Joseph Krist

Publisher

This week marks our last issue for 2023. We will return with the January 8, 2024 issue. Have a Merry Christmas and a happy and prosperous New Year.

As we look ahead, some clear themes emerge for 2024. The end of pandemic funding from the federal government will create a much different atmosphere for the budget process. The fiscal 2025 budget season will let the market see which entities have constructed sustainable spending plans in the absence of those funds. It is already clear that some spending supported by those funds may have to be adjusted. The most obvious example is New York City. Chicago and California will also be under pressure.

Expected troubled sectors? Higher education, especially small private colleges, will continue to have problems. The combination of demographic trends and a reliance on enrollments and tuition to support credits. The smaller the niche filled by small colleges, the more vulnerable the credit is.

Senior living remains plagued by staffing issues, higher costs and uncertainties reflecting the realities of the current housing market. At many facilities, the mix of product may not reflect current demand realities after the pandemic. Some have more flexibility in terms of reconfiguring facilities to reflect those changes. Look for balance sheets with the resources to manage reconfiguration and its potential revenue impacts.

We have been down of the rural hospital sector for a long time. There is nothing out there to change our view. Now, larger systems everywhere are facing cost pressures as well. It is a subtle impact. Staff cuts have been concentrated on administration costs. Fewer people to check one in for an appointment, cuts in billing departments, longer wait times. This is going on in the face of a slower recovery of demand and utilization rates.

On the utility side, carbon capture will continue to be a dominant theme. The Biden administration clearly is looking to carbon capture as a way to placate the utility industry. The Infrastructure Investment and Jobs Act, provides $8.2 billion in advance appropriations for CCS programs over the 2022–2026 period. According to the Congressional Budget Office, 15 CCS facilities are currently operating in the U.S. Together, they have the capacity to capture 0.4 percent of the nation’s total annual CO2 emissions. The report notes an additional 121 CCS facilities are under construction or in development. If all were completed, they would increase the nation’s CCS capacity to 3 percent of current annual CO2 emissions.

DOE estimates that reaching the current administration’s plan for a net-zero emissions economy would require capturing and storing between 400 million and 1.8 billion metric tons of CO2 annually by 2050. All of this points to the importance of the regulatory process in Iowa and the Dakotas. Pipelines are so important to the carbon capture process so the proceedings are key to the survival of both fossil fueled electric generation and the ethanol industry.

Vehicles – autonomous and/or electric – are at an important inflection point. It is becoming clearer that electric vehicle adoption will not proceed at a pace predicted by advocates. The experience of Cruise in San Francisco has done much to dampen support for the vehicles. Manufacturing will continue to increase but at a slower pace. That will dampen calls for more investment in AV related road technologies. At the same time, charging infrastructure will continue to be in demand. Most of the action on the government side seems to be based in regulation with the private sector providing the actual chargers.

The big spectator sport issue will be the implementation of congestion pricing in Manhattan. One sector of the city economy we will watch is the impact of pricing on the performing arts and dining sectors. With the exception of Lincoln Center, the major performing arts venues are within the proposed congestion district. If the fees are seen as a weight on attendance and demand, support for the fees will wane. The fees will also generate enormous pressure on the MTA to perform. History does not provide a lot of confidence as decades old issues of bureaucracy, overruns, and delays continue to plague its projects.

Water will be in the spotlight as the Colorado River negotiations continue. The issues which have shaped the water market for decades are being negotiated and there are hopes that a more practical sharing of the water can be found. They take place as some large scale water transfer and delivery projects are contemplated by public and private development interests. Long distance water pipelines are being proposed which have implications for those at either end of the pipe.

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NYC BUDGET

The latest NYC Financial Plan update was released by the Mayor. It came in the midst of the uneven effort to find additional outside funding to cover the costs of asylum seekers. The City’s Independent Budget Office has taken a look at the plan and released its analysis. IBO projects that the city will end 2024 with an additional $3.6 billion in surplus above the Mayor’s Office of Management and Budget (OMB) estimate.

If the surplus prepays 2025 expenses, IBO projects a $1.8 billion shortfall next year, this is $5.3 billion lower than OMB’s ($7.1 billion). IBO’s gap projections for 2026 and 2027 ($7.2 billion and $6.6 billion, respectively), are higher than OMB’s ($6.5 billion and $6.4 billion, respectively).

The Mayor has reached a point of declining credibility even allowing for the magnitude of the issues facing his administration. The differences between the city’s estimates and the IBO estimates highlight the problem. No one argues that the City’s budget is under pressure while asylum seekers keep arriving in volume. The issue of how the response is being managed and funded is a different story.

The IBO has explained the basis for its estimates of future asylum costs and their impact on the overall budget outlook. The IBO produced three asylum seeker cost scenarios based on policies and procedures announced and data provided by the Adams administration. IBO’s analysis focuses on anticipated expenditures, not actual spend-to-date. IBO continues to estimate costs the City has and is projected to incur due to the influx of asylum-seeking individuals and families based upon three different scenarios to project total spending over 2024 and 2025 (all years are city fiscal years).

