Joseph Krist

Publisher

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The increasingly partisan approach to the fiscal damage done to state and local budgets as the result of the pandemic is at best, disappointing. While politics have always been one of the elements to be evaluated in the successful analysis of municipal credit, partisanship is another story. What we are seeing now is ideology, not practicality. The impact on the economy is clear at 30 million new unemployed. The numbers are bound to increase as even tech based companies like Uber and TripAdvisor are seen to be ready to announce layoffs. That’s in addition to the expected wave of unpaid commercial rent from many of the companies laying off staff. and from retail outlets with few or no customers. These things are happening in a variety of states led by both Democrats and Republicans.

One  good example is the pension funding red herring thrown out there by the Senate Majority Leader. and the White House.  Kentucky has the worst funding ratio among any of the states. At the same time, New York has one of the five best funding ratios. Yes, Illinois, Connecticut, and New Jersey have pension problems but what they have in common is their relative bipartisan history in terms of who held the Governorships. How many downgrades did New Jersey suffer during Chris Christie’s tenure? counting isn’t constructive but the point is that pension funding is a national problem not a partisan problem. It’s also fair to note that a federal entity, the Pension Benefit Guaranty Board exists to bail out pensioners from poorly managed corporations. But not governments?

The discussion during the effort to save the economy from the pandemic is beyond a distraction. It is an impediment to the realization of the goals held on either side of the partisan debate. And it is bad for the process of shoring up state and local credits which have done the majority of the work on the pandemic. It is clear that there is no consensus in support of state bankruptcy.

Now, the President is refusing to extend the federal guidelines regarding things like social distancing .So it’s clear that the attack on state and local government finances is on in earnest. Hit to revenues because you didn’t open as fast as another? That was your fault. More people on unemployment because it’s not safe to return to work? Yup, the states fault. This, as just this week the medical professionals messaged that social distancing must continue for months. The implication is that recovery to the status quo is a few quarters away. Our views are based on the belief that the reality is that a  vaccine will be the answer to the pandemic and a full return to the status quo. That cannot be rushed and it must be safely effective which takes longer. In the interim, a return to 90% of where the economy was might be a good norm to assume as you do your near term forward analysis of the next two to four fiscal years.

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POST PANDEMIC MUNIS.

We are seeing much speculation as to the impact of the pandemic on the US economy and way of life. Much of this commentary is about the future of cities and whether one result will be a paradigm shift in how people locate themselves in relation to where and how they work. Many of the ideas being advanced would require major alterations to the way municipalities are run. There seems to be an assumption that the resulting changes in demand for capital projects would be accommodated easily in spite of the potential changes to how revenues are generated.

One example is the assumption that the responses to the pandemic which have been salutary can be maintained in the context of a restoration of a fully functioning economy. We would remind everyone that there are significant vested interests in returning to something like the ways of life we had going in. The post-pandemic era will not necessarily feature a return to the status quo but it will not be one without large gatherings, mass transit, or private vehicles.  None of the major population centers of the US in 1918-1919 experienced a slowdown in growth. We believe that this will be the case again.

We are seeing much speculation as to the impact of the pandemic on the US economy and way of life. Much of this commentary is about the future of cities and whether one result will be a paradigm shift in how people locate themselves in relation to where and how they work. Many of the ideas being advanced would require major alterations to the way municipalities are run. There seems to be an assumption that the resulting changes in demand for capital projects would be accommodated easily in spite of the potential changes to how revenues are generated.

Mass transit presents a significant issue. Now, the lack of cars and essentially any transportation is being treated as if it is a sustainable long term plan for cities. At the same time, the micro mobility industry is already feeling the pain of pandemic restrictions on movement. Bird, a major e scooter provider has laid off nearly one-third of its direct staff. in a business which has yet to generate profits while relying on regular outside cash infusions, expenses are just not tolerable without operating revenue. Much has been made about the improvements in noise and air pollution underway in the major cities. That improvement, at the expense of a functioning economy and education system, is sparking much thought about cities and transit in the post-pandemic era.

One thing which will not be viable is the approach to urban transit planning taken by the micro mobility industry. ‘We shouldn’t have to pay a city, the city should be paying us” is an attitude attributable to an executive at Bird, the scooter provider. If that is the underpinning of the sector’s business model going forward, it’s not going to work. All of the new modalities will be tested for their full public revenue potential under the economic circumstances of the next couple of years. That will be driven by necessity based on the significant revenue hit municipal credits have faced.

Already the outlook for congestion pricing taking effect as scheduled in Manhattan is waning. The troubles of the MTA (see more later) are likely to become an impediment to a shift away from private vehicles. The capital cost and operating/maintenance cost of new facilities such as protected bike lanes will be more of a burden relative to available resources. It will be in the system’s financial interest to drive as much demand as possible for mass transit services. A sort of policy triage will result that will act to limit the ability of states and cities to fund substantial additional infrastructure. Those facilities which can be produced at the least cost to benefit the most people will be undertaken and others will become delayed or unaffordable luxuries.

There will have been an existing economic infrastructure which will have many interests supporting its rapid restoration. Sports, entertainment, and cultural institutions will not simply disappear. They will still retain their places as significant drivers of economic activity. Look back at the 1918-1919 pandemic and see what followed as the nation moved beyond the limits it imposed. Some of the nation’s most iconic sports venues – Yankee Stadium, the Rose Bowl and the Los Angeles Coliseum, Chicago Stadium, and Madison Square Garden were all constructed and put into operation within the ten years after the pandemic. In New York, active planning and construction of the independent subway system took place throughout the decade of the 20’s.

The point is that mass gatherings not only resumed but thrived and were supported by significant capital investment in facilities to support them. We believe that large events will return and that they will regain their role as drivers of economic activity. We believe that people will want to return to restaurant and drinking venues. They will need to be able to get to them. One of the issues which the economic restrictions has highlighted is the difficult straits in which major public transit agencies find themselves. The MTA in New York is carrying something between 5-10% of its normal load.

The decrease has impacted revenues but has also damaged the non-fare tax and spending base. This creates a serious problem as the same forces impacting the revenue base will also impact the capital finance base on which the maintenance and expansion is reliant. It is ironic that as the MTA was poised to complete the northern portion of the 2nd Avenue Subway, it faced a situation very similar to the one which prevented the construction from 125th Street south in the early 1970’s – the dire fiscal straits of the state and city.  

MTA

New York’s Metropolitan Transportation Authority is in the process of trying to sell some $670 million of its core financing credit, the Transportation Revenue credit backed by fares. The offering gives us a chance to quantify the impact of the pandemic and its socialization restrictions on the Authority’s finances. The official statement for the offering provides us with hard data on ridership and utilization.

As of the beginning of April, ridership on the subways was down 91%. The bus system saw even greater declines at 98%. The commuter railroads have also seen declines of 98%.  The resulting revenue losses will be brutal. Traffic on the bridges and tunnels operated by the MTA and its subsidiaries is down by two thirds. The revenue impact in terms of lost revenues is $142 million a week. Over a full fiscal year, that comes to $7.4 billion. On top of that, MTA relies on state and local subsidies totaling some $6.4 billion.

The impact on the capital program is clear. MTA has for now halted the award of new Capital Plan construction or consulting contracts. It has also suspended the solicitation of bids for contracts. At the same time, the CARES Act is projected by the MTA to generate about $4 billion to the agency. The MTA also expects funding outside of the CARES Act from FEMA to cover costs for things like sanitizing  and safety equipment for MTA workers. While there is no local matching effort required for the receipt of CARES Act funding, the state has nonetheless taken a variety of steps to help the MTA through this period. The budget for the FY beginning April1 includes a significant increase in the borrowing authority of the MTA. It also loosens restrictions on the use of revenues derived from congestion pricing. The budget also obligates the City of New York to increase its share of the cost of paratransit services supplied by the MTA to city residents.

 ECONOMIC OUTLOOK FACING THE STATES

The Congressional Budget Office (CBO) has developed preliminary projections of key economic variables through the end of calendar year 2021. Inflation-adjusted gross domestic product (real GDP) is expected to decline by about 12% during the second quarter, equivalent to a decline at an annual rate of 40% for that quarter. The unemployment rate is expected to average close to 14% during the second quarter. Interest rates on 3-month Treasury bills and 10-year Treasury notes are expected to average 0.1 percent and 0.6 percent, respectively, during that quarter.

In 2021, real GDP is projected to grow by 2.8 percent, on a fourth-quarter-to-fourth-quarter basis. Under that projection, real GDP at the end of 2021 would be 6.7 % below what CBO projected for that quarter in its economic outlook produced in January 2020. The labor force participation rate is projected to decline from 63.2 % in the first quarter of this year to 59.8 % in the third quarter. The unemployment rate at the end of 2021 would be about 6 percentage points higher than the rate in CBO’s economic projection produced in January 2020, and the labor force would have about 6 million fewer people.

LIQUIDITY FOR MUNICIPALS

The Federal Reserve has broadened eligibility for the Municipal Liquidity Facility to let more local governments participate. The central bank has lowered the population requirement to 250,000 from 1 million for cities and to 500,000 from 2 million for counties and plans to buy as much as $500 billion in short-term notes issued by states. The Fed has also expanded the duration of debt it will purchase to three years from two. More than 200 municipalities are eligible to participate. While welcome, the program leaves out a significant portion of the short term municipal borrowing universe.

New Jersey has announced a plan to fill some of the void. The New Jersey Infrastructure Bank (I-Bank) will have available $50 million to provide liquidity for municipalities in New Jersey that experience difficulty rolling over BANs. There will be sector, issue, and credit limits, interest rate guidelines, and a maturity limit of 90 days for any BAN submitted for consideration. While the $50 million looks small in comparison to the levels of federal support, it will  support smaller borrowers where they do not meet the test for federal liquidity assistance.

New Jersey’s I-Bank has amended its investment policy to permit it to invest in local government unit BANs in certain circumstances. The BAN purchase program is a limited and specialized resource made available only to participants in I-Bank associated financing programs to address failed sales occurring during BAN rollovers. This program is designed to ensure solvency and fiscal stability for New Jersey’s local government units, providing protection against potential defaults during the present liquidity crisis.

VIRUS ECONOMIC FOOTPRINTS BEGIN TO EMERGE

The data on urban surface transit ridership has been clearly and sharply lower inflicting significant short term damage on the financers of these systems and credits. Now we begin to see data on the impact of the overwhelming drop in aviation passenger traffic. Las Vegas’ McCarran International Airport serviced 53 % fewer flights in March of this year than it did in March 2019. 2.3 million fewer travelers boarded flights last month. Southwest Airlines, the dominant carrier at the airport, serviced 1.6 million Las Vegas flyers in March 2019. This March, that number dropped to around 600,000 passengers. McCarran International Airport completely shuttered two of its concourses in early April.

State departments of transportation are experiencing significant drops in revenues as the lack of driving has driven down demand for gasoline. The result is that there is significantly less revenue from fuel taxes available to fund projects. The lack of gas revenues has overtaken the impact of social distancing measures on the ability of these departments to execute their projects. The American Association of State Highway and Transportation Officials, or AASHTO, estimates state transportation departments will lose $50 billion in expected revenue over the next 18 months.

States including North Carolina, Ohio, Oklahoma and Pennsylvania are already cutting projects or furloughing workers ahead of revenue shortfalls. Recently, the director of the MO Department (MO DOT)outlined the scope of his state’s dilemma. MoDOT expects to lose 30% of its expected revenue over the next 18 months, about $925 million. According to the MO DOT director, Missouri would lose the ability to draw down $2.1 billion in federal funds for construction projects without those tax revenues or additional federal aid. Added to a loss of $530 million in state funds, the state wouldn’t be able to award $2.6 billion of the $4.9 billion in construction projects it planned through 2025. “To put this into perspective, that would equate to approximately 400 bridges and 20,000 lane miles of Missouri roadways NOT being repaired that are in our current plan.” 

