Joseph Krist

Publisher

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GATEWAY TUNNEL REVIVAL

The need for major capital investment in the rail infrastructure supporting the New York metropolitan area has been clear for a long time. The Gateway Tunnel project is designed to address issues arising from the age of the existing rail tunnel infrastructure (over 100 years). The damage from Superstorm Sandy accelerated the interest in the project. A funding source had been identified – there had been a general agreement that the federal government would cover half the cost of building the tunnels, with New York and New Jersey sharing the other half. 

Then politics intervened with then Gov. Christie refusing to provide New Jersey’s share and that allowed the Trump Administration to get its hands on it. They used the environmental approval process to stall the project. Another hurdle was the disagreement over whether any funds borrowed – not granted – from the federal government by the states and used to fund their state share counted as part of a state’s share of the overall project. In the meantime, the need continued and the cost remained subject to increase over time to its current price of $11.6 billion.

Now, the proposed infrastructure package could easily provide the federal share of funding.  The Biden Administration will allow the states to borrow from the federal government if they choose and it will count as part of their share of the costs. The U.S. Department of Transportation will no longer sit on the environmental approvals needed for the project. So now it can move forward.

INTERNATIONAL STUDENTS

The Muni Credit News has been talking about the impact of tightened immigration rules under the Trump Administration from its beginning. We have documented the role of international students in the financial welfare of the universities they attend as well as the overall economic benefit these students generate through consumer spending and real estate. As full fare paying customers they have become a reliable source of income to these institutions.

Now that universities are planning for full reopenings in the fall, these institutions are looking to the Biden Administration to dismantle the obstacles raised against international students attendance at U.S. institutions of higher education. It comes as Moody’s has opined that the limits on international students is having long term negative impacts of the finances of colleges with substantial international cohorts. We’re glad to see Moody’s come to that view but it has been apparent for some time that this was a credit concern.

College students and academics from China, Iran, Brazil, South Africa, the Schengen Area of the European Union, the United Kingdom and Ireland have been added to the State Department’s list of national interest exceptions to the Covid-19 travel restrictions, which allows them to come to the United States despite travel restrictions . But there are still issues with the need to obtain visas from consulates around the world which under the best of times have limited ability to process requests.

A couple of data points highlight the problem. At University of California at Berkeley, 13 % of students are from overseas. Carnegie Mellon University, finds 18%  students are from overseas. Nearly 1.1 million students from abroad attended college in the U.S. in the 2019-2020 academic year, according to the Institute of International Education.

At the same time pressure is being placed on the Administration to support immigration, another side of the college enrollment issue emerges. California is the latest state to consider limits on non-resident admissions to the UC system. The UC regents in 2017 capped nonresident enrollment at 18% systemwide under legislative pressure, with a higher share grandfathered in for UCLA, Berkeley, San Diego and Irvine. Now the demand from California residents is skyrocketing.

A bill is under consideration which would reduce the proportion of nonresident incoming freshmen to 10% from the current systemwide average of 19% over the next decade beginning in 2022 and compensate UC for the lost income from higher out-of-state tuition. Ironically, this would highlight the importance of international students as that demand has shown to be price inelastic.

The issue of access to state residents who have in large part financed the UC system through taxes is a long standing one. When the state’s finances were damaged by the Great Recession, reduced aid to UC led to tuition increases. The bill’s sponsors claim that it would ultimately allow nearly 4,600 more California students to secure freshmen seats each year, with the biggest gains expected at UCLA, UC Berkeley and UC San Diego. Those schools see non-resident shares as high as 25%.

MUSIC STOPS ON THE CAROUSEL

One clear victim of the pandemic was brick and mortar retail. It has raised concerns about municipal bonds whose source of repayment is payments made by projects like shopping and entertainment malls. The restrictions on public activities which limited or prevented patronage increased the pressure on a couple of the larger projects as they either started out (the American Dream project in New Jersey) or which were already under some financial strain.

The best example of the latter is the Carousel Center in Syracuse, NY. The project had a rocky financial history before the pandemic. The project originally thought that it would attract the same number of  visitors as Las Vegas does in a year. That was dubious prospect at best given the realities of weather and more geographically limited appeal. The limits of the pandemic exacerbated existing shortfalls in demand and revenues. This left much less available to cover PILOT payments (payments in lieu of taxes) on bonds issued to finance a portion of construction.

The project has undertaken a number of efforts to restructure its obligations which have involved deadline extensions among other steps to prevent foreclosures. The troubled finances of the project have led to steady downgrades to its outstanding ratings. Now it has been announced that Carousel Center Company L.P. has hired a restructuring agent and counsel and is actively engaging its lenders, including some PILOT bondholders and the PILOT bond trustee, with an unknown restructuring proposal. 

This led Moody’s to downgrade the rating on the outstanding debt secured by PILOT payments to Caa1. Moody’s points out that because of lower valuations for shopping malls, including the Carousel Center, there is a higher likelihood that the PILOT bonds could be impaired should a debt restructuring, distressed exchange transaction or a bankruptcy filing. It references the fact that “in extreme cases like a bankruptcy, the PILOT bondholders could be impaired if the PILOT agreement is rejected or if some unforeseen action occurred in that proceeding as there is no legal precedent for what will happen to the PILOT bonds in a bankruptcy. For example, the property tax generation potential of the legacy Carousel Center is arguably lower than the PILOT payments given the below 60% occupancy rates now compared to above 80% before the pandemic.”

The rapid decline in occupancy in the legacy Carousel Center portion of the Destiny USA mall has also reduced the publicly reported asset’s value that is materially lower than the PILOT bonds and the subordinate CMBS loans outstanding. One deadline occurred this week. A major concern for the municipal bond holders is that they have little control over events which could trigger actions detrimental to the bondholders.

The project relies on some old models with its reliance on big box and major retailer anchor tenants. Many of these entities have been under financial pressure even before the pandemic and now are facing significant closures. Best Buy, Michaels, Lord & Taylor, and Abercrombie are all recent departees from the project.

While the pandemic may have been foreseeable, the concept behind the mall was always suspect. The projected patronage numbers provided strained credulity even back in 2007 when the PILOT bonds were issued by the Syracuse Industrial Development Agency. It took a high level of optimism to believe in any project drawing nearly 40 million people to Syracuse for the mall. While I may have been prejudiced from having gone to school in Syracuse, the likelihood that those levels of patronage could be achieved struck me as extremely unlikely.

Now, Moody’s takes the view that “there is significant uncertainty as to whether the Carousel Center can reach previous occupancy levels above 80% given the currently low level and difficult market for new retail tenants. With below 60% occupancy levels, the mall’s market position has also weakened and with the loss of several anchors and large box stores, the overall impact is larger than losing the smaller in-line tenants. 

FREE FARES – TWO APPROACHES

Over recent years a significant movement has emerged to support the subsidy, reduction, or elimination of fares on public transit. It is one of many issues encompassed in the “progressive” movement. Now, two of California’s major cities are about to take clearly different paths on that issue.

In San Francisco, the Board of Supervisors  (City Council) had voted to implement an experiment this summer under which fares on Muni would have been free for all riders between July 1 and Sept. 30. The agency would have still collected voluntary fares for people who still wanted to pay. 

The system hoped to use the experiment to generate data on ridership patterns and demand to determine where such a program would generate the most benefit. $12.5 million in city funds that would have supported the three-month pilot. Now the Mayor has indicated she will veto the plan. The argument against the plan reflects the financial damage done by the pandemic. Ridership on Muni trains and buses is at about 30% of pre-pandemic levels, while services are at about 70% of what they were before shelter-in-place.

Los Angeles County’s Metropolitan Transportation Authority’s board approved a 23-month fareless transit pilot program. The program would begin in August and initially be offered to K-12 and community college students. In January 2022, the pilot will expand to include “qualifying low-income residents” (annual income is less than $35,000). Metro officials estimate rider fares account for 13% of the agency’s operating costs, and roughly one-third of those costs go toward expenses related to fare collection, such as fare enforcement, accounting and fare box maintenance. 

The different plans reflect the complexity around issues like transit funding. These systems are increasingly seen as being at the center of the debate over “economic justice”. There will likely be more debates like this going forward as the recovery from the pandemic emerges in a likely inconsistent manner.

BIDEN TAX PROPOSALS DISAPPOINT MUNIS

Handicapping legislation is often difficult. The proposed changes to the tax code in support of infrastructure financing released this week by the Biden Administration are a good case in point. Whether it was the debate over the 2017 tax cuts or the many times when an infrastructure week actually looked possible, two items were considered to be no brainers. One was an expansion of the ability to issue private activity bonds and the revival of advance refunding capability.

So it has puzzled many that neither of those two changes were included in the Green Book published by the U.S. Treasury which details proposed tax code changes. Advance refunding has broad bipartisan support. It’s value was made clear even in its absence as the low interest rate environment was able to provide significant flexibility to issuers. Imagine the savings which could have been realized through tax exempt refundings.

As for private activity bonds (PABs), they too are favored on a bipartisan basis. The arguments in recent times have been more about purposes and volume caps than they have been about the use of tax exempt financing for private businesses. For certain projects, the most efficient subsidy could very well be PABs. In other cases, there are legitimate arguments to be made against project subsidies.

Some less obvious items were proposed. Qualified School Infrastructure Bonds were part of the American Recovery and Reinvestment Act enacted in February 2009. They would be issued as taxable debt and would receive interest subsidies similar to the Build America Bonds (BABs) which were issued under the ARRA and then subject to annually declining subsidy payments. Bonds could be issued over three years from 2022 through 2024 with annual total issuance limits of $16.7 billion.

PUERTO RICO ELECTRIC

Luma Energy, took over the transmission and distribution operations of the Puerto Rico Electric Power Authority under the 15 year contract awarded in the aftermath of the hurricanes of 2017 and the ongoing financial restructuring. Luma is required to manage the process of upgrading the battered system. The primary source of funding will money coming from the U.S. Federal Emergency Management Agency.

The company has pledged to reduce power interruptions by 30%, the length of outages by 40% and cut workplace accidents by 50%.  It is a significant undertaking complicated by a militant workers union and a hostile political environment which has made ratemaking exceptionally difficult. 20 unions representing thousands of Puerto Rican workers ranging from teachers to truck drivers announced on the start date of the contract that they would go on strike if the Luma contract is not rescinded.

The system needs to be upgraded. PREPA’s power generation units average 45 years old. The latest fiscal plan approved by the federal board foresees Luma spending some $3.85 billion through fiscal year 2024 to revamp the grid’s transmission and distribution system.

The transition of the utility may not be politically popular but the reality is that the existing PREPA structure was  not up to the job of maintaining and operating the system. We have advocated a privatization of PREPA since the hurricanes ravaged the island. We believe that a private operator was better positioned to run the utility given the weakness and politization of PREPA management. A private operator is better positioned to implement alternatives in generation and transmission than would be the case under the existing PREPA structure.

Nonetheless, the Puerto Rico Senate has filed litigation challenging the validity of the contract with Luma Energy. Some things don’t change.

STATE LEGISLATORS TRY TO BLOCK OUT THE SUN

Renewable energy has been at the center of debate in a number of state legislatures as the politics of energy, the environment, and economics collide. A number of legislative actions involved with the electric grid send some very mixed messages. In Indiana, a bill to establish state level zoning standards for renewable power projects was defeated. Sounds like a good thing for local control advocates but not good for solar arrays and windmills. Local zoning boards want to retain their control both for and against these projects.

Ohio over the last year has tried and failed to subsidize nuclear generation. The effort led to a huge corruption scandal. Now, The Ohio Senate passed legislation which would require renewable energy developers — before filing a separate application with the state Power Siting Board that currently exists in law — to hold a public hearing with advance notice to local officials. County commissions could then pass resolutions to ban wind or solar projects outright or limit them to certain “energy development districts” in the county.

So this law merely extends requirements like this which exist for current fossil fuel generation right? Apparently not. The law looks much more like an impediment to solar and wind development. Its sponsor admitted as much in the local press. He believes that fossil fuels like natural gas and coal are more necessary for the reliability of the grid than wind and solar.

CYBER RISK APPEARS AGAIN

It was hospitals in the fall. Over the winter it was a municipal water system. Now a series of transit agencies are the targets. This week’s announcement of the hacking of the MTA in New York brought more light to the subject. The positive is that the MTA was apparently able to contain the impact and that operations were not affected. It was also positive to see the agency was able to hold the cost of recovery to a very manageable number and did not pay a ransom.

What we take away from the situation is that disclosure on the topic remains a very thorny issue. Given the nature of the hack and the relatively low cost associated with the recovery from it, in practical terms it might not be seen as a material event for investor purposes. At the same time it shouldn’t take press inquiries to generate an announcement that had the potential to be material.

It’s another reason for the investor community to come up with and demand clear disclosure standards for an ever changing municipal bond environment.

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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As the infrastructure funding standoff continues in Washington, it is easy for the gross spending figures to overwhelm some of the sector by sector spending items. This tends to make one think that a fairly sizeable amount of money being spent on a problem should actually fix the problem. Much attention is being paid to how much as opposed to how little of the real size of infrastructure capital needs are actually being met.

A good example is housing. The next attempt at stimulus, the American Jobs Plan would provide $40 billion for rehabilitation of existing public housing stock across the country. The Administration estimates that some 1 million apartments are over 50 years old. Many come close to exceeding the limits of habitability – water and heat are often recurring problems and capital repairs long delayed.

While federal funding for new public housing ended with the budget compromises of the mid 1990’s, spending for capital maintenance continued. As time passed and politics hardened, spending for upkeep like boilers for water and heat and functioning elevators consistently reduced. That left public housing authorities with little to leverage in support of tax exempt bonding for those costs as had historically been the case.

So we see a substantial sum proposed for many of these issues. Here’s the rub. While New York does have by far the largest number of public housing units in the country, most major cities have substantial public housing infrastructure. So if the $40 billion was applied to fill the capital needs of the NYC Housing Authority there would still be a multi-billion dollar shortfall in NY and none for the rest of the country. It is just another example of the challenges faced by municipal bond issuers.

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PANDEMIC PRESSURES LINGER

The economy may be opening up again but that does not mean that some credits are no longer in trouble as the pace of the reopening may not be fast enough for some credits to avoid problems. The latest example comes from San Antonio where the impacts on travel, tourism, and convention activities have not been mitigated sufficiently to generate necessary cash flows to meet debt service.

Moody’s has downgraded to Baa1 from A3 the city of San Antonio Convention Center Hotel Finance Corporation, TX’s bonds and has placed the rating under review for further downgrade. The pandemic so limited business that “the accumulated pledged revenue and reserve in the equity fund for the hotel special tax bonds were depleted and used to meet the July 15, 2020 obligation, reducing the flexibility for future payments. Accumulated pledged revenue was also used to make the January 15, 2021 payment. Following the January payment, the city has continued to receive pledged revenue but collections have remained weak and are projected to be insufficient for the July 15, 2021 payment.” 

It is expected that debt service reserves will be used to fund some $1-1.4 million of debt shortfalls. The downgrade to Baa1 also reflects a much weaker credit profile from a year ago with limited flexibility although the city is exploring various options for the future. None of those alternatives, however, are projected to be available to meet the July 15 debt service payment.

With an end to the harsh limitations of the pandemic clearly in sight, timing of the return to revenue sufficiency for many similar projects will be a key factor in determining whether other similar credits will face similar issues.  

TREASURY REGS FOR STIMULUS SPENDING

The U.S. Treasury Department released much-anticipated guidance for the American Recovery Plan’s (ARP) $350 billion in direct state and local aid, including details on how it will implement the law’s restriction on using ARP funds for state tax cuts. The long awaited guidance allows those governments to properly apply the funds without risks to the state budgets they are right in the middle of enacting.

During the debates over the various stimulus packages since the onset of the pandemic, the specter of a “blue state bailout” was consistently raised. It all stemmed from an ill advised item in the original stimulus bill mentioning funding of Illinois’ pensions  shortfall. At the same time, representatives from “red states” sought to use funding for their pet cause – tax cuts.

Now at least the states have guidance at this important point in their budget processes. The ARP’s legislative language was fairly broad: States “shall not use [ARP] funds … to either directly or indirectly offset a reduction in net tax revenue … or delay the imposition of any tax or tax increase.” The rule applied to any “change in law, regulation, or administrative interpretation.” The law also provided the Treasury to clawback any ARP money used for such tax cuts.

The new guidance addresses some of the issues raised by litigation from a group of red state attorneys general challenging the rules. Several of those states intended to use aid to finance tax cuts regardless of any guidance. Hence, the litigation. Now, Treasury will compare each state’s fiscal year tax revenue during the ARP years (March 2021 to December 2024 or whenever a state exhaust its ARP funds) to its fiscal year 2019 tax revenue—as reported by the Census Bureau and adjusted for inflation.

