middle of America was sparked by a spike in demand for natural gas, which often is used to reduce electrical energy consumption peaks. In this case, the gas supplier chose to supply residential and smaller customers with gas while reducing gas supplies to peaking electric generation. It is true that wind and solar were of limited use in the storm which curtailed or halted production of both.

Proponents of the status quo for electric generation will point to events like the storm to justify keeping coal generation open. What it should do is increase attention and resources on battery and storage technologies. The development of those technologies to “economic critical mass” will be central to long term climate concerns.

Regardless of the current issue, transmission infrastructure lies at the center of any energy discussion. We have seen public entities in multiple regions finance and operate. Large scale transmission projects have been developed by municipal issuers in New York and California for decades. For a long time, the issuers’ focus was on generation. Now the likely focus for issuers will be on transmission, storage, and distribution.

CANNABIS AND THE ECONOMY

A report by Leafly and Whitney Economics has attempted to quantify the economic impact of the cannabis industry on a number of economic indicators. One has to rely on private sources of this data as Federal prohibition prevents the US Department of Labor from counting state-legal marijuana jobs. Until that changes, the industry will drive much of the data. Now that we have established the nature of the lens through which data is viewed, here is what they see.

Medical marijuana is now legal in 37 states, while 15 states and Washington, DC, have legalized cannabis for all adults. The 2021 Leafly Jobs Report found 321,000 full-time equivalent (FTE) jobs supported by legal cannabis as of January 2021. Now compare that to any number of jobs in more traditional categories. In the United States there are more legal cannabis workers than electrical engineers. There are more legal cannabis workers than EMTs and paramedics. There are more than twice as many legal cannabis workers as dentists.

The job growth was across jurisdictions both established (CA) and new (IL). California saw the industry generate 23,700 new jobs while Illinois saw job growth of 8,348. States that you do not normally associate with forward thinking social environments saw job growth. Oklahoma’s industry grew 6,200 new jobs and Pennsylvania saw just under 7,200 new jobs.

Other data on sales is revealing. Colorado continues to lead the nation in per-capita cannabis sales. In California there are now more cannabis workers (57,970) than bank tellers (41,140). Florida now sells more cannabis products than any other state except California and Colorado, even though it’s only legal for medical patients. With the opening of its first state-licensed adult-use cannabis stores in 2020, Illinois tripled its total sales last year. Michigan’s first adult-use marijuana stores opened in Dec. 2019, and that new customer base drove 2020 sales to more than double Michigan’s 2019 medical-only revenue, from $420 million to $990 million.

ENERGY OUTLOOK

U.S. crude oil production declined by an estimated 0.9 million b/d (8%) to 11.3 million b/d in 2020 because of well curtailment and a drop in drilling activity related to low crude oil prices. The U.S. Energy Information Administration’s (EIA) February 2021 Short-Term Energy Outlook (STEO) estimates that 2020 marked the first year that the United States exported more petroleum than it imported on an annual basis.

On a volume basis, U.S. consumption of gasoline declined by more than other petroleum products in 2020. EIA forecasts that U.S. gasoline consumption will rise in the forecast but remain lower than 2019 levels. U.S. gasoline consumption is forecast to average 8.6 million b/d in 2021 and 8.9 million b/d in 2022, up from 8.0 million b/d in 2020 but lower than the 9.3 million b/d consumed in 2019. total U.S. consumption of natural gas will average 81.7 billion cubic feet per day (Bcf/d) in 2021, down 1.9% from 2020.

EIA forecasts that consumption of electricity in the United States will increase by 1.6% in 2021 after falling 3.8% in 2020. It expects the share of U.S. electric power generated with natural gas to fall from 39% in 2020 to 37% in 2021 and to 35% in 2022. Coal’s forecast share of electricity generation rises from 20% in 2020 to 21% in 2021 and to 22% in 2022. Electricity generation from renewable energy sources rises from 20% in 2020 to 21% in 2021 and to 23% in 2022. The nuclear share of U.S. generation declines from 21% in 2020 to 20% in 2021 and to 19% in 2022.

EIA estimates that the U.S. electric power sector added 17.5 gigawatts (GW) of new wind capacity in 2020. EIA expects 15.3 GW of wind capacity will be added in 2021 and 3.6 GW in 2022. Utility-scale solar capacity rose by an estimated 11.1 GW in 2020. The forecast for added utility-scale solar capacity is 16.2 GW for 2021 and 12.3 GW for 2022. At the same time, EIA expects U.S. coal production to total 589 million short tons (MMst) in 2021, 50 MMst (9%) more than in 2020. In 2022, EIA expects coal production to rise by a further 5 MMst (1%). These increases reflect higher forecast demand for coal in the electric power sector because of rising natural gas prices, which increases coal’s competitiveness relative to natural gas for power generation dispatch.

CLIMATE CHANGE

The Oregon Climate Change Research Institute at Oregon State University has released the results of its study of flooding patterns in the Columbia River Basin. The goal of the research was to better understand how flooding in the Columbia River basin might change as the planet warms. 

The study used hydrology models and a previously collected set of streamflow data for 396 sites throughout the Columbia River basin and other watersheds in western Washington over a 50 year period. The results led the study to conclude that the Willamette River and its tributaries are expected to see the biggest increase in flooding magnitude, with 50% to 60% increases in 100-year floods. Parts of the Snake River will see a 40% increase in 10-year floods and a 60% increase in 100-year floods. 

The question yet to be answered is what mitigation infrastructure might be required. The region’s historic reliance on dams is under challenge anyway and the data generated for the report will force communities potentially impacted to reevaluate their infrastructure needs.

AIRPORT TRAFFIC

We saw that some issuers which depend on air travel are taking steps to align the decreased revenues which have resulted from the pandemic. Several are using refundings at current low interest rates to restructure amortization schedules to reflect new expectations about revenues.

An estimated 368 million passengers flew in 2020, the lowest number since 1984. The Bureau of Transportation Statistics (BTS) reported that April saw the biggest drop in U.S. passenger traffic. Three million people flew that month, a 96% year-over-year drop and the lowest monthly total in BTS records since 1974. The previous low was 14.6 million passengers in February 1975.

That explains why some specific projects like stand alone rental car facility credits are extremely vulnerable to limits on travel.

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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DETROIT AND A NO SPREAD MARKET

It was in 2014 that Detroit managed to work its way out of bankruptcy with limited tax bondholders recovering 34 cents on the dollar and unlimited tax holders 74 cents. This week the City was in the  market with general obligation debt. The City sold $135 million stand-alone, tax-exempt general obligation bonds with maturities out to 2050. The bonds came at  spreads of 100 bps to 128 bps to the Municipal Market Data’s AAA benchmark. Taxable bonds came at spreads of up to 250 basis points to Treasuries.