The North Carolina Department of Transportation says that the traffic volume falloff is projected to cause at least a $300 million budget shortfall for the agency in its current fiscal year, which ends June 30. The Washington State Department of Transportation expects a loss of revenue of as much as $100 million per month; approximately 38 % of its average monthly transportation revenue collections.

The City of San Francisco has shown how the pandemic and its demands on resources can and will alter normal operational practices. As a result of the pandemic, SF will present and consider a balanced interim budget before July 1. A full budget will not be presented until August 1 and that budget will be considered over a period not to go beyond October 1. The August plan will cover the two fiscal year period ending June 30, 2021. The City entered the pandemic with reserve of some $740 million but these will quickly be absorbed by the to date impacts on the local economy and tax base for the tourism dependent city. The city estimates that tax revenues will experience a negative imp[act relative to budgeted amounts of between $225 and $575 million depending on the exact timing and magnitude of any economic recovery.

The City’s disclosure – something for which they deserve real credit – highlights another problem facing government at all levels. That is pensions. We have written about the country’s public pension problem and its has been at the center of general obligation analysis for some time. The City points out the problem faced by so many pension funds face. The plan assumes an annual rate of return of 7.4% on its pension investments. Through February, the city’s return was 3%. That was before the equity markets got crushed. Where similar experiences occur and they will,  the low returns will require higher current funding to maintain efforts to more fully fund pensions.

The phenomenon is clear across the country. This is not the fault of the pensioners. It isn’t really the fault of fund managers. It’s a black swan event that nonetheless has done some real damage. The language coming out of the President and the Senate Majority Leader casting the present situation confronting their states as something to assign fault about is not helpful. It only obscures the lack of understanding the Administration and its Congressional allies have of basic tenets of municipal finance and credit. The casting of the current situation in partisan terms only weakens the ability of the federal government to respond constructively.

I would be remiss if I did not reference the news that the Department of Health and Human Services, in its haste to get money out, distributed grants of some $50 billion to closed hospitals. The distribution relied on Medicare reimbursement data for fiscal 2019 which ended on September 30. ” If an institution is closed and their bank account is also closed, the funds are automatically returned,” a HHS spokesperson said. The glass is apparently half full.

TECHNOLOGICAL CHANGE AND THE PANDEMIC

Two items caught our eye this week as the longer term impacts of the pandemic begin to emerge. They have real implications on the process of deciding if and how to develop public infrastructure in an era of technological change. The first was the announcement that Ford Motor Co. was stepping back from its relationship with electric vehicle developer Rivian. Ford had invested $500 million in Rivian which was helping to develop an electric Lincoln model. Ford said it is still making preparations to launch the Mustang Mach-E, a flagship electric vehicle. Nevertheless, the economic decline in the first half of this year has and will damage the environment for new vehicle development.

The second comes in a series of regulatory filings from the state’s major utilities, electric automakers, EV charging providers and New York City’s transit agency. The state’s Department of Public Service in January, released a plan which would put utilities in charge of identifying the best sites for building new chargers and upgrading nearby grid infrastructure. Most of the costs associated with the preparations, meanwhile, would be covered by new incentives. Currently, the state is providing $580 million in incentives for such development. In light of the economy, these entities are looking for more from a state which finds itself in a serious financial crunch of its own. The six New York power utilities in a joint filing said that the charger plan’s incentives should be expanded to cover 100% of the costs associated with preparing the grid to accommodate the new stations. 

The state committed in 2013 to registering 850,000 electric cars by 2025 — up from fewer than 50,000 at present. By midcentury, the state wants to phase out gas car sales entirely. Transit agencies also have new mandates for converting buses and fleet vehicles to electric models. By 2025, five county agencies in upstate and suburban New York must electrify a quarter of their fleet and finish that conversion by 2035, in accordance with an executive order by the governor in January. New York City’s buses are slated to go all-electric five years later.

This just one example of why it might have been good that municipalities  did not run headlong into massive adoption of tech based infrastructure. We are seeing increasing examples of companies pulling back from office based models to integrated models of employment with a heavy emphasis on telecommuting. Some of the recent redundancy announcements have been accompanied by the closing of physical locations. The whole system of transit as a way to deliver workers to businesses is being reexamined. These issues will generate real demand (rather than anticipated) for infrastructure which can then be sized and funded appropriately.

NECESITY AS THE MOTHER OF INVENTION

All across the country, the closure of schools and a shift to online learning highlighted a topic on which we have written much – the availability of rural internet service. The phenomenon has generated a variety of responses. It’s not just about the availability of hardware to students in poorer rural areas but also about the lack of access to a viable internet service provider (ISP). Now we see that the realities of the pandemic are leading some entities – primarily school districts – to take on the role of ISP for their students.

The Visalia Unified School District in Tulare County, CA has announced that over the next three months, it will begin to install antennas at seven Visalia-area schools. The project is expected to provide 91% of the district with WiFi access. Countywide, 45% of households don’t have a broadband internet subscription — among the highest in the entire state — according to a 2019 Public Policy Institute of California report. The District estimates that about a quarter of VUSD students don’t have internet service or don’t have a high-speed connection required by many learning programs. The project has an estimated cost of $700,000, over half of which will be covered through emergency dollars the state has distributed to all California districts. VUSD received $466,000 which will be applied toward the ISP project.

The Tulare County Office of Education has already secured a frequency from the Federal Communications Commission to make high-speed internet a reality for all Tulare County students by this fall.

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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MCCONNELL ADVOCATES FOR STATE BANKRUPTCIES

The pandemic has clearly generated significant pressure on state and local government finances and it has been clear that some level of direct financial aid would be necessary to provide operating assistance to these entities. Such aid would enable governments to confront their responsibilities in response to the pandemic and shoulder the additional responsibilities which the President has made clear he believes are theirs.

It would reduce pressure on them to borrow for operations and it would help to avoid layoffs which would ultimately impact basic government services especially in the area of public safety. It would also reduce the number of people on unemployment. The arguments in favor of aid parallel many of the justifications for the PPP packages passed by Congress. Even President Trump has “promised” that another stimulus (round 4 or 5 but who’s counting) would contain aid to the state and local governments to fight the pandemic.

So it was especially disconcerting to see Senate Majority leader McConnell take the position that states should consider bankruptcy. It was especially disappointing to see the Leader link his opposition to aid to his belief that the states would use the money for pension funding and that aid in this time would be a political bailout. The flaws in his argument should be pretty clear but they should be examined nonetheless.

The Depression was the last time that state and local governments were under the kind of fiscal pressure currently confronting states and municipalities. While Arkansas managed to be the only state to default on its debt, Congress was asked to confront the potential for others to default. As it reexamined the federal bankruptcy laws it made the conscious decision not to provide the states with the ability to declare bankruptcy under Chapter 9. That has served as one of the foundational pillars upon which the municipal bond market has existed. It is at the core of the general obligation pledge by states.

Clearly the pressures of the pandemic and the pressure on Congress to act to offset the poor federal response to the pandemic have clouded the leaders thinking. The potential for damage to municipal bond investors is incalculable. But the real motive may be antipathy to government and its employees, especially those who are unionized. The Leader mentioned unions the source of the problem while ignoring the role of legislators in the historic underfunding of pension obligations. This despite the fact that the negotiated pension benefits granted to employees reflected two sided negotiations (any negotiation requires at least two parities to be involved). It is also pretty rich to hear the Senator from Kentucky – historically one of the worst states in terms of underfunding its pensions- blast irresponsible pension funding decisions. It also reflects a lack of knowledge on the Leader’s part. Pensioners have been treated fairly well in recent bankruptcies (at least in relation to bondholders and other creditors) so there is nothing to indicate that other bankruptcies would yield a different result.

He seems to think that residents of jurisdictions where they have gone through bankruptcy or other significant restructuring processes are somehow better off for having gone through the process. Whether it be bankruptcy or supervised restructuring (Philadelphia, New York, and Washington, DC come to mind – those experiences led to wrenching choices between priorities like public education versus public safety which had long term negative implications for the residents of those entities. It can be argued that the NYC school system never recovered from the cuts made during the City’s road back from its 1975 financial crisis.

Ironically, one of the states which arguably needs the most aid is New York and its pension system is one of the better funded systems in the country. It can be argued that steps taken over the years including the creation of multiple different tiers of pension benefits actually acts as a model for others to follow. Pensions per se are not New York’s problem. Right now, the problem is the fiscal damage ensuing from the shutdown of the economy which accounts for some 10% of national GDP. Bankruptcy will not change that.

RATINGS FOLLOWING THE MONEY

The Atlanta & Fulton County Recreation Authority issues debt secured by a first lien on a 3% rental car tax collected in Atlanta and College Park. Moody’s has assessed the likelihood that car rental tax revenues will suffer an immediate and substantial drop from a coronavirus-induced slowdown. The slowdown has the potential to cause some tax revenue tied to hospitality and travel-related activity to decline by up to 85% through mid-summer, potentially driving debt service coverage down significantly. As a result, it has placed the Authority’s Aa3 and A1 ratings on review for downgrade.

Last week we noted estimates from the City of Los Angeles Controller regarding potential impacts on the city’s major revenue sources. The information was enough for Moody’s to change its view of the city’s likely revenue and reserve trajectory. The prior expectation was for continued revenue growth and increasing reserves over our 18-24 month outlook horizon. Such near-term improvement is no longer probable in the current economic environment, even if the coronavirus downturn proves short and the recovery relatively rapid.

Another sector potentially under pressure is the retail and recreation/entertainment space. Moody’s has downgraded the Syracuse Industrial Development Agency, NY’s (SIDA) Carousel Center Project, PILOT Revenue Bonds to Ba3 from Ba2 and placed the ratings on review for downgrade. The downgrade and review follow the transfer of the subordinate $300 million CMBS loan to special servicing owing to the unprecedented circumstances related to the coronavirus outbreak that resulted in Governor Cuomo issuing a statewide executive order to close all malls on March 18, 2020. Deals like this one which count on outside sources of funding and liquidity from developers find themselves impacted by the nationwide pressure on the mall space as essentially all of these facilities operate under some form of restriction related to the coronavirus.

While actual downgrades await further information in terms of likely schedules for resumption of operations, airport rating outlooks continue to be reduced even if it is from positive to stable. Airport revenue credits have been impacted in that way across the board including Salt Lake City, Denver, San Francisco, and Miami.

PANDEMIC AND CREDIT

We think that when we try to project where the credit environment will be going forward post-pandemic, it is important to distinguish between the current trends as opposed to the actual longer term trends which will follow the pandemic. We are seeing a lot of speculation about the post-pandemic model for cities and what this implies for capital investment and public goods. The current stay at home environment is generating lots of views advocating for controversial approaches to things like healthcare, transportation, housing, and education. Once the pandemic is dealt with – however long it takes – life will begin to reestablish itself. It is important to remember that the current state of affairs is not sustainable long term.

Given that context, we nevertheless believe that some sectors deserve increased scrutiny. The most obvious would be credits dependent upon the retail sector. The role of retail shopping malls as the anchors and main draws at those malls is in the spotlight. The stay at home closings have seriously damaged an industry which was under enormous stress even without the pandemic. The demise of Sears/KMart was a canary in the coal mine for what could happened to poorly structured retail entities in the event of real economic stress. Now, the remaining anchor store players are all facing unprecedented pressure.