All three of IBO’s scenarios yield substantially lower spending than the November Plan which: 1) maintains daily per-household spending at very high emergency rates; 2) assumes straight linear population growth through 2024; and 3) projects a stable population in 2025. IBO noted that only days after releasing the November Plan—which included significant Program to Eliminate the Gap (PEG) reductions—the Mayor’s Office of Management and Budget (OMB) directed agencies to further reduce asylum seeker spending by 20%.

In the November plan, OMB raised its 2024 revenue forecast by $592 million to reflect stronger recent tax receipts. In the November plan, OMB raised its 2024 revenue forecast by $592 million to reflect stronger recent tax receipts. IBO also noted one of our major concerns regarding the end of pandemic aid. NYC received 13.5B in Federal Pandemic Funding, which is ending.

Some of these funds were used for programs that are on-going. In the Department of Education and DYCD, alone, IBO estimates that the Administration will need to add over $700 million in each year from 2025 through 2027 to replace this expiring federal Covid-era funding.

WHICH WAY IS THE WIND BLOWING

The last couple of weeks have generated mixed news about the outlook for wind generation. The first utility-scale wind farm in federal waters to be brought into operation began operations of the eastern Long Island coast. The project has a capacity of 130 megawatts, enough to power 70,000 homes. It was built by the same Danish firm which recently pulled out of projects off the New Jersey shore.

The offtake for the power is the Long Island Power Authority. LIPA initially approved the project in 2017. In November, New York launched a new offshore wind solicitation to help support the development of 9,000 megawatts (MW) of offshore wind by 2035, enough to power up to six million homes. The power up of South Fork accompanied Avangrid’s announcement that it completed installation of the first five turbines on its 806 MW Vineyard Wind 1 offshore wind project off Massachusetts as it prepares to deliver first power in coming weeks.

The company behind Icebreaker Wind announced the indefinite suspension of what was once set to be the first offshore wind farm built in the Great Lakes. The decision by the Lake Erie Energy Development Corporation (LEEDCo) followed the withdrawal of federal funding for the project. Icebreaker Wind was intended to be a demonstration project. It began in 2009.

About all of the different potential types of opposition to the project and its location befell this project. Permits were hard to acquire over concerns about pollution, birds, funding for opposition from coal and other legacy generation interests. And you could see it from the shore!!

HIGH SPEED RAIL BOOST

The Biden Administration will provide some $3 billion of funding to each of two high speed rail projects. The first is California’s high speed rail project which has been the subject of in terminable delays and cost overruns to $128 billion from an initial estimate of $30 billion. The DOT grant will be used to continue work along the initial Central Valley segment, including the purchase of six electric trains for testing and use. The second is the Brightline West project. The U.S. Department of Transportation will also give $3 billion to Brightline West’s planned bullet train to connect Los Angeles and Las Vegas, which has a price tag of $12 billion. The privately operated project, which had requested a $3.75 billion grant.

The grants were authorized under the 2021 Infrastructure and Investment Jobs Act’s Federal-State Partnership for Intercity Passenger Rail program. Some $36 billion in advance appropriations through 2026 were established. The program previously announced some $16 billion of grants to the Northeast Corridor. The competitive grants can be used to upgrade existing rail systems, including privately run lines.

SPORTS

Oklahoma City voters overwhelmingly approved a six-year, 1% sales tax to help fund construction of a new arena for the city’s NBA franchise, the Oklahoma City Thunder. or risk the same fate as Seattle: losing the team to another market. But some residents and experts who have studied public-private partnerships say the deal is much better for the wealthy team owners than the average resident.

Under the plan, the new arena would cost at least $900 million, with Thunder owners providing 5%, or $50 million, and another $70 million coming from a previously approved sales tax currently for improvements to the current arena. The team also would agree to stay in the city for 25 years in the new arena, targeted for opening before the 2029-2030 season.

A group of more than 20 Oklahoma-based economists and finance professors recently pointed out that for the 12 new arenas and 12 new stadiums built across the U.S. since 2010, the average public expenditure was about 42% and that since 2020, three arenas have been built with no public money. It definitely goes against the current tide. Then again, arena issues led to the purchase of the Seattle Sonics and their move to – you guessed it, Oklahoma City.

In Maryland, the “agreement” between the State and the Baltimore Orioles to secure the team’s tenancy long term has run into snags. Ownership wants the deal to include provisions allowing for the development of what is state owned land by Camden Yards. Objections in the Legislature have been raised over the plan which is seen by some as a giveaway to a team which has been hard to cooperate with.

Virginia Gov. Glenn Youngkin has reached a tentative agreement with the parent company of the NBA’s Washington Wizards and NHL’s Washington Capitals to move those teams from the District of Columbia to a proposed 9 million square foot development in Alexandria, VA. The project would include not only an arena for the basketball and hockey teams but also a new Wizards practice facility, a separate performing arts center, a media studio, new hotels, a convention center, housing and shopping.

To finance the arena, Younkin will ask the Virginia General Assembly in the 2024 session to approve the creation of a Virginia Sports and Entertainment Authority. The Authority would be authorized to issue debt backed by taxes generated from the project. The project would break ground in 2025 and open in late 2028.

While that process plays out, D.C. Mayor Muriel Bowser unveiled a counterproposal aimed at keeping the teams. The legislation that Mayor Bowser submitted to the Council outlines the parameters of the agreement, including receiving the authority to enter into a lease extension to 2052 and provide financing of $500 million toward the $800 million renovation project over a period of three years beginning in 2024.