So have things improved greatly in terms of the city’s financial position and management? They certainly have but the city still faces daunting obstacles in its path to economic stability. The purpose of the bond issue itself is evidence of the city’s problems. In November, more than 70% of voters authorized $250 million of GO borrowing to finance blight removal. Proceeds will help finance the city’s renovation of 8,000 vacant homes and demolition of another 8,000. Those are some of the factors holding the city’s GO rating at BB-.

The driving factor enabling the city to achieve a fairly effective cost of borrowing is the continuing flow of money into municipal bond funds. In effect, too much money is chasing too few bonds. The pandemic and the need to keep interest rates low as a result of it have created a very favorable environment for borrowers whether it be new money in the case of Detroit or de facto restructurings. For those borrowers whose financial positions have been clearly impacted by the pandemic – especially those sectors dependent upon travel or entertainment – the current rate environment and supply and demand patterns encourage more borrowing.

KROLL REJECTS ESG SCORES

We were heartened to see Kroll Bond Rating Agency take a position on the issue of how environmental, social, and governance factors (ESG) should be addressed as part of the credit rating process. There is increasingly pressure on the rating agencies to develop methodologies which investors and fund managers and marketers can use to address the increasing investor emphasis on ESG. This interest has led to various efforts to develop distinct ESG scoring methodologies by a variety of entities with varying degrees of success (or the lack thereof). One of the criticisms of the effort, stems from that fact that many of the characteristics evaluated for purposes of ESG scoring do not necessarily lend themselves to a quantitative judgment.

Kroll’s view is that solid credit analysis has always taken ESG factors into account when developing a rating. “KBRA believes that ESG risks and opportunities are best analyzed through a lens of how well these risks are being identified and managed by issuers and/or by their transactions.” It you think about it, with municipalities being on the front line of both the impacts of natural disasters and the response to them, one could argue that the municipal market has been an ESG market for all its history.

Municipal bonds have always been unique in that “management” in the public sector has always been dependent upon the political process. Anyone who thinks that the market has not been making decisions for decades based on what are now grouped as ESG factors, just does not understand what the municipal market finances.

We don’t need a separate scoring system for evaluating things like the ESG value of clean air and water, reliable available public transportation, pollution control equipment, schools and recreational facilities. The social and environmental benefits of those investments is pretty clear. As for the governance aspect, so long as elected officials are the officers of municipalities, governance will be an imperfect process.

NJ MOVES TOWARDS BETTER CLIMATE RISK DISCLOSURE

The State of New Jersey has enacted a new law which would require municipalities to identify critical facilities such as roads and utilities that might be affected by hurricanes or sea-level rise; make plans to sustain normal life in the face of anticipated natural hazards, and integrate climate vulnerability with existing plans such as emergency management or flood-hazard strategies. Municipalities must “rely on the most recent natural hazard projections and best available science provided by the New Jersey Department of Environmental Protection” when they update master plans every 10 years, as required.

Seas at the Jersey Shore are expected to rise by up to 2.1 feet by 2050 and by as much as 6.3 feet by the end of the century, compared with the 2000 level, according to the latest forecast from Rutgers and the DEP. Nevertheless, as is always the case, the municipality’s lobbyists are planning to try to overturn the law under New Jersey law regarding state mandates.

So here is a challenge for all ESG investors. The municipalities balking at the new requirements would likely change their minds if they lost market access over climate issues. The Office of Legislative Services concluded in an analysis of the bill last September that its measures would result in just a “marginal” spending increase at municipal and state levels. You do not need a rating agency or really any other entity to tell you that the refusal to deal with climate change is a major credit impact. It is just common sense.

TRANSMISSION BOTTLENECKS THREATEN NEW GENERATION

One of the issues facing the utility industry is how it will accommodate the needs of alternative energy producers to be able to deliver their power to the transmission grid. It is becoming more of an issue as the renewable energy industry grows in tandem with increasing regulation driving producers away from fossil fuel usage. Recently, a couple of situations have arisen highlighting the issue and causing debate.

In Maine, the state’s investor owned utility Central Maine Power (CMP) is under fire for its “mismanagement” of the absorption of renewable energy from independent producers. Recently, CMP notified the developers of renewable energy resources that it had incorrectly estimated the cost for these producers to access the transmission grid operated  by CMP. CMP informed solar developers that its initial statements about how much it would cost solar projects to connect to the energy grid – costs that solar developers had already relied on for business investments in the millions – were incorrect and that an undisclosed number of projects would need to pay hundreds of thousands, if not millions, of dollars more in order to connect to CMP’s transmission system.

CMP has active requests for 2,000 megawatts of capacity in small renewable projects, known collectively as distributed generation. But the current grid is designed to handle a peak load of only 1,700 megawatts. Now, CMP is sending notices to solar power producers with whom it has signed and executed agreements to distribute their power that the costs determined by system impact studies were incorrect.

Typically, interconnection agreements were entered into after a system impact study evaluated whether a transmission utility’s substation and local distribution network can safely and reliably handle the new power. Projects don not move forward until those costs are established. The price rise from CMP could damage the economics of some projects such that they are not longer viable to operate. A survey sent last week to members of the Maine Renewable Energy Association found that more than 100 solar projects in 74 communities have received revised cost estimates from CMP totaling tens of millions of dollars.

The issue moves forward as it highlights policy making conflicts between state and local governments. CMP is making its moves while three Maine solar energy projects will receive a total of $17.6 million in federal loan guarantees from the Rural Energy for America Program operated by the U.S. Department of Agriculture’s Rural Development office. The projects each have interconnection and net energy billing agreements with Central Maine Power. 

As the week went on, the political reaction emerged and put significant pressure including the potential for a state investigation of CMP’s solar hook up practices. Lo and behold, CMP announced that it had found faster and less costly solutions that will allow more large solar projects to hook up to its electric distribution network. “CMP believes lower-cost upgrades, or the complete elimination of upgrades, may be possible with further study. Specifically, where initial estimates were $10-$15 million per substation reflecting a complete rebuild of the substation, estimates for all but a limited number of substations are now in the range of $175,000 to $375,000 for those substations that will require upgrades.”

So far, the problem seems to be one for the investor owned utilities to deal with. While cost is an issue for all for all utilities which transmit as well as generate and distribute, this will be another area of risk as the renewable industry grows. Municipal utilities will have to step up their game when it comes to assessing the costs and viability of renewable alternatives. They will not be immune to the pressures of adapting to small scale local generation.

CYBER SECURITY FRONT AND CENTER NOW

It has long been a  concern that a malicious hack could access the operational systems of many utilities. For a long time, the main focus was on the power industry. The worry has always been that a hack could result in blackouts of conceivably long durations. The Atlanta and Baltimore hacks did not interfere with operations at facilities like utilities and airports. 