Recent press reports highlight the potential bankruptcy of Neiman Marcus and the entry into restructuring talks between J.C. Penney and its lenders. Macy’s said on March 30 that after closing its stores for nearly two weeks, it had lost the majority of its sales. With these entities seeking to cancel orders, refusing acceptance of goods at warehouses,  and extending repayments periods the potential impact on rents and cash flows to mall operators is significant. The negative impact on direct payments as well as taxes generated by retail activity will drive investors to want to know much more detail on the security mechanisms behind each issue.

In the healthcare sector, we see short term impacts on revenues due to the lack of elective surgeries and other services held down by stay at home orders. As always seems to be the case, rural hospitals with weaker and less liquid balance sheets are in the crosshairs of this event. That is not to understate the damage being done to hospital finances as we write. Hospitals will be at the center of the ongoing response to the pandemic going forward as there will still be a need for more than usual acute care (costly and poorly reimbursed by government providers) and the most impacted facilities  serve areas which economically and demographically will remain susceptible to the pandemic especially in a second wave.

Hospitals are not waiting for federal action. The latest example is Henry Ford Health which is serving patients in one of the nation’s hotspots, Detroit. The system has announced that it will furlough 2,800 employees or 9% of its 31,600 workers across its five hospitals to meet hundreds of millions of dollars in incurred and expected budget losses. The hospital system had a $43 million loss in operating income in March due to site closures, increased personal protective equipment costs and the cancellation of elective procedures.  The losses for April and May are expected to be larger. It’s the latest example of a clear trend for healthcare employment. Health care employment declined by 43,000, with job losses in offices of dentists (-17,000), offices of physicians (-12,000), and offices of other health care practitioners (-7,000). Over the prior 12 months, health care employment had grown by 374,000.

The housing sector provides some unique challenges. The pandemic has shined a brighter light on the realities of housing and its relationship to economics. In all of the nation’s largest cities, housing is a contentious issue. The cost of housing drives decisions regarding where one lives, what quality of life it affords, and what sort of employment will allow one to satisfy their needs. The pandemic has served as a vehicle to question so many of the assumptions behind how business are constructed and operated, why they have the office structures that they do and are all of those buildings  necessary? Existing general assumptions have supported greater density especially around transit facilities, the need for huge headquarter spaces and ways to get employees there, and a movement to effectively end single family zoning restrictions on development.

If we move to a model where the majority of “white collar” work is done remotely, that has likely negative implications for local tax bases. It would create much more freedom in terms of where and why people locate. More outdoor space or one’s own space might be more attractive than a Starbucks on every block and a walk to work. It will exacerbate the need for affordable housing. That will force municipalities to rethink development and permitting policies. The pandemic has exposed the need for affordable housing near places of employment and service as many of the currently classified as “essential” workers are also among the lowest paid. They rely on public transport and often on a number of public services.

Transportation has the potential to suffer the most consequences. Already we see the various interest groups advocating for significant changes to the mass transit system in this country. We are seeing discussions about ride sharing replacing public transit which ignore studies showing that such a shift would lead to massive congestion without a significant improvement in commutes. This would exacerbate the existing congestion issues associated with ride sharing. And it ignores the realities which exist in the largest cities.

New York is not going to successfully move some 5 million people daily without a vibrant mass transit system. Streets filled with ride share vehicles and reliance on “personal mobility modalities” (scooters and the like) just are not feasible. The reliance on walking to work would have the effect of limiting distances one could live from work. This would create issues about the cost and location of housing. Those issues won’t be solved expanding sidewalks and banning cars. Other issues like fare subsidies will have to wait as the financial hit being taken by the major mass transit agency are staggering.

PUERTO RICO

In a filing submitted to the bankruptcy judge hearing Puerto Rico’s Title III proceedings, the Puerto Rico Fiscal Agency and Financial Advisory Authority said the Puerto Rico Treasury Department has estimated that in the current fiscal year the commonwealth of Puerto Rico may lose between $1.5 billion and $1.6 billion in tax revenue due to reduced economic activity associated with the island virus lockdown and the delays in tax payments. The filing was made in connection with several motions before the bankruptcy court. It was considering an Unsecured Creditors Committee challenge to the Puerto Rico plan of adjustment. The judge decided to take a two step approach towards resolving the issues before it. One part of the process would include  approving disclosure for the plan. The other step would be part of confirming the plan.

The Unsecured Creditors are challenging the plan’s treatment of pensions and general unsecured claims in two distinct classes, with very different recoveries. The current proposal would provide for retirees to receive between 92.5% and 100% of what had been promised them. As for the challengers, the plan proposes giving the general unsecured claims no more than 3.9%. The challenge is based on the theory that

both classes of creditor have equal legal claim to Puerto Rico government money and that this should result in equal treatment. The dispute highlights the emergent trend of more favorable treatment of pensioners over creditors such as bondholders.

UTILITIES UNDER PRESSURE

The National Rural Electric Cooperative Association released an estimate of the revenue impact of the pandemic on its members. While this component represents a slice of the industry, the findings of the association can be a useful indicator for what the municipal utility sector could be facing as the result of lower demand related to pandemic limits. According to the Association, the nation’s electric cooperatives could lose up to $10 billion in revenue as the economic fallout from the novel coronavirus pandemic continues to linger. The cooperatives are facing a roughly 5% drop in electricity sales, costing them $7.4 billion. They also face a potential amount of money lost from unpaid electricity bills of as much as $2.6 billion.

The study comes as major municipal utilities are coming to market and releasing estimates of the impact of the pandemic on their revenues and operations. The latest is the Sacramento Municipal Utility District (SMUD) in CA. SMUD estimates that it will see a $47 million to $68 million revenue reduction in 2020 and a 2021 revenue reduction of between $67 million and $128 million. It estimates that it may need to reduce operating expenses in 2020 by up to $40 million and by up to $100 million to meet its internal financial planning metrics.

STATES REVISE REVENUE ESTIMATES DOWN

NY State Comptroller Thomas DiNapoli estimates that the amount of overall tax receipts delayed from April to July could be as much as $9 billion to $10 billion, depending largely on how many taxpayers choose to delay their filings. While the state received almost $3.8 billion in Coronavirus Relief Fund resources earlier this month, the total amount of federal assistance available to help address cash-flow and budget-balancing needs remains to be determined. The ability of the state to fully achieve its Medicaid savings target also remains unclear.

Significant losses of State tax revenues are likely to extend into State Fiscal Year (SFY) 2021-22, and there may be further effects in the following years. There will also be upward pressure on State spending for essential services related to the ongoing public health and economic challenges. The State ended SFY 2019-20 with a higher-than-projected General Fund balance of $8.9 billion, but could face a cash crunch starting early in the new fiscal year due to the tax filing delay. On March 17th , the Office of the State Comptroller estimated that SFY 2020-21 tax revenue would be at least $4 billion and possibly more than $7 billion below the Executive Budget projection of $87.9 billion as a result of the economic impacts of the coronavirus pandemic. Economic conditions have worsened further since that date.

The State’s video-lottery terminal (VLT) facilities and commercial casinos have been closed since March 16th. Receipts from these facilities were projected at a combined $1.2 billion in SFY 2020-21. In SFY 2019-20, State revenues from casinos and VLTs averaged $95 million per month.4 In addition, the Native American casinos in the State are closed, reducing receipts from tribal-State compacts which were projected at $219 million in SFY 2020-21, including funding for local host governments. Lottery receipts including Quick Draw rely heavily on sales through retail outlets, as well as restaurants and bars. These receipts, which were projected to generate $2.5 billion for the State this year, are also likely to be affected by diminished consumer traffic in those businesses.

Federal aid has begun to flow to the State, including receipt of nearly $3.8 billion in Coronavirus Relief Fund resources on April 17th. Such funding is to be used for expenses related to the COVID-19 pandemic. in some instances, limitations on use of these resources may hamper the State’s flexibility to use the funds as a budget management tool. The State last encountered severe cash flow issues in the wake of the 2008 financial crisis. Reduced tax revenues and diminishment of the General Fund resulted in delays to required payments for school aid and other purposes, as well as other budget management actions, in 2009 and 2010.

The Delaware Economic and Financial Advisory Council on Monday lowered its revenue estimate for this year by $416 million, or 9%, compared to its March estimate. This year’s revenue total is currently predicted to be almost 6% less than the amount collected last year. The panel also lowered its revenue estimates for the fiscal year starting July 1 by $273 million, or 6%, compared to its March estimate.

HOW ONE TRANSIT AGENCY IS DEALING WITH THE REVENUE HIT

The San Francisco Municipal Transportation Agency (SFMTA) board decided this week to raise fares despite economic downturn and public criticism. Starting in July, monthly fast passes will cost an extra five dollars, bringing the total to $86 for a regular pass or $103 for a pass that allows access to BART stations in SF. Starting in 2021, the price of those passes will rise to $88 and $106 respectively.

Individual rides paid for with a Clipper card will grow more expensive as well, moving up from $2.50 now to $2.80 in July, then $2.90 next year. Cash fares will remain the same at $3. The agency argued that SFMTA must continue paying drivers and other employees a rate commensurate with the cost of living and that the only options other than raising prices would be cutting service or laying off workers. The head of the SFMTA acknowledged public comment about the price increases was overwhelmingly negative but noted that “not a single [person] suggested where we should get additional revenue” otherwise.

The SF situation could be a harbinger of things to come across the country as mass transit providers seek to address the huge loss in demand resulting from the pandemic. It will divide a more wide ranging debate about funding for mass transit. Fare hikes will fall hardest on those least positioned financially to afford them while the alternative mobility industry has yet to resolve its issues over where and who it serves customers. This will stimulate efforts to develop non-fare based funding sources and to subsidize fares for low income riders. All of this will have yet to be determined impacts on transit system backed credits.

CORNHUSKER TUITION PROGRAM

The cost of attending college has been at the forefront of political debate with various  proposals being offered for federal programs to offer low or free tuition. While the debate goes on and a resolution awaits the results of the 2020 elections, states have been moving forward with their own plans. States are uniquely positioned to do so through their roles as funders and operators of institutions of higher education.

The latest state to offer a tuition benefit to lower income students is Nebraska. The University of Nebraska announced that it will offer free tuition to in-state undergraduate students whose families earn less than $60,000 a year. The program will be known as Nebraska Promise. It will begin this coming fall. To be eligible, students must take a minimum of 12 credit hours per semester and maintain a 2.5 GPA. The university will cover up to 30 credits in an academic year. 

The program will include all four of the state’s four year campuses and includes nursing school at the University of Nebraska Medical Center campus. It does not cover room and board but it does at least address tuition. It is impressive in that the announcement of the program follows university officials forecast of a shortfall of at least $50 million this fiscal year because of the coronavirus pandemic. Officials attributed the shortfall to housing refunds, event cancellations, medical costs and other factors.

There are fiscal implications as the University is seeking to fund the program out of its existing budget. That will undoubtedly lead to some level of program cuts. The pressure is limited by the projected limited increased demand. Nebraska Promise would cover about 1,000 additional current and future NU students, officials said. With the announcement, Nebraska becomes the 18th state to offer some form of tuition free college.

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 President has effectively announced game on in the effort to reopen the country. By adopting state by state approach, the reopening process will effectively create 50 state laboratories in terms of how this will work and what the impact on states will be a some try to reopen as fast as they can and others take a more measured approach. What will be most interesting is to see how it all unfolds. If early openers prove to be premature, the potential cost to those states could be significantly higher than it would otherwise be in the event of a second wave of infections. Those states could just as easily find themselves back at square one as they could find themselves able to move forward. In that event, those states would have merely increased the fiscal costs of the pandemic while doing significant additional damage to their state economies.