This formula allows Treasury to work the numbers such that if a state’s tax collections in one of the ARP years are above its real 2019 level, any tax cuts passed that year were paid for with economic growth and not ARP funds. Problem solved! Additional cushion is provided by the fact that each state gets a 1% de minimis exemption to account for “the inherent challenges and uncertainties that recipient governments face.”  It allows for a state to pass a tax cut as part of a revenue neutral budget and then see revenues decline, it will not count as a violation of the rules. 

Conversely, if a state sees revenue cuts directly attributable to tax legislation it would potentially run afoul of the rules. If that state passed significant tax cuts and its next year’s revenue was below its real 2019 baseline, it must document how it financed the tax cuts without ARP funds. It cannot make cuts to a department, agency, or authority that used ARP funds. A state would need to point to offsets – taxes raised, spending cut—but no cuts to a department, agency, or authority that used ARP funds are permissible. 

Pensions even got a bit of help when all was said and done. While pension deposits are prohibited, recipients may use funds for routine payroll contributions for employees whose wages and salaries are an eligible use of funds. Treasury’s Interim Final Rule identifies several other ineligible uses, including funding debt service, legal settlements or judgments, and deposits to rainy day funds or financial reserves.

AUTONOMOUS VEHICLES

It will take some time before all of the ultimate impacts of the pandemic are clear. One of the sectors to have seen much of that impact has been the mass transit sector. Now that systems are reopening – in NY the MTA has resumed 24 hour service – we can begin to see what the true impact will be. One of the fears of the mass transit sector is that people will be unwilling to use those systems and will instead choose to use services from transportation network companies (TNC) instead of public mass transit. The initial signals we’re seeing don’t necessarily spell the beginning of the end for public transit.

It is clear that at present the core transit functions of Uber and Lyft are not moneymakers. The history of the business is that the demand for it has been driven by price considerations. The subsidized prices they charge are what generate the favorable cost/benefit assessment a customer makes. While there will be some acceptance of higher prices, the rate of increase in that cost is likely to exceed the rise in the benefit of the service.

As is well known, the one place that these companies can improve that ratio and drive demand is by lowering the costs. The most obvious cost is that of the driver. It has long been clear that ultimate profitability for the TNC is reliant on autonomous vehicles. That drove much of the TNC investment in autonomous technology and development which did not produce the desired result.

With the reopening expanding over the summer we expect to see lots of noise over transit and vehicle use going forward. There will be a real push and pull between those who wish to maintain services and modalities and those who demand that public infrastructure accommodate large scale autonomous utilization now. I’ve always been skeptical of claims about the speed of new technology. That’s the product of time and experience.

We don’t think that AV adoption will occur nearly as fast as proponents hope. Two recent comments in the press happened to be timely.

“If you look at almost every industry that is trying to solve really, really difficult technical challenges, the folks that tend to be involved are a little bit crazy and little bit optimistic.”  – president of Nuro.

“These cars will be able to operate on a limited set of streets under a limited set of weather conditions at certain speeds. We will very safely be able to deploy these cars, but they won’t be able to go that many places.” – an executive at Lyft.

If that is the state of play for the foreseeable future, it is not realistic to expect public agencies to make capital funding decisions for a truly nascent technology at the expense of current modes of transportation.

CARBON CAPTURE AND MUNIS

Sens. Michael Bennet (D-Colo.) and Rob Portman (R-Ohio) introduced the Carbon Capture Improvement Act to help power plants and industrial facilities to finance carbon capture and storage equipment as well as more unproven direct air capture projects. The bill would permit businesses to use private activity bonds, which local and state governments currently have access to, in order to finance a carbon capture project.

We note that both Senators represent states with significant economic interests tied to the extraction of minerals. So their approach to climate change is not about shifting to renewable fuels and away from the environmental destruction of associated with fossil fuel extraction and production. It is interesting that Senator Portman has discovered the joys of private activity bonds after supporting the 2017 tax legislation.

This is just the latest example of the effort to save the fossil fuel industry through the subsidy of tax exempt financing. At the same time the industry fights the financial claims of municipal issuers in association with pending litigation on the impact of climate change, the industry seeks to use the benefits of issuance by municipal issuers to subsidize their share of the costs of climate change.

ESG

The “social cost of carbon”  is an effort to measure the economic harm of putting one additional ton of carbon dioxide, the prime greenhouse gas, into the air. A 2019 Colorado law regulating utilities includes a minimum of $46 a ton to estimate compliance. The 2019 law directed the Colorado Public Utilities Commission to use a social cost of carbon in evaluating all existing electric generation and in the approval of the plan by Xcel Energy, the state’s largest electricity provider, for closing plants and adding new generation.

Now there are two new bills pending which would extend the use of the concept to cover methane in evaluating energy efficiency and demand management programs for utilities, like Xcel and Atmos Energy, selling natural gas to homes and businesses. The emerging weaknesses of the approach is reflected in the fact that there is no agreement as to how one calculates the social cost of carbon.  And that is a huge problem.

Over the years many efforts have been made to develop consistent replicable calculations to measure a number of factors. These would be used to develop scores and/or rating systems for investors who wished to be able to use them to meet a variety of purposes. The fact is that the process is complicated and not always open, so the results to date have not produced the desired metrics.

Even after you crack open the black box and perfect the math, there is still the issue of what exactly defines green. At one point, issuers were using eight different sets of standards to support their assertion of “green” status. Some of the “standards” were developed internally by the issuers. That is not how one validates the concepts underpinning ESG  investing.

Investors are getting wise. The municipal analyst community through the National Federation of Municipal Analysts is undertaking an effort to reach a consensus on what is green for purposes of the municipal bond market. In the meantime, there are some federal efforts to calculate these costs dating back some 25 years. Nonetheless, no clear consensus has emerged.

That reflects the model based nature of most of the effort to date which can provide widely divergent results and prices. As one researcher put it, ““We think we can describe the range.  “We have to pick a number somewhere in the middle of the range, that is all you can do.” That’s a problem for investors who increasingly rely on a data based analytic approach to portfolio management. An imprecise number lowers its value for trading valuation purposes and can create compliance nightmares for management and marketing purposes.

NUCLEAR SUBSIDIES

Senator Ben Cardin (D-MD) said he would introduce an amendment with fellow Democrats, Senators Sheldon Whitehouse (D-RI)  and Bob Casey (D-PA) which would provide a production tax credit of $15 per megawatt hour for existing nuclear plant owners or operators in states such as New York, Illinois, and Pennsylvania with deregulated power markets. The credit would be reduced by 80% for any market revenues above $25 per megawatt hour. The credit would begin to phase down when greenhouse gas emissions fall by 50% below 2020 levels and ends entirely after 2030. The proposal comes as the Ohio legislature considers the expulsion of its former Speaker and the chief of staff for the former Illinois House Speaker indicted over efforts by power companies to obtain subsidies from state governments.

IOWA CHARTER SCHOOLS

Typically, the supervision and regulation of charter schools has been the province of local school districts. Local control stems from the fact that many charter schools are paid for by the local taxpayers. We have long had concerns about the drainage of funding from local school districts to charter schools especially where it creates funding shortfalls for the public system.

Now in Iowa we see new legislation which takes the authorization for charter schools out of the  hands of the local funding entity. HF 813, which was signed recently allows private charter school operators, known as founding groups, to seek approval to operate directly from the state Board of Education. Charter school founding groups can still be created by a local school board, but the new state-approval option provides an opportunity to pursue approval free of local opposition. The state board will approve and monitor the performance of all charter schools.

In Iowa, funding is based on enrollment using a state cost-per-pupil (SCPP) formula. Under HF 813, the state will fund 100% of the SCPP for the first year of a charter school’s operation because the formula is based on prior-year enrollment. Thereafter, these costs will be funded by the combination of state and local funds. At the same time, the law allows charter schools to avoid some of the costs borne by traditional school districts. Charter schools will be required to operate a brick-and-mortar “attendance center” but they are not required to provide remote options.

Even though it allows charters to be approved by local entities, the law  is another form of preemption. The new state-approval option provides an opportunity to pursue approval free of local opposition. That creates a real problem for districts which are required to fund schools they do not want.

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 quick reversal of trend in terms of municipal credit is impressive. The much more optimistic outlook for the economy through year end is already showing up in rating activity. Negative outlooks are being revised to stable and upgrades are clearly shoring up the municipal market.

If travel picks up as many expect, there will be a clear impact on airport and airport related credits. The economic activity generated by travel and tourism is already relieving pressure on credits supported by revenues derived from hotel taxes and sales taxes. Multiple states have seen upgrades to outlooks. Connecticut was the most prominent example. After several years as one of the more troubled state credits, the Nutmeg State has seen its ratings upgraded by all four rating agencies. Louisiana, a state whose major industries are under pressure, has been assigned a positive outlook.  

At the same time, we are a bit more restrained in our outlook for state credits. One concern has been the application of what are arguably one-time revenues to fund significant rounds of new spending. NYC is doing it. California’s Governor has proposed a budget which allocates $25 billion to one-time or temporary spending, including nearly $15 billion for capital outlay; $7 billion to revenue-related reductions; $3.4 billion to the Special Fund for Economic Uncertainties (SFEU) balance; and nearly $2 billion to ongoing spending increases, although these costs would grow substantially over time.

Other sectors which stood to benefit from the improving outlook for the pandemic include some hospitals, higher education institutions, cultural and entertainment facilities. As these facilities reopen and demand reestablished, we would expect the perception of these credits to improve fairly dramatically. ports are another sector seeing immediate benefits. After a year of reduced activity, ports are now dealing with capacity issues which are expected to last through the summer.

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CALIFORNIA BUDGET REVIEW

The Legislative Analyst Office (LAO) in California has reviewed the Governor’s May Revision to his fiscal 2022 budget proposal. Much has been made of the huge surplus the state has accumulated through a combination of better than expected revenues and a federal stimulus windfall. The LAO starts off with a disagreement over the actual size of the surplus truly available for new spending.

LAO estimates the state has $38 billion in discretionary state funds to allocate in the 2021‑22 budget process, an estimate that is different than the Governor’s figure—$76 billion. The differences in estimates stem from differing definitions. The Governor counts $27 billion in constitutionally required spending on schools and community colleges, nearly $8 billion in required reserve deposits, and $3 billion in required debt payments in his calculation of the surplus. After excluding these amounts, the two surplus estimates are nearly the same.

The Governor’s estimate includes constitutionally required spending on schools and community colleges, reserves, and debt payments which must be allocated to specified purposes. The constitution requires the state to spend minimum annual amounts on schools and community colleges (under Proposition 98) and budget reserves and debt payments (under Proposition 2). Mainly as a result of higher revenues, relative to January, constitutionally required spending is higher by nearly $16 billion across the budget window.

The May Revision includes roughly 400 new proposals costing $23 billion in new spending. That leaves $16 billion of surplus for other purposes. The revision sends some definitely mixed messages..Under the administration’s estimates and proposals, total reserves would reach $19.8 billion in 2021‑22. Yet some of the new spending uses $12 billion in reserve withdrawals and borrowing to increase spending. Overall, the State’s reserves are pegged to be lower by nearly one-half.

Schools and community colleges would receive the largest spending allocations. The major components of the next largest  category are $5.5 billion for broadband, $1.1 billion to replenish the state Unemployment Insurance Trust Fund, and $305 million for the Employment Development Department to more quickly address workload. Those are three major areas where the pandemic directly impacted life across the board.

The State Appropriations Limit (SAL) limits how the state can use revenues that exceed a specified threshold ($16 billion for FY 2022). Each year, the state compares the appropriations limit to appropriations subject to the limit. If appropriations subject to the limit exceed the limit (on net) over any two-year period, there are excess revenues. The Legislature can use excess revenues in three ways: (1) appropriate more money for purposes excluded from the SAL (under the Governor’s proposal, the common new spending for this purpose is capital outlay), (2) split the excess between additional school and community college district spending and taxpayer rebates, or (3) lower tax revenues.

NYC OUTLOOK UPGRADE

New York City was the beneficiary of an improved outlook from Moody’s. The outlook was moved from negative to stable. The fortunes of the City were greatly enhanced by its designation for significant funding from the federal government. The move comes as the City Council begins its deliberations on the FY 2022 budget.

The Mayor’s Executive Budget plan is the current administration’s last opportunity to present an executive budget, and the last time their budgetary priorities and vision will shape an adopted budget. Those priorities are apparent as the City’s Independent Budget Office (IBO) estimates that about a third ($4.2 billion) of the federal stimulus funding added in the Executive Budget is proposed for baselined initiatives that will continue past current plan years, and the expiration of the stimulus funding.

The stimulus funds, including $5.9 billion of ARPA funding provided directly to the city for general purposes and $7.0 billion of ARPA and CRRSA funds allocated to the Department of Education, along with FEMA moving to full reimbursement of city Covid-related expenses, have filled a large portion of the revenue shortfall brought on by the pandemic.

OREGON FIRE FALLOUT

A lawsuit filed on behalf of 70 landowners in Oregon’s McKenzie River Valley seeks $103 million from two public utilities, Lane Electric Cooperative and Eugene Water & Electric Board, for damages arising from the Holiday Farm fire. The Labor Day fire destroyed 430 homes, killed one person and burned 173,393 acres. The lawsuit alleges that fires were started when tree branches contacted power lines.

The plaintiffs contend that the utilities had been warned about fire conditions but chose to maintain power throughout their systems. In addition to homes, fires such as these have significant impacts on businesses related to logging and lumber activities. The municipal utilities now join several investor owned utilities in Oregon as well as California as defendants in similar lawsuits.

WASHINGTON CLIMATE BILL RAINS ON SUPPORTERS

As the nation and the states move to cope with the realities of climate change, a number of conflicts have arisen between various interest groups. Those conflicts have played out in ways which increasingly are surprising. Issues like carbon pricing and vehicle mileage taxes have been considered. While this has not necessarily resulted in positive legislative action, the debate on the issues sheds light on the viability of many proposed actions and solutions. It also creates some dilemmas.

One of the best examples of the resulting inconsistencies is currently playing out in Washington State. The Legislature passed a broadly backed package to address climate change and the Governor has positioned himself as a national environmental champion. The issue was contentious and a variety of compromises were struck which overcame objections to individual provisions of the proposals (a low carbon fuel standard and a “cap-and-trade” policy). In return, legislators agreed to increase the gas tax by 5 cents. 

So when the legislation passed, the Governor’s signature was seen as a formality. Instead, the Governor vetoed the portion of the legislation raising the gas tax. The state Constitution allows for a governor to veto sections of a bill while signing the rest into law, but Inslee vetoed a specific provision. The Legislature has done this previously when the Governor in 2019 after he vetoed certain sentences in particular areas of the transportation budget. A County Superior Court judge invalidated those vetoes. The Legislature, including members of the Governor’s party, plan to sue on similar grounds again.

How is this all going to work? Under the new laws, fuel companies must start reducing their emissions a little each year in order to hit a statewide goal of emissions 20% below 2017 levels by 2038. Fuel companies can clean up their fuels by producing biofuels or mixed fuels. If they can’t, they would be required to purchase “credits” to make up for emissions that go above the allowed amount. The cap-and-trade plan puts a cap on carbon pollution and greenhouse gas emissions beginning in 2023. The largest polluters in the state would need to either clean up their work to meet the cap or purchase allowances from the state. The state would receive the revenue from those allowances.

ILLINOIS DEBT CHALLENGE FAILS

Billed as an issue of a concerned citizen contesting a bond issue rather than as a front for the effort to create a successful short trading strategy by a private equity investor, the latest challenge to the State of Illinois’ debt issuance powers has failed. The Illinois Supreme Court in a unanimous decision cited the issue of laches. This doctrine deals with how long a plaintiff can wait to take an action. In this case the Court directly referred to the fact that the ” petitioner waited to file his taxpayer action until 16 years had elapsed following enactment of the 2003 bond authorization statute and 2 years had elapsed following enactment of the 2017 bond authorization statute.”

The Court neatly found a way to stop the challenge without ruling directly on the issue of the validity of the debt – $10 billion of 2003 pension bonds and $6 billion of bill backlog borrowing in 2017. A decision of the issue of the validity of the debt would have to wait for another legal challenge.  The use of litigation by motivated political players to halt state borrowing efforts are a fairly regular occurrence as is their general failure to succeed in their efforts to stop or invalidate debt.

The opinion reflected the Court’s understanding of the implications of allowing the case to proceed. It specifically referenced the fat that “enjoining the state from meeting its obligation to make payments on general obligation bonds will, at the very least, have a detrimental effect on the State’s credit rating.” The Court effectively found that the long wait time before the original lawsuit was filed was done to make the State’s position more difficult.