Now the worst fears of the cyber security industry have come true with the recent hack of the water utility in Oldsmar, FL. In that event, hackers were able to take over a portion of operating systems and alter the chemical treatment process at the city’s waterworks. Someone had seized control of one employee’s computer  for several minutes and increased the level of sodium hydroxide—a caustic alkaline chemical used in small amounts to control the acidity of water. At the levels the hacker set, the amount of that chemical would have been increased 100 times above safe levels.  

Fortunately, the operators at the plant were able to stop the potential poisoning of the water supply to 14,000 residents. Unfortunately, we still remain at the mercy of local officials in terms of what the risk actually was or is, and what it might cost to prevent a recurrence. That remains the case with no clear standards for cyber security disclosure and a likelihood that such hacking efforts will be repeated. It is a risk that investors need to ask more questions about.

We think that the vulnerable utilities will be the smaller local utilities. They tend to be less than well funded given the small economic bases supporting them. This makes them more reliant on third party systems providers reflecting a less than adequate level of technical expertise. The risk is greater now that many of these systems are being monitored and operated remotely due to the pandemic. This requires remote access to utility systems which increases vulnerability. The intruder gained access to the plant through an employee who had installed TeamViewer, a widely used piece of software that allows someone to remotely view and control a computer.  

FOSSIL FUELS WORTH THE FIGHT?

A new study released by the Ohio River Valley Institute  has cast doubt on the value of reliance upon the gas extraction industry to local economies. Between 2008 and 2019, twenty-two old industrial and rural counties in Ohio, Pennsylvania, and West Virginia, which make up the Appalachian natural gas region, increased their contribution to US gross domestic product (GDP) by more than one-third. The direct economic benefits to those counties however, were nowhere near commensurate with their contribution to the national economy.

The 22 counties’ share of the nation’s personal income fell by 6.3%, from $2.62 for every $1,000 to just $2.46. Their share of jobs fell by 7.5%, from 2.8 in every 1,000 to 2.6. Their share of the nation’s population fell by 9.6%, from 3.2 for every 1,000 Americans to 2.9 for every thousand. In 2010, the American petroleum Institute projected that  nearly 44,000 new jobs would be created in West Virginia and 212,000 in Pennsylvania. Another study predicted the creation of an additional 200,000 jobs in Ohio.

Between 2008 and 2019 the number of jobs nationally increased by 10%, but in Ohio, Pennsylvania, and West Virginia, job growth was less than 4%. The 22 major gas-producing counties did even worse, with combined job growth of only 1.7%. Of the 22 major gas-producing Appalachian counties, only one met or exceeded national performance for all three measures of prosperity – income, jobs, and population. One other county outperformed the nation for two measures. Two counties outperformed the nation for a single measure. And 18 underperformed the nation for all three measures.

This sort of data should show the folly of reliance upon the fossil fuel industry. In states like Wyoming, the state is expected to embark on a legal effort to maintain fossil fuel production. This even as several coal mines will be closing this year in the state. That is not as a result of things like the Federal leasing ban on extraction. It’s a product of the market. Wyoming does not levy any income tax on either individuals or corporations. It relies on the easy money from mining and drilling. The risk is always that the product will run out, that markets change, and that progress continues.

Like any other concentration issue, reliance on one concentrated economic sector is always a source of credit risk.

PUERTO RICO DEBT PLAN

Puerto Rico’s Financial Oversight and Management Board (FOMB) announced that it reached an agreement in principle with several creditor groups to lower the commonwealth’s debt to “sustainable” levels. It requested a one-month extension of the deadline to file an amended plan of adjustment. The board said it reached the agreement with creditors holding about $7 billion in GO and Public Building Authority (PBA) bonds.

The new proposal would entail annual payments of $1.15 billion to $1.3 billion from the central government plus a Sales Tax Financing Corp. (Cofina) payment for 20 years, until 2041, and annual Cofina payments of $991 million between 2042 and 2058. The new proposal would represent a cut to the principal of the debt of between 55 percent and 58 percent, much lower than the one proposed in October, which was between 66 percent and 69 percent.

For the Puerto Rico Electric Power Authority (PREPA), an agreement between PREPA and the New York State Power Authority (NYPA) has been renewed. The agreement continues the role of NYPA in the utility’s recovery. NYPA helped inspect 50 energy substations following the earthquakes early last year and assisted in restoring power to hundreds of homes across the island. NYPA also helped prepare damage assessments and cost estimates to facilitate insurance claims.

NYPA will offer technical assistance to help stabilize Puerto Rico’s power grid and help prepare recommendations for rebuilding and hardening the island’s power system. NYPA will help PREPA strengthen its emergency preparedness and resiliency initiatives and will offer technical assistance to help stabilize Puerto Rico’s power grid and help prepare recommendations for rebuilding and hardening the island’s power system so that it is better able to withstand the types of natural disasters which have plagued the Commonwealth for years.

IBO BUDGET REVIEW

The New York City Independent Budget Office has released its preliminary review of Mayor Bill de Blasio’s budget proposal for FY 2022. The review is interesting not only for its view of the upcoming FY, but it also provides some view of the fiscal impact of the pandemic on the City.

IBO projects a fiscal year 2021 surplus of $3.62 billion. It estimates there will be $582 million in additional resources this year, offset by $324 million in unspecified labor savings, leaving $258 million more than the de Blasio Administration expects to be available to roll into 2022.  Total tax revenue is expected to fall by 1.9 percent from 2020 to 2021, the first year-to year drop since 2009. All of the city’s major tax sources are expected to shrink this year with the exception of the unincorporated business tax (5.4%) and the property tax (4.2%).

At the end of calendar year 2020, New York City had 557,000 fewer jobs than at the end of 2019, a decline of 11.9 percent. From calendar years 2015 through 2019, total employment increased by an average of 93,300 jobs each year. In 2020, the city lost 557,000 jobs, including 201,800 jobs in leisure and hospitality. In 2021 through 2025, IBO projects increases of 102,700 jobs per year on average, leaving city employment 43,000 jobs shy of its pre-pandemic peak. IBO projects additional resources of more than $1 billion in 2022, the estimated surplus is $490 million. For 2023 through 2025 IBO expects gaps of roughly $4.0 billion each year. In 2025, the number of jobs in the city will still be below the level at the end of 2019.

Property tax revenue is expected to fall by $1.0 billion (3.3%) from 2021 to 2022 brought on by major declines in assessments of commercial property, including large apartment buildings. The city’s financial plan assumes $1 billion in unspecified labor savings for each year from 2022 through 2025. It is still uncertain how the planned savings will be achieved in the upcoming fiscal years and what impact such actions could have for the provision of city services.