The existing Capital One Arena would remain open under the team’s plan even if they move. The question is how much can the District do to keep two big draws and tax generators within its boundaries. If the Caps and Wizards move it would represent a hat trick for the franchises in terms of having located at some point in each of Va., Md. And D.C. It would also swim against the tide of locating professional sports arenas in downtown areas.

TRANSMISSION

The U.S. Supreme Court refused a request from the State of Texas to review a decision from the U.S. District Court for the Western District of Texas which found against Texas’ “right of first refusal,” or ROFR, law that gave preference for certain utilities to build new power lines across state borders. S.B. 1938 only allowed utilities that already had an in-state presence to build new transmission lines.

This law and some one dozen in other states were enacted in the wake of a decision by the Federal Energy Regulatory Commission to approve Order 1000, requiring competitive development for public transmission providers. The case will revolve around the “dormant commerce clause”. The legal doctrine infers that the Constitution’s commerce clause bars passage of state laws that harm interstate commerce, but allows states to pass discriminatory measures when it can show it is for a “legitimate local purpose.”

Another ROFR was passed in Iowa. Recently, an Iowa judge ruled that the legislative process for passing the state’s 2020 ROFR law was unconstitutional. The decision did not reflect the substance of the statute. The Iowa Supreme Court had already blocked enforcement of the law earlier this year, labeling it “anti-competitive.”

While these cases sort themselves out, the FERC is in the process of rulemaking over proposed changes to Order 1000. In a notice of proposed rulemaking last year, the agency said it could condition the use of right of first refusal for large regional projects if the incumbent transmission provider or utility co-owns it with another party.  NextEra Energy (an out of state provider) brought Texas to court after passage of the law prevented the company from building the Hartburg-Sabine transmission project in the state. The project was later canceled due to the ongoing litigation.

CALIFORNIA ROAD FUNDING

The State’s Legislative Analyst Office (LAO) released its estimates of the impact of increasing zero emission vehicles (ZEV) on revenues derived under the State’s current taxing policies. California’s transportation system is supported by state, local, and federal sources. State sources—which historically have accounted for roughly one-third of total transportation funding, including $14.2 billion in 2023-24—consist of various fuel taxes and vehicle fees.

The California Air Resources Board is required to complete a Scoping Plan that identifies a strategy for achieving the state’s GHG reduction goals, incorporating both existing state efforts and any additional changes that will be needed across various sectors. The most recent Scoping Plan, adopted in 2022 included transitioning all new vehicle sales to ZEVs (by 2035 for light-duty vehicles and by 2040 for medium- and heavy-duty vehicles) and reducing VMT statewide. 

The LAO estimates that under the GHG reduction pathway envisioned by the Scoping Plan that compared to current levels, notable revenue declines over the next decade from the state’s gasoline excise tax ($5 billion or 64 percent), diesel excise tax ($290 million or 20 percent), and diesel sales tax ($420 million or 20 percent) over the next decade.

Under the current scheme, the California Department of Transportation’s highway maintenance and rehabilitation programs are funded primarily by state fuel taxes and therefore will face significant funding declines. The State Transit Assistance program, which is solely supported by diesel sales tax revenues, will experience funding declines of about $300 million by 2034-35, which represents about one-third of its total funding.

The transportation sector is the largest source of state GHG emissions, accounting for about 40 percent of total emissions in 2019. Transportation-related emissions mostly result from light-duty vehicles (passenger cars and smaller pickup trucks), with a smaller amount coming from medium-duty vehicles (larger pickup trucks and delivery vans) and heavy-duty vehicles (buses and long-haul trucks). The plan assumes the overall fleet of vehicles driven in the state will transition from 97 percent conventional vehicles in 2022 to 85 percent ZEVs in 2045. The plan assumes this transition will be phased in at a steady and aggressive pace, with the majority of the fleet consisting of ZEVs by 2037.

NUCLEAR

The California Public Utilities Commission voted to allow the Diablo Canyon nuclear plant to operate for an additional five years. This would extend the shutdown date through 2030 instead of closing it in 2025 as previously agreed. It can produce 9% of the state’s electricity each day. The State approval sets the stage for the federal Nuclear Regulatory Commission will consider whether to extend the plant’s operating licenses.

In August, a state judge rejected a lawsuit filed by Friends of the Earth that sought to block Pacific Gas & Electric, which operates the plant, from seeking to extend its operating life. In October, the Nuclear Regulatory Commission rejected a request from environmental groups to immediately shut down one of two reactors.

TRI-STATE GENERATION

Tri-State is a generation cooperative serving 42 local distribution coops. It’s reliance on coal as its primary generation fuel source has unsurprisingly led to unrest among the members. The desire of its customers to distribute “greener” power has led to several member withdrawals from the Tri-State system. The withdrawal process has been contentious as Tri-State does everything it can to make a withdrawal as difficult as possible.

Now, another member is taking Tri-State to court over its perceived unwillingness to negotiate terms of exit for members. La Plata Electric filed suit on Nov. 10 asking that LPEA be exempt from its obligations set out in Tri-State’s bylaws and contract, receive damages stemming from that breach of contract and receive compensation for other accrued fees and expenses. The claim, as has been the case with other proposed withdrawals, is that Tri-State acts in bad faith by refusing to come up with a cost of exit.