Whether a state opens or not, the pressure on state and local credits is only increased by the offloading of responsibility of responding to the pandemic to the states. That will exacerbate the high level of fiscal pressure on state and local government we already see. All in all, the Opening Up America plan introduced this week represents a transparent effort to shift cost down to state and local government without funding or financing support. It comes at a time of unprecedented federal hostility to local government which is unfortunately based on political interests rather than any sound public policy goals. It appears that the zombie protesters outside the state capitol in Ohio are running the show now. That is not good for munis.

BIG NAME CREDITS UNDER THE GUN

The ongoing impact of the pandemic on life as we know it continues to take its toll on some of the most widely held and best known credits. The latest example is the Port Authority of New York and New Jersey. The Port Authority generates the majority of operating income with the airports and the tolled bridges and tunnels. The Port Authority estimates it will receive approximately $435 million in federal stimulus funding under the 2020 CARES Act for its airports. It is likely that without additional outside funding that the aid will not be sufficient to cover the operating shortfall resulting from the limits on traffic. It is not clear at all whether there will be federal aid targeted at the toll facilities.

The reduced utilization does not offset the need for ongoing maintenance so that the facilities remain in good repair to accommodate a resumption of utilization. Fortunately, the PANYNJ had around $2.4 billion in the general reserve fund and around $1.6 billion in the consolidated bond reserve fund on hand at year end. Nevertheless, Moody’s has reduced its outlook for its rating on the Port’s consolidated bonds to negative to reflect ” the risk of total DSCR below Moody’s previous expectation of 1.75x and lower liquidity levels over the next 12 to 18 months. It also reflects the uncertainty around the length of governmental restrictions to contain the spread of the corona virus and the length of time before an eventual recovery of its credit metrics.”

The downgrade was followed by the Port’s own statement about current conditions. “Because approximately one third of the Port Authority’s revenues are derived from passenger tolls, fares and user fees, declining utilization has had and will continue to have a negative effect on our revenues for an indeterminate period of time. In addition, some tenants who pay rent to locate and operate at our facilities are also heavily affected by the reduced activity levels and may be unable to meet certain obligations to the Port Authority. Some have requested specific relief from contractual payment obligations.”  As of March 31, 2020, unrestricted cash and investments, including amounts in the General Reserve Fund total approximately $3.34 billion, with investments valued at market.

The other major New York credit to come under pressure is the Triborough Bridge & Tunnel Authority (TBTA). The TBTA’s facilities include: Robert F. Kennedy Bridge (formerly the Triborough Bridge), Verrazzano-Narrows Bridge, Bronx-Whitestone Bridge, Throgs Neck Bridge, Henry Hudson Bridge, Marine Parkway-Gil Hodges Memorial Bridge, Cross Bay Veterans Memorial Bridge, Hugh L. Carey Tunnel (formerly the Brooklyn-Battery Tunnel), and the Queens Midtown Tunnel. The TBTA receives its revenues from all tolls, rates, fees, charges, rents, proceeds of use and occupancy insurance on any portion of its tunnels, bridges and other facilities, including the net revenues of the Battery Parking Garage, and bridges and tunnels’ receipts from those sources. 

Moody’s reduced its outlook to negative from stable to reflect the assumption of materially lower TBTA revenues in 2020 due to the corona virus combined with ongoing credit pressure on the MTA which may materially reduce the organization’s combined liquidity. On the positive side, Moody’s estimates that ” the authority’s credit profile remains strong and could withstand approximately a 40% reduction in operating revenues in FY 2020 while maintaining its ability to pay debt service without liquidity support.”

It’s likely that we will see additional outlook adjustments and downgrades in the transportation sector. The Illinois tollway says passenger volume is down 55% since the stay-at-home order went into effect March 20.

THE PRESS AND MUNICIPAL CREDIT

This week the New York Times ran a story under the headline “Plunge in Convention Hotel Travel Puts Municipal Bonds at Risk”.  The story focused on convention center hotels, a sector which has experienced significant fluctuations in the perception of their credits. The sector emerged coincident with the widespread growth of high yield municipal bond funds. Unfortunately, the article was written from the operator and developer perspective so it was not particularly enlightening about municipal bonds.

Weeks ago, we flagged bonds whose credit relied on taxes and/or revenues to pay off the associated bonds as an area of concern. That was the case regardless of whether or not, there was a pledge of general municipal revenues. The article expressed the correct concern that reduced occupancy and reduced sales tax revenues were bad for these credits. The implication was that cities would be forced to expend general fund monies to support shortfalls in revenues available for debt service. What the story missed was that municipalities support these projects in a variety of ways and that the requirement to pay in the event of shortfalls is often far from a certainty.

Take Baltimore which supported the development of a 750 room hotel adjacent to its Convention Center. In this case, the city support includes the site-specific hotel occupancy tax (HOT) collected at the property and the ability to use up to $7 million of city-wide HOT that must be appropriated from the city’s budget annually, if needed. Yes, that money could have eventually made its way to the City’s general fund but the upfront pledge identifies this as a source of dedicated revenue. That’s a far cry from a city guarantee.

In the case of the Denver Convention Center financing, the City’s obligations are more definitively enumerated including its ability to use any general revenues it chooses. While still subject to annual appropriation, the more explicit language in the security for the bonds makes a better case for the City to be seen as supporting the bonds. In either case, the need for the project to succeed is basic to the security and ratings.

There is of course the issue of whether these concepts have been tested. In one of the better known high yield bond hotel defaults, investors counted on an annual appropriation mechanism to require the Village of Lombard, IL to make up project revenue shortfalls. Unfortunately for investors, the Village declined to make the appropriations when requested and debt service payments were missed. So much for precedent.

My point is that the major media outlets do such a poor job of covering our market. Granted that many of the issues which impact our market are nuanced but the inability of the press to figure it out with some help from people who know has long been disappointing. If you are on the retail distribution side of the business, these headlines just generate a lot of unnecessary angst that you have to deal with.

DATA BEGINS TO EMERGE

We’re seeing the expected press accounts of the fears over the impact of the pandemic on government finances. But it’s all about fear with little information. Now hopefully, the information void will start to fill. A recent report from NYC’s Independent Budget Office (IBO) is one of the first efforts at estimating the impact that we have seen.

IBO has constructed a pared-down economic forecast for NYC, premised on an assumption that the local economy will shed roughly 475,000 jobs over the 12 months spanning the second quarter of calendar year 2020 through the first quarter of 2021. The local economy gradually begins to add jobs starting in the second quarter, with job growth remaining slow through the end of 2022. IBO “constructed a pared-down economic forecast, premised on an assumption that the local economy will shed roughly 475,000 jobs over the 12 months spanning the second quarter of calendar year 2020 through the first quarter of 2021. The local economy gradually begins to add jobs starting in the second quarter, with job growth remaining slow through the end of 2022.

IBO notes that its estimates are based on a forecast of the U.S. economy in recession for the first three quarters of calendar year 2020, with real gross domestic product (GDP) falling by about 4.5 percent for the year as a whole. This compares with our January baseline forecast of 1.8 percent output growth in 2020. The report notes that the city’s economy relies heavily on industries that have been largely shut down in order to limit the spread of the corona virus. These include the retail, transportation, tourism, leisure, and entertainment industries. It estimates retail employment will fall by 100,000 starting in the second quarter of calendar year 2020 (a loss of 60,000 jobs is expected in this quarter alone), with loses continuing through the first quarter of 2021. Over the same period, we project a loss of 86,000 jobs in hotels and restaurants along with a combined loss of 26,000 jobs in the arts, entertainment, and recreation industries.

It is also unsurprising that retail employment will fall by 100,000 starting in the second quarter of calendar year 2020 (a loss of 60,000 jobs is expected in this quarter alone), with loses continuing through the first quarter of 2021. Over the same period, we project a loss of 86,000 jobs in hotels and restaurants along with a combined loss of 26,000 jobs in the arts, entertainment, and recreation industries.

And now for the bad news on taxes. Prior to the shutdowns, leisure and hospitality, which includes sports and entertainment, accommodations, and bars and restaurants, accounted for 21.6 percent of all sales subject to the sales tax, while retail other than food, groceries, and alcohol added another 28.5 percent. The estimate is that sales tax revenue would fall short of IBO’s January baseline forecast by $1.1 billion (-13.1 percent) in 2020 and $3.1 billion (-36.4 percent) in 2021.

Sales tax revenue would fall short of IBO’s January baseline forecast by $1.1 billion (-13.1 percent) in 2020 and $3.1 billion (-36.4 percent) in 2021. The city’s separate tax on hotel occupancy is expected that this revenue would drop by $127 million (-19.8 percent) below IBO’s January baseline forecast for 2020 and $530 million (-82.0 percent) lower in 2021, when the number of nightly room rentals will be less than half the number it projected in January. As for business taxes, revenue from the general corporation tax (GCT) would fall $724 million (-17.9 percent) below IBO’s January baseline forecast for 2021, and $521 million (-12.5 percent) below in 2022. The unincorporated business tax, which is paid by partnerships and proprietorships, would fall short of the baseline by $406 million (-19.6 percent) in 2021 and $292 million (-13.5 percent) in 2022.

Property related tax impacts will occur over time but they will be real. There will of course be delinquencies in the payment of property taxes but the hit on valuations is, by virtue of the city’s property tax rules, an impact that will be phased in over five years. Of more concern is the impact on real estate sales related taxes. transfer tax revenue is expected to fall short of the forecasts in our January baseline by $168 million (-12.2%) in 2020, $344 million (-24.0 %) in 2021, and $122 million (-8.2 %) in 2022. For the mortgage tax, the shortfalls relative to our January baseline would be $69 million (-6.5 %), $112 million (-10.7%), and $87 million (-8.4 %) in 2020, 2021, and 2022, respectively.

The projected shortfalls would leave the city with essentially no growth in tax revenue for 2020 and a 4.2 percent decline in tax revenue for 2021 compared with 2020. Excluding the real property tax with its built-in stability, year-over-year declines in tax revenues would be 6.4 % in 2020 and 12.0 % in 2021. The City has not seen revenue impacts like this since the 1970’s. Excluding the real property tax with its built-in stability, year-over-year declines in tax revenues would be 6.4 % in 2020 and 12.0 % in 2021.

CITY BUDGETS REACT TO VIRUS REALITIES

As the IBO released its estimates, the Mayor released his Executive Budget. The Executive Budget Forecast has reduced tax revenue by 3.5% in FY20, or $2.2 billion, and 8.3% in FY21, or $5.2 billion compared to the Preliminary January Plan Budget. Losses in both years are primarily related to a decline in the Sales and Hotel Tax, Personal Income Tax, and Business Taxes, all due to the COVID-19 pandemic. In order to balance the budget while prioritizing health care, safety, shelter and food needs, the Administration has achieved savings of  $2.7 billion across FY20 and FY21. This includes PEG savings of $2.1 billion ($600 million recurring annually) and $550 million in Citywide savings ($220 million recurring annually). The reductions in the assumptions are substantial but the drops in revenue are less than those projected by IBO.

City of Los Angeles Controller Ron Galperin has revised the current fiscal year’s General Fund revenue estimate downward by $231 million due to fallout from the corona virus. This represents a 3.54 % decrease from the previous March 1 estimate and well below the amount budgeted for the year. For fiscal year 2021, he now estimates a decline in projected General Fund revenues of between $194 million and $598 million, depending on the length of the current shutdown and the speed at which the economy begins to recover.

The largest sources of the decrease this fiscal year are Transient Occupancy Tax (TOT) and Licenses, Permits, Fees and Fines (LPFF), which together are reduced by $110 million, as the travel and tourism industry has fallen by more than 70% and City office operations have been largely closed during the crisis. Revenues reflecting economic activity, such as Business Tax and Sales Tax, also are projected lower, but not to the same degree because both are lagging indicators that will be impacted much more heavily in the coming year.

BUT WILL IT BE ENOUGH?