The review notes that the Biden Administration had authorized a 100% reimbursement of the city’s costs for combating the pandemic, as opposed to the typical 75%. This means the city will receive reimbursement for a total of $4.6 billion in Covid-related costs eligible for reimbursement from the Federal Emergency Management Agency—nearly $1.2 billion more than had been budgeted. So far, the Mayor has indicated he intends to use the newly available city funds to restore two cuts to the schools budget, leaving about $900 million unallocated.

The fiscal management issues are manageable but that is not meant to understate the current peril the city is in. The next mayor will have to complete dealing with the city economy, the transit capital needs, the capital needs of the housing agency, and the post-pandemic issues for the City’s public school students which the  Department of Education will face.

ANOTHER HOSPITAL CLOSES

The fact that its parent, Trinity Health, is one of the largest hospital systems in the country has not saved one Chicago hospital from the ongoing pressures in the healthcare space. Mercy Hospital and Medical Center was founded in 1852 and is Chicago’s first chartered teaching hospital. Nevertheless, the hospital was challenged in the current environment and its board had adopted a plan whereby a plan for Mercy that included the discontinuation of inpatient acute care services at Mercy and the wind-down of Mercy as a licensed full-service acute care hospital due to declining utilization rates.

The hope was that the service changes could be executed beginning at the end of May. The hospital required approval from the State of Illinois to make those changes. When the permission was not received, the path of bankruptcy and more immediate cessation  of activities became a strategy to eliminate the costs being covered by Trinity Health. For investors in Trinity Health (AA-) bonds, this is not a significant credit event. It cuts the losses (even after a $100 million plus capital investment since 2015) so the impact upon the overall Trinity credit from that standpoint is positive.

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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The announcement by GM that it will not sell internal combustion powered vehicles has increased the focus on electric vehicles. In combination with other automakers, this makes the adoption of electric vehicles ever more likely and sooner rather than later. The electric vehicle age will place pressure on utilities both investor owned and publicly owned to be in a position to facilitatethefull implementation of the technology. It also raises issues for state legislatures as the current system of road funding is  not compatible with widespread electric vehicle use.

So much of our focus this week is on the various issues raised by the move to EVs.

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MUNICIPAL UTILITIES AND ELECTRIC CARS

The announcement by General Motors that it will no longer sell vehicles powered by internal combustion engines by 2035 clearly establishes the future course of the industry. As revolutionary for the auto industry as the decision is, it puts the utility industry at the center of the effort to decarbonize. Between the demand for decarbonization and the looming demand burst related to electric vehicles, it is likely that substantial expansion of both the generation base and the transmission and distribution grid will challenge electric utilities. Municipal electric utilities will be no different from their investor owned counterparts.

As electric vehicles become prevalent, the need for reliability of the electric grid to be enhanced grows. The full implementation of electric vehicles will rely on the resolution of issues surrounding charging. The vehicles will alter demand patterns for electric consumption. It will impact the things like time of day pricing, the unique demands of “fast” electric vehicle chargers, and will come at the same time as the drive for renewable generation continues.

Demand charges are a component of commercial and industrial electric bills that assesses a fee based on the highest amount of energy used in any 15-minute period throughout the month. They are designed to make sure customers are paying their fair share to keep the grid ready to deliver even in times of high demand.  It is feared that fast charging for vehicles will artificially drive are a component of commercial and industrial electric bills that assesses a fee based on the highest amount of energy used in any 15-minute period throughout the month.

If demand charges are generated through the use of electric vehicle charging infrastructure, it could make electric a less economic choice. Charging infrastructure has become more of a chicken/egg issue with low initial demand making the service more costly. There are alternatives. In Virginia, fast-charger customers of Dominion Energy that have low demand can qualify for a general service rate without a demand charge.

In Connecticut, Eversource converts the demand charge into an equivalent per-kilowatt-hour rate. Southern California Edison offers time-of-use rates, which charge different rates at different times of the day, for five years, with demand charges phasing back in over the following five years. 

PUBLIC UTILITY AT THE FOREFRONT OF CHANGE

We have in the past cited the Tennessee Valley Authority as an example of how government can fill the breach when the private sector and the market do not. Whether it has been electrification, broadband, or other services public entities like the TVA and municipal utilities have successfully filled the need. Now, the TVA has another chance to put a publicly owned utility at the forefront of change.

Tennessee will have at least three manufacturers building electric vehicles by year end. Current electric vehicle ownership in the state is about 11,000, according to the TVA. It is well known that one of the major obstacles to fuller electric vehicle acceptance is range anxiety, or the fear that a vehicle will run out of charge and the driver will become stranded.

To address that concern, the TVA has announced that it will develop a network of charging stations. It is expected to include about 50 stations, primarily along interstates and U.S. and state highways. The idea is to have chargers available at least every 50 miles, “from the mountains of East Tennessee to the banks of the Mississippi,” according to the TVA. It is expected to cost about $20 million and should be built out over the next three to five years.

Funding will come from a portion of the State of Tennessee’s share of the Volkswagen settlement ($5 million) and from $15 million of TVA funding. It is expected that local utilities will actually operate the equipment. So the role of municipal utilities is clear. The TVA and the consortium Drive Electric Tennessee have a goal of 200,000 electric vehicles in Tennessee by 2028. 

ELECTRIC VEHICLES AND ROAD FUNDING

The South Dakota legislature is considering A bill that would charge an annual fee for electric car owners. The issue has been previously rejected twice when the proposal called for a $100 fee. Reflecting that history, the current bill would impose a $50 fee. The tax will go toward the state’s road maintenance fund, which is currently funded through a gas tax, at $0.30 per gallon.

In neighboring North Dakota, the legislature is considering a bill to raise the state’s gas tax by 6 cents per gallon. The amended bill also would require electric and hybrid vehicle drivers to pay a road use fee more than double the existing level.  The proposal would apply to gasoline and special fuels such as diesel,  biodiesel and compressed natural gas used in vehicles. Those fuels are taxed at 23 cents per gallon, a lower rate than in surrounding states.

In Utah, the Legislature is considering a bill which would raise the fees for electric vehicles  from $120 to $300, up 150%. Registration fees for plug-in hybrids  would quintuple from $52 to $260. Fees for hybrid electric vehicles would rise from $20 to $50, up 150%. This would make the Utah fees the nation’s highest.  Utah offers a pilot program that could allow electric and hybrid car owners a chance to pay less if they drive less, called the Road User Charge program. It charges a monthly fee per mile driven, up to an annual maximum of what the registration fee would be otherwise. If the car is driven less than that amount, he or she pays less.