The negotiations have dragged on since 2019. In 2021, Tri-State gave LPEA a $449 million price tag for a full withdrawal. While these and other negotiations continued, Tri-State took steps which would enable its operations to be subject to federal rather than state oversight. This forced proposed withdrawal agreements to be reviewed and subject to FERC approval. Tri-State and several member co-ops pursuing a partial buyout continued negotiations but the FERC rejected a set of partial buyout agreement terms submitted in 2022, concluding that certain provisions were not reasonable and just.

Tri-State has recently submitted plans to close Unit 3 of a coal-fired facility in Craig by early 2028 – two years earlier than planned. The utility would also close a coal-powered unit in Springerville, Arizona by 2031 contingent upon an award of federal funding. That funding – estimated at $730 million – is highly uncertain. Tri-State hopes to create 1,250 megawatts of renewable energy creation and storage.

The plan is subject to review by the Colorado Public Utilities Commission. Tri-State expects to hear a decision on whether the resource plan is approved by mid-2024. Phase II of the plan will include more specific plans on where the green energy sources will be built. Approval of Phase II would come in mid-2025. The co-op plan relies heavily on the receipt of funding under the IRA which provides for the US Department of Agriculture to review applications in a competitive process.

There is one cost hanging over the debate. Tri-State is still under a contractual obligation to purchase nearly $136 million worth of coal between 2024 and 2041.

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

CALIFORNIA BUDGET GAP

The Legislative Analysts Office in California has released its Fiscal Outlook prepared for the upcoming budget season. This along with the Governor’s budget and the May revision are the three key dates in the budget process. The report identified three key areas of concern. Largely as a result of a severe revenue decline in 2022‑23, the state faces a serious budget deficit. Specifically, under the state’s current law and policy, the LAO estimates the Legislature will need to solve a budget problem of $68 billion in the coming budget process.

Typically, the budget process does not involve large changes in revenue in the prior year (in this case, 2022‑23). This is because prior‑year taxes usually have been filed and associated revenues collected. Due to the state conforming to federal tax filing extensions, however, the Legislature is only gaining a complete picture of 2022‑23 tax collections after the fiscal year has already ended. Specifically, the LAO estimates that 2022‑23 revenue will be $26 billion below budget act estimates.

One positive takeaway notes that while addressing a deficit of this scope will be challenging, the Legislature has a number of options available to do so. In particular, the Legislature has reserves to withdraw, one‑time spending to pull back, and alternative approaches for school funding to consider. 

Budget gap drivers include the finding that the state’s economy is in a downturn. The number of unemployed workers in California has risen nearly 200,000 since the summer of 2022. This has resulted in a jump in the state’s unemployment rate from 3.8 percent to 4.8 percent the state’s economy into a downturn. The number of unemployed workers in California has risen nearly 200,000 since the summer of 2022. This has resulted in a jump in the state’s unemployment rate from 3.8 percent to 4.8 percent. Inflation‑adjusted incomes posted five straight quarters of year‑over‑year declines from the first quarter of 2022 to the first quarter 2023.

The portion of income taxes collected directly from workers’ paychecks was down 2 percent over the last twelve months compared to the preceding year. Collections data now show a severe revenue decline, with total income tax collections down 25 percent in 2022‑23. Reflecting the risk of continued weakness, the LAO revenue outlook shown anticipates collections will be nearly flat in 2023‑24, after falling 20 percent in 2022‑23. The LAO outlook then has revenue growth returning in 2024‑25 and beyond. Based on this trajectory, the LAO revenue outlook expects collections to come in $58 billion below budget act assumptions across 2022‑23 through 2024‑25, with about half of this difference ($26 billion) attributable to 2022‑23. 

What can be done? The state has $23 billion in the Budget Stabilization Account under LAO estimates, plus about $1 billion in the Safety Net Reserve. Over a three‑year period, the state could reduce General Fund costs by $16.7 billion if it were to lower school spending to the constitutional minimum allowed under Proposition 98. The state has at least $8 billion in one‑time and temporary spending in 2024‑25 that could be pulled back to help address the budget problem.

This ride on the downside of the roller coaster which is California’s credit is a bit out of the norm. The unique situation which extended the tax payment deadline into the fall is a one off. The strikes in the entertainment industry likely had a bigger impact than anticipated. The timing of these two factors accompanied the fact that the number of California companies that went public in 2022 and 2023 is down over 80 percent from 2021. Capital gains have an outsized impact on the State’s finances given the overall structure of its income tax base.

MEDICAID EXPANDS IN ONE MORE STATE

On December1, nearly 600,000 North Carolinians will be eligible for Medicaid. They qualify under the terms of the Affordable Care Act. Half of these people will be automatically enrolled. Single adults aged 19-64 who earn up to $20,120 per year are now eligible, and a family of three who earns a little more than $34,300 is now eligible. The state’s prior Medicaid structure covered parents earning only about $8,000 per year combined for a family of three. Childless adults had no coverage.