Even the significant adjustments which will flow from expected revenue trends may not be enough as the outlook for the national economy for the near term is not good, at least as reflected in the April Beige Book from the Fed. A few items summarize what faces tax collectors and budgeters. All Districts reported highly uncertain outlooks among business contacts, with most expecting conditions to worsen in the next several months. No District reported upward wage pressures. Most cited general wage softening and salary cuts except for high-demand sectors such as grocery stores that were awarding temporary “hardship” or “appreciation” pay increases.

Manufacturing activity contracted sharply, and energy and agricultural sectors deteriorated as commodity prices fell sharply. Employment levels fell slightly, but layoffs accelerated late in the month. All of that spells real impacts on taxable income for FY 20 through FY 22. On the current side, estimates of U.S. retail and food services sales for March 2020, adjusted for seasonal variation and holiday and trading-day differences, but not for price changes, were $483.1 billion, a decrease of 8.7% (±0.4%) from the previous month, and 6.2% (±0.7%) below March 2019. And that is only March.

HIGH YIELD’S SPECIAL EXPOSURE TO STAY AT HOME ORDERS

It is likely that the high yield sector will begin to see the impact of the corona virus pandemic on many of the credits at its center. Senior living facilities, niche manufacturing facilities, charter schools, hotels are just a few of the sectors with near and long term vulnerabilities.

It would be a shock if there were not a slew of technical defaults from obligors supporting bonds issued for these facilities. In the short term, senior living will face the specter of patients seeking to leave in response to concerns from patients and their families as these centers have been particularly hit by the pandemic. Many of the outstanding hotel transactions are directly impacted by cancellations thereby hurting cash flows for dent service. It will be more difficult for these credits to meet indenture requirements for annual debt service coverage.

We are starting to see the first notices of actual or potential technical defaults as individual facilities are unable to operate and generate revenues. These also include manufacturing facilities which support bonds from project revenues alone. In some cases, a deep pocketed parent company could choose to step into the breach but this is an international pandemic and those entities have issues of their own in their home countries. In other cases, reserve funds will buy some time but not more than a year. This is the situation many toll and fare based credits find themselves in.

Many stand alone project financings sold to the high yield funds do not have significant excess revenues or reserves, especially those reliant on current economic activity. So it is incumbent on investors to know what they own. Unfortunately, we see this pattern repeated through every down credit cycle. It happened when bond insurers were downgraded as a result of the financial crisis in 2008. Suddenly, the nature of underlying credits mattered. It happened when Puerto Rico defaulted and fund owners suddenly found out how much of their state specific municipal fund was actually in Puerto Rico paper. Now, investors need to find out how the bonds they own (either directly or through a fund) are secured to assess how much risk they face.

COAL GENERATION FACES ANOTHER HIT

The Scherer generation facility in Georgia is a four unit facility which is the nation’s largest coal generation facility. Various shares of the plant are owned by Georgia Power, Florida Power and light, and municipal utilities including Oglethorpe Power Corp., the Municipal Electric Authority of Georgia, the Jacksonville Electric Authority and Dalton Utilities. As the industry shifts in response to the changing and declining economics of coal fired generation, at least one of the major owners is rethinking their ownership in the plant.

Florida Power & Light Co. submitted its ten year resource plan to regulators in Florida and the plan calls for FP&L FPL owns 76% of Unit 4 at Plant Scherer, and Jacksonville, Fla.’s electric company, JEA, owns the remaining share. It also wants to shutter another 330 MW coal plant and two old natural gas fired generators. The plan to divest itself of the plant is consistent with the plans of its parent, NextEra Energy Inc., which owns the world’s largest renewable energy developer, NextEra Energy Resources.

the plan to divest adds to the troubles of Jacksonville Electric Authority which is facing a management and leadership vacuum after a disastrous effort to privatize the utility. The Authority is already under federal investigation over that issue and the plan by FP&L puts further pressure on JEA as it tries to move on from the privatization effort. It highlights the management hole at JEA which could not come at a worse time as the utility deals with lower demand from virus mitigation efforts as well as the pressure all utilities are under from their role as massive carbon producers.

The move by FP&L could cause it to sell its portion of Unit 4 or work with JEA on an agreement to close the unit. The proposed divestiture comes at an awkward time for JEA as it is in the midst of a dispute with MEAG over its participation in the ill-fated nuclear expansion at Plant Votgle in Georgia. With coal on the decline and the effort to develop new carbon neutral generation facing daunting odds of completion, JEA finds itself between a rock and a hard place. None of this is good for the JEA credit.

SANTEE COOPER IN A NEGATIVE SPOTLIGHT

Lots is being said about the need to unite, focus on the economy and on stopping the corona virus. That has not stopped politics from interfering in the resolution of some other big topics at least in South Carolina. Those political disputes have held up a resolution of the process of the state legislature in determining the future ownership and operation of the South Carolina Public Service Authority (Santee Cooper).

The situation with Santee Cooper resulting from its ill-fated decision to participate in the construction of an expansion of the Sumner nuclear generating plant has been documented here. The resulting financial impact on Santee Cooper and its ratepayers from the participation in the Sumner expansion has led to calls for the divestment of the utility by the state or the establishment of new controls and procedures to increase outside oversight of the utility.

Now the debate over the future of Santee Cooper is holding up enactment of a state budget. A bill to allow state government to keep spending included a section to extend the law allowing the state to sell or reform Santee Cooper into 2021. House leaders said Senate leaders agreed to a provision preventing Santee Cooper from entering into any contracts over a year in length. At the last minute, several senators opposed the bill to allow the state to keep spending money if it doesn’t pass a budget by the end of June because of the restrictions on state-owned utility Santee Cooper in it.

Santee Cooper has not helped its cause by managing its messaging to its customers and the political establishment in a less than artful manner. It has been caught misrepresenting the position of its members which has cost the agency the support of the Governor and the House leadership. One of the agency’s long term strengths had been its support over the years from the state’s political establishment. The legislature has one month to figure out what to do with Santee Cooper. The failure of negotiations over Santee Cooper meant the House and Senate also couldn’t reach an agreement to set the parameters of any special session needed after the May 14 deadline in the state constitution for the session to end.

All of this leaves the agency’s bondholders in the air. The lack of consensus in the legislature casts a huge cloud over the agency and its ability to manage and operate. The debate does not seem to be leading to any plan to deal with the approximately $4 billion of stranded costs for Santee Cooper resulting from the Sumner debacle. Now the pandemic is impacting electricity demand especially from the commercial and industrial load customers. We would not be surprised by another downgrade for the once proud utility.

CALIFORNIA POWER AGENCIES

There has been so much focus on the ongoing bankruptcy of Pacific Gas and electric that it is easy to overlook the status of major municipal power providers in the state. They also have exposure to wildfire risk in terms of their role as major distributors and generators of electric power. So we looked with interest at upcoming financings for two of those entities; the L.A. Department of Water and Power (LADWP) and the Southern California Public Power Agency (SCPPA). We especially focused on the issue of wildfires and potential liability.

LADWP is currently in litigation related to the cause of the December 2017, 15,000+ acre Sylmar Creek Fire where LADWP’s investigation concluded that LADWP’s equipment did not cause or contribute to the fire ignition. In October 2019, the 745-acre Getty Fire resulted in 10 residences being destroyed and another 15 damaged. This fire began in LADWP’s service territory from a tree branch from over 30 feet away landing on one of LADWP’s power lines due to high wind conditions. LADWP may be liable for damaged property.

On the other side of the coin, LA exceeds the state’s standards related to the spacing between its transmission lines and has implemented other fire mitigation programs including the replacement of the distribution power lines’ cross bars with composite or steel material, as well as an active vegetation, brush and tree management program. LADWP can raise its rates through its Energy Cost pass through rates within 90 days without City Council approval if LADWP needs emergency recovery of any unexpected high costs or to replenish any depleted liquidity that was used during a potential short-term shock. This rate making structure provides additional and more certain support not available to the investor owned utilities .

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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Once again, government and its means of funding and financing public services is at the forefront of the response to the corona virus pandemic. Initially, attention will focus on the near term pressure on municipal finances – lower revenues and high immediate expense requirements. Longer term, state and local governments will be at the center of any recovery through their ability to regulate activity and tax and spend. The impacts of the pandemic on economic activity, on service needs and demands will serve as the basis for debate going forward over the role of government and the nature of its responsibilities. This reflects the stark divide which has emerged between haves and have nots.

The experiences resulting from the pandemic and its impact are likely to fundamentally alter the debate over the real role of government. We believe that the trend over the last 40 years shifting the responsibility for the provision of  services from the public to the private sector will be reexamined. Many of the obvious results of the pandemic in terms of its disproportionate impact on the poor can be best dealt with by government. One example is the education system. The reality is that schools are about much more than education – they are the center for programs enabling two parents in a family to working an economy which often requires that to be the case through its early morning and after school programs. The school system is the main vehicle for nutrition supporting poor communities. It is also likely to be the main source of healthcare services to poor children.

The health system will come under scrutiny. Lower income citizens tend to have poorer health and a lack of access to reasonable healthcare. we would not be surprised to see pressure grow for school based primary healthcare for children. The prevalence of serious ongoing health conditions in poor communities explains the disproportionate impact of the virus on those demographic cohorts. Part of the problem is that the increasing emphasis on private rather than public healthcare is not supported by a funding mechanism which supports institutions providing lower profit primary care to economically disadvantaged populations.

These issues would, in a logical world, lead to a reevaluation of the anti tax starve the beast mentality which has driven much of our politics and public policy over the last 40 years. It would examine the increasing reliance on individual taxation versus corporate taxation and it would consider the virtues of graduated rather than flat rate income tax schemes. It would shift away from property taxes as the primary source of school funding.

The pandemic has also highlighted the unpleasant reality that transit policies over the last decade have not reflected the interests of all demographic groups. The micromobility industry simply does not address the needs of all segments of society. The scooter and bike crowd remains primarily white, younger, and male. They live certain places and in certain ways which do not reflect the realities of poorer residents. You need access to the internet to remote learn, to communicate, to access goods and services, to bank. The lack of internet and broadband services has made the divide between rich and poor even greater.

The municipal market will have to deal with much of this. It will require analysts to put some of their own political and philosophical beliefs aside as they evaluate municipal credit in light of new circumstances. Not all private or business based approaches will be appropriate. In sectors like healthcare, student housing, transportation, and education, we are likely to see a new appreciation for the benefits of strong public education, heath, and transportation systems We need to remember the role that government services played in helping people manage the pandemic and its economic impacts.

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MTA BY THE NUMBERS

We are finally getting to see some real data on the impact of the corona virus pandemic on mass transit. The NYC Independent Budget Office has released some telling data.
Subway ridership was 32.2 million for the week ending February 28, 2020, two days before the first confirmed case of the Covid-19 virus in New York City. Ridership fell in every subsequent week, with the week ending March 27 serving only 4.6 million riders, a decrease of 86 percent from ridership levels seen four weeks earlier.

How does that translate to the revenue side of the ledger? Accompanying the drop in ridership is a reduction in fare revenue that IBO estimates will ultimately result in a decline of $970 million (21 percent) in NYC Transit subway and bus revenue in the current calendar year. This compared with fare revenue forecast by the transportation authority only a few weeks before in its February 2020 financial plan. IBO’s estimate assumes that most riders with 7-day and 30-day unlimited passes do not immediately renew when current passes expire, and that ridership remains depressed through early May and then creeps upwards again through mid-June, stabilizing at around 25 million weekly riders.