We find this decision to be reinforcing of a general lack of willingness by the courts to invalidate debt. That long established pattern made us confident that the suit and others like it which are a fact of life will continue to be losing efforts.

ROCKY MOUNTAIN WAY

Colorado now relies largely on the 22-cent per gallon gas tax and 20.5-cent diesel rate to fund transportation work.  Newly created fees would be collected from electric vehicle registrations, fuel taxes, retail deliveries, passenger ride services, and short-term vehicle rentals. The fees would be phased in from fiscal year 2022-23 through fiscal year 2031-32 and then indexed to highway construction costs.

Raises in the gas tax would start at 2 cents per gallon and ultimately reach 8 cents per gallon. A fee applied solely to diesel sales initially would be 2 cents per gallon and later increase to 8 cents per gallon. Also included in the bill is a requirement for the $50 existing registration fee charged per electric vehicle to be adjusted annually for inflation. The tax increases are accompanied by transfers from the State’s general Fund.

$507 million in one-time funding would come from the state’s general fund for fiscal year 2021-22. The State Highway Fund would receive $355.2 million. Another $24 million would go to local governments. The remaining $127.8 million would be directed for multimodal uses. Currently, state law requires $50 million to be transferred annually from the General to the Highway Fund. That has been repealed in the face of the significant one time transfer.

MORE NUCLEAR DELAYS

MEAG, Oglethorpe Power, and the Jacksonville Electric Authority got more bad news about the operating schedule for the Plant Vogtle expansion. Georgia Power Co. said that delays in completing testing means the first new unit at its Vogtle plant is now unlikely to start generating electricity before January at the earliest. The additional month will add another $48 million to the cost of the two nuclear units.

The reactors, approved in 2012, were initially estimated to cost a total of $14 billion, with the first new reactor originally planned to start generation in 2016.  Now the plant’s costs are expected to come in at or above $26 billion. The second new reactor is supposed to start operating in November 2022. The company says it is still on schedule.

CLIMATE LITIGATION

By a 7-1 decision, the Supreme Court ruled that suit filed by the City of Baltimore in July 2018 against the major oil companies should be sent back to the U.S. Court of Appeals. The suit, and some 20 others like it from other jurisdictions, argues  that the companies’ “production, promotion and marketing of fossil fuel products, simultaneous concealment of the known hazards of those products, and their championing of anti-science campaigns” harmed the city.

The fossil fuel companies requested an expansive review of issues in the decision to send the case to state court; the city requested that the rules of appeal be interpreted narrowly, in a way that would have allowed the case to proceed in state courts. The court majority ruled that the appeals court should not be overly limited in its review of issues.

There some 20 similar lawsuits to the one filed by Baltimore. They by and large seek to have their claims adjudicated in state courts which are seen as friendlier to the arguments advanced by the cities. So the decision to send this case back to the federal courts for review is being seen as a “loss” for the City of Baltimore and the other cities suing.

But it is important to note that the decision was not about the merits of the cities’ cases. The decision reflected in part a unanimous 2011 Supreme Court ruling which said that, under federal law, the Clean Air Act displaced the common law of nuisance, giving jurisdiction to the Environmental Protection Agency. So the decision at least establishes the proper forum for these cases to be adjudicated in.

PRISONS AND RURAL ECONOMIES

Where I live in upstate NY, the role of prisons as drivers of employment and incomes for local residents could not be clearer. While the drive for criminal justice reform is driven mainly by urban constituencies, the economic impacts of reform of bail and imprisonment policies fall primarily on rural host communities.

It is a pattern which repeats itself across the country. In California, the impact of prison closings is generating concern about host localities and their economies. California’s prison system employs some 50,000 people and consumes about $16 billion in annual state spending. So when a prison is closed, the impact is quickly felt. Taft in Kern County, which had its federal prison close last year, lost 18% of its population in 2020, the highest population loss in the state that year.

Susanville and Tracy are two California communities scheduled to see prisons in their jurisdictions closed. The City of Susanville estimates that the closure of the California Correctional Center scheduled for June 2022 means Susanville could lose an estimated 25% of its employment base — jobs that can pay as much as $90,000. The prison helped to offset job losses from the decline of the regional lumber industry in the late 20th century.

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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This week, we get to see how policy matters. The immigration policies of the Trump Administration had consequences and we see them in California’s population trends. We see the results of a regulatory “soft touch” approach which let a major infrastructure facility be vulnerable to just about any hacker who wanted to create some disruption. We see approvals move forward on major wind generation now. The impact of environmental regulation and economics on coal will continue.

On other fronts, we see Puerto Rico moving a bit closer to a resolution of its ongoing bankruptcy and debt restructuring efforts. At the same time, we see some issuers taking steps reminiscent of other declining credits such as pension bonds.

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CALIFORNIA

The news this week that California’s population had declined has been taken by a variety of interests as a sign that their views have been vindicated. Among them are that the State’s politics and taxes are driving people away. It is a long running debate that likely will not go away soon.

The decrease was very small – 0.46% — a decline in 2020 of 182,083 Californians. Most of the loss appeared to occur in the second half of 2020, during the worst of the pandemic. For the first time in its 170-year history, California will lose a congressional seat, with the new population numbers from the 2020 census trimming its delegation in the House to 52 members. The State estimates that more than half of that drop — roughly 100,000 people — was the result of federal policies that blocked international immigration and global lockdowns imposed to curb the pandemic, including restrictions on H-1B and other visas during the last year of the Trump administration.

The immigration impact is real. Enrollment of international students in the state, for example, declined last year by 29%. The Public Policy Institute of California analyzed 2020 census data and found that 4.9 million people moved into California from other parts of the country, while 6.1 million Californians left. It is likely driven by the State’s ongoing struggle to expand the development of affordable housing. The lack of immigration definitely influences the numbers as the historic source of replacement residents for those who leave has been essentially shut off.

The PPIC study showed that those who move in are “more likely to be working age, to be employed, and to earn high wages — and are less likely to be in poverty — than those who move away.”  Another issue is the impact of the pandemic. California’s overall death rate by 19% in 2020. Some 51,000 more lives were claimed last year than would have been normally, according to the state’s estimate.

Now, the Governor has released his May update to his proposed budget. Since his initial proposal in January, California received significant aid through the stimulus passed in the first quarter. Like so many other states, its fiscal position and outlook are much better than expected. The governor puts the surplus at $75.7 billion. Under the governor’s proposal households earning up to $75,000 in adjusted gross income will be able to receive $600 direct payments if they did not receive a payment in the first round this year. The governor puts the surplus at $75.7 billion.

The Governor also hopes for $5 billion to double rental assistance to get 100% of back rent paid for those who have fallen behind, along with as much as $2 billion in direct payments to pay down utility bills. The plans come in the midst of the effort to recall Governor Newsom. It is a good time for the governor to have money to spend.

CYBER ATTACK ONLY A MATTER OF TIME FOR MUNI UTILITIES

It involves a private provider but the news that Colonial Pipeline it had shut down its 5,500 miles of pipeline,  as part of its effort to recover from a cyber attack is troubling for any utility operator. The pipeline carries 45%  percent of the East Coast’s refined gasoline and jet fuel supplies. The pipeline transports 2.5 million barrels each day, taking refined gasoline, diesel fuel and jet fuel from the Gulf Coast up to New York Harbor and New York’s major airports. 

The pipeline connects Houston and the Port of New York and New Jersey and also provides jet fuel to most of the major airports, including in Atlanta and Washington, D.C. The U.S. Department of Transportation has declared a state of emergency in the 17 East Coast states it supplies in an attempt to avoid fuel shortages. Now Colonial has admitted that it paid $5 million in ransom as it ramps its facilities back up to capacity.

Increasingly, we see that ransomware is paying off for the criminals. As it becomes clear that ransoms are being paid, we expect to see additional attacks. It is  reminder of how important a credit factor the cybersecurity should be. It is also a reminder that the tough talk about not paying ransoms is just that – talk. It will stay that way until investors demand real answers as to an issuers cybersecurity strategy.

MUNICIPAL UTILITY COAL EXPOSURE

We have frequently commented on the decline of coal and the increasing pace of closures of coal fired generation across the country. Given the heavy environmental orientation of the Biden Administration, the ownership and operation of coal generation is increasingly problematic. Not only is it a credit issue but as ESG investing continues to grow, it has the potential to be a cost issue.

Some of those investors will want to shun utilities with continuing coal generation exposure on their balance sheets. Fortunately, the number of municipal system owned and operated coal plants is not that large. The agencies include Nebraska PPD and Omaha PPD, CPS of San Antonio, Sikeston, MO, and Muscatine, IA. Another credit in that category is Illinois Municipal Power through its exposure to the Prairie States mine mouth generation plant. IMPA is merely an owner but not an operator.

Operators won’t be able to ignore reality for long. For the first time since records began in 1949, coal was neither the nation’s largest nor second-largest source of electricity.  For the first time since records began in 1949, coal was neither the nation’s largest nor second-largest source of electricity. Utilities ran their coal plants far less in 2020 than a decade earlier, with utilization rates dropping to just 40 % from 63% in 2011. At the same time, utilities retired a significant number of their coal plants, dropping the nationwide capacity from 317 gigawatts in 2011 to 223 gigawatts in 2020.

Shipments to power providers dropped 22% from 2019 to 2020. The 428 million short tons the industry received last year marked the lowest shipment level since the U.S. Energy Information Administration began publishing such data in 2007.

BLOWIN’ IN THE WIND

The Biden administration approved construction of The Vineyard Wind project off the coast of Massachusetts. The 84 turbine project would be the largest offshore wind project permitted off the US. The turbines will be able to generate 800-megawatts of electricity. The next largest such projects are rated at 30 and 12 megawatts.

This project could also create a bit of a template for other offshore wind projects. A consistent source of opposition to these projects comes from fishing interests which fear the impact of these constructions to their fishing grounds. Vineyard Wind promised compensation funds for lost revenue for fishing interests in Rhode Island and Massachusetts of $25.4 million, which could lessen the impacts.

Commercial fisherman are center stage in a fight against submerged turbine technology off the coast of Maine. Governor Janet Mills seemingly tried to appease fishermen’s concerns by putting forward a bill that would place a 10-year moratorium on wind development in state waters. In response the fisherman are getting behind a bill which would prohibit state officials from permitting or approving offshore wind projects along the coast.  The bill would not stop wind farms in federal waters in the Gulf of Maine.  

PROVIDENCE PENSION BONDS

It will require state legislative approval but the City of Providence is looking for authorization to issue up to $700 million of pension obligation bonds. It is another BBB issuer looking to borrow its way out of problems. The City only reported $52 million of GO debt when it issued bonds in January of this year. That works out to $296.97 per capita. The pension debt alone would be $3931 per capita. So the pension plan and approved debt if issued would put per capita debt at over $4000 or some 14 times the existing per capita debt burden.

We find it interesting that the finance staff of the City are recent appointees to a second term administration and that this idea is being floated now. Is it a plan that needed the right audience? The plan may indeed provide a way out for a city facing significant tax assessment litigation and that is already making its actuarially required contribution. One can see how it makes sense to the City but it is also a big bright distress signal. If you go down the list of prior pension borrowers, it seems to be the beginning for the ride down the credit rabbit hole.

New Jersey, Illinois, Detroit were all pension bond issuers and all of those issues were followed by ratings declines. What recent municipal bankruptcies show is that pension bond investors increasingly find themselves facing bigger haircuts in restructurings. Providence is assuming 25 year money at 4%. The question is will this be enough to entice investors in a clearly weakened asset class?

GAS TAXES

They may not be a part of the Biden Administration infrastructure proposal but increases in gas taxes are not being excluded from state plans to fund infrastructure. The Missouri Legislature approved the first gas tax increase in Missouri in nearly 25 years.  The plan will increase the tax by 2.5 cents per gallon annually over five years, starting October 1.  Currently, Missouri has the third-lowest gas tax, 17-cents, in the country, behind Alaska and Hawaii. By 2025, the gas tax would be 29.5 cents.

One feature helped to get it through. The legislation comes with a 100 percent rebate for Missourians, as long as they keep their receipts for an entire year. Drivers would apply for the rebate once a year. Even with that carve out, proponents estimated that the increase would be able to generate $500 million a year once fully in place. The legislation also includes an increase in annual fees for electric vehicles raising it 20 percent over a five-year period. 

In Washington, the Governor vetoed a bill which would have banned the sale or registration of new gas vehicles of model year 2030 or later in the state of Washington. Vehicles prior to model year 2030 would not have been affected. An amendment to the bill tied this goal to the implementation of a road usage fee in Washington state. It stated that the guidelines would not take effect until 75% of cars in Washington were covered by a road usage fee.

Washington is one of these states that has added an electric vehicle fee – an extra $150 registration fee per year. The Governor wants the ban on new registrations to be separated from the issue of vehicle mileage taxes. It is surprising given the Governor’s well known stances on the environment. Transportation makes up 45% of Washington state’s emissions, the largest sector. Recently, the Governor supported a 2035 date for the end of internal combustion powered cars.   

DETROIT

The City of Detroit operates under the terms of a City Charter which is approved by a vote of the people. The charter was last revised in 2012. It establishes the ground rules for government operations, details the roles of the executive and legislative branch, enables the election process and mandates the departments, programs and services the city must provide. Now, as the City moves forward after its emergence from bankruptcy anew element of uncertainty has been introduced to the outlook for the City’s credit.

The Detroit Charter Revision Commission (DFRC) was impaneled in 2018 by Detroit voters to address quality-of-life issues, such as water access, affordable transit, affordable housing and responsible contracting. That commission has recommended a series of changes to the charter which would increase and redirect spending.

The governor, in an April 30 letter to the commission, concluded provisions of the revised charter could spur another financial crisis and send Detroit back into active oversight of the Financial Review Commission, which was installed as one of the conditions of its bankruptcy.  The charter commission faces a choice. It could make changes to address Governor Whitmer’s objections and then resubmit a modified plan for her approval.  The commission also could opt to submit the proposed charter to city voters for approval notwithstanding Whitmer’s objections.

An analysis from Detroit’s chief financial officer warned that the proposed charter changes would cost the city $850 million annually due to spending requirements on infrastructure investments, contracts, transportation, salaries, transportation, and information technology. 

That would likely throw the issue into the courts. The August primary will be the final election to take place during the Detroit Charter Commission’s term.  The attorney general’s review concluded that the proposed charter includes provisions that are inconsistent with requirements of the Home Rule City Act and other applicable state and federal laws.  If approved, the charter would go into effect in 2022.

PUERTO RICO

The Puerto Rico Oversight Board approved its proposed Puerto Rico General Fund budget for fiscal year 2022. The proposed $10.1 billion budget for government operations increased slightly from the previous year’s budget. It allocates 72% of funding to education, public safety, health, economic development and pension payments. The board said the budget “fully funds the public employees’ pension through the Paygo system that replaced the insolvent pension trust. The budget also includes Medicaid funds for which the U.S. Congress has not yet extended incremental funding to ensure the continuation of much needed healthcare programs.” 

As the budget process unfolds, the Restructuring Support Agreement (RSA) which would restructure the debt of the PR Electric Power Authority (PREPA) continues to be the subject of several motions in US Bankruptcy Court. Filings by the Authority and the Oversight Board were notable for their support for the RSA. It has not been clear that this was the case. As this process unfolds, legislative actions are being introduced which would effectively cripple the ability of PREPA and the Oversight Board to move forward on PREPA’s much needed reform.

It is likely that much of what the legislature could try to do to implode the RSA would not withstand court scrutiny. Nonetheless, the continuing resistance and obstruction to efforts to create an efficient, resilient, and reliable electric utility are troubling.

DETAILS AND THE AMERICAN RECOVERY PLAN

The American Rescue Plan Act of 2021 will provide $350 billion in emergency funding for state, local, territorial, and Tribal governments.  The U.S. Treasury has released detailed guidelines for how governments can spend the money.

Recipients can use funds to: Support public health expenditures, including funding COVID-19 mitigation efforts, medical expenses, behavioral healthcare, mental health and substance misuse treatment and certain public health and safety personnel responding to the crisis; rehire public sector workers, providing aid to households facing food, housing or other financial insecurity, offering small business assistance, and extending support for industries hardest hit by the crisis.  Governments can also fund premium pay for essential workers; and, improving access to clean drinking water, supporting vital wastewater and stormwater infrastructure, and expanding access to broadband internet. 

The State of Illinois has raised one issue. It was a borrower under the Fed’s Municipal Liquidity Facility. It would like to pay the Fed back and use some of the funds to be distributed under the ARPA. As they stand, the Treasury guidance does not include that purpose as a permissible expense.

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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GREEN POLITICS

In our April 19 edition we highlighted the plan’s by Columbus, Ohio’s electric utility to move to a 100% renewable generation base for its customers beginning this June. It was a way to undertake a policy through sale of a service to customers who want it through the utility. This was accomplished in response to a voter initiative.