VEHICLE MILEAGE TAXES

While much of the discussion currently revolves around whether the gas tax needs to be raised, the announcement by GM that it will only sell electric vehicles as of 2035 may make much of the gas tax discussion moot. The announcement comes as an unusual alignment of political interests coalesces around the issue of vehicle mileage taxes. Increased investment in electric vehicles, Democratic control of Congress, bipartisan interest, and President Joe Biden’s opposition to increasing the gas tax could jump start a push to a user-based fee.

A vehicle mileage tax goes a long way to addressing the fairness issues around VMT versus a gas tax. By adopting a universally applicable tax in place of separate fees based on whether a vehicle is an internal combustion powered one or an electric one, the issue becomes one of equity versus the current efforts to use registration fees as a way to deter interest in electric vehicles.

The logic behind the VMT is clear and that is reflected in the opposition to it. The biggest objection seems to be around issues of privacy. It is the same argument that has been raised against electronic tolling and against electronic fare collection on public transit. The reality is that electronic tolling and fare paying has been accepted. The reality is that there are plenty of technologies in use today that effectively track movements and whereabouts. The privacy issue seems to be a closing the barn door after the livestock has gotten away.

ENERGY TECHNOLOGY AND MUNICIPAL UTILITIES

The City of Longmont, CO owns its own electric distribution utility as well as a broadband utility. Recently it announced that it was going to continue a program which merges energy with technology directly. The program is called Building Energy Benchmarking . It allows the owner of a building or industrial structure to compare their building to similar building types in similar climates, so that it may be determined whether its energy use is above average, below average or on par. A participant inputs basic building data and 12 months of electric and natural gas usage information into the Environmental Protection Agency’s ENERGY STAR® Portfolio Manager to calculate a score, and submits the results to its electric provider.

It’s advertised as a source of savings for consumers of electricity. The fact is that it is also a source of longer term savings for the utility by reducing the dependence upon power generated from fossil fuel plants and larger scale technologies. By managing load, generation requirements are minimized and the ability to add renewables based generation is enhanced for the electric provider. 

In Pennsylvania, the University Area Joint Authority operates a regional sewage treatment system for several municipalities around State College. Yet it is becoming better known for a plan that would see the utility using solar power for 85% of its operating needs. It is doing that by constructing solar arrays on its own property. It also seeks to do so by using power produced at individual small scale solar arrays.

The situation highlights some of the legal obstacles slowing the move to renewables. In Pennsylvania, state rules limit the size of solar arrays. Part of the economics of solar in Pennsylvania, is the use of credits for the reduction of pollution from agricultural lands.  The cost benefits for installing solar are reduced by current state limits on the size of solar arrays.

This municipal issuer is taking a unique approach. To deal with the limitations on how much solar power generated on Authority property, the Authority has come up with a creative plan. The Authority plans for a pilot project of about 300 homes, businesses and nonprofits to install their own individual solar panels. Under the plan, UAJA will finance the up-front costs for a contractor to install the solar panels. For customers who opt in, a separate line on their UAJA bill will be for the solar panels. 

It’s another example of municipal issuers stepping into the breach when a market approach is not able to satisfy demand. We expect to see more of this as renewable power generation gains greater acceptance.

CANNABIS DEBATES CONTINUE

Idaho is one of only three states that does not allow possession of even low amounts of THC, the psychoactive chemical in marijuana. The state is landlocked pot-wise. Washington, Oregon, Montana and Nevada, while Utah allows medical marijuana. Wyoming allows CBD products containing less than 0.3 percent of THC. And Canada is legal weed territory.

Now, an Idaho state senate committee has approved a resolution to move action on a constitutional amendment seeking to prevent the legalization of marijuana and other psychoactive drugs not already legal in the state. 

South Dakota Gov. Kristi Noem (R) has issued an executive order allowing a legal challenge to the constitutionality of a November voter-approved amendment to legalize recreational marijuana in the state. Amendment A passed with 54% support in the Nov. 3 election, while a separate question on legalizing medical marijuana received nearly 70%. Opponents of the voter approved amendment are using narrow legal points to challenge and hopefully overturn the vote.  

PENNSYLVANIA BUDGET

The Governor has proposed his budget for fiscal 2022 and it looks like it will be a hard sell in the Legislature. The budget calls for an attempt to graduate income tax rates. Pennsylvania currently has a flat income tax and the Governor has long sought to increase the rate at the highest end of the income spectrum. Just as steadily, the Legislature has turned him down. Increasing the rate to 4.49% from 3.07% to raise what the Governor estimated to be $4 billion over a full-year, or about 25% more. So the Commonwealth is left with a less flexible tax structure that also makes school funding very dependent upon local property taxation.

This year the budget process will no doubt be influenced by the increasingly poisonous politics of the Legislature. In 2022, the Governor is term limited and the remaining Republican senator Pat Toomey has announced his retirement from the Senate. The aftermath of the Presidential election and Pennsylvania’s center stage presence in the effort to overturn the election will likely bleed over into the budget process. We would be surprised to see support for the Governor’s proposed tax increase.

The question is whether the State will return to the past and a long history of contentious budget battles and delayed budgets. The intransigence on the part of anti-tax legislators has left the Commonwealth facing real pressures to fund the schools without any real prospect of generating additional resources for education. The Commonwealth has already made significant cuts to the state higher education system including reduced course offerings and headcount reductions. There still remains substantial opposition to severance taxes on natural gas which could address the revenue concerns.  

PANDEMIC CASUALTIES – HOTEL/CONFERENCE CREDITS

One of the more prominent cases in which revenues for debt service were reliant on an annual appropriation and the required appropriation did not happen has been in the Village of Lombard, IL. The village sold debt for a hotel/ conference center in the Chicago suburb in 2005. A decline in demand for such facilities after the 2008 financial crisis doomed the hotel to underperformance. In the event of inadequate revenues from the facility, the Village committed to make up any shortfalls subject to annual appropriation.

When the project experienced a shortfall in revenues for debt service, the Village declined to appropriate funds for debt service (as was their right). This led ultimately to a Chapter 11 bankruptcy filing and a refinancing of the old debt through the Wisconsin Public Finance Authority. Now with the hotel limited by lock downs and operating restrictions, the facility does not have revenue for debt service. So, a payment default now has occurred.

It is a clue when a project cannot find issuer support within its own jurisdiction. The Wisconsin Public Finance Authority has participated in other out of state financings when it was clear that there was little local appetite for the risk. So we are not surprised when one of the Authority’s deals has problems. The real question is how will the pandemic permanently alter the demand for business based events. This economic environment is far different than was the case in the recovery from 2008. It is unclear how much of the shift to remote work will be permanent.

PUERTO RICO BENEFITS FROM NEW ADMINISTRATION

The Biden Administration is releasing $1. 3 billion in aid allocated by Congress to help the U.S island territory protect itself against future climate disasters.  It is also taking steps to remove restrictions on an additional $5 billion which can be applied to housing infrastructure. Those restrictions were policy decisions by the prior administration.