The wide ranging impact of the revenues generated by the MTA from all of its facilities is evident in the IBO comments. IBO notes that in addition to subway and bus fare revenue, the Metropolitan Transportation Authority uses the surplus toll revenue that remains after covering bridge and tunnel expenses to fund mass transit. That support exceeded $1.1 billion in 2019. The transportation authority has included a toll increase for 2021 in its latest financial plan. That will not help the current situation as toll revenue in 2020 is likely to take a major hit in the wake of the current shutdown.

It’s not just pure “transit” revenues which flow through to the MTA. The economic shutdown will have wide ranging effects as other revenues dedicated to transit, including taxes on real estate transactions and mortgage activity, a portion of the sales tax, and many other taxes and fees, will decline in response to the contraction of economic activity. Anticipating a financial shortfall, the Metropolitan Transportation Authority requested some $4 billion from Washington and is set to receive $3.8 billion from the recent federal aid package. IBO estimates that the $3.8 billion is equivalent to around 22 % of the transportation authority’s total operating budget (including debt service) projected for 2020.

The MTA is representative of many large urban transit systems which face significant declines in ridership. Cutbacks in service have occurred at all of the major systems especially those with subways.

REAL TIMETABLES FOR THE ECONOMY

The Congressional Budget Office (CBO) expects that the economy will contract sharply during the second quarter of 2020 as a result of the continued disruption of commerce stemming from the spread of the novel corona virus. Gross domestic product is expected to decline by more than 7% during the second quarter. If that happened, the decline in the annualized growth rate reported by the Bureau of Economic Analysis would be about four times larger and would exceed 28 percent. Those declines could be much larger, however.

The unemployment rate is expected to exceed 10% during the second quarter, in part reflecting the 3.3 million new unemployment insurance claims reported on March 26 and the 6.6 million new claims reported this morning. (The number of new claims was about 10 times larger this morning than it had been in any single week during the recession from 2007 to 2009). The analysis incorporated an expectation that the current extent of social distancing across the country would continue—on average, and with local variation—for the next three months. 

CITIES TAKE STEPS TO ADJUST TO LOWER REVENUE

One of the cities in the US which is quite dependent on tourism and recreation is San Diego, CA. The City has estimated that the pandemic would cost San Diego about $109 million: $83 million in lost hotel tax revenue and $26 million in lost sales tax revenue. To deal with the decline in tax revenues the City has furloughed some 800 employees in what are deemed nonessential services during this time. Most of the employees had been working at city libraries and recreation centers before those facilities closed. Some others worked for the city’s Transportation and Stormwater Department.

The City is allowing those employees using accrued vacation time to continue to be paid and it is hoping that federal aid would come soon enough to avoid layoffs. The San Diego Union Tribune estimated that using the average salary for city workers of $70,000, one month of furloughs for 800 employees would save the city nearly $5 million. If the furloughs last through June, the city’s savings could approach $15 million.

The news comes as the City of New York announced plans to reduce expenditures by some $1.3 billion. They include education, transportation, social services and benefit programs. They reflect the fact that transit use is down that the schools are closed, and that many programs such as summer job programs may be simply not feasible to operate. Nearly 10% of the reductions will come from a public sector hiring freeze and vacancy reductions.

The City is also likely to need to access the short-term markets to borrow for liquidity. Over recent years, short term borrowing has often been viewed as a negative credit event for both states and localities. The fact is that such efforts are a logical response to exogenous events like a pandemic. The press has been casting such plans in a negative light even though short term borrowing was a regular feature of municipal financial operations for decades.  

Detroit is facing an estimated $100million shortfall in revenues as the result of its dependence on the auto industry and casinos and the shutdown of those two industries in the face of social distancing regulations. The city’s three casinos released their report on March revenue that showed a 59% drop from last year. The city gets about $600,000 daily from the casinos. That doesn’t reflect the impact of employment losses associated with those industries. Even after facilities reopen, the loss of disposable income during the pandemic will have longer lasting effects. Municipal income tax revenue is Detroit’s largest single tax revenue source at $361 million in 2019 with gambling related revenue next at $184 million .

KANSAS BROADBAND FUNDING

The availability of serious rural broadband access has been a regular subject here and in other venues for sharing my thoughts. So we were interested in recent legislation dealing with the issue in the State of Kansas.

The Eisenhower Legacy Transportation Program (Program), as its name implies, is primarily concerned with transportation infrastructure. It authorizes the Secretary of Transportation, working jointly with the Office of Broadband Development within the Department of Commerce, to make grants for construction projects that expand and improve broadband service in Kansas. The law requires grants made by the Secretary to reimburse grant recipients for up to 50% of actual construction costs in expanding and improving broadband service. It establishes the Broadband Infrastructure Construction Grant Fund, to be used to provide grants for the expansion of broadband service in Kansas subject to appropriation. 

There is some concern that the Transportation Department might not be the best place to manage and administer a broadband development plan. While the law requires each county in the state to receive $8 million annually for infrastructure, there is no requirement for allocations to broadband. The law requires the Transportation Secretary to select projects for development every two years, but does not require the Secretary to construct every project selected for development. It  authorizes the Secretary to notify the Director of Accounts and Reports to transfer all remaining and unencumbered funds from the Broadband Infrastructure Construction Grant Fund to the State Highway Fund at the end of each fiscal year.

ENERGY AND THE PANDEMIC

The U.S. Energy Information Administration’s (EIA) publishes its Short-Term Energy Outlook monthly. The latest outlook estimates the impacts of the corona virus on demand for energy from a variety of sources. The data highlights some of the issues facing municipal credits as the result of pandemic driven steep declines in demand.

EIA expects U.S. motor gasoline consumption to fall by 1.7 million b/d from the first quarter of 2020 to an average of 7.1 million b/d in the second quarter, before gradually increasing to 8.9 million b/d in the second half of the year. U.S. jet fuel consumption will fall by 0.4 million b/d from the first quarter of 2020 to average 1.2 million b/d in the second quarter. U.S. distillate fuel oil consumption would see a smaller decline, falling by 0.2 million b/d to average 3.8 million b/d over the same period. In 2020, EIA forecasts that U.S. motor gasoline consumption will average 8.4 million b/d, a decrease of 9% compared with 2019, while jet fuel and distillate fuel oil consumption will fall by 10% and 5%, respectively over the same period.

That has significant implications for tax revenues derived from the sale of fuel for cars and airplanes. Severance taxes will also take a hit as EIA forecasts U.S. crude oil production will average 11.8 million b/d in 2020, down 0.5 million b/d from 2019. In 2021, EIA expects U.S. crude production to decline further by 0.7 million b/d. If realized, the 2020 production decline would mark the first annual decline since 2016. 

EIA expects retail sales of electricity to the industrial sector will fall by 4.2% in 2020 as many factories cut back production. Forecast U.S. sales of electricity to the residential sector fall by 0.8% in 2020. EIA forecasts that total U.S. electric power sector generation will decline by 3% in 2020. The pandemic has not fundamentally altered the move away from fossil fueled generation. U.S. coal production will total 537 million short tons (MMst) in 2020, down 153 MMst (22%) from 2019. EIA forecasts that total coal consumption will decrease by 19% in 2020, driven primarily by electric power sector demand, which will fall by 107 MMst (20%) in 2020. 

TEXAS HIGH SPEED RAIL

A group of some two dozen state lawmakers in Texas have signed a letter urging the U.S. Department of Transportation to end work related to a high-speed rail project projected to connect Houston and Dallas. The line is being undertaken by Texas Central Partners, a private entity. The legislators contend that TCP “simply does not have the financial resources required or expertise employed to continue with this project.”

The project has been mired in disputes with landowners along the project’s planned right of way (ROW) over efforts to acquire land for the project. There has been much opposition from landowners in areas which will not be served by the project to efforts to employ eminent domain if necessary to acquire ROW.  The company has said it has already secured 30% of land needed for the project, including 50% of the property needed in Grimes County.

Last month, Texas Central laid off 28 employees and announced that the project would be delayed because of pandemic-related issues with its partners in Italy, Spain and Japan. It said that it would resume its efforts at land acquisition and financing “when we have our permits and the financial markets have stabilized.”

PRIVATE STUDENT HOUSING AND THE PANDEMIC

Privatized student housing was a discussion topic in the last few months as one private sponsor/operator sought to sue the University of Oklahoma when the University declined to make up shortfalls in revenues from low occupancy at a  student housing facility. A recent Boston Globe story highlighted the nature of private versus university owned housing. It makes it clear that these facilities may be built to serve universities but are not run or owned or financed by universities.

LightView Apartments is a private residential complex built on Northeastern land across from campus to house the university’s undergraduates. Monthly rents start at $1300 per person. Leases at LightView run through August on a calendar, not the academic year, basis. So many students move in planning to be able to sublet their apartments to summer students to offset some of the room costs.The pandemic has thrown those plans out of whack. Northeastern, like nearly all higher education providers has moved to online learning to facilitate closures of campus housing. It also is not clear when for certain, the university will be able to return to its current structure. For those who lived in university owned and operated housing, it offered refunds on room and board payments. They can do that as the owner.

Here is where the unrealistic notions of investors and residents align. The private owners aren’t linked to any of the university’s policies so when Northeastern (or any other school for that matter) closes its facilities, the same policies don’t apply to private facilities. It’s as clear a delineation between private and school owned housing as you can get. So the university’s involvement is to waive its requirement that the operator only let Northeastern students live there.

Yes, the schools and developers of these projects are participants in their development but the whole purpose of these projects is to keep the liabilities off of university balance sheets. So no matter how these projects are marketed to tenants and investors that underlying premise should govern how one assesses the creditworthiness of these projects. They generate better yields than do those for projects which are owned by and part of university housing systems for a reason. The present situation illuminates that reason.

MICROMOBILITY

The Arizona Supreme Court unanimously rejected a challenge by the state’s attorney general who said the $4 pickup and drop-off fee that led Uber and Lyft to threaten to stop serving the Phoenix airport were unconstitutional. Attorney General Mark Brnovich argued that the fee increases violate a 2018 constitutional amendment that banned new fees on services. The city argued the higher fees are not taxes on services, but rather permissible charges for businesses to use the city-owned Sky Harbor International Airport. The city successfully compared the charges to the rental payments made by various concessionaires at the airport.

One non-financial issue that did make it through New York State’s budget process was a provision that would legalize throttle-based bikes and scooters. That legalizes electric scooters and bikes. The legislation would create three classes of e-bikes: Class 1 is pedal-assisted with no throttle; Class 2 is throttle-assisted with a maximum speed of 20 mph; and Class 3 is throttle-powered with a maximum speed of 25 mph. E-scooters would be capped at 15 mph, and riders under 18 years of age would be required to wear a helmet. Helmets would also be required for riders of Class 3 e-bikes.

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’s stunning unemployment claims report makes a strong case in favor of a view that essentially all municipal credits should carry a negative outlook. We do not foresee a cascade of sudden multi notch downgrades but rather a steady negative trend underlying most if not all of the metrics supporting ratings. We do not anticipate significant defaults to result from the pandemic over the near term. We do anticipate that downgrades will increase impacts on trading values and raising investor concern.

For investors who plan to hold their bonds until maturity or redemption,  holding on to what have been to date sound credits makes sense. For those who are concerned with real time valuations and the potential short term trading impact, it is a different story. It is time to lighten up on some sectors (project finance – corporate backed or individual facility backed – in all sectors, private student housing, senior living to name a few) and shift to revenue backed enterprise credits (utilities – water, sewer, electric) which are better able to weather a longer term storm.

We are truly in unchartered waters. The implementation of essentially nationwide lockdown regulations has not occurred in our history. There are no good models for an economy with a 30% unemployment rate over an extended period. Current federal fiscal policies, especially those regarding taxation, have created an environment not conducive to decisive and sizeable enough federal fun ding efforts. Even with additional stimulus actions in Washington, states and municipalities will ultimately bear the financing and funding burden of recovery.