Now a long time green power advocate has obtained a ruling from the Ohio Supreme Court against the City of Columbus. The ruling covers the City’s refusal to certify an ballot initiative which called for the city to redirect $87 million — almost one-tenth of its general fund budget — to a private organization for “clean energy programming.” The order requires city council “to find the petition sufficient and proceed with the process for an initiated ordinance,” as outlined in city code. The court ordered the city to either adopt the proposed ordinance or place it on the next general election ballot, as the city code requires.

The initiative would require that $57 million of the total be given to a private organization to assist residents in purchasing electricity generated from wind, solar, fuel cell, geothermal or hydropower producers. Distributions of public dollars through private organizations have a long history of issues including transparency and accountability. It would be troubling if this initiative would pass from both a budgetary point of view but also a governance standpoint.

As this process unfolds, the City has contacted residents and customers asking them if they wish to stop the city from automatically enrolling them in the City utility’s new green-energy aggregation program. That plan would lock in for one year an electricity-generation rate of 5.499 cents per kilowatt hour. That rate is almost 10% higher than the 5.03 cents per kWh that Columbus’ AEP Ohio customers currently pay on the “Generation Services (Supply)” line item portion of their electric bills. That default AEP rate is not fixed for one year. In fact, it expires at the end of May. The City’s program starts June 1. The AEP Ohio default price has changed six times between the start of 2020 and April 2021, ranging between low of 4.64 cents per kWh last July to a high of 5.42 cents per kWh in January 2020.

SUTTER HEALTH

This week, Moody’s reaffirmed its negative outlook on the A1 rating for debt issued by Sutter Health. The Northern California system is in the process of finalizing a $575 million settlement of a class action lawsuit. The resolution of that case, while costly, did stand to reduce pressure on the credit. Now however, a second significant class action suit against the system is beginning to move forward with certification of the class. 

The latest class action lawsuit claims Sutter violated antitrust and unfair competition laws, which caused certain individuals and employers in certain parts of Northern California to overpay for health insurance premiums for health insurance purchased from Aetna, Anthem Blue Cross, Blue Shield of California, Health Net or United HealthCare (together, the “Health Plans”) from January 1, 2011 to the present. Sutter denies that it has done anything wrong or that its conduct caused any increase in the price of premiums that individuals and employers paid for health insurance from those Health Plans. 

The case moves as the system reports weak 2020 financial results. In maintaining the negative outlook Moody’s cited an already high cost structure and the fact that Sutter Health’s nursing union contracts are expiring this summer. The potential for costs increasing faster than revenues is a real risk and we believe that this would generate a downgrade.

REOPENING QUICKLY BENEFITS SOME RATINGS

It makes sense that we see ratings respond to the increasing level of economic activity. Places like Disneyland reopened after 419 days, many businesses will be permitted to fully operate in the New York metropolitan area beginning in the middle of the month. Outdoor facilities are well positioned as operators of indoor facilities approach reopening cautiously. Broadway shows will resume until after Labor Day.

As more people get vaccinated, facilities like airports and ancillary credits (parking, rental cars) are moving quickly to financial improvement as passenger volumes grow.  1.63 million passengers went through TSA screening at airports across the nation on Sunday, May 2, the highest number since March 2020, despite it still being about 35 percent lower than pre-pandemic levels.

As hospitality businesses reopen, the flow of taxes generated by these entities will recover and coverage levels for revenue bonds they secure are quickly improving. Those more dependent on outdoor facilities will show that improvement more quickly than those for indoor facilities. Holders of debt payable from tribal gaming operations will benefit as we see capacity restrictions relaxed. The Seminole Tribe saw the negative outlook on its Baa2 rated revenue bonds lifted to stable.  

THEY LOVE NEW YORK

Over the years, there has been a consistent story line that says that New York State’s fiscal and public policies drive residents to leave. That view was revived in this year’s NYS budget process. The issue came up as the Legislature debated whether or not to raise taxes on the high end of the income scale. Opponents as expected claimed that taxes were high enough and would continue to drive residents to states with lower or no income taxes.

Now the results of the 2020 Census are available and surprise, surprise New York State saw its population increase over 2010 levels. This has been lost on many as the emphasis has been on the loss of one seat in the House of Representatives for New York State. While important, Census figures are used to distribute from more than 300 federal programs, including unemployment insurance, job training grants and the Special Supplemental Nutrition Program for Women, Infants and Children. It has been important to get the count right.

The unexpected results have raised questions about how a ten year data trend could be reversed. It comes down to the fact that the trend was based on annual population estimates derived from computer models. The estimates program showing New York losing population started with the 2010 census and updated those figures annually based on births, deaths and the movement of residents in and out of the state. The estimates showed New York gaining less population from immigration and losing more residents to other states as the decade unfolded.

Those estimates are based on a national file of addresses. If an address is not on file then no count of residents at that address occur. It’s been a problem for some time. The Census did start a program in 2000 that would enable localities to update the address data base. It turns out that NYC was one of the more aggressive localities in terms of its efforts to get more addresses in the data base.

In New York City, the process of finding and entering missing addresses began in 2016, and by the time the census was conducted for 2020, there were 122,000 additional housing units on the list of households to be counted.  The State managed to get another 80,000 addresses into the data base. New York’s master address list grew by 693,000 statewide, and after invalid addresses and vacant units were filtered out, the census counted population in 446,000 additional housing units compared with 2010.

NYC AND OPEB

With the pandemic and its current impacts on government fiscal positions, it has been easy to overlook issues which occupied attention in the pre-pandemic era. One of those issues is that of OPEB (Other Than Pension Employment Obligations) and their role as a future credit drag. These benefits are primarily for medical care. One example of the potential impact is the City of New York.

Most New York City employees become eligible for city-paid health benefits for the years from their retirement to when they become eligible for Medicare after 10 years of service. In addition, the city pays their Medicare Part B premium once they move onto Medicare. In fiscal year 2020, the city spent $2.7 billion on health insurance and Part B premiums and other Medicare supplements for retired city employees and their families.

According to the City Comptroller’s annual report, future retiree health benefits currently represent a $109.5 billion unfunded liability to the city. This liability has more than doubled over the fifteen fiscal years since 2005. Retiree health benefits could be d through collective bargaining or state and local law, depending on the particular benefit. The City’s Independent Budget Office (IBO) has suggested one way to deal with the issue is to link the OPEB benefit to residency.

IBO estimates that 34 percent of retired city employees who faced a residency requirement while they worked for the city now reside outside of New York City and the six counties that satisfy residency requirements for active employees as of December 2020,. This figure excludes those who retired from the Department of Education, city university system, public housing authority, and NYC Transit, and a number of other smaller agencies who did not face a residency requirement when working for the city. The linkage of benefit to residency would only cover retirees who had been required to live in the city or in the six suburban New York counties as a condition of employment. They are primarily the uniformed services.

The idea for linking benefits to residency reflects the fact that retirees residing outside the New York City area tend to have been retired for longer than their counterparts residing in the area, and are therefore more likely to have shifted from a city-sponsored health insurance plan to Medicare. As retirees shift to Medicare, the costs of their city-sponsored health insurance plans ends, but the city still offers some less costly benefits such as Medicare wraparound services and reimbursements for Medicare Part B premiums. Retirees would need to continue to meet the residency requirements for active employees to qualify for pre-Medicare health insurance coverage supplemental Medicare benefits once they shift to Medicare if a residency requirement be adopted.

According to the IBO,  non-Medicare retiree health premiums cost the city about $9,000 per individual, and $23,000 per covered family In 2020. The combined costs of Medicare Part B and SeniorCare were approximately $4,000 per individual and $8,000 per family. Assuming that roughly the same number of retirees continue to maintain their primary residence outside of the city and its surrounding counties, eliminating pre-Medicare coverage for nonresident city retirees would save the city $202 million annually; if the Medicare supplemental coverage were also eliminated for nonresidents, total savings would reach $416 million.

WHERE THE CHARGERS ARE

We saw some data this week that shows where electric vehicle charging infrastructure is being installed in the U.S. It should be no surprise that the leader is California with just under 37,000 chargers installed. New York has the next highest number of chargers at nearly 6,500. Texas and Florida are next. As of March 2021, there are 25 states that have at least 1,000 non-residential electric vehicle (EV) charging units (public and private).

Oklahoma had the highest share of DC fast chargers, accounting for 64% of the 1,044 non-residential chargers in the state. The availability of charging infrastructure has long been recognized as a major catalyst in the drive to electrify vehicles. a study published in the journal Nature Energy by the University of California Davis included a survey of electric car buyers in California which indicated that 20% of respondent buyers had gone back to gas vehicles. The reason most cited by far – availability of charging infrastructure.

TEXAS POWER CRISIS WAKE

The weather may have warmed up but the after effects of the February cold snap linger on. CPS Energy, the municipal electric utility serving San Antonio obtained a temporary restraining order against the state grid operator ERCOT. CPS Energy sought the order to keep it from being forced into default and to prevent ERCOT from seizing collateral payments.

The judge specifically cited attempts by ERCOT to charge its losses across viable utilities — those that haven’t sought bankruptcy protection. ERCOT is now seeking to recover $47 billion in electricity charges and $6 million associated with a software error by attempting to seize money it held as collateral to secure participating utilities charges. Already the largest electric co-op in Texas has declared Chapter 11.

The issue is based on the fact that the system’s independent monitor, believes that ERCOT could have lowered prices sooner than it did. In addition to the monitor, the state’s influential lieutenant governor and its attorney general support the view that prices could have been lowered sooner. As it stands, CPS has gone on record as being willing to pay their share but on a more manageable timeline. That puts the customer base at risk and risks hampering economic competitiveness of the revenue base.

CHICAGO

It continues to defy common sense when you come across situations like the one we find in Chicago. In the aftermath of the Detroit and Puerto Rico bankruptcies, many investors focused on Chicago as a potential source of major credit risk. The City has long known that it has credit problems rooted in pension underfunding and a lack of political will. So it is disturbing to see how poorly informed the major decision makers have been regarding the City’s fiscal position on a regular or timely basis.

The Chicago City Council’s Finance Committee this past week endorsed a proposed ordinance, which would require the city’s Department of Finance and the Office of Budget and Management to provide monthly reports on city revenue collections. Both departments would be required under the ordinance to publish monthly reports on their websites detailing “total collections for each revenue category” from the previous month. The reports must include the difference between anticipated corporate fund revenues and actual collections and show how monthly collections in each tax and fee category compare to the same month the year before.

If the information has indeed been lacking as the City deals with its ongoing credit issues, it’s just another weight pulling the City’s credit perception down. It is also a case study of why disclosure continues to be the major issue plaguing our market.

On a positive note, McCormick Place has not hosted an event since March 6, 2019. The 230 cancelled events translate into a loss of $234 million in local and state taxes and $3 billion in economic activity from the 3.4 million attendees. The operator, the Metropolitan Pier and Exposition Authority, reports a $58 million operating loss for fiscal 2021. Tax collections so far are just $35.6 million, down 73% from last year. The Authority will continue to need to restructure its debt to align revenue requirements with expected near term revenue pressures. McCormick Place hosts its first event in mid-July.

THE STATE OF STATE INFORMATION TECHNOLOGY

Now that we are entering the reopening phase of the U.S. economy, it is easy to forget some of the issues which arose at this time last year. As individuals were forced out of work and school due to the pandemic, computers became the primary interface with the world. Quickly it became apparent that the technology capabilities of the public sector had not come close to keeping up with the state of the art.

For those of us with the experience of having to use some of these systems, it really was not surprising that government websites crashed under the strain of thousands if not millions of initial jobless claims, efforts to purchase health insurance through state marketplaces, and the volume of normal transactions which would often have been accomplished through in person contacts.

Now, with governments in far better shape fiscally than many expected one would think that the experience of the pandemic should create support for investment in system upgrades. Whether expectations are realistic or not, the last year has shown the importance of upgrading government IT systems. As the nation moves forward technologically, it will be important for government to be able to instill confidence in its capability to handle technology. Many of the things being proposed to deal with technological change in sectors like transportation will require the existence of and confidence in robust public sector technology capabilities.

It is pretty clear from the last 12 months that government IT systems remain dated and inadequate. In addition to the maddening service delays which result, aging systems run and maintained by government IT staff are also more vulnerable to cyber attack.

FOXCONN AND WISCONSIN

When it was announced four years ago, many thought the deal between the State of Wisconsin and the manufacturer Foxconn was a bad one. Offered as a way to reemploy factory workers from declining industries, the deal was subject to a lot of suspicion. Foxconn had already established a record of an inability to follow through on its promises.

Since then, the problems at the plant site are well documented. The original contract with nearly $4 billion in state and local tax incentives was struck in 2017 by then-Gov. Scott Walker. The planned factory was supposed to employ 13,000.  Foxconn continually scaled back its plans for the site and failed to meet hiring requirements which were part of the deal. The state told Foxconn last year that it would not award it tax credits because the company had made substantial changes in its manufacturing plans and was out of compliance with the tax credit agreement. Foxconn employed 281 people in 2019 in Wisconsin.

Foxconn promised to locate its North American headquarters in Milwaukee and hire 500 employees, something which has not happened. It also promised to open “innovation centers” in Green Bay, Eau Claire, Racine and Madison that would employ up to 200 people each. Buildings were purchased, but the company did not move forward with its plans. In 2018, Foxconn said it planned to invest $100 million in engineering and innovation research at the University of Wisconsin-Madison but, the research center and off-campus location have not been established.

The deal  reduces Foxconn’s maximum tax breaks in the state to $80 million and significantly reduces the amount of jobs and capital investment Foxconn is required to make. Moody’s has concluded Foxconn won’t bring an influx of new workers or residents to Racine County. The separate development agreement between Foxconn, Mount Pleasant and Racine County remains unchanged. Local governments expect special assessments and revenue generated by Foxconn’s projects will cover the costs. Foxconn must make these minimum tax payments regardless of the project’s completion. 

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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LAST DE BLASIO BUDGET

After his end of the world as we know it budget proposal in January, Mayor deBlasio finds himself effectively flush with cash. Now, with about $15 billion in aid now coming from the feds, increased projected tax revenue and a new state budget that significantly increased education funding to the city, the mayor’s new executive budget reflects a completely different view of the world. As a result, the Mayor looks to increase current expense levels by some $10 billion or 10% over the current fiscal year budget.

There are a couple of dangers with this approach. Much of the new spending on education in the city will go toward making pre-kindergarten for all 3-year olds available by 2023. The projected cost for that is $377 million in the coming year, and it will be paid for through federal stimulus money. Beyond 2023, city officials project it will be paid for through projected increases in revenue that are, at least in part, contingent on the city’s post-pandemic economic recovery. This means that one time monies are being used to fund a significant increase in recurring expenditures.

Another is that the cash windfall appears to be largely directed at operating expenses at a time when one time revenues could probably be useful to address the City’s huge unfunded capital requirements. We acknowledge that $1 billion of unanticipated funding for the City’s pension funds is good. But the budget does not address some important issues. The City faces huge capital funding demands – transit funding, the $40 billion and climbing cost of repairs to NYCHA facilities, aging NYC Board of Education physical plant which could be partially addressed through the use of non-operating monies.

Housing was one sector where government spending could help but not much policy was forthcoming.  There is also a clear move to fund what could charitably called make work jobs. Street tidying and graffiti removal is worthwhile but does not exactly create a long term path to economic success.

NUCLEAR HANGS IN AS PART OF THE ASSET MIX

While one source of legacy electric generation is in its inexorable fade, another is strangely benefitting. Nuclear power was once reviled as an environmental threat and for many that continues to be the case. Nuclear generators however, have managed to emphasize the carbon free aspect of nuclear generation in their efforts to keep what many consider to be uneconomical generating facilities in operation.

The effort to do so has involved some good old fashioned lobbying. Whether it’s the impact a plant closing would have on employment and economic activity, the impact on local government budgets, or school enrollments and aid the industry has not been bashful in its effort to stir fear driven support for financial subsidies for nuclear plants. The politicking has been intense and at the center of criminal activity in two states.

The effort by Commonwealth Edison to obtain subsidies is credited with leading to the resignation of the long time Speaker of the Illinois House. In Ohio, it led to criminal charges against the Speaker of the House. That ultimately led to the repeal of legislation which would have generated some $1 billion from ratepayers to offset operating losses at first Energy nuclear generators.

New York was at the head of the pack of states offering such subsidies. It continues its subsidies. New Jersey was the latest to debate such subsidies. An existing program was scheduled to sunset this year which generates some $300 million in operating subsidies. When the program was implemented, the Board of Public Utilities’ five commissioners only had the ability to award the full $300 million per year or deny the applications in full.  For this round, the plant owners threatened to close the plants if the subsidy levels were not maintained. The State relented.