So far, Puerto Rico has only received $18 billion of the $43 billion Congress committed to the rebuilding on the island. There have been concerns cited about how the money will ultimately used which were the basis of decisions not to release the funds. As has always been the case, there will be concerns about efficiency and transparency whenever such a large amount of federal funding is injected at once.

In the end, it is another example of how the historic resistance to timely and full reporting about its finances hurts the Commonwealth. The concerns are, at the core, legitimate over a long period of time. It has not been a partisan issue. The disclosure was universally inadequate regardless of which party was in power. It served as a convenient excuse for those who simply did not want to support the Commonwealth’s residents. Nonetheless, it is a self inflicted wound.

COAL

“There is not a regulated coal plant in this country that is economic today, full period and stop.” That is from the CEO of NextEra Energy. Coal-fired power is unprofitable everywhere in the country because of competition from less expensive sources like wind, solar and natural gas. The national average capacity factor for coal plants dropped below 50 percent last year for the first time on record in 2019.

Alliant Energy of Wisconsin announced what it called “the end of an era” with a plan to close the Columbia Energy Center, with a capacity of about 1,100 megawatts, in 2025. The point of all of this is that it is no longer a political issue. The decline of coal is market based yet there are efforts being made by legislatures to intervene in markets.

The Indiana legislature is considering legislation to keep coal plants open. North Dakota is looking at legislation to tax wind energy production and use that money to subsidize coal generation. A bill introduced in Wyoming’s Legislature would also tax solar energy in an effort to make it less economic.  The $1 per megawatt tax would not apply to small-scale energy producers, like homeowners but would apply to commercial scale solar generation.

ACA REVIVAL

The Biden Administration has announced a three month extension of the enrollment period for health insurance under the ACA. The special enrollment period will run from 15 February through 15 May and open the federal exchange to those who have either lost or are unable to obtain health insurance through their employment. This has taken on extra significance in light of pandemic induced limits on employment. It also relieves pressure on healthcare providers. Insured patients are more likely to get more regular and less expensive care versus the uninsured who access the system through the emergency room.

Patients who lost health insurance during the pandemic generally shifted to Medicaid or uninsured/self-pay status. Uninsured and self-pay patients are also associated with higher levels of bad debt. The impact on hospital revenues and margins will be positive. It will also be positive for states and counties which will likely face lower levels of Medicaid enrollment. States have already been looking for ways to reduce their Medicaid costs so anything that reduces that burden is good.

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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P3 IN THE SPOTLIGHT

The troubles which have plagued the long delayed Purple Line P3 rail system in Maryland now appear to be influencing the development of another P3 to expand I-270. Maryland hopes construction would start with the replacement and expansion of  the American Legion Bridge. Work would continue around the Beltway to the I-270 spur, before moving up I-270. It would include tolled express lanes which would be the source of revenue to support the financing of the project. The existing free lanes would also would be rebuilt.

As one of the more favorable states for P3s, it was not unexpected that a P3 would be a likely option for Maryland. However, the impact of the ongoing Purple Line experience shows up in the first proposed contract to deal with “pre-development’ components of the project. In reality, it calls for the winner of the contract to deal with a myriad of issues over design, permitting, and acquisition in association with the needed right of way. Those all have the potential to increase costs and delay the project.

It was due to factors like those that the Purple Line P3 cratered. To address some of those potential liabilities, the State of Maryland is proposing that the state would have to reimburse upfront “predevelopment costs” if the project is delayed for a list of reasons. Among potential delay points are that  land costs more than expected, the federal government withholds environmental approval or the state board that approves major contracts does not do so.

The State would have to compensate the private partner with up to $50 million in the event any of the triggering events occur. The needed environmental permits are not in hand. These are often the most successful vehicles for project opponents to employ to stall or halt projects. There remains significant opposition to the project from a variety of interests.

MORE THAN MEETS THE EYE IN GDP REPORT

The fact that the economy fared so poorly in the fourth quarter relative to the third quarter is not surprising. The reinstatement of lockdown conditions and extensions of existing service limits and suspensions could be anything but positive. What interests us is what the data tells us in terms of what the economy might look like going forward once “normal” life resumes. And that positive spending now could have negative impacts later.

The data reflects current trends. The increase in real GDP reflected increases in exports, nonresidential fixed investment, personal consumption expenditures (PCE), residential fixed investment, and private inventory investment that were partly offset by decreases in state and local government spending and federal government spending. It is the underlying detail that draw attention.

The increase in nonresidential fixed investment reflected increases in all components, led by equipment. That is a nice way of saying that manufacturers were able to take advantage of pandemic induced downtime to rethink their use of labor and automate where they could. The pandemic exacerbated that existing trend and portends that while the economy may resume, manufacturing employment gains may not be as robust.

The increase in Personal Consumption Expenditure was more than accounted for by spending on services (led by health care); spending on goods decreased (led by food and beverages). Disposable personal income decreased $372.5 billion, or 8.1 percent, in the fourth quarter, compared with a decrease of $638.9 billion, or 13.2 percent, in the third quarter. The decrease in PCE in 2020 was more than accounted for by a decrease in services (led by food services and accommodations, health care, and recreation services).

That puts the travel/hospitality/entertainment/culture space at the center of  true recovery. No other sector may have been as impacted and the ability of the sector to reemploy staff let go as these facilities closed will be key to determining the pace and extent of the post-pandemic economic growth. Municipal bond credits supported by entities in this space still provide a source of risk as it is not clear as to the timing of a full recovery. It is the reliance of this space upon disposable income that highlights the risks facing these credits.

NATURAL GAS BANS

One of the more recent fronts in the movement to end dependence for energy and fuel from fossil based sources. Fronts against oil have been opened up with carmakers accelerating efforts to develop electric vehicles. Market realities are driving coal out of the electric generation fuel source menu. Now, efforts are turning towards what has been until know a go to alternative to those fuels – natural gas. While cleaner than oil or coal, natural gas carries with it its own set of environmental baggage.

That environmental baggage has driven several municipalities – primarily in California – to enact laws and/or regulations which would not allow the use of natural gas as a fuel source in new construction. While the number of such bans is few, the industry and its policy allies are moving quickly at the state legislative level to enact laws reserving regulation of the use of natural gas in buildings to state regulators. Indiana is about to vote on one such bill even though there are no known existing or pending natural gas limits in the state.