As with the case with the many other states, the federal government will pay 90 percent of the costs of expansion. Under another piece of the legislation the initial costs will be covered at an even higher rate. A provision in the 2021 American Rescue Plan provides an additional 5 percent “bonus” to previous holdout states to help offset the first two years of expansion. In North Carolina, that amounts to almost $1.8 billion. 

There are now only 10 holdout states remaining. They share the common trait of having a Republican governor, a GOP-majority legislature or both. Six are in the Southeast. The two largest by population are Texas and Florida (no shock there). Kansas, Georgia, Wyoming and Wisconsin rely on legislative action. In Florida, a ballot initiative effort from 2020 stalled out.

MUSEUMS AND THE POST-PANDEMIC WORLD

This week, New York’s Guggenheim Museum announced staff layoffs. While tourism has been recovering in the city, lower number of visitors are patronizing museums. After long closures, museums have sought to revive both attendance as well as revenue and many have raised the price to enter in their effort to shore up their finances. The price of admission to the Guggenheim was increased from $25 to $30. Nevertheless,

In November, the San Francisco Museum of Modern Art announced the elimination of 20 staff positions, citing a 35 percent drop in attendance from 2019. Like the Guggenheim, it raised its prices by 20%. A month earlier, the Dallas Museum of Art also reduced headcount by 20 and said it would no longer be open to the public on Tuesdays to save money.

TAX REALITIES IN NEW YORK

One of the enduring features of the political debates in blue states over taxes is the constant specter of mass migrations out of a state driven by marginal tax rates. This is especially true of California and New York. The significant impact of COVID in those states brought the issues to light as the pandemic drove migration to other areas. Those issues were recently revived during the debate between the Governors of Florida and California. A variety of statistics were cited by both to buttress their arguments over taxes. It has become harder to find objective analysis of the issue.

There was much focus on the movement of people from California and New York to Texas and Florida respectively. The lack of an income tax in Texas and California and fewer COVID restrictions were cited as driving factors. Now, a new report from the Fiscal Policy Institute seeks to separate myth from reality. The findings are not what many expected. Here are the main findings.

High earner migration out of New York during Covid was temporary, and primarily driven by work-from-home and flight from New York City. In 2022 — after two years of elevated, pandemic-induced out-migration — high earners’ migration rates returned to pre-Covid levels. While New York lost 2,400 millionaire households over the past three years (2020- 2022), New York gained 17,500 millionaire households in the same period due to a strong economy and rising wages.

There is no statistically significant evidence of tax migration in New York: High earning New Yorkers move out of New York State at one-quarter the rate of the rest of the population during typical, non-Covid years. High earners do not move in response to tax increases: Out-migration for those most impacted by recent effective tax increases (in 2017 and 2021) did not increase significantly in response to the tax increases. When New York’s high earners move, they are more likely to move to other relatively high tax states.

A huge driver of out migration was not tax policy but the work from home movement and concentration of lower wage earners in NYC. Prior to Covid, the city was already a source of disproportionate out-migration: 51.1 percent of New York State’s out-migrants from households with income in the bottom 95 percent (less than $354,000) originated from the city, as did 64.5 percent of households with income in the top five percent. This was greater than the city’s share of the state population — the city is home to 42.7 percent of those in the bottom 95 of incomes and 45.5 percent of those in the top five percent.

This drives the continuing hollowing out of the middle class in NYC. The people leaving New York at the fastest rate last year were families making between $32,000 and $65,000. A disproportionately high share of these movers was Black and Hispanic. They were followed by people earning $104,000 to $172,000 a year. More than three-quarters of rich people (the top 1 percent of income-earners, making more than $815,000 a year) who left during the pandemic moved to other high-tax states, including Connecticut, New Jersey and California. 

Over the same years that saw a rise in domestic out-migration by high earners, the overall number of high earner New York tax filers has increased. The only year since 2015 that saw an overall decrease in full-year residents making over $200,000 was 2020 — a year that also saw growth in the population making over $5 million in annual earnings. In 2021, New York State enacted higher personal income tax rates on incomes over $1 million, $5 million, and $25 million. In the same year, the only income group affected by this change — the top one percent — began out-migrating at a lower rate than they had in 2020, falling further in 2022.

MISSION ACCOMPLISHED?

The utility industry has been successfully lobbying for changes to net metering schemes which have long supported private home installations of solar energy panels. The best example is in California. The state’s three IOUs – PG&E, SoCal Edison, and SDG&E – are benefitting from a new payment scheme to solar customers who send excess generation to the companies.

Under the terms of the scheme which was replaced on April 15, utilities paid customers the full retail rate for solar power produced in excess of their own electricity consumption. The new rules significantly reduce that rate. The new policy doesn’t apply to the 1.5 million rooftop solar installations already in place. For installations post- April 15, 2023, the new scheme will reduce utility-bill savings from new solar systems and extend the amount of time it takes owners to recoup the cost of installing them. 

In March, the industry released a study which forecasted that new residential solar installations in California, after doubling in size from 2020 to 2022, were expected to decrease by nearly 40 percent through 2024. A subsequent report from the California Solar and Storage Association had data showing a 77 to 85 percent drop in rooftop solar projects since April. 