The State’s plans to get to zero emissions are more reliant than is the case for many states in that the State’s residents and businesses rely on nuclear for approximately 40% of their electricity needs.

In Illinois, the Governor has proposed legislation which would provide subsidies to operating nuclear generating plants for a “short term” as the effort to decarbonize unfolds. The proposal would provide a modest level of subsidy over 5 years. The plan is designed to address environmental concerns as well as the concerns of workers at the generation plants. It highlights the sometimes clashing concerns which pit the environment against workers. In Illinois, employment at the two plants which are the subject of subsidies approximates 1,500.

And as the debate in New Jersey moves forward, the Indian Point nuclear plant outside of NYC closed as we went to press.

ANOTHER STUDENT HOUSING BUYOUT

A planned bond issue will kill a couple of birds with one stone when sold by the Trustees of the University of Wyoming. In this case, a private developer built housing in 2011 for sophomores and above on land leased from the University of Wyoming in Laramie. It is a structure common to private or privatized student housing deals.

In the Wyoming deal, the Trustees will issue debt and use the proceeds to purchase the facility and effectively incorporate it into its overall housing system at the University. The structure of the deal results in a significant extension of final maturity related to this project (out an additional 12 years) but it also relies on a revenue stream not project specific. In the case of this credit, ultimately the security rests on a pledge that revenues from the leasing royalties collected on the extraction of minerals on federal land are directed to designated bonds from state agencies. This is one such issue.

So it is a chance to see if the recent changes in the economy overall in terms of oil and gas demand are a concern to investors. The pledged payments come from already leased land. The moratorium on leases only covers new leases. That is why the industry “stockpiled” lease requests in 2020 especially under the Trump administration. The University gets 6.75% of annual pledged revenues under statutory formula. The State Supreme Court has ruled that any change in the statutory formula which impairs debt repayment cannot be valid.

GREEN BONDS FOR DIESEL?

The State of Louisiana has tentatively allocated some $200 million of private activity bond cap for a project to generate diesel fuel from wood waste. The resulting product would be mixed with traditional diesel to generate lower outputs of emissions. The State is characterizing the project as one being financed with green bonds. It looks like a good transaction to use as a test of what green really means in the municipal bond market.

Situated on a 171-acre site at the Port of Columbia, the plant would produce up to 32 million gallons of renewable fuel annually through established refinery processes with wood waste as the feedstock. The use of the wood waste derived from forestry operations may or may not be green and there are real questions about how the production of a product to extend the use of diesel and how that fits into the green bond bucket.

This is the sort of dilemma which the industry struggles with. We don’t currently have universally accepted standards for what is green. There is no objective quantitative standard for measuring what is green in the municipal market. The National Federation Of Municipal Analysts is working on the development of green standards. Currently, ESG buyers of municipal bonds must rely on their own criteria as well as the range of numerous sources of criteria. There are over half a dozen potential criteria sets in addition to those issuers who have developed their own standards.

MANAGING THE ENVIRONMENT

The complexity of the issue of climate change manifests itself in many ways. Like the weather, the impacts of climate can be extreme and wildly variant even across short periods of time. One set of conditions today can present many complex challenges which may resolve themselves or be replaced by a whole new set of concerns. Often, contradictory concerns result making decisions and commitments made in one circumstance seem unnecessary or an overreaction.

Four years ago at this time, the Oroville Dam in California was in the news as the potential source of a devastating flood. Heavy rains had led to significant runoff into Oroville Lake raising the level of the lake such that it nearly overwhelmed the dam. Water releases were damaging diversion spill ways and there were real concerns about downstream flooding and property destruction.

Flash forward to today and the situation is completely different. Now the issue is drought. Water levels at Lake Oroville have dropped to 42% of its capacity. That reflects the realities of the second  dry winter   in a row. The situation reflects the difficulty in dealing with shorter term fluctuations in environmental realities with typically long lived physical responses. Four years ago, people wondered why the height of the dam was not raised. Now that question would seem misplaced at best.

SOUTH CAROLINA PUBLIC SERVICE AUTHORITY

NextEra Energy has withdrawn its offer to purchase Santee Cooper  from the State of South Carolina. NextEra Energy terminated its transaction agreement with South Carolina and asked the state to return the $25 million deposit it made when offering to buy Santee Cooper.  NextEra had been identified by the State as the preferred buyer of the utility.

The decision by NextEra to withdraw its agreement likely will result in the maintenance of Santee Cooper’s status as a public entity. If not sold, the utility is expected to face greater oversight by the State and limitations on its rights to enter into power purchase agreements and incur debt. At present, the two legislative houses are at loggerheads. The Senate is against a sale of Santee Cooper while the House seems supportive of a sale.

The move by NextEra to terminate its agreement will disappoint bondholders who invested based on the notion that the utility would be sold and the bonds taken out from proceeds of the sale.  Now in the absence of a sale, the Senate adopted a reform plan which proposes giving the Office of Regulatory Staff, which represents the public’s interest in utility rate cases, oversight of rates and allowing an appeal of those rates to be made to the state Supreme Court. The Public Service Commission, which regulates utilities’ rates on customers, would have to approve Santee Cooper’s long-term energy generation plans.

One of the hallmarks of municipal utility credits is the lack of outside oversight which would interfere in the utility’s power to raise rates as needed. The need for Santee Cooper to get approval for increased rates has to be viewed as credit negative.

MICHIGAN AND NEXT GEN AUTOS

So much is made of the potential for disruption as the US economy slowly shifts towards renewable energy and decarbonization. The fear has been that as demand for traditional sources of transportation and energy recedes, that those working in those industries will suffer economically. That may be true especially in areas which base their economies on resource extraction. 

In industries based on the production of products, the outlook is much more mixed. We have noted several recent announcements by legacy automakers that they will be able to covert production facilities to the production of electric vehicles. We recently noted the expansion of electric vehicles and related products in Tennessee. Now we see additional examples in communities more traditionally associated with auto manufacturing.

Ford Motor Co. said it plans to accelerate battery development by devoting a team of 150 people to a new “Ford Ion Park,” described by the automaker as a $185 million project focused on technology research — “including the future of battery manufacturing.” The 200,000-square-foot lab will be located in southeast Michigan and will open in late 2022 although Ford did not specify a location nor how many new jobs might be created. Ford also announced Tuesday it is putting a battery and benchmarking lab in Allen Park.

It is becoming clear that electric vehicles are not driving significant relocations of manufacturing operations. Existing plant is being retooled and many of the new battery manufacturing plants are best located adjacent to vehicle production facilities.

THE PANDEMIC AND ENDOWMENTS

The National Association of College and University Business Officers (NACUBO)  has released the results of a survey of endowments at some 700 higher education institutions. They represent a combined $637.7 billion in endowment assets.  College endowment returns averaged 1.8% in fiscal year 2020. The average rate of return was considerably lower than last year’s 5.3 % and falls sharply below the historical target rate of 7.5%. It was the lowest average annual return since 2016. 

Surveyed institutions spent a collective $23.3 billion from their endowments during fiscal year 2020. Seven in 10 institutions increased their spending last year, with an average spending increase of $3.3 million over the previous year. The largest chunk of endowment spending — 48% — paid for financial aid to students. Another 17% funded academics, which includes teaching, tutoring and related support.

The results come at a turbulent time for endowment investment managers. The numbers tell you that returns continue to trend lower. The lower returns come at a time of increasing pressure for universities to divest from certain industries (primarily fossil fuels) while maintaining the resource base endowments provide.

NACUBO also asked institutions about environmental, social and governance, or ESG, policies. Only 19% of institutions said they believe responsible investing can deliver performance that is better than average market returns.

CAP AND TRADE GETS ANOTHER SPIN

The State of Washington has enacted legislation establishing a “cap and trade” system in order to reduce greenhouse emissions. The law is the culmination of an over ten year long effort to establish such a system. California is the only other state with its own cap and trade system. Legislative failures in WA were accompanied by two failed ballot initiative efforts. Now with the state aiming to reduce emissions by legislative actions.

The revenue raised will go toward renewable energy projects, reducing emissions from buildings and transportation, and adapting to the effects of climate change — such as supporting the relocation of tribes as the sea rises. In an unusual move, the bill also establishes a regulatory program to reduce air pollution in areas where people are breathing particularly unhealthy air.

The basis of the bill is the goal of reducing emissions by 95% by 2045. That is more ambitious than California’s goal. The fact that many interest groups could point to actual revenue allocations in the bill generated a more favorable climate for support. The bill checks off environmental justice and economic issues which generated diverse support for the bill.

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

________________________________________________________________

PRISONS

Throughout he 1990’s, the State of California was a leader in the effort to deal with violent crime. As it enacted three strikes and you’re out laws the inmate population skyrocketed. The issues of incarceration, race, and class are well documented. In the Golden State, the reaction included a massive program of prison construction. California was issuing debt in the early 2000’s to expand facilities. The last time California closed a state prison was the Northern California Women’s Facility in Stockton in 2003. Legislation enacted in 2012 limiting capacity and mandating reductions in prison populations began to put a halt to the trend of expansion. The legislation hoped to reduce the need for more capacity and remove California prisoners from private for profit prisons.

In 2019, CDCR took the major step of successfully returning all people incarcerated out-of-state in private, for-profit prisons, in addition to closing the Central Valley Modified Community Correctional Facility (MCCF), a contracted in-state private, for-profit prison. In 2020, CDCR ended its final three contracts with private, for-profit prisons, including Desert View MCCF, Golden State MCCF, and the McFarland Female Community Reentry Facility. Additionally in 2020, CDCR exited two of its three publicly contracted facilities, including Delano MCCF and Shafter MCCF. The department will exit the Taft MCCF by May 31, 2021.

Now the CDCR has announced the upcoming deactivation of California Correctional Center (CCC) in Susanville by June 30, 2022.  The rural county in northeastern California transitioned over the years from a lumber and farm based economy and jobs became hard to come by. In a pattern reflected in rural areas across the country, employment in Susanville centered around prisons. It is estimated that this facility and one other state as well as a federal prison employ half of the adult population of Susanville.

For the state, it estimates that its prison closing programs will yield annual expense reductions of nearly $170 million annually. Susanville  is the second prison slated to close in the coming year, with Deuel Vocational Institution slated to be deactivated by September 30, 2021. In all cases, the closing facilities are substantial employers. That is the dilemma faced by many state legislators as it is difficult to justify keeping unneeded prison cells available. A year ago, the inmate population in the state prison system was about 120,000. That population is down to 95,223 as of April 7, according to the corrections department.

Alabama is in different place than California in terms of overcrowding and legal requirements. It is in many ways where California was 30+years ago. It has older facilities housing inmate populations far in excess of design capacity. And the cost will be significant. To remedy its capacity and physical infrastructure the State of Alabama issued debt to finance the construction of two replacement facilities. At completion, the two prison facilities will represent about 40-50% of the state’s rated bed capacity. The State is calling it a P3 in that the construction is being undertaken pursuant to a design/build contract and that the facilities will be leased by the State DOC.

Under the Lease Agreements, ADOC retains responsibility for the day-to-day operations of the facilities, including security and managing the inmates and employees. Maintenance and lifecycle services will be subcontracted. Construction risk is mitigated by incentives and a year’s worth of liquidated damage payments from the design/builder. After completion, the ADOC will make monthly payments from amounts appropriated by the legislature each year.

IS WYOMING SPITTING INTO THE WIND?

In the aftermath of the suspension of new federal leases for oil and gas development, Wyoming’s political leadership went to the mattresses to protect the fossil fuel interests. In the current legislative session bills have been enacted to make the move away from fossil fuel industries as hard as possible.

Wyoming Gov. Mark Gordon signed three energy-related bills into law. House Bill 166 requires Wyoming utilities planning to close coal-fired power plants to prove to the state’s Public Service Commission (PSC) that the closure will not impact reliability and will result in a cost savings to customers, while Senate File 136 authorizes the PSC to take the potential economic impact of coal plant closures into account while making that analysis. The third bill, House Bill 207, creates a $1.2 million fund the Wyoming Office of the Governor may use to litigate coal plant closures or laws accelerating the closure of coal plants, such as renewable portfolio requirements, in other states.

Even supporters admit that the laws can’t save the industry in the state. Coal employment is down to 5,000 employees even now.  Wyoming made a choice to go all in economically on a natural resource extraction base. The state has no income tax, no corporate tax, and very low property taxes. In the case of Wyoming it is less about its historic energy reliance but the lack of political will (willingness to govern) in the face of the clear peril resulting from energy reliance.

With all of the focus on retaining obsolete assets, it’s easy to miss what corporate actions are actually telling us. While legislatures in Wyoming and Montana seek

ways to keep the coal fired generating industry alive, the owners of those assets are taking a different approach. It emerges through regulatory filings that the owners of the huge Colstrip coal generating plant in Montana which is under pressure to shut down are planning a wind farm adjacent to the site of the plant.

So one has to ask exactly who or what are the legislatures are fighting for when they seek to override the realities of the marketplace?

GREEN JOBS KEEP SPROUTING UP

It’s a measure of how bad a selling job the environmental movement has done in responding to the cries of legacy power generators that the issue of jobs vs. the environment continues. While the issue of environmental impacts on the economy are debated, argued, and unresolved we look at the steady flow of positive economic headlines one encounters dealing with climate change.

The aforementioned Colstrip wind farm is one example as it will mitigate much of the economic impact of closure of a coal generator. Tennessee has become a hub of the electric vehicle industry. Volkswagen and Nissan are locating U.S. electric vehicle production there. GM just announced a joint venture between General Motors and LG Energy Solutions to build a $2.3 billion battery production facility next to the GM plant in Spring Hill, Tennessee, and add 1,300 new manufacturing jobs. This the second such venture between these two partners in the U.S.

Rivian, the startup electric vehicle maker is launching production in June from a converted Mitsubishi factory in Normal, IL.  The Mitsubishi plant closed six years ago. The Rivian plant will have 1,800 employees by its June launch and 2,500 by year’s end, along with 1,000 robots to help build vehicles. Along with plants owned by GM which have been or are being converted electric vehicle production, they show how changes in the transportation industry can positively impact established vehicle manufacturing based local economies.

The sites of former fossil fueled generating facilities are being seen more and more as potential solar and/or wind power sites. A continued “industrial” use allows for brownfield development versus more expensive remediation and maintains the value of the site for property taxes. It also addresses some of the resistance being seen to the location of new commercial solar on farms and other currently open spaces.

The latest example can be found in Buchanan County, VA in the heart of that state’s coal belt. A reclaimed surface coal mine site will be the location of a 70 MW solar generation array on 700 acres. The County noted that the project will generate taxes if not full long term employment.

MTA PAYROLL TAX BONDS

The MTA is in the middle of marketing one of its bonds secured by dedicated taxes. In this instance, the pledged revenues will come from proceeds of the Payroll Mobility Tax (PMT) collected within the MTA’s service area. The tax is collected from employers by the State who are in New York City, Nassau and Suffolk Counties on Long Island, the northern suburbs of Westchester and Dutchess Counties, and the northwestern suburbs of Orange and Rockland counties.

The tax is imposed on the total payroll expense for all covered employees at a rate of 0.34% of those expenses. The tax is collected quarterly by the State and is distributed to the bondholders and the Authority without a requirement that the Legislature take action to appropriate the monies.

Other efforts to tax employment by levying a tax based on the number of employees to generate revenues for a variety of reasons have met with strong well funded political resistance regardless of the use of the proceeds. The efforts to levy what could be characterized as a head tax have been at the center of those disputes. The PMT has weathered several challenges since its legislation in 2009. These culminated in a State Court of Appeals review upholding the tax and its collection in 2018.

PANDEMIC CASUALTIES – RATINGS IMPACTS

As the pandemic unfolded we noted that certain credit sectors would be hard pressed to avoid credit troubles in the face of restrictions on activities. Two of those vulnerable sectors we airport and student housing facilities. As the pandemic plays out and fiscal year reports issued, the impact on ratings continues to emerge.

Moody’s has downgraded to Baa2 from A3 the Philadelphia Parking Authority, PA’s Airport Parking Revenue Bonds, Series 2009. Moody’s feels that gross revenue from operations of the airport parking facilities will be just sufficient to provide for required debt service payments in the near term. Credit quality is reflects materially weakened revenues that are insufficient to support ongoing operating expenses. The credit now reflects substantial reliance on liquidity from the Philadelphia Parking Authority to avoid even more significant credit pressure. The authority operates approximately 839 short-term and 10,984 long-term garage parking spaces on the airport premises as well as approximately 7,117 economy parking spaces off-site, which compete with private off-site lots. 