Kansas and Missouri are set to contemplate similar legislation. There are two broad views of these regulations. Proponents would say “No one is talking about removing existing infrastructure in place, ripping that out and forcing people to go electric. These bans are all about new construction, new development. Furthermore, most of these bans I’ve read about include significant exemptions especially for the manufacturing and industrial sector. This is a one-way bill. This bill is not about choice, it’s about the utility’s right to furnish service regardless of the energy source. … There’s nothing in this bill that protects the rights of private property owners to generate their own energy, or to lease their land to third parties who wish to invest in renewable energy on their property.”

Opponents (energy and development companies) would say builders and manufacturers arguing that it is crucial to ensure competitiveness in Indiana’s manufacturing and construction sectors. Tennessee, Kentucky, and Oklahoma are said to be looking at similar legislation. And similar is the key word as the hand of The American Legislative Exchange Council  (ALEC) is thought to be behind the structure of the legislation as they are so often in conservative state legislatures.

POLICY SHIFTS FROM NEW ADMINISTRATION

One example of the impact of a change in administrations is the clear change in attitude towards infrastructure and its role in resiliency. Federal officials aim to free up as much as $10 billion at the Federal Emergency Management Agency to protect against climate disasters before they strike. The money would be applied to projects like building seawalls, elevating or relocating flood-prone homes and taking other steps as climate change intensifies storms and other natural disasters.

Currently, much preventative work is done through local funding and financing. The FEMA plan would use a budgeting maneuver to repurpose a portion of the agency’s overall disaster spending toward projects designed to protect against damage from climate disasters. Initially, the agency believes that the planned budgetary maneuver could generate as much as $3.7 billion to be available for the program, called Building Resilient Infrastructure and Communities, or BRIC. 

The BRIC program was created in the aftermath of the disaster season of 2017, when the United States was struck in quick succession by Hurricanes Harvey, Irma and Maria, as well as wildfires in California that were then the worst on record. the National Institute of Building Sciences  found mitigation funding can save the nation $6 in future disaster costs, for every $1 spent on hazard mitigation.

The program would not be funded by federal dollars completely. State and local governments must provide 25% of the cost of any projects. The consideration comes in the wake of a bipartisan Congressional request that the monies be used in this manner in 2020. That request was rejected by the Trump Administration OMB. With a different philosophy and personnel in place in a Biden Administration, it is much more likely that this funding could be used.

A second sector to see change is the private prison space. Towards the end of the Obama Administration, the department of Homeland security began moving towards ending contracts with private prison operators to house federal prisoners.  The prisons are a source of jobs to the primarily rural communities where they operate. For many of these facilities, the federal contracts are the difference between financial failure and success.

That policy was reversed by the Trump Administration. Now, in keeping with the policies the Obama/Biden Administration was seeking to impose, the President signed an executive order ending contracts between the Department of Justice and private facilities. The policy does not extend to Immigration and Customs Enforcement contracts. The Bureau of Prisons currently holds approximately 11,000 prisoners in 12 facilities. Three are in Texas and two are in Georgia.

TRANSPORTATION FUNDING ALTERNATIVES

Impact fees are a one-time charge assessed only against those who create additional impacts to the transportation system by virtue of a new development or change of use. Their purpose is mitigate the impacts of development on municipal and county infrastructure systems, and to ensure those who are creating the impact, rather than existing tax payers, foot the bill for the cost of new transportation facilities necessary to serve new development.

The Seminole County FL Road (Transportation) Impact Fee was put in place in 1985. Since its adoption, funds collected under this program have been used to construct roads facilities or provide road improvements to accommodate the demands of new growth. The fee has not been updated for a quarter century. Since its adoption, funds collected under this program have been used to construct roads facilities or provide road improvements. Over that time, what constitutes transportation in the minds of users and providers alike, has undergone significant change. 

Now the County is proposing to levy a mobility fee on new development. Mobility fees were legislated 12 years ago by the State. The mobility fee will replace Seminole County’s current Road (Transportation) Impact Fee and will allow for additional transportation modes, to include roads, sidewalks, and multipurpose trails. Seminole calculates that a new mobility fee could raise as much as $6.5 million annually. The county’s current road impact fee raised about $2.64 million last fiscal year.

The proposal serves to highlight many of the issues emerging in the transportation funding space. Proponents of the fee have structured it in such a way that encourages urban development and adds additional relative cost to rural development. The current fee reflects those same concerns. The new fee does anticipate significantly greater increases in the fee for rural  versus urban development.

SANTEE COOPER

The South Carolina House voted 89 to 26 to continue to receive offers for a sale of the state-owned electric utility Santee Cooper (South Carolina Public Service Authority). The bill, which now goes to the South Carolina Senate provides that lawmakers would vet proposed suitors for the utility, a responsibility previously given to a third-party consultant working with a state agency. A six-person committee comprised of three senators and three representatives would consider offers to purchase all or parts of Santee Cooper directly from potential buyers, rather than having a preferred bidder selected by a state agency.

The House legislation also includes reforms for the Santee Cooper, including shortening the terms of board members, putting in education requirements, and having increased oversight from the Public Service Commission and the Office of Regulatory Staff over the utility’s operations and long term agreements. The legislation also provides for the sale evaluation process to be available for 10 years.

That 10 year time frame is a clue to what is really expected to result if the proposed legislation is enacted. A sale is not anticipated soon reading between the tea leaves. Recent comments point towards a reorganization and restaffing of the management of the utility and the ongoing consideration of the sale is a clear shot across the bow of Santee Cooper management. It has all come down to an issue of control.

The debate comes as Santee Cooper has been identified as one of the nation’s utilities with the largest amount of coal fired generating capacity planned to remain open beyond 2030. Among municipal utilities, Santee Cooper has the largest share and is only one of two municipal utilities to be on the top 20 list. That issue will not go away as the control debate unfolds.

ENERGY TAX INCENTIVES GETTING A NEW LOOK

Louisiana’s severance tax on oil – the amount the state charges on oil extracted in the state – is 12.5%. That rate is higher than any other state except Alaska and triple the rate charged for natural gas. Now, the legislature will consider a proposal under which severance taxes for oil would be lowered to 6%, while the severance tax rate on natural gas would go up from 4% to 6%

The proposal seeks to equalize the rates for oil and natural gas. State tax breaks for drilling certain types of wells would be phased out, including one for horizontal drilling widely used in Louisiana’s highly productive Haynesville Shale natural gas play. Louisiana is the site of the most productive natural gas play in the nation and is the only shale play in the country to add rigs over the past year. Louisiana currently ranks third behind Texas and Pennsylvania for natural gas production. 

The proposal comes as officials are projecting $293 million in excess revenue for the current budget year that ends June 30, which legislators can use to make supplemental appropriations when they are back in session. The state also has a $270 million surplus left over from last year, though the state constitution limits the use of those dollars to one-time expenses such as construction projects, paying down debt and shoring up the “rainy day” fund.