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CORONA VIRUS

“The first line of attack is supposed to be the hospitals and the local government and the states themselves.” That comment from the President highlights the unique role that the issuers in our market face. That raises the issue of why Congress has made it increasingly harder for states and localities to fund and finance their activities. The trend over the last 40 years has been to chip away at the ability of states and localities to access capital. So now the ability to use tax exempt financing to engage the private sector is limited, the ability to refinance to provide maximum flexibility to address situations like the current one is limited. All of this was somewhat acceptable when there was a strong federal structure in place to support responses to national emergencies. That is no longer the case.

The lack of such a structure has done significant current and near future damage to state and local finances. That means that stimulus 4 – and there will be a couple of more bills – will need to be the foundation to support a real federal response to the issue of the impact of the pandemic on state and local finances. So far the enacted legislation has help for the health system, people, small businesses, and big businesses. Yes, some public transit agencies will get to divide $25 billion. It has not addressed revenue and expense impacts on general governmental finances resulting from that first line of attack standpoint. It also does not deal with toll facilities which are experiencing significant lower use and revenue.

So what to do when such a federal response is lacking? One has to find what evidence they can about the efficacy of social management policies which seek to combat the virus. The concern is especially heightened as all signs point to a potentially cataclysmic impact on state and local economies and fiscal positions. Now we have some objective guidance to support state and local interventions.

The Federal Reserve Bank of New York has released a study of the impact of “non-pharmaceutical interventions” (MPI) implemented in response to the Spanish Flu pandemic in 1918-1919. It’s primary findings indicate that areas that were more severely affected by the 1918 Flu Pandemic see a sharp and persistent decline in real economic activity. Second, it found that early and extensive NPIs have no adverse effect on local economic outcomes. On the contrary, cities that intervened earlier and more aggressively experience a relative increase in real economic activity after the pandemic. It was true that the 1918 Flu Pandemic led to an 18% reduction in state manufacturing output for a state at the mean level of exposure. Exposed areas also see a rise in bank charge-offs, reflecting an increase in business and household defaults. It also notes that the effects lasted for up to four years after the pandemic.

On the local level, cities that intervened earlier and more aggressively experience a relative increase in manufacturing employment, manufacturing output, and bank assets in 1919, after the end of the pandemic. The effects are economically sizable. Reacting 10 days earlier to the arrival of the pandemic in a given city increases manufacturing employment by around 5% in the post period. Likewise, implementing NPIs for an additional 50 days increases manufacturing employment by 6.5% after the pandemic.

The 1918 Flu Pandemic lasted from January 1918 to December 1920, and it spread worldwide. It is estimated that about 500 million people, or one-third of the world’s population, became infected with the virus. The number of deaths is estimated to be at least 50 million worldwide, with about 550,000 to 675,000 occurring in the United States. The pandemic thus killed about 0.66 percent of the U.S. population. The pandemic came in three different waves, starting with the first wave in spring 1918, a second wave in fall 1918, and a third wave in the winter of 1918 and spring of 1919. The pandemic peaked in the U.S. during the second wave in the fall of 1918.

What else can the study tell us about the economic and fiscal risks which result on a more specific basis? One thing is that the employment and output declines in high exposure states are persistent, and there is limited evidence of a reversal, even by 1923. Most U.S. cities applied a wide range of NPIs in fall 1918 during the second and most deadly wave of the 1918 Flu Pandemic. The measures applied include social distancing measures such as the closure of schools, theaters, and churches, the banning of mass gatherings, but also other measures such as mandated mask wearing, case isolation, making influenza a notifiable disease, and public disinfection/hygiene measures.

Other research supports the continuation of social and economic measures by state and local governments. A working paper from University of Chicago researches estimates that moderate social distancing would save 1.7 million lives between March 1 and October 1, with 630,000 due to avoided overwhelming of hospital intensive care units. Using the projected age-specific reductions in death and age-varying estimates of the value of a statistical life (VSL), we find that the mortality benefits of social distancing are over $8 trillion or $60,000 per US household.

The bottom line is that there is no quick answer to how best to handle the pandemic but there is clear evidence that a strong and timely approach is the best way in both the long and short run. There is no way for states and cities to avoid a significant fiscal hit at least in the short run. New York State will not have a timely budget and many other states are likely to have the same experience. It is also likely that good and timely information will not be available to legislators trying to enact budgets. At the same time, the closures of many public offices will delay the aggregation and distribution of complete and timely financial disclosures to all municipal finance stakeholders. 

CORONA VIRUS INFECTS RATINGS

This week the impact of the corona virus began to be seen in a variety of ratings actions. These actions all occurred in sectors which we have recently highlighted as being vulnerable to the revenue impacts of the corona virus. In the hospital sector, Moody’s Investors Service has placed under review for possible downgrade the ratings of four Washington hospital districts and one California healthcare district due to anticipated financial stress stemming from the coronavirus outbreak. This action affects approximately $214.7 million of rated outstanding general obligation bonds and $19.9 million of rated outstanding general obligation limited tax bonds.

The state general obligation sector saw Moody’s Investors Service has affirmed the Aa3 on the state of Louisiana’s outstanding general obligation bonds but revised the outlook to stable from positive reflecting the impact of the novel corona virus crisis on the state of Louisiana and its expectation that there will be substantial impacts of the crisis on state finances and the economy which will dampen the positive trajectory the state’s finances have been on for the past several years. Moody’s revised its outlooks on both the State and the City of New York to negative from stable, citing the severe strain from the pandemic. We would expect similar actions on credits in the hard hit states. Likely candidates include the State of Michigan and Detroit, Illinois and Chicago, Louisiana and New Orleans.

On March 25, 2020, Moody’s placed the Government of Guam’s general obligation bonds (Ba1) on review for possible downgrade. It also has placed the Baa2 ratings assigned to the Port Authority of Guam’s port revenue bonds on review for downgrade. has affirmed the Baa2 ratings assigned to Antonio B. Won Pat International Airport Authority, Guam’s (GIAA) senior general revenue bonds. The rating outlook has been changed to negative from stable. The actions reflect  a significant reduction in visitors to the territory from Asia as a result of the Corona virus (COVID-19) pandemic, uncertainty about the timing of and speed of a recovery in visitor arrivals, and the impact of the downturn in visitors on the Port Authority of Guam’s revenues as well as general government revenues.

Now we have evidence of predicted impacts on travel related credits. Moody’s Investors Service has affirmed the Baa2 rating on approximately $50 million of Taxable Revenue Bonds, Series 2005 (Rental Car Facility Project at Ted Stevens Anchorage International Airport) issued as special and limited obligations of the Alaska Industrial Development and Export Authority. The outlook has been revised to negative from stable. Moody’s said that the negative outlook reflects our view that rental car transaction days will decline significantly over the next 12 months, resulting in narrow or less than sum-sufficient net revenue DSCRs along with the potential for draws on project reserves. The negative outlook also incorporates uncertainty regarding the project’s ability to adapt its revenues and capital expenditures in a timely manner and the risk that the path to recovery may not restore coverage or liquidity to satisfactory levels.

STATE REVENUE IMPACT

The Illinois General Assembly’s Commission on Government Forecasting and Accountability (COGFA), has released a report which estimates the potential impact on Illinois’ revenues. It based its projections on declines in tax revenues experienced during recent recessions. The conclusion: Illinois’ general operating revenues could fall between almost $2 billion and more than $8 billion over several years, depending on the severity of the virus-triggered recession. Before the crisis, COGFA had estimated that General Funds revenue would total $40.6 billion in fiscal year 2021, which begins on July 1, 2020.

COGFA’s report said the downturn between FY2001 and FY2003 saw overall General Funds tax revenues fall by a combined $1.3 billion, or 5.5%, from $24.1 billion to $22.8 billion. The three main State-source revenues—individual income taxes, sales taxes and corporate income taxes—declined by a similar 5.7% during the period. A recession of like magnitude would be expected to reduce total General Funds revenue by close to $2 billion over the next several years, according to COGFA.

According to the Commission, the Great Recession that began in December 2007 and officially ended in June 2009 saw overall General Funds revenues fall by $2.6 billion, or 8.7%, from $29.7 billion to $27.1 billion. The major State-source revenues declined by a combined $3.2 billion, or 16.6%, from $19.4 billion to $16.2 billion, but the effect was mitigated by federal stimulus funding through the American Recovery and Reinvestment Act. Due to recent income tax increases beginning in 2011, these revenues have grown from about 60% of the total to nearly 78%, according to COGFA. As a result, a recession similar to the Great Recession is expected to result in a decrease of about 11% in total receipts over several years, or a revenue loss of about $4.5 billion.

Pennsylvania reported that general fund revenue dropped 6.2% in March. Fiscal year-to-date general fund collections total $25.3 billion which is $45.6 million or 0.2% below estimates. Withholding of income tax and sales tax are below estimates in March by $20 million and $24.2 million. Keep in mind that sales tax collections are effectively on a one month lag as 60% of the sales tax remitted in March was for retail sales in February. State officials had expected payments of personal income tax to total about $2.1 billion during April, May and June but that will not happen as the tax payment  date has been moved to July 15.

THE STOCK MARKET AND PUBLIC PENSION FUNDING

One of the concerns to emerge from the current crisis and its impact on the stock market is the potential for serious negative consequences for the nation’s public pension funds. One major pension fund investor is New York City which reports that at the end of 2019, the five plans that compose the retirement system held $153 billion in assets on behalf of city workers. Extraordinarily low interest rates for government bonds in recent years have compelled pension plans to rely more heavily on equities as well as alternative assets—like hedge funds, “high yield” debt, and real estate—to increase returns. The City’s Independent Budget Office (IBO) has provided one of the first estimates of the potential impact of the stock market’s recent gyrations on pension funding.

The analysis only covers the five city funds but it outlines many of the issues which will confront pension fund managers in light of the pandemic’s impact on the economy. Assuming the NYC system met its 7% return on assets benchmark in the current fiscal year, the pensions’ assets would add approximately $10.7 billion in value. The amount owed to the pension system resulting from investment returns that fall short of 7 percent  (the assumed rate of return) is phased-in over the next seven years. Because the start of payments is lagged by one year, the first budgetary impact of losses experienced by the funds’ investments in 2020 would not be felt until 2022.

The dollar impact is potentially substantial. IBO notes that during the Great Recession of 2008, the pension system’s investments saw asset values decline by over 20% in a single year. Scaling to today’s assets, a 20% decline in value for the current year would mean the system would require an additional $41.2 billion to be made whole. The single-year losses realized by the pension system in 2022 would be $5.8 billion, resulting in an additional employer contribution of $386 million for each of the next 15 years. The city now contributes about $10 billion annually to the pension system. 

We would expect that similar data could be generated for any number of other public pension funds. The current investment experience will therefore be a drag on credit performance for some extended period. Thus the need to fund pensions will compete to a higher degree with other capital needs. The price for the lack of a coherent approach to infrastructure funding over the past three years will increase in light of the need to fund pensions and other new costs which will result from the pandemic.

HOSPITALS TRY TO MANAGE THE SURGE

Bon Secours Mercy Health will furlough its employees if their work doesn’t involve treating COVID-19 patients. It operates hospital and nursing care services in the States of New York, Maryland, Virginia, Kentucky, South Carolina, and Florida. The system is projecting it will suffer operating losses of $100 million per month without serious non-patient care reductions in headcount. Furloughed employees will be paid through April 3, and the health system will then pay out any personal time off (PTO) those workers have accrued. They will be eligible for enhanced unemployment.