Another Moody’s downgrade involved debt issued for Bayview Student Living at Florida International University. The facility is located at a satellite campus in Biscayne Bay some 30 miles from the main campus. That in conjunction with the limitations of Covid 19 restrictions led the project to achieve only a 49%  occupancy rate. That simply was not enough to cover expenses and debt. The resulting draws on a debt service reserve fund could continue if the recovery of demand in a post-Covid world is insufficient.

FEDERAL LIFE BOAT FLOATS NYC

By most measures, the impact of the pandemic was negative. Employment, earnings and wages, and real estate sales, contracted in 2020. One measurement was however, positive and that was total personal income. The City of New York has been able to analyze data and develop a measure of personal income. Personal income is the sum of several principal sources. Earnings and wages, other labor income, proprietors’ income, and dividends and interest (excluding capital gains)—plus government transfers.

After accounting for the impacts of commuters and deducting City residents payments for Social Security and Medicare, IBO estimates that total personal income in New York City grew from $682.0 billion in 2019 to $701.8 billion in 2020, an increase of $19.8 billion.1 The 2.9 percent growth rate in 2020 is far lower than the 5.5 percent increase in personal income in 2019 and the average annual growth of 5.3 percent over the preceding decade. But it also stands in contrast to the experience of decreases in personal income during the previous two recessions, in 2002 and again in 2009.

The largest positive contributor to personal income growth in 2020 was a sharp rise in government transfers, which includes stimulus payments, expanded entitlement benefits, and unemployment insurance. This increase more than offset the decline of $32.0 billion in the private income categories. One category of income for which data was not available was the contribution to personal income of capital gains so the impact of a generally favorable trend in the financial markets does not show up in these estimates.

GREEN ENERGY DILEMMA

As the effort to decarbonize continues and expand, land use issues are emerging as the biggest obstacle. In many cases, transmission lines and solar panels are being opposed by landowners. This opposition is emerging when large scale renewable projects are proposed. Whether it be noise issues from turbines, esthetic issues such as the loss of unrestricted views significant transmission projects tied to the delivery of power from renewable generating sources.

One example is opposition to a large transmission line in Maine which is needed to deliver hydroelectric power to New England. Opponents are suing in court and intervening in the regulatory process. Another is opposition in Missouri to the Grain Belt Express transmission project. That high voltage line is designed to transmit wind generated power from Kansas through Missouri to achieve connections to the Midcontinent Independent System Operator, called MISO; the PJM Interconnection; and the Southwest Power Pool.

These conflicts between the interests of the environmental movement and those of landowners and others impacted by transmission projects will continue play out. In 2020, the Missouri Supreme Court ruled against plaintiffs  seeking to overturn the public service commission’s 2019 approval of the project. Now the Missouri Legislature is considering legislation HB 527, which would ban the use of eminent domain for above-ground utility projects like the Grain Belt Express.

Land use and zoning issues are emerging as potential obstacles to the development of renewable generation and the transmission infrastructure needed to deliver renewable power. The opposition to the line is driving consideration of companion legislation which would prohibit local governments from blocking any energy sources. The implications of this particular case for utilities across the country are clear. If the bill passes, it could set a precedent for overturning land use and zoning decisions throughout the country. That would have implications for a wide variety of projects.

MUNICIPAL MICROGRIDS

EPB, formerly known as the Electric Power Board of Chattanooga, is the  electric power distribution and telecommunications company owned by the city of Chattanooga, Tennessee. Recently, the City stepped to the forefront of the renewable energy debate with its announcement that EPB and the City were partnering to develop a microgrid for its public safety functions. The microgrid will be one of the first of its kind anywhere in the country to ensure reliable power for a police and fire agency.

The “Power to Protect,” microgrid will be paid for with more than $1.1 million of city taxpayer funds and $732,000 from EPB ratepayers. The microgrid will use solar panels on the roof of the police services building to generate up to 430 kilowatts of solar generation. EPB also plans to install a 175-kilovolt diesel generator, a 100-kilowatt natural gas generator and up to 1,100 kilowatts of battery storage to backup the solar units, as needed. As weather events proliferate in terms of frequency and intensity, the City finds its utility infrastructure to be at risk.

The project is scheduled for completion by the end of October.

GRNE Solar has completed installation and powered on a 2.1-MW solar project for Kendall County, Illinois. The project is located on a vacant 7.4-acre parcel at the Government Center Complex in Yorkville, Illinois. It will be owned, operated and maintained by GRNE and will provide power to the Kendall County Public Safety Center, County Judicial Center and Public Health Department.

PREEMPTION UPDATE

An Indiana bill seeking to preempt local zoning officials from having jurisdiction over solar developments was not enacted in the Indiana Legislature. The localities were able to fend off the effort. So this good for solar, right? Not really as the opposition was based on local political interests who oppose solar development. They cast it as an issue of local land rights and best economic uses of land. So solar development may have just become harder.

A bill moving through the Florida legislature would preempt certain regulations of gas stations and their infrastructure to the state, but local governments could still regulate things like zoning, building codes and necessary transportation issues. A local government, under the bill, would not be able to require a gas station to include electric vehicle charging stations.

It is a less expansive bill than what was originally proposed. That version included provisions that would prevent local governments from prohibiting natural gas fracking, as well as nullify solar-promoting ordinances and eliminate county authority over pipelines along roadways.

MYRTLE BEACH TAX SETTLEMENT

Litigation over the status of a hospitality fee in Horry County, SC has been settled in favor of seven municipal plaintiffs. Myrtle Beach and six other communities filed suit to challenge the county’s authority to unilaterally repeal the sunset of a countywide hospitality fee.

Horry County historically used the countywide hospitality fee to service state infrastructure loans, which were paid off in 2019. The municipalities sued to attempt to get a portion of the revenues generated by the fee given that the prior use of the funds no longer existed. The settlement comes after Myrtle Beach dealt with the impacts of the pandemic on tourism and related business. under the settlement, the county will receive revenue generated only in unincorporated areas (approximately $13 million).

Collections in incorporated areas (approximately $30 million) will be by the county but paid to the municipality in which they were generated. For Myrtle Beach, the benefits of the settlement are clear. City officials estimate Myrtle Beach will likely receive around $18 million of ongoing annual revenue, equal to approximately 11% of the city’s governmental revenue. The city estimates it will also receive a $22 million windfall under the agreement, mostly to account for its share of hospitality fees that accumulated since the onset of the lawsuit in 2019.

Myrtle Beach plans to use the new hospitality fee revenue to partially offset revenue losses incurred during the pandemic. Officials also plan to use a portion of the settlement money to replenish a debt service reserve fund (DSRF) for Myrtle Beach Convention Center Hotel Corporation’s Series 2015 hotel revenue bonds. The DSRF has been tapped to help cover debt service since the onset of the coronavirus. The city has a moral obligation pledge to replenish the DSRF after a tap, a pledge it intends to honor in its upcoming budget cycle.

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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WHAT’S NOT IN THE BILL

The emerging process of getting the American Jobs Plan through the Senate looks increasingly difficult. The focus on the source of funding – a 28% corporate tax rate – seems to have diverted attention from some potential funding sources which are not in the bill. The lack of those options could turn out to be a stumbling block as would their inclusion.

Specifically, we note that there is no carbon tax or vehicle mileage tax. We acknowledge that these are currently unpopular alternatives. But the corporate rate hike all the way to 28% will be difficult on its own. Some use of the alternative funding sources could generate the appearance of a more generally shared burden. Now, the expected funding is being used as an excuse not to look at increases state and local gas taxes.

Two bills which would result in a gas tax increase in Louisiana have run into increasing opposition because legislators expect a federal aid windfall. A proposed law to increase North Dakota’s gas tax by three cents per gallon recently failed in the Senate. The reality is that states will remain a significant funder of infrastructure.

According to the American Jobs Plan, from 2010 to 2020, the United States has experienced 145 extreme weather events, costing the nation an estimated $921 billion in damages. The President is calling for $50 billion to improve the resiliency of our infrastructure and support communities’ recovery from disaster. That’s 5.4% of the estimated cost. We know where the rest will have to come from.

WHILE WE FIGURE OUT HOW TO PAY FOR THE ROADS

Georgia has been in the news for all the wrong reasons lately. Much of it was its own doing but a dispute between two Korean battery manufacturers was not. A deadline was approaching which could have forced the Biden administration to  veto and international trade ruling. That ruling in favor of one of the firms LG was in a dispute between LG and SK Innovation over a claim that SK was using trade secrets belonging to LG to compete for the expected huge market for batteries, primarily those for electric vehicles (EV).

SK has said that a plant in Commerce, Ga., which is under construction would not be completed if the ruling was not overturned. Now in the face of a deadline to settle the dispute the companies announced a settlement.  The settlement allows for SK to continue to seek additional business which would support the completion of the construction on the Georgia plant.

Given the State’s existing problems, the loss of the plant needed to be avoided. Political interest in a settlement was high from the White House to Atlanta and across both parties. It overcame pressure from Ohio’s Governor where LG is building their battery plant. At the end of the day, batteries have emerged at the center of the issue of electric vehicles and renewable energy production.

ECONOMIC JUSTICE AND INFRASTRUCTURE

There is much debate over issues related to infrastructure and “economic justice”. That reflects the way that many roads, especially sections of the Interstate Highway System, were located and constructed in ways which impacted residents in those areas negatively. Whether through forced relocations in rights of way or the resulting divides between communities and neighborhoods, the result often left those impacted communities far worse off to the benefit of others.

The economic justice movement seeks to remedy this by forcing the issue to be factored significantly in any infrastructure plan. One of the issues often raised is the potential cost and difficulty associated with significant alterations to inner city segments of these roads. We are going to have a chance to see exactly what such a project will entail with the planned reconfiguration of I-81.

The State of New York has embarked upon the lengthy process of obtaining approvals to undertake a project which would remove 1.4 miles of elevated highway (built in 1969) cutting through the center of Syracuse, NY. The actual highway would be routed outside of the City itself and the viaduct would be replaced by a boulevard along the existing right of way.

Having matriculated at Syracuse University in the early 70’s I can speak to what an improvement in terms of overall access to all parts of downtown would result. I lived within two blocks of the highway and it was like a Berlin Wall existed between the adjacent neighborhood and the other side of the city. It hampered economic improvement for a long time.

Remedying the problem will not be cheap. The state budget includes $800 million — 40% of the project’s estimated $2 billion price tag — for I-81. The funding is from the state Department of Transportation’s capital plan. With the federal review process underway the project is already in position for federal funding for the bulk of the remaining costs including the demolition of the viaduct.

The project could serve as a template for future plans to replace infrastructure all over the country. Efforts to do this in NYC (the West Side Highway) and the Embarcadero in SF show that it can be done to good effect especially in terms of improving mobility and access. Those projects were born of necessity. This one  has moved to being a product of policy. It will be a significant test to see how these projects are financed and funded.

TRANSIT ISSUES CONVERGING IN NEW YORK

A combination of timing and circumstance are putting NYC at the center of the emerging debate over transportation and the role of private vehicles. It is a debate characterized by over the top passions and heated rhetoric. So we took a look at some data points we have seen lately and we see the potential for real clashes among visions and ideas.

For example, the upcoming primary elections in NYC have provided a platform to an entire range of ideas for changing day to day street activity patterns especially in  Manhattan. On one side are people who for a variety of valid reasons who truly need a private vehicle. This is especially true given the reality of the inaccessibility of the City mass transit system. Given the significant role of Manhattan as a medical center, this will be the case for a long time. On the other side are what can fairly be characterized as the anti-car crowd.

They would flat out ban individual private vehicles and put everyone on a bicycle through their entire life span. The want significant capital spending on bike infrastructure and to do it the expense of cars. But they want to fund mass transit through congestion pricing. You need cars to pay the fee so if that revenue does not materialize, how to pay for the infrastructure for other modes?

While the debate unfolds, several traffic trends are emerging. Mass transit patronage continues to significantly lag pre-pandemic levels. At the same time, the first ten days of April have seen the highest level of usage in an April on MTA bridges and tunnels since 2014. Registrations in the city for cars, trucks and other vehicles rose by 9% in December compared with the final month of 2019, according to the New York State Department of Motor Vehicles.

So what is a policymaker to do? It appears that the short run restoration of the economy supports maintaining as many points of access to the City as possible? Do the long limited businesses dependent upon suburbanites and tourists want to see any limits on access to their businesses? The inherent conflicts between peoples hopes and the realities on the ground seem clear. The City needs people to return and it needs to facilitate their return. Whatever the answer is, municipal bond issuers will be asked to accomplish them.

GREEN MUNICIPAL POWER IN OHIO

The Columbus Division of Power is a full-service, publicly owned electrical utility that provides power to industry, business and residential customers through its own distribution system in the City of Columbus, Ohio.  In November, 2020 the voters approved a ballot initiative which required the system to obtain its power from 100% renewable generation sources. The City put out a request for proposals and received four bids. It’s new supplier will begin delivering power on July 1.

It is a great example of how municipal utilities can take a leading role in the effort to decarbonize. The City has been a leader in the evolving transportation space with testing occurring right now of autonomous vehicles for public transit. Now it has reached an agreement with a renewable energy which will allow the City, initially through a combination of sourcing and energy credits, to meet the 100% renewable threshold.

PUERTO RICO

A private consortium is scheduled to take over the Puerto Rico Electric Power Authority’s (PREPA) transmission and distribution system and customer services on June 1.  As part of that process, the consortium had to submit a budget for review by regulators. The budget is reviewed to see if it reflects current rates and revenues. This week it was announced that the submitted budget was incomplete. The effort was part of a process that began last June whereby the transmission and distribution network management would be taken over.

As a part of the 15 year management agreement, the consortium must show how it can operate for at least the first three years without a rate increase to consumers. The utility regulators are charged with determining if that is indeed the case. The issue of rate increases is a “third rail” politically so the budget requirement is real. It is needed for the regulators to determine if services can actually deliver promised service improvements within the current PREPA rate structure.

Assured Guaranty (AGO) and National Public Finance Guarantee have announced an agreement in principal on the bonds from the Highway Authority and how to handle money the central government had “clawed back” from these authorities. The “claw back” provisions had long existed as an element of the ultimate security for the bonds but many investors saw the lack of previous use of these provisions as something to consider as more of a theoretical risk than a real financial risk.

To address that issue, the Commonwealth and the bond insurers reached an agreement that would provide holders of currently outstanding the Highways and Transportation Authority debt of $1.245 billion in current interest, capital appreciation, and convertible capital appreciation bonds and a cash payment of $389 million. Holders of Convention Center debt will receive $112 million in cash. The debt being offered to the HTA holders would have an average interest of 5.0% and maturity up to 40 years.

Effectively, the insurers are the bondholders and they have been paying out debt service on the bonds. Their loss is now reduced from some $4.6 billion of debt principal (and the interest thereon). It was sufficient enough to generate an agreement. The agreement covering these revenue bonds was an important component of the total Plan of Adjustment under consideration in the Commonwealth’s Title III proceedings.

This agreement creates a “Contingent Value Instrument” which is a mechanism to allow the insurer creditors to benefit from any outperformance of the agencies’ revenue streams. The agreement provides that If Sales and Use Tax collections exceed  totals projected by the May 2020 certified fiscal plan in years one through 22 the first $100 million of the better than expected revenues would go to holders of the GO bonds. The next $11.1 million would go to the creditors (the bond insurers) who were impacted by the clawback. After that $111.1 million of revenues is distributed, the clawback creditors (revenue bond holders) would get 10% of the available payment.

The real importance is that another hurdle has been overcome in the process of restructuring the Commonwealth’s debt.

STATES

The stimulus passed earlier this year continues to generate positive ratings trends for state general obligation credits. Connecticut is the latest beneficiary of this trend. It’s GO rating was upgraded to Aa3. Moody’s cites the accumulation of reserves and the better than expected fiscal results the state achieved through the pandemic. The same issues with the state economy and distribution of income and wealth in the State are still a negative issue as they were on the state’s journey downward on the ratings scale. Pension funding remains a significant issue for the State.

One of the other most challenged states when it comes to pensions is the Commonwealth of Kentucky. Recent legislation enacted in the Bluegrass State provides for changes in the state’s pension system for its teachers. The legislation creates a new tier of pension benefits for new employees. That tier will be granted a “hybrid” pension plan split between a defined contribution component and a defined contribution component. New employees of K-12 school districts and certain state universities will contribute 9% of their salaries toward defined-benefit pensions, 2% to a defined-contribution account and 3.75% for their retiree healthcare benefits, making a total contribution of 14.75%. Employers will make a total contribution of 13.75%.

Tiering of pensions has long been the practice in New York State. Say what you want about the Empire State but pension funding has always been a priority.

Tiering can get around the issue of limits on the ability of government to alter pension benefits. In many states, these benefits are constitutionally protected. Under a tiering system, existing employee benefits are not changed so there is no loss to existing employees. Objectively, it is a surprise that more states do not at least explore the potential for tiering. Leaving existing benefits in place makes for an easier discussion.