The budget debate will unfold as the damage done by pandemic limits on activities is measured. One example is that Louisiana’s casino revenue was down more than 21 % in December compared to December 2019. Under current restrictions meant to control the spread of the coronavirus that causes the illness, casinos are limited to half of their normal capacity and must end alcohol service at 11 p.m.

Virginia is among the 15 states (out of 23 that produced coal in 2018) that offer tax credits to the coal industry. Virginia offers two major tax credits aimed at boosting coal mining in Virginia. The state has spent $225 million between 2010 and 2018 on the Coalfield Employment Enhancement Tax Credit and the Coal Employment and Production Incentive Tax Credit. A report from the Virginia Joint Legislative Audit and Review Commission (JLARC). That report concluded that the tax credits no longer serve their purpose and should be eliminated.

The coalfield tax credit was adopted in 1995 to encourage coal production and coal employment and provides a tax credit to “any person who has an economic interest in coal” mined in the state, which generally is the mining company that extracted the coal. Coal mining companies and electricity generators saved $291.5 million in income taxes because of the coal tax credits between FY10 and FY18. Both of the coal tax credits are among the state’s 10 largest incentives, with the coalfield tax credit being the second-largest incentive. 

The Credit is no longer warranted to maintain competitiveness because Virginia’s coal mining productivity has met that of other nearby coal-producing states. The Coal Employment and Production Incentive Tax Credit, which is designed to encourage electricity generators to use Virginia coal, no longer serves a purpose because all but one of Virginia’s coal-fired plants will close by 2025, and the remaining plant is already dependent on Virginia coal. Legislation to scrap the tax credits next January is moving through the Virginia legislature.

A 2012 JLARC report that said coal production declined at the same rate or faster even with the state-issued credits designed to slow the demise of Virginia’s coal industry. Even industry groups like the Metallurgical Coal Producers Association and Virginia Coalfield Economic Development Authority did not object to the proposal to end the credits 18 months before their scheduled sunset.

The debate is driving a  number of proposals to offset the economic impact of the decline of coal. One would set up a fund to provide grants to renewable energy companies to clean up previously developed but contaminated land and place renewable energy sources there. There is more than 71,000 acres of land affected by coal mining and brownfields in Southwest Virginia that could be redeveloped.

OIL LEASE SUSPENSIONS

The state which looks to be most affected by decisions like this week’s by the Biden Administration which suspended new oil and gas leasing on federal lands is the Cowboy State. In Wyoming, about 51% of oil is drilled on public land, along with an overwhelming 92% of natural gas. In 2019, , according to the Petroleum Association of Wyoming, the oil and gas industry provided $1.67 billion to state and local governments.

A University of Wyoming study projects that if a full leasing moratorium went into effect, the state could be out $304 million in annual revenue. According to the Wyoming Department of Education, the state relies on roughly $150 million each year in oil and gas federal mineral royalties to fund K-12 schools. 

The U.S. Bureau of Land Management auctions parcels of this land to oil and gas companies for development, typically four times a year. If a company obtains the lease, it still needs to secure a permit to drill. Lease terms vary, but typically range from five to 10 years. Permits to drill last two years. The industry “stockpiled” permits in the end of the Trump Administration in anticipation of the possibility of a Democratic administration. The real policy test will come when the leaseholders apply for drilling permits.

The change in federal leasing policy comes as the state is dealing with the long term decline of coal as a generating fuel and the realities of its natural gas industry. The Wyoming State Geological Survey, which is a state entity, recently released its view of the fossil fuel industry in the state. In reality, rise in natural gas production during the Trump years was an aberration. “Wyoming’s natural gas production has been in a gradual decline since the collapse of the coal bed natural gas industry in 2009. Despite Wyoming’s advantages— some of the nation’s largest natural gas reserves, two of the nation’s 10 largest gas fields (Jonah and Pinedale), demonstrated success using horizontal drilling technology in these large fields, and abundant associated gas production from unconventional oil wells.

From 2010 to 2019, Wyoming’s natural gas production declined an average of 4.4 percent each year, with a 13% decline in the first nine months of 2020. Although some of the 2020 decline is due to short term reactions to the pandemic, the overall drop is a result of longer-term trends, including fewer new gas wells being drilled and the natural production decline of older wells.” So the reality is that economics and not ideology are driving Wyoming’s fossil fuel outlook. It is a reflection of national realities.

HEALTHCARE PRESSURES

Labor shortages and higher wages are leading hospitals to employ various strategies to attract and retain clinical talent. Higher salaries and signing incentives, paying more overtime and/or using contract labor at hourly rates that are at all time highs will all contribute to spending pressures at a time when the consumer is looking for every way to reduce their outlays for healthcare.

The insurers will continue to encourage additional procedures to be performed outside the hospital as ambulatory surgery centers (ASCs), urgent care facilities, and the home become the preferred venues for patients to receive care. Even when these service modalities are provided through hospital owned facilities, they are not as profitable as reimbursements are lower for services outside of the acute care setting.

Policy changes and an aging population could increase governmental insurance coverage at the expense of hospitals’ commercial insurance coverage. As retirees migrate to Medicare from commercial insurance, hospitals will receive lower rates of reimbursement for services. Elevated unemployment will also lead to lower patient volumes, as consumers who lose employer provided insurance defer non-urgent care. The same factors driving seniors to Medicare (cost) will also exist should a public option be legislated and that will create the same pressure on revenues that the shift to Medicare does.

If anything, already existing hospital credit trends will continue. Large hospital systems will be better positioned to deal with changes than will stand alone facilities from a financial standpoint. Rural hospitals will continue to be under pressure and more vulnerable to changes in payer mix towards public rather than commercial insurers. The pandemic has not changed that.

MOODY’S UPDATES SCHOOL DISTRICT RATING CRITERIA

Moody’s has published updated methodologies for how it rates US public school districts that provide public education directly to students, typically from pre-kindergarten or kindergarten through 12th grade (K-12) or a subset of grades within this range. School districts rated under this methodology are operationally independent from a city or county government and have the power to issue debt on their own behalf or through a dedicated financing vehicle.

The methodology is used to create a “scorecard” for each rating.  The factors it uses and weights are the school district’s underlying economy (30%), financial performance (30%), its institutional framework (10%), and leverage (30%). Institutional framework refers to at what level of government funding mechanisms are established. Some states rely on a local basis for funding topping off shortfalls from local sources to meet state requirements versus districts where the state sets the basis.

The change has put some 637 school district rating under review. 304 US K-12 public school districts are now on review for possible upgrade, 236 on review for possible downgrade, and 97 on review direction uncertain . The general obligation unlimited tax (GOULT) ratings of 85 US K-12 public school districts were upgraded.  These actions affect issuers with approximately $65 billion in debt . Final reviews under the new methodologies will occur over a course of several months.

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.