The move comes at the same time its outstanding debt was upgraded  and assigned an  A1 rating by Moody’s. Moody’s based the change on BSMH’s strong liquidity of over $5 billion, centralized management model and platform, and proven ability to quickly execute complicated integration strategies, which will provide resources to manage through COVID-19 challenges. Governance considerations include the successful execution of system-wide integration initiatives over the last 18 months, consolidated management structure, and a common IT platform, all of which will drive a second year of sizable synergy benefits. Strong liquidity from $1.2 billion asset sale proceeds, upcoming asset sales, and expected bank line availability will provide flexibility during COVID-19 operating stress and for long-term growth strategies.

It is just the latest example as hospitals seek to shift the cost burden of stay at home policies to the government. The implementation of restrictions of non-emergency care has a significant impact on their revenues from non-governmental private insurance payers. There is also far less need for the many administrative personnel usually needed to service the existing insurance scheme in the US. The layoffs and cost reductions are the primary tool at the disposal of hospital managements as they navigate a high cost limited reimbursement environment in their effort to maintain as positive a credit profile as they can.

STATE BUDGETS ADAPT TO VIRUS REALITIES

Gov. Andrew M. Cuomo announced an agreement with the Legislature on a $177 billion budget. The pandemic led to a plan which includes lots of hopeful assumptions, increased borrowing power through the relaxation of statutory debt limits, and gives the Governor unilateral flexibility to make budget cuts through the end of Fiscal year 2021.

As is the case in many states, budget negotiations are intertwined with non fiscal policy issues. The impact of the pandemic created an atmosphere of urgency to get a fiscal framework in place as the state deals with its role as the pandemic epicenter. This meant that several such policy issues which might have led to a different budget outcome on both the revenue and expense side were set aside to facilitate a budget settlement.  

New Jersey will extend the state’s deadline for a new 2021 fiscal year budget to Sept. 30 from June 30. It is the first state to do so. “This will allow the administration and the legislature to focus fully on leading New Jersey out of this crisis, and to allow for a robust, comprehensive, and well-informed budget process later in the year,” according to the Governor and the leaders of the state legislature. It would not be a surprise to see other states follow suit as the national stay at home periods continue over what is typically the quarter when states receive their highest proportion of revenues.

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 focus on unemployment as it drives most everything we comment on. There is the direct funding need generated by record initial claims, the uncertainty about the duration of social distancing practices, the potential offloading of laid off employee medical costs to Medicaid, and the costs of highly diminished transportation and its immediate impact on revenues. The lack of coherent federal strategy in response to the pressures generated by the pandemic coupled with continued wishful thinking by the White House has simply added to the difficulty in assessing the pandemics true impacts and potential long term credit effects. Anyone who tries to tell you otherwise is only fooling themselves.

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PANDEMICS, UNEMPLOYMENT, AND BUDGETS

Three weeks ago, initial unemployment claims were at about 200,000. In the week ending March 21, the advance figure for seasonally adjusted initial claims was 3,283,000, an increase of 3,001,000 from the previous week’s revised level. This marks the highest level of seasonally adjusted initial claims in the history of the seasonally adjusted series. The previous high was 695,000 in October of 1982. The previous week’s level was revised up by 1,000 from 281,000 to 282,000. The 4-week moving average was 998,250, an increase of 765,750 from the previous week’s revised average. The previous week’s average was revised up by 250 from 232,250 to 232,500.

The State of New York is not only the epicenter for the virus but is also the first state to have to budget  under the terms of the new economic reality in the US. It is grappling with the fact that we are undoubtedly in a nationwide recession as well as the State’s role as the center of the financial industry. It is feared that the economic consequences of the pandemic will create a $15 billion plus hole in the State’s revenue base. With the declines in the stock market, the capital gains states of NY, NJ, CT. MA, IL, CA will see disproportionate impacts.

We already see requests from the State of California and the City of New York to identify significant potential expense reductions in the face of both an anticipated revenue decline as well as delays in revenue receipt as the result of the delay in the federal tax payment date. NJ State Treasurer Elizabeth Maher announced that she is placing $920 million of appropriations into reserves. We would not be surprised to see a higher volume of cash flow borrowings.

The reality is that state and local budget makers are flying blind as there is no real visibility as to a potential time frame for the renewal of “normal” economic activity. We would anticipate lower general obligation bond ratings to decline essentially across the board. Some states are taking significant steps to marshal resources. NJ State Treasurer Elizabeth Maher announced that she is placing $920 million of appropriations into reserves. 

The Senate stimulus bill would offset some of the impacts on credits especially in the transportation sector. The bill would provide $25 billion to transit agencies, the figure they had been seeking. The money could be used to pay to put personnel on administrative leave as agencies cut service, as well as to buy protective equipment and cover other costs. New York’s Metropolitan Transportation Authority is expected to get almost $4 billion. 

Airports would see a further $10 billion in grants on the condition that they keep 90 percent of their staff employees until the end of the year. It is not clear on whether these monies would benefit contractor employees who make up a significant segment of labor at airport terminal commercial outlets.

We do not see any provisions for toll road revenue losses. This is a concern as roads are virtually empty. Credits backed by high occupancy and demand management lanes will continue to be impacted. One high profile high yield bond is being directly affected. Virgin Trains USA, the parent company of the Brightline express train, suspended all train service in South Florida and laid off 250 employees amid the corona virus concerns. 

The Senate stimulus also provides $117 billion for hospitals and veterans’ health care; $11 billion for vaccines, therapeutics, diagnostics, and other preparedness needs; $4.3 billion for the Centers for Disease Control; $16 billion for the Strategic National Stockpile; and $45 billion for FEMA disaster relief fund, among other things.  More than 80 percent of the total funding provided in the corona virus emergency supplemental appropriations division of the package will go directly to state and local governments. Health care systems would receive $130 billion, including $127 billion for a Public Health and Social Services Emergency Fund.  

NO CENSUS, NO FEELING

One of the things that we would normally be anticipating is the US census for 2020. As our industry and market have become so much more data driven, the importance of the availability of good data whether it be for trading, for analysis, or government has continued to grow. The development of good data regarding the economic, demographic, educational , and other aspects of American’s lives are central to much of the work we all do.

Among all of the issues arising from the corona virus pandemic, interruptions to the process of collecting data from residents for the 2020 Census pale beside things like ventilators and shelter orders. Nonetheless, the hurdle that various actions taken to control the pandemic across multiple states  can create for the timely and complete execution of the Census is substantial. While many can complete

their forms on line, a significant portion of the population does not have or use internet access. Some will fill out and mail a form but up to a quarter of the population may need to be contacted in person.

The US has never failed to execute a timely Census but the possibility of a delay must be considered. If it is delayed, that would raise all sorts of issues with the data. A delay in the data could also impact the state redistricting process. This has practical and political considerations for states and localities especially as they involve issues of federal funding for many projects covering many sectors.

PUERTO RICO

The financial Oversight Board is looking to the courts to postpone proceedings on existing proposals to restructure its defaulted debt. “In light of Puerto Rico’s current reality, the oversight board believes that the government and the oversight board’s sole focus should be on getting Puerto Rico through this unfortunate crisis. The board will present a motion in court to adjourn consideration of the proposed plan of adjustment’s disclosure hearing until further notice.”

There are practical considerations which support such a move. The economic impact of the corona virus pandemic will hit the Commonwealth as hard as anywhere given its weakened economic and fiscal conditions to begin with. As will be the case with the states, Puerto Rico will see significant revenue losses. These will likely be enough to force a reevaluation of many of the economic and revenue assumptions supporting the restructuring plan.

Meanwhile, the US District Court for the First Circuit ruled against holders of debt issued to fund pensions in their request to have the assets of the pension fund taken from the general government and given to bondholders. The Puerto Rico government as part of its restructuring largely abolished the pension system. It then, ordered that the assets be transferred over to the general government funds with the general fund assuming its obligation to pay pensions.

The bondholders’ primary argument on appeal was that the federal court didn’t apply standard commercial bankruptcy principles. The justices said the federal judge could consider that this was a governmental bankruptcy and different interests were involved.  The Court reasoned that “The bankruptcy of a public entity … is very different from that of a private person or concern”. A commercial bankruptcy is designed to “balance the rights of creditors and debtors,” whereas governmental bankruptcies are intended to allow governments “the opportunity to continue operations while adjusting or refinancing their creditor obligations.”

We see it as positive that the Court ruled that the nature of municipal versus corporate bankruptcies is different. The role of investors who traffic in distressed situations in the municipal market has been evolving leading to a debate over the role of distressed institutional investors. I believe that they have a role and often provide a needed source of liquidity for holders without the ability to ride out bankruptcies. At the same time their efforts to jam the round peg of a governmental entity into the square hole of corporate bankruptcy practices often bring unnecessary delay to the process of restructuring a municipal entity.

The bondholders still have a separate case pending in the U.S. Court of Federal Claims in which they are arguing that the asset transfer amounted to a “taking” in violation of the Fifth Amendment. The First Circuit suggested that the plaintiffs “avoid a proliferation of actions seeking essentially the same remedy. Each such proceeding potentially drains assets which could be put to other uses.” We agree.

RATING AGENCIES AGREE WITH US

Fitch placed the ratings of five large U.S. public transit agencies on rating watch negative. They are the Metropolitan Transportation Authority in New York, the San Francisco Bay Area Rapid Transit District, the Washington Metropolitan Area Transit Authority, the Metropolitan Atlanta Rapid Transit Authority, and Colorado’s Regional Transportation District. S&P has lowered its outlook on the Metropolitan Atlanta Rapid Transit Authority’s (MARTA) sales tax revenue bonds to negative from stable. It also lowered its long-term rating and underlying rating to ‘A-‘ from ‘A’ on the Metropolitan Transportation Authority (MTA, or the MTA), N.Y.’s transportation revenue bonds (TRBs) outstanding.

Moody’s revised its outlook  to negative on the Aa3 and A2 ratings of the New York Convention Center Development Center’s (NYCCDC) Senior Lien and Subordinate Lien Revenue Bonds including the Aa3 rating on SONYMA bonds that are subordinated to the Senior Lien Revenue Bonds and the A2 rating on SONYMA bonds that are included in the Subordinated Lien Revenue Bonds. The bonds is secured by a $1.50 per-night unit fee on occupied hotel rooms in New York City; a revenue account minimum balance requirement of 80% of MADS; a debt service reserve funded at maximum annual debt service ($43.4 million for the senior lien and $24.5 million for the subordinate lien); and (iv) a credit support agreement with SONYMA that establishes a dedicated account that may be used to pay up to one-third of debt service each year, after tapping the corporation’s other reserves.

S&P Global Ratings placed Queens Ballpark Co. LLC (Citi Field) and Yankee Stadium LLC — the respective homes of the Mets and Yankees — and Louisville Arena Authority LLC on credit watch with negative implications. S&P rates both New York ballpark bonds BBB. “Stadiums and arenas are already facing canceled events and suspended sports seasons due to the corona virus outbreak,” S&P said. “As a result, cash flows in the related project financings are under pressure.” S&P also revised its outlook on toll roads as well as the airport and parking facilities sectors to negative. Moody’s Investors Service revised its sector outlook for toll roads to negative from stable.

Fitch has downgraded Suffolk County, NY to ‘BBB+’ from ‘A-‘. “Current economic conditions, triggered by the corona virus pandemic, are expected to place significant additional pressure on the county’s revenues and cash position in the near term.” Fitch noted that the county’s financial resilience is limited with no general fund reserves to address fiscal pressures that will arise from the current economic slowdown. The majority of the county’s budgeted operating revenues for 2020, including the general fund and police district fund, come from sales and use tax collections (approximately 47%) and property taxes (approximately 22%).

Fitch highlighted the fact that it does not expect the county to come close to budgeted sales tax assumptions due to the recent declines in oil and gas prices, the temporary closure of the major shopping malls, restaurants and