Two of the state’s three major investor-owned utilities subject to the CPUC’s net-metering rules. Those utilities have seen a 66 to 83 percent drop in residential rooftop-solar interconnection applications in the five months since the new structure took effect, compared to the same months in 2022. Solar installers in the state are forecasting that 17,000 jobs will disappear by the end of 2023, which amounts to roughly 22 percent of the state’s solar workforce. Most of those jobs are in installation, where workers earn an average of $70,000 per year.

This mirrors the experience of public utilities in California whose customers have already been subject to less favorable net metering payment schemes. Installations also declined by more than 50 percent in the California regions where public utilities reduced net-metering compensation between 2015 and 2017.  Arizona, Hawaii, Nevada, Utah are other states where rooftop solar installations have declined dramatically after regulators or utilities reduced the compensation value that customers can receive from them.

GETTING THE LEAD OUT

The Environmental Protection Agency (EPA) announced a proposal to strengthen its Lead and Copper Rule that would require all US water utilities to replace 100% of lead service lines within 10 years. The proposed requirement is considerably more ambitious than the existing rule, which requires that only utilities exceeding certain thresholds of lead concentrations replace 100% of lines in 30 years. The EPA estimates that replacing lead service lines would cost utilities about $20-$30 billion over the next decade, with additional costs for new monitoring and treatment requirements.

The estimated $20-$30 billion in costs to replace lead service lines nationally over the next decade are substantially higher than the $1-$3 billion estimated under the existing rule. The Infrastructure Investment and Jobs Act provides funding for lead pipe replacement (about $7.4 billion is allocated in grants and principal forgiveness, with another $7.6 billion in low-interest loans). The remainder will be funded out of rates. That will be especially challenging for utilities with significant proportions of lower income residents. Cities like Chicago, Milwaukee and Detroit are examples of the latter.

The EPA requires every utility to submit an inventory of lead service lines by October 2024, but existing data indicates that lead service lines tend to be more prevalent in Midwestern cities with older housing stock. The installation of lead service lines was banned by Congress in 1986. The proposed Lead and Copper Rule Improvement allows for extensions in limited circumstances. The proposed rule caps the number of required service line replacements at 10,000 annually.

Chicago’s water utility has one of the highest concentrations of lead service lines in the nation would likely qualify for a deferral. State of Illinois data shows that the city has approximately 410,000 lead service connections, comprising over 80% of total retail connections. The city would have approximately 41 years to complete the replacements, though the Illinois EPA could require a faster timeline if deemed feasible. Chicago recently closed on a low-interest WIFIA loan for $336 million to help fund the replacement of some 30,000 existing connections.

NYS THRUWAY P3 FAIL

It took a long time for the New York State legislature to authorize the use of public private partnerships for major infrastructure projects. Fortunately, the first few projects – multiple bridge replacements in the NYC metro area and projects at the airports went off well and the P3 concept was seen as a useful tool in overcoming historic difficulties in the State with infrastructure projects. Those successes built support for P3 projects so additional such projects were approved.

One of those projects is the refurbishment and modernization of service areas along the Turnpike. There are some 27 of them. I’ve been wondering for a while why the service area refurbishments on the New York State Thruway were taking so long. As a life long New Yorker it was easy to assume that each rest stop would be over built and designed and that traditional inefficiencies were plaguing this project.

Now the Authority has admitted that the projects are way behind schedule and facing serious cost overruns. An Irish firm Applegreen leads the private side of the partnership. The deal was for Applegreen to rebuild the weathered and outdated rest areas in exchange for a 33-year lease of the facilities and a share of revenues. Construction began almost two years ago, less than half of the work has been done, and it’s running well behind schedule.

The partners have cited increased costs due to inflation and supply chain issues related to the pandemic. There are no provisions in the agreement for increased funding from the State. Efforts were made in the State Legislature to generate support for funding part of an estimated $250 million funding shortfall. Those efforts were undertaken as part of the fiscal 2024 budget process and failed. The hope for the partners is that the issue will be reconsidered in the fiscal 2025 budget negotiations.

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

STORMWATER FEES

When rain falls, it either lands on a pervious or an impervious surface. Pervious surfaces—like lawns, gardens, and sand— can absorb and retain water (albeit at varying rates) during precipitation events and then gradually release it back into the water cycle. Conversely, impervious surfaces are hard surfaces that prevent water from soaking into the ground, such as roofs, pavement, metal, and wood. Since impervious surfaces cannot soak up water, they generate stormwater runoff. Stormwater runoff is water from precipitation that flows on impervious surfaces until it reaches a pervious surface or drains into a sewer system or waterway.

Currently, most jurisdictions in New York do not bill property owners separately for stormwater management. Instead, jurisdictions use revenues generated from metered water and sewer bills based on the amount of clean water consumed, property taxes, or both. Neither water consumption nor property values reflect a property’s contribution to stormwater runoff, creating a disconnect between the revenue being generated and stormwater management costs.

For instance, when metered water revenue is used to pay for stormwater management projects, properties like parking lots that have large impervious surfaces— which contribute to stormwater runoff—but use little or no metered water, pay almost nothing towards the cost of stormwater management. Similarly, when property taxes are used, parking lots may pay very little for stormwater management because they are less developed and therefore may have lower property taxes assessed.