PRIVATIZED STUDENT HOUSING

The private student housing space has had a clearly mixed record in terms of their success financially. Initially, these transactions were a way for universities to expand their student housing base without incurring additional debt on their balance sheets. Many of these projects were located on land leased from universities. This led many investors to assume that additional financial support from host universities would be available in the event of financial underperformance at these facilities.

Various facilities have run into trouble financially even before the pandemic. For those facilities with weak finances, the pandemic and conversion to online learning put many of these facilities in danger of defaulting on debt. Universities have taken differing paths in terms of how they respond to these facilities and their debt problems.

One of the more aggressive adopters of the private student housing concept has been Texas A&M University. It has some 9 projects to provide student housing through private developers. They have been impacted to various degrees in terms of occupancy and revenues. Now, Texas A&M has decided that it was in their interest to purchase 6 of these projects on its campuses from the private developers. An agreement has provided an opportunity for A&M to use the current low rate environment to its advantage and issue taxable debt to be retired through the application of sale proceeds to the redemption of debt issued for the projects.

The purchase price of the six TAMUS properties was the amount needed to pay off the New Hope bonds plus interest and other accrued charges. The purchase was funded through the issuance of taxable debt the proceeds of which were applied to the purchase. The ability of traditionally tax exempt bond issuers to use taxable debt increased substantially especially in the last year as rates remained low enough to justify a taxable refunding. Without the ability to advance refund debt on a tax exempt basis, taxable debt is the most practical way to restructure debt.

This transaction is not indicative of a large scale move away from private student housing. In this case, the deal only included underperforming assets. This is reflected in the fact that A&M will continue its relationship with the developer at three additional operating dorms.

PREEMPTION

The move to allow states to preempt the right of local and county governments to regulate the use of natural gas in their jurisdictions continues. This week Iowa and Kansas became the latest states to enact laws to that effect. The Iowa Environmental Council and organizations representing cities and counties opposed the bill.

In Kansas, the Energy Choice Act has been enacted which says no Kansas municipality can put a ban on the use of natural gas. Interestingly, it was enacted without action by the Governor who was not required to sign the law. The bill passed with veto proof majorities. Given the role of Kansas as a major source of natural gas, opposition from industry was expected. It does complicate efforts to decarbonize at the local level.

It matters as a practical impediment to efforts to address climate change. For the municipal market, it creates issues for ESG investors . Policies which slow decarbonization from an ESG perspective should incur a borrower cost. As for preemption, there should be a price to be paid for the reduction of control through preemption. The whole point of issuing debt (mostly green bonds at present) as ESG debt is to receive a lower cost of borrowing so it makes sense that issuers covered by the kind of preemptive  under consideration (approximately 9 in other states) receive a higher borrowing cost if you are really trying to motivate policy.

When we get to that point, where universally accepted standards exist and investments can be made and valued on a less subjective basis, ESG investing will become a much more serious investment category. Without those standards, it will be cynically viewed as a marketing tool rather than a real difference making tool.

A further limit on the powers of a municipality to manage its finances is moving through the Texas Legislature. Senate Bill 23 passed by a vote of 28-2. If passed by the House, the bill would require that local governments “hold an election in accordance with this chapter if the municipality or county proposes to adopt a budget” that cuts police funding, allocates funding from one agency to another or reduces the number of police on a force. It is intended to be a firewall against the defund the police movement.

Given the significant role police costs play in terms of both current budget balance and the liability side for pensions balance sheet, the law presents a real limit on a municipality’s ability to manage what is often a significant expense item. The legislation was motivated by the City of Austin’s decision to reallocate city funds to different functions away from the police.

DEBT TO BAILOUT THE SOUTHWEST POWER DISASTER?

The Oklahoma Legislature is considering a bill to authorize the issuance of securitized debt to pay off the massive charges incurred as the result of the winter storm which hit the southwest at the end of February. The proposed legislation would rely on the issuance of bonds to pay off utility obligations. In return, consumers would see a tariff added to their monthly bills that could potentially last a decade. The utility would collect that charge from the consumer to repay the bond. The tariff is legally sacrosanct from bankruptcy.

It is a concept used by other utilities including large municipal bond issuers like the Long Island Power Authority in the taxable market. We will see if this becomes a viable alternative to the large Texas municipal systems if their efforts to lower charges through litigation do not bear fruit. The Oklahoma Corporation Commission’s public utility division, has stated that ahead of the winter storm the average Oklahoman paid $104.84 for their natural gas bill. Without any intervention by the state, their post-storm cost would balloon to $1,967.23 in the first month and about $1,230.83 a month for months two through eight.

The option would also be available to wholesale generation providers that sell power to municipal utility distributors, such as the Grand River Dam Authority, the 42 Oklahoma Municipal Power Authority members, and rural electric co-ops throughout the state.

In contrast, Colorado electric customers including municipal bond issuing school districts and distribution utilities are getting bills impacted by the massive power cost spikes. Utilities including the municipal utility in Colorado Springs are said to be seeking recovery of gas charges due to the storm over a two year period. The state is expected to conduct a significant investigation into the practices of the Colorado utilities in response to the storm.

One municipal was cited for a good response. Platte River Power Authority,  a municipal distributor serving Fort Collins and northern Colorado, handled a shortage in backup gas generation supplies by asking customers to turn down thermostats on Feb. 14. The power authority has said customers cut their demand enough that no blackouts were necessary. 

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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This week another state legalizes cannabis, a pond in Florida highlights a national problem, can nuclear energy be revived at an old WPPSS site, the NYS budget, NYC property values , a breather for the MTA credit, and Puerto Rico and Title III drags on.

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LEGAL CANNABIS IN NEW MEXICO

Pending the Governor’s expected signature, the legalization of cannabis for recreational use will make New Mexico the next state to do so. It joins New York and Virginia as other legislative adoptees of legislation legalizing recreational sale. Under the New Mexico law, people over 21 would be permitted to have up to two ounces of marijuana, and individuals could have six plants at home, or up to 12% per household. Sales would begin no later than April 2022 and be taxed at 12%, eventually rising to 18%, plus gross receipts taxes.

One major difference in the New Mexico legislation is that local governments are not allowed to ban cannabis businesses entirely (opt out provisions), as some other states have allowed. Municipalities could, however, use their local zoning authority to limit the number of retailers or their distance from schools, daycares or other cannabis businesses. Another difference is that the bill as amended includes language that would allow medical marijuana patients who are registered in other states to participates in other states to access.

From our standpoint, the states which have recently legalized cannabis have done it legislatively rather than by voter initiative. The Illinois legalization was a huge breakthrough in that regard. Once that was achieved, it made the effort to advance legislation supporting legalization that much more likely. No one remembers which state was the second to do anything.

PLUGGING A LEAK

As abandoned legacy industrial sites will become more common, the costs of environmental remediation will continue to pose threats to local budgets. The latest evidence  came on March 26, 2021, when the State of Florida received a report of process water bypassing the wastewater management system at the Piney Point facility, at a  former phosphate plant. The facility in Manatee County was releasing wastewater into Piney Point Creek which leads into Tampa Bay. The water being discharged from Piney Point is mixed sea water (primarily saltwater from the Port Manatee dredge project, mixed with legacy process water and storm water runoff/rainfall). 

Until this week, the reservoir storing the water was in danger of leaking at an increased rate which could eventually lead to a catastrophic flood in Manatee County. At the beginning of the week, Manatee County Public Safety officials expanded a mandatory evacuation area around the breached Piney Point reservoir. Between 2 and 3 million gallons per day of saltwater continued to flow out of the pond but the chances were increasing that a large section of the pond would wash away causing an uncontrolled release that would send as much as 380 million gallons of process water rushing out.

Wastewater storage, transport, and treatment are actually long standing environmental concerns at the site. Originally, the Borden Company (yup, Elsie the Cow) built a phosphate processing facility for the production of fertilizer. This is a significant industry in Florida. Process water is a chemical byproduct of phosphate mining that is rich in nitrogen, phosphorous and ammonia. Because those nutrients can affect local water quality, that water must be cleaned before it is released. The leaking pond contains untreated  water.

Central Florida has a large quantity of phosphate deposits which are weakly radioactive, and as such, the phosphogypsum by-product (in which the radionuclides are somewhat concentrated) is too radioactive to be used for most applications. As a result, there are about 1 billion tons of phosphogypsum stacked in 25 stacks in Florida. At least one of these stacks is in danger of collapsing which would trigger a huge spill at the Piney point pond. The site has been abandoned for nearly 20 years and natural rainfall and weather issues have accumulated some 400 gallons of water. The processing activities at the facility created significant piles of gypsum.

This week, the County finally was able to have enough water pumped out of the pond to sufficiently relieve the risk of a breach and flood. That does not mitigate the impact of threat 300 residential evacuations. (Those residents have returned.) The County did not offer government funded shelter but it did experience increased public safety costs associated with the evacuation of the county jail.

So here is one more environmental factor to consider in the analysis of local credits. As awareness of the issues grows, the potential for legacy private facilities (often abandoned) to present environmental risks which will eventually be funded by local government will continue to grow. In Michigan it was a private dam while in North Carolina it’s waste ponds for hog farm runoff, in the West its ponds full of mining tailings.  It is another important question to ask not just from an ESG perspective but a straight credit perspective as well.

NUCLEAR IN WASHINGTON STATE

It is some 38 years since the Washington Public Power Supply System (WPPSS) default on municipal bond debt issued to finance 2 of 5 nuclear generating facilities planned for the State of Washington. Since that default , the agency has been given a new name – Energy Northwest – and has moved on from the construction problems of the late 70’s and 80’s. It successfully regained market access and its debt today is rated at the mid AA level.

Now the agency is poised to try again in the development of new nuclear generating resources. X-energy, of Rockville, Md., has announced it will work with Energy Northwest to develop, build and operate an 80-megawatt reactor on land already leased by Energy Northwest at the Hanford nuclear reservation. The never completed WPPSS 4 reactor was to be built at Hanford.  

It could be the nation’s first commercial advanced nuclear power reactor. These reactors are built to higher safety specifications and have smaller generating capacities producing a smaller footprint. The plan would be to produce power to be sold to the Grant Public Utility District another long time municipal bond issuer. Power surplus to the District’s need could then be distributed through the regional Energy Northwest distribution grid.

While the project addresses many issues associated with the development of new nuclear generation as a way to achieve carbon neutrality, a shorter time frame for construction and commercial operation is not likely to result.  This plant is not anticipated to be online for seven years. This plant also benefits from the long history of acceptance of nuclear in the local TriCities area for both power generation and nuclear weapons purposes. This reduces the likelihood of opposition as the does the anticipated use of existing transmission lines.

That may limit the transferability of this project’s ultimate result for other projects in locations with fewer “pro-nuclear” advantages already in existence in the Hanford region. It is of note that each of the ongoing and proposed nuclear generation developments, they are all occurring at sites with some form of prior history with direct involvement with nuclear – either for power or for weaponry. 

NEW YORK BUDGET WILL TEST TAX THEORY

The NYS legislature has missed the April 1 deadline for adopting a budget as it seeks to increase income taxes. The political troubles faced by the Governor and a veto proof legislative majority put the legislature in the driver’s seat when it came to the FY 2021 budget. It’s what happens when one of the “three men in a room” is in a significantly weakened state.  The result is a budget filled with revenue raisers including legal cannabis and a millionaire’s tax.

The “temporary” tax increases would come through two new tax brackets. Income between $5 million and $25 million would be taxed at 10.3% and those making over $25 million would be taxed at 10.9%. The plan would raise the tax rate from 8.82% to 9.65% for single filers making more than $1 million. The process reflects the full impact of the 2018 election cycle in New York where tax policy had been moderated by a group of legislators who were essentially funded by the real estate industry. Now, many of those legislators were replaced and even though the Democrats had always had a numerical majority they now have a true working majority.

That election followed a 2016 tax cut. In 2021, the fourth year of those multi-year tax cuts enacted in 2016, income tax rates have been lowered from 6.09% to 5.97% for taxpayers filing jointly in the $43,000-$161,550 income bracket, and from 6.41% to 6.33% in the $161,550-$323,200 income bracket. 

Consistently over the years, tax rates have been identified as much less of a business factor in the decision process regarding business location. Any proposed tax increase is followed by predictions of mass evacuation of residents and businesses. Taxation is just one of many factors involved in that decision. One comment I saw put it best. “The only problem with working in Florida is that you have to live there.” The same factors which generated the recovery of the City of New York after the World Trade Center attack still hold. While business has by necessity become more tolerant of remote work, corporations still have issues with their desire to control their workforce and culture.

The conservative local media is already making turn out the lights references. There will be changes in the city economy and especially in the real estate market. The post 9/11 experience shows that one underestimates New York’s ability to recover at their own peril. The redeployment of existing space to residential along with supportive zoning in that period allowed development to thrive where many thought it could never occur. Keep the lights on, however. The tax increases are expected to affect 50,000 taxpayers while the cuts are projected to benefit $4.8 million.

PANDEMIC CASUALTIES – PROPERTY VALUES

The City of New York will now undertake its budget process for FY 22 in the wake of the completion of the state budget. That process will unfold in the face of the realities of the impact of the pandemic on the economy generally and on property values in NYC. Those realities are reflected in data developed by the NYC Independent Budget Office (IBO).

Anticipating major declines in rental income for commercial properties and residential apartment buildings as Covid-19 altered how and where people worked, the Department of Finance (DOF) sharply reduced the assessments that will be used for 2022 tax bills. As a result, IBO now forecasts a $1.0 billion decline in Real Property Tax (RPT) revenue from 2021 to 2022 , a decrease of 3.3 percent. In the last 25 years, the only other year when property tax revenue declined was in 1998, when revenue decreased by 2.8 percent.

IBO expects RPT growth to resume after 2022, although at a much slower pace than in recent years, averaging 1.8 percent annually in 2023 through 2025 to reach $31.5 billion. By way of comparison, annual growth in property tax revenue averaged 6.0 percent in 2017 through 2021. Much of the decline is not in the top level office and commercial space but in the lower classes of office space.

Some examples –  for elevator rental apartment buildings in Manhattan, the finance department projects a median decrease in buildings’ income used for 2021 to the income used for 2022 of 8.1 percent; for similar buildings in the other boroughs, DOF projected a median decline of 6.5 percent in income. Citywide, the declines in median income were larger for office, retail, hotel, warehouse/factory, and garage properties, ranging from -15.5 percent to -31.9 percent.

One thing to keep in mind is that once the assessment roll is finalized in late May, the resulting market values and assessed values are not subject to revision for 2022, even if different information about the commercial property market becomes available. Based on historical trends, IBO anticipates the final roll will show a 5.5 percent decrease in total market values, which would be only the third such decline in the last 25 years and a much larger decrease than the two previous instances.

COAL BY THE NUMBERS

A recent report from a group of environmental organizations supports our long held view that the decline of coal is inevitable simply from an economic standpoint. We believe that the market is dictating the future of coal. Nothing makes that clearer than the reality of what occurred during perhaps the most coal-friendly federal administration in decades. Coal’s long-term decline in the U.S. accelerated during the Trump Administration, with retirements rising to 52.4 GW during Trump’s four years compared to 48.9 GW during Obama’s second term.

One-third of currently operating coal power in the U.S.(76.6 GW of 233.6 GW) is scheduled for retirement by 2035. An additional 13.2 GW is scheduled for retirement between 2036–2040, while 141.1 GW of operating plants currently lack retirement dates. The 233.6 GW of coal fired generating capacity is second only to China in terms of its coal generating capacity. So there is still a lot of room for increased closures and the pressure will continue. Going forward, coal will become an issue which can be dealt with along with the market or we can revert to the recent prior administrations effort to work in opposition to the market. 

For those against a market approach, there is Wyoming. Wyoming Governor Mark Gordon signed HB 207 which creates a $1.2 million legal-defense fund to sue other states whose laws “impede” the top coal-producing state’s ability to export coal or that cause the early retirement of its coal-fired power plants. It says that laws by other states that encourage their transition to “other forms of energy … may impermissibly burden interstate commerce and may be contrary to federal law regulating the wholesale sale and transmission of electric energy in interstate commerce.”

MTA STIMULUS REVENUES AND RATINGS

We are getting more evidence of the potential credit benefits of the huge federal stimulus. The injection of such a high level of liquidity has substantially reduced the near term risks from revenue shortfalls related to the pandemic. That increased flexibility is steadily influencing ratings in a positive way.

The latest example is New York’s MTA. This week, Moody’s has affirmed its A3 rating on the Metropolitan Transportation Authority, NY’s (MTA) Transportation Revenue Bonds. The big news was that the rating outlook has been revised to stable from negative. The revision of the outlook to stable reflects the significant improvement in MTA’s budget flexibility and liquidity position for the next 18-24 months, due to its receipt of substantial federal aid for corona virus relief and recovery. 

Moody’s rightly notes that significant issues will remain after that time including an expected slow recovery of ridership and the fact that the timing and future borrowing for the adopted $55 billion 2020-2024 capital program is still being determined. The near term liquidity has come, in part, with a significant increase in leverage at the Authority. Now the credit has some breathing room to adapt to changes in demand. These will be issues not only of capacity but also of timing. It seems that the pandemic has reduced rush hour concentrations of demand but these have created differing time of day levels of demand. This will alter the historic pattern of utilization and upkeep of rolling stock. 

The improved outlook for the MTA helped the outlook for the Triborough Bridge and Tunnel Authority as well. That credit saw its outlook moved to stable from negative to reflect the significant improvement in MTA’s budget flexibility and liquidity position for the next 18-24 months, due to its receipt of substantial federal aid for corona virus relief and recovery. This reduces the near-term likelihood the MTA will use TBTA liquidity to support mass transit.

As of January 2021, traffic was down only 17.2% and revenue 11.0% down from the prior year. This recovery is faster than both the moderate and fast scenarios contemplated within the McKinsey analysis released by the MTA in May 2020, and revenue is more than 80% better than the TBTA’s budget adopted in the July 2020 financial plan. e went into effect

In addition to that recovery in utilization, a toll increase went into effect we went to press. This will generate further revenues to back transfers to the MTA as operating subsidies.

PUERTO RICO

The Puerto Rico Oversight Board  is ready to revive litigation involving so-called “claw back” debt issued by the Highways and Transportation Authority, Puerto Rico Infrastructure and Finance Authority rum bonds, and Convention Center District Authority bonds. The HTA has about $4.17 billion of revenue bonds outstanding. PRIFA has about $1.8 billion of rum tax bonds outstanding. The CCDA has about $410 million of revenue bonds outstanding. Bondholders are seeking to have the Commonwealth forced to apply tax revenues from those operations to the debt of the three agencies rather than to fund general Commonwealth operations.

The Plan Support Agreement (PSA) covers the General Obligation and Public Building Authority debt. As the PSA needs 70% support to continue and the bond insurers have voting rights on 15 percentage points, getting the involved bond insurers on board with the PSA will be important to approval of the Plan. Approval of the PSA is necessary for adoption of the wider plan of adjustment. Other bondholders of subordinate Puerto Rico Sales Tax Finance Corp. (COFINA) bonds have filed a 208 page petition for a writ of certiorari to the U.S. Supreme Court of the decision by the First Circuit Appeals Court against their challenge to the COFINA bond restructuring. 

A number of procedural steps remain as the Title III process crawls to the finish line.

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 INFRASTRUCTURE BATTLE BEGINS

The great infrastructure battle of the 21st century is about to commence with the formal release of the Biden Administration’s infrastructure plan. It begins in an environment where the need to refurbish, replace, and reimagine infrastructure is clear. This should generate widespread support. The problem is that because of the realities of Senate politics, too many other issues are going to become wrapped up in issues with significant non-financial goals and outcomes because of the need to rely on one last reconciliation process to pass any infrastructure bill.

It is impossible to separate the funding aspects of the bill from the policy goals of the bill. It is clear that the bill will attempt to rely on hikes in corporate income taxes and the estate tax. The Transportation Secretary however, has taken increased gas taxes and/or a mileage tax off the table. He’s blaming rural concerns about the reliance upon driving long distances creating imbalances in the impact of any potential higher tax rates. We feel that taking those items off the table is a mistake, especially since a vehicle mileage tax does have some bipartisan support.

As opposed to prior efforts, the bill is already entangled in issues like economic justice, environmental justice, reparative justice, racism, and class. The tax battle will be at the core of passage. There will be policy debates – on taxes, subsidies, environmental, the anti-car crowd, and energy aplenty. That is to be expected. We foresee trouble with shifting the cost of these physical projects from the use of the projects to instead become an instrument for income and wealth redistribution.

An infrastructure bill can be hugely transformational and there will be portions of this bill which will be. Electric charging and universal broadband can both be accomplished through some existing structures where the issue has been as much about cost and funding as opposed to nonfinancial issues. A federal investment will address much of the cost issue. What will be harder is the balance between the many competing interests which are already becoming manifest.

Among them are: is it an infrastructure bill or a tax bill? Can a transportation bill be compatible with environmental goals and economic justice? We have already seen labor opposition to coal generation closures and limits on fossil fuel extraction industries. Opposition to expanded infrastructure often pits the interests of construction workers and other skilled and unskilled workers against those of opponents of a given project. In the end, people on both sides are often worse off. 

NEBRASKA PUBLIC POWER DISTRICT

The Nebraska Public Power District (NPPD) hired Ascend Analytics and Siemens to study the potential impact of any future regulation of carbon on the utility’s operations and finances. The results of that effort were released this week and the findings bode well for efforts by utilities to reduce their carbon footprint.

The study found that the utility could significantly reduce its exposure to such policies without burdening customers with severe rate hikes.  Ascend’s study said that if wholesale power prices continue to fall, the utility likely could cut its carbon emissions by 90% without any added expense. Siemens estimates that the utility could, for example, chop its carbon intensity in half by 2030 and by 80% by 2050 while increasing rates to its utility and municipal customers by no more than the rate of inflation.

Both studies show, that like previous efforts to control pollution in the water and sewer space that the last segment of any such cleanup is the most expensive relative to the reduction in pollution achieved.  Siemens’ models recommends closing the 1,365-megawatt Gerald Gentleman Station (coal fired)  before 2036. However, it said that attaining 100% clean energy might require relicensing the Cooper Nuclear Station, a costly proposition. Both studies recommend closing the 225-megawatt coal-fired Sheldon Station early or converting it to operate on natural gas.

Now for the qualifiers. The Ascend study reflects assumptions of a continued and persistent fall in the cost of power, mostly due to the addition of solar and wind generation, very cheap because they require no fuel.  Both the Ascend and Siemens studies call for at least one of nuclear, natural gas, or batteries as a source of carbon free power.

MICROGRIDS

The Poudre Valley Electric Association (PVREA) plans to test a microgrid for a small town in its northern Colorado service area. Red Feather Lakes  is a town of 400 some 8,000 feet up in the Rockies which is vulnerable to outages resulting from weather and damages to the one transmission line bringing power into town. In an effort to improve resilience and reliability, the town is now working on developing Red Feather Lakes its own source of power less dependent upon the one line.

The Poudre Valley project is one of four microgrids involving five rural electric cooperatives that are receiving funding from the National Rural Electric Cooperative Association and the US Department of Energy. The others are in South Dakota, and North Carolina. The key to the Poudre Valley microgrid is the increasing availability of battery technology.

This grid will use a Tesla Powerpack battery to store power to serve initially as a backup at some city facilities. This test will provide for the battery to be connected to the utility system as a whole.  The city has done similar things with solar power installations on some city facilities and the perceived success of that project has generated support for this effort.

Parlier, a small city in Fresno County, has some 15,000 residents spread among 4,000 households. They are currently customers of PG&E. Now in the face of risks to the local distribution system, the City is embarking on a program to install residential solar for its customers.

The program is being paid for by investors that also accrue state and federal incentives based on solar installations, such as California’s Self-Generation Incentive Program and the federal investment tax credit (ITC). The investors are also responsible for keeping the systems maintained, generating and feeding power into the grid, since that’s how they will themselves be remunerated. A 20 year power purchase agreement secures the investment in the equipment with customers scheduled to pay monthly bills for their solar from the city and then a smaller bill to PG&E to cover any electricity demand not met by their PV system.

Each installation includes a solar PV system with battery storage, an LED lighting retrofit and other energy efficiency equipment. After 20 years, ownership of the system transfers over to the homeowner.

SANTEE COOPER SOLAR PROJECT

The South Carolina Public Service Authority (Santee Cooper) has gotten its share of bad press in recent times primarily revolving around its participation in the expansion of a nuclear generating plant. The resulting problems related to that investment have led to the State considering the sale of the state agency among other steps.

So now we can see the agency in a somewhat more positive light. We have advocated for municipal utilities taking the lead in clean energy and renewable investments. So we view with interest an announcement that the 98 MW Centerfield Solar project in the northern part of the state reached commercial operation status. The privately developed and financed project will deliver electricity to Santee Cooper under a long-term power purchase agreement. It puts the municipal utility in a better position than a competing investor owned utility.

Dominion is one of the potential buyer/operators of Santee Cooper if it is sold. Dominion has committed to shuttering its entire coal fleet in South Carolina by 2030 and adding as much as 2 GW of solar and up to 900 MW of battery storage, the first project isn’t expected to enter service until 2026, and the additions are set to come in 50-100 MW annual increments over 20 years.

PANDEMIC PRESSURES CONTINUE FOR TRANSIT

The Illinois Economic Policy Institute released a study of the impact of the COVID 19 pandemic on transportation in Illinois. Following Illinois’ stay-at-home order, traffic volumes were most impacted in March and April of 2020, with April experiencing a 40% drop in total vehicle travel compared to the same month in 2019. Vehicular traffic has recovered since April but still averaged a 15% year-over-year reduction in travel.

Transit similarly experienced massive ridership drops in April and May 2020, with reductions between 68% for Chicago Transit Authority (CTA) buses and 100% for Metra rail. For June through December 2020, year-over-year ridership declines remained 50%-60% for bus services, 77% for CTA Rail, and 89% for Metra.

The motor fuel tax (MFT), the most significant source of transportation funding in Illinois, lost $308 million over the 11-month period between April 2020 and February 2021 due to COVID-19. Of the $308 million in lost MFT revenue, $151 million would have been distributed to the state, $30 million would have funded transit agencies, and $126 million would have gone to local governments. Local sales taxes generated $96 million less for the Regional Transportation Authority (RTA) between March and November 2020 compared with the year prior. Collective farebox revenue from the CTA, Pace, and Metra generated $645 million less in 2020 compared to 2019; 69% less for Metra, 62% less for CTA, and 50% less for Pace.

Not all of this will be made up if new commuting patterns hold. A U.S. Census Bureau survey indicates that 35% of Illinois workers who were working at an employment site prior to COVID-19 are now working from home as of February 2021. Changing travel patterns have impacted traditional commute times, with data showing Chicago’s morning commute has declined, while midday hours experienced increased traffic.

Similar patterns are emerging across the country. It is clear that in terms of office occupancy, status quo will likely never return. The implications for commercial real estate values and tax generation potential are significant. Those impacts will manifest themselves in increased appeals of valuations, increased delinquencies, and likely lower valuations.

STIMULUS QUICKLY PAYS OFF

Yet another example of the salutary effects of the American Rescue Plan is the improved outlook for credits buoyed by the Act’s injection of liquidity to issuers balance sheets. The clearest and most recent example is the improved ratings outlook for the State of Illinois. Moody’s and Standard and poor’s both shifted their outlooks for Illinois’ general obligation bond ratings to stable. This relieves the immediate pressure on the state’s ability to remain an investment grade borrower.

Illinois received $7.5 billion under the legislation for the state itself. Chicago and Cook County received substantial monies as well. For a group of credits like these which largely share problems and tax bases, the impact of the shot of funding comes at an especially critical time for the state and its major local credits. For the state, the cash lessens the immediate sting of the failure at the 2020 ballot box of the graduated income tax.

It is not a panacea but the state does face a less turbulent atmosphere in which to make its effort to stabilize the state fisc. Clearly the outlook changes improve the state’s credit but it remains a long way from being a real upgrade candidate.

WIND – THE OTHER RENEWABLE

The change in administrations in Washington has had clear impacts on the outlook for fuller adoption of solar and wind power. The new attitudes are reflected in the Biden administration plan announced this week to designate an area between Long Island and New Jersey as a priority offshore wind zone and set a goal of installing 30,000 megawatts of offshore wind turbines in coastal waters nationwide by 2030, generating enough clean electricity to power 10 million homes. 

This follows actions in support of Vineyard Wind, a proposal for 84 large turbines with 800 megawatts of electric generating capacity slated to come online by 2023. We have previously covered the proposed project. It withdrew its environmental review data when the Trump administration slow walked the approval process. A proposal was resubmitted has now been approved. It would result in the construction of the nation’s largest offshore wind generation project to date.

The administration said it would accelerate permitting for proposed wind projects off the Atlantic coast, offer $3 billion in federal loan guarantees for offshore wind projects and upgrade the nation’s ports to support wind construction. Some local ports are already using tax exempt financing to undertake port upgrades for the renewable generation industry.

A National Bureau of economic research paper from 2020 examined the issue of “green jobs”. “The effect of environmental policy on employment is still hotly debated and polarized, with advocates on both sides ignoring or exaggerating the labor market costs and benefits of environmental regulations. Advocates of stronger environmental policies argue that such policies create high-paying “green jobs”, while critics point to the job losses in energy-intensive industries that they are sure will follow.

Previous literature finds that net effect of environmental policies on employment is small especially when general equilibrium effects and offsetting mechanisms are accounted for. However, other studies find job losses concentrated in polluting industries and among unskilled workers. Adverse impacts on manual labor are of particular concern for policy-makers, given the secular decline in their employability and wages driven by automation and globalization.

THE NUMBERS BEHIND PENSION FUNDING

The actuary for the pension funds covering New York City’s employees has recommended a series of changes in the assumptions used to calculate the City’s unfunded pension liability and the level of actuarially required contributions (ARC). The City’s Independent Budget Office recently released an analysis of the proposed changes and what they might mean for the City’s budget in the future. The report gives real insight into the implication of the funding choices the City makes and provides a good summary of the issues facing any pension manager.

Included in the current package of changes proposed by the Actuary is a reduction in the NYCRS assumed rate of inflation. This action on its own would greatly increase the size of employer pension contributions across the financial plan period. the Actuarial Interest Rate (AIR). The AIR is the rate the Actuary uses when calculating the cost of future pension benefits in current dollars; it is also the assumed rate of return on the pension funds’ investments. Currently, the assumed rate of return for pension investments is set at 7.0 percent, comprised of a 2.5 percent rate of inflation and a 4.5 percent increase in real (inflation-adjusted) returns.

Changes in the AIR would have significant implications for the City. According to the most recent Comprehensive Annual Financial Report, reducing the AIR by 1.0 percentage point to 6.0 percent annually would increase the city’s share of unfunded pension liabilities from $46.4 billion to $70.4 billion—over a 50 percent increase in the amount owed. The proposed reduction in the assumed inflation rate would reduce the NYCRS assumptions of annual employee salary increases from 3.0 percent to 2.8 percent, and growth in retiree COLAs from 1.5 percent to 1.3 percent per year. This assumption of slower growth in wages and living costs has the effect of slowing the growth of future benefits and thus lowering the city’s pension liabilities.

Put all of those factors into the equation and the Actuary’s pension assumption changes would have an immediate impact on the cost to the city and the affiliated employers. For the city, the net effect of these changes would reduce its current year pension contribution by $430.0 million, the 2022 contribution by $330.5 million, and the 2023 contribution by $65.1 million. The net effect of these changes reverses in future years, with the city’s 2024 and 2025 pension contributions increasing by $357.5 million and $443.5 million, respectively.

ANOTHER PRIVATE COLLEGE CLOSURE

The private college space, especially for smaller liberal arts colleges has been under pressure for some time. The pandemic certainly has added unique pressures to institutions with unique niches. Mills College in Oakland, CA has since 1852 certainly fit into that category. Now, the Mills College Board of Trustees has decided that after fall 2021, Mills will no longer enroll new first-year undergraduate students. It will focus resources on building degree pathways for its remaining students, and will supporting the new first-year undergraduate, transfer, and graduate students who still decide to matriculate this fall. Mills will most likely confer its final degrees in 2023, pending further consideration and action by the Board of Trustees.

Like many other smaller liberal arts schools, Mills’ finances have been in decline for over a decade. In the late teens, layoffs including tenured faculty occurred. The school was already selling assets like manuscripts in an effort to raise cash. It’s narrow and unique appeal that served it well over many years now no longer works as well when the cost is over $50 K annually.

SOUTHERN COMFORT

Virginia is poised to become the first former Confederate state to legalize marijuana.  The governor has weighed in with proposed changes to a bill passed by the Commonwealth’s General Assembly. That bill would legalize cannabis possession beginning July 1, 2024. Among the changes from the Governor is one which would authorize legalization to begin this July, 2021.

The General Assembly will take up the proposals when it reconvenes April 7 for a one-day session to consider any vetoes or amendments the Governor  proposed to this year’s legislation. A regulated consumer industry would not begin until 2024, and several aspects regarding reclassifying drug- and alcohol-related crimes face a requirement that they must be voted on again next year by the General Assembly.

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.