At the request of New York State Assembly Member, Emily Gallagher, the Independent Budget Office (IBO) examined the fiscal impact of a potential stormwater fee in New York City by applying the stormwater fee rates of four peer cities—Baltimore, Philadelphia, Seattle, Washington, D.C.—to properties in New York City. The two most important elements of a rate structure are what the fee is assessed against (impervious land area versus total land area) and whether the fee is set as a flat, tiered, or variable rate.

Revenue potential greatly varies depending on how the stormwater fee is set. IBO’s revenue estimates range from $266 million (using Baltimore’s rates) to $892 million (using Washington, D.C.’s rates) per year. For most census tracts, the median fee per household would equal less than one percent of median household income under all peer city rate structures. Among residential properties, those located in boroughs outside of Manhattan would likely face a greater financial burden due to larger average property sizes, lower population density, and lower median incomes.

The City of Ithaca is the only municipality in New York State with a general stormwater fee, which it adopted in 2014. Since then, no other New York municipality or county has followed suit, despite interest and advocacy from various jurisdictions, including New York City. One concern a municipality may have in implementing a general stormwater fee is the ambiguity surrounding legal authority of localities to implement stormwater fees (Ithaca’s fee has not been challenged in court).

The 2023-2024 legislative session in Albany includes a proposal (A4019/S4169) to address this ambiguity by explicitly authorizing “local water and sewerage authorities to charge fees for surface runoff.”

CONGESTION PRICING DEBATE GETS REAL

The announcement of proposed pricing for the congestion pricing initiative in NYC has stimulated a robust debate. The proposal:  Passenger vehicles and passenger-type vehicles with commercial license plates should be charged a $15 toll for entering the CBD, no more than once per day. Trucks should be charged a $24 or $36 toll for entering the CBD, depending on their size, as defined below. Buses providing transit or commuter services should be exempted from the toll. Other buses should be charged a $24 or $36 toll for entering the CBD, depending on their type.

Motorcycles should be charged half the passenger vehicle toll, no more than once per day. Tolls should be charged to vehicles only as they enter the CBD – not if they remain in or leave the zone. Congestion toll rates should apply during the most congested times of the day – from 5am to 9pm on weekdays, and from 9am to 9pm on weekends. Toll rates should be 75% lower in the nighttime.

A credit against the daytime CBD toll rate should be provided to vehicles entering through the four tolled entries that lead directly into the CBD: the Queens-Midtown, Hugh L. Carey, Holland, and Lincoln Tunnels. The credit should be $5 for passenger vehicles, $2.50 for motorcycles, $12 for small trucks and intercity/charter buses, and $20 for large trucks and tour buses. No crossing credits should be in effect in the nighttime period when toll rates are 75% lower.

One issue we will note was the less than sensitive comments from the planning panel’s chair regarding access to medical facilities within the congestion zone. No, insurance companies do not cover the cost of driving and parking when you go to a doctor. Parking is not always at a favorable price even at hospital facilities. In many cases, the drivers and/or passengers are disabled which means that mass transit – under the current conditions – is not an accessible alternative. Full subway access is not expected for another 25 years.

New Jersey remains a primary source of opposition and proposed discounts for NJ drivers using the Lincoln and Holland Tunnels have done nothing to quell it. Some are positing that the fee will make office space in Jersey City, Hoboken, and Weehawken that much more attractive. Nevertheless, litigation is pending which challenges the fees. There is also a call for objective monitoring of changes in pollution in areas like the Bronx which are likely to attract more truck traffic.

The comment period is underway and the hope is that the scheme can take effect by May 1. In the interim, it will be a rough ride as many constituencies are seeking exemptions and many will have compelling cases to make. One last issue: data released by the Traffic Mobility Review Board shows that 85% of 1.5 million people commuting into Manhattan south of 60th Street already take the subway, the PATH, the three commuter railroads or a bus.

DROUGHT AND PORTS

When labor unrest led to fears of shutdowns at West Coast ports – Los Angeles being the major example – some shippers took to using the Panama Canal and unloading their cargos at East Coast ports. For a time, the cost of travelling further to the East Coast provided a reasonable alternative so long as the Panama Canal remained open and cost effective.

The finalization of contracts with the major unions representing Port employees resumed the attractiveness of West Coast ports. The Port of Los Angeles and Long Beach have seen steady increases in traffic since the labor settlement. That trend is only going to increase as the Panama Canal has become a much less efficient and cost effective alternative.

A drought has impacted water levels along the route of the Panama Canal. This has resulted in limitations on the size of ships permitted to pass through as well as on the number of daily transits. This has caused the operator of the Canal to resort to a reservation system for ships wishing to transit through the canal. It has also been steadily reducing the number of daily passages.

The Panama Canal Authority, which normally handles about 36 ships a day, announced on Oct. 30 that it will gradually reduce the number of vessels to 18 a day by Feb. 1 to conserve water heading into the dry season. There was a total of 55 vessels with booked slots waiting as of midday on November 27. The real problem is with ships without reservations. The operator began offering an additional slot in the Panamax Locks for auction two days prior to transit. This slot is being limited to supers (boats above a certain size) and regular vessels that have been waiting for at least 10 days before the auction and do not have a booking slot. It was estimated that the initial bid will be $55,000 in addition to the normal tariff.

It is therefore, no wonder that the Port of LA/Long Beach is seeing steady increases in cargo volumes. October was the driest moth recorded in the history of the Canal. Until water levels revive in the lake segments of the Canal, the limitations will persist.

AV REGULATION

Law enforcement in San Francisco has taken a view that “no citation for a moving violation can be issued if the [autonomous vehicle] is being operated in a driverless mode.” California law requires that a moving violation ticket must be issued to a “driver”. Speed camera laws specify that a violation is cited against the vehicle and is not assigned to a driver for purposes of license points. Texas changed its transportation laws in 2017. According to the Texas Transportation Code, the owner of a driverless car is “considered the operator” and can be cited for breaking traffic laws “regardless of whether the person is physically present in the vehicle.”

General Motors is slowing the expansion of its Cruise automated driving division and significantly cutting spending at the unit after suspending operations in the wake of its difficulties in San Francisco. “We must rebuild trust with regulators at the local, state and federal levels, as well as with the first responders and the communities in which Cruise will operate.” Cruise has been testing self-driving taxi services in San Francisco; Phoenix; Houston; and Austin, Texas; and it has tested its autonomous vehicles in six other cities, including Nashville and Seattle. 

ELECTRIFICATION

The Washington State Building Code Council approved new codes mandating the use of heat pumps in most new construction. Those regulations are scheduled to take effect on March 15, 2024 absent legal challenges. The new regulations follow challenges to previously established regs. What the council enacted Tuesday offers builders incentives in the permitting process for choosing electric heat pumps – which provide both heating and cooling in the same unit – instead of natural gas furnaces. 

The biggest changes removed language mandating heat pumps for heating water and rooms in homes. It revised how credits that builders need to comply with the state building code are awarded under a scoring system in hopes of spurring greater use of low-carbon building solutions. Under the new rules, a builder will need five credits for a home of less than 1,500 square feet. That’s double what they need today. For a home between 1,500 and 5,000 square feet, they will need eight credits, up from five.

Connecticut Governor Ned Lamont has withdrawn his proposal to end the sale of internal combustion cars in the state by 2035. He cited a lack of legislative support. The hope is that the issue will be reconsidered in the 2024 legislative session.

The City of Detroit has created the first stretch of road in the United States with the capability to charge electric vehicles as they drive on the road. The project is a public private partnership between The Michigan Department of Transportation works with an Israeli electronics firm which developed the technology. The use of the copper and rubber charging infrastructure is buried under conventional asphalt paving. The state is covering one-third of the cost while the private partner covers the rest.

NYC PENSION CHALLENGE

Four NYC employees, backed by Americans for Fair Treatment, a right-to-work group that provides assistance to public sector workers who want to leave a union filed a suit in the New York state courts challenging the divestment from fossil fuel investments in the three pension funds covering City employees. The suit is based on the theory that asset managers breached their fiduciary duties by including climate-related risks when assessing the financial liability of energy companies.

The plaintiffs believe that their pensions are threatened by the use of ESG criteria in the investment process. The City points out that the employees are beneficiaries of a fixed benefit pension plan. The City’s obligation to pay is not based on investment performance. The pension funds — the New York City Employees’ Retirement System, the Teachers’ Retirement System of the City of New York and the New York City Board of Education Retirement System pointed out that after the 2021 decision to stop investing in fossil fuels, the energy stocks lost more than 35 percent of their value, while the broader stock market increased in value by more than 50 percent.  

The suits are part of a coordinated effort. Texas’ attorney general lost his case in September which challenged a US Department of Labor rule that ESG considerations were appropriate factors to be considered in the investment process.

Judge Matthew Kacsmaryk of the U.S. District Court for the Northern District of Texas (the conservative go-to judge on a number of issues) however, rejected Texas’ challenge in September, writing that the Biden rollback was not “arbitrary and capricious” under the Administrative Procedure Act, nor did it run afoul of the federal law that sets standards for retirement plans. It did not however, rule on any issues related to fiduciary duty.

Kacsmaryk wrote that the Labor Department since at least 2015 had “posited that ESG factors ‘may have a direct relationship to the economic value of the plan’s investment.’” The case is being litigated by the son of Antonin Scalia who ran the Labor Department in the Trump administration. The politics of the case are obvious.

HOSPITALS

Moody’s announced that it had raised its rating on Catholic Health System’s (Buffalo, NY) rating to Caa1 from Caa2. The upgrade to Caa1 reflects a reduction in the risk of payment default because of recurring operating improvement and the likelihood of covenant compliance at fiscal year-end 2023 as well as approved state and federal grants that will stem further liquidity declines.

Like so many hospitals, the reductions in volumes during the pandemic along with the costs of labor and supplies had significantly strained the System’s balance sheets and liquidity. There were real concerns about default. Now, volumes are recovering which has benefitted the System’s cash position. While outpatient surgeries have rebounded, inpatient volumes still lag pre-pandemic levels. Liquidity will remain weak and reliant on one-time grants for near-term stability.

The outlook on the rating was raised from negative to stable as monthly declines in the operating loss excluding non-recurring grants continue, compliance with the fiscal yearend 2023 covenant, and maintenance of 30-40 days cash on hand.  Whatever funding is received from state and federal sources will be supportive of liquidity.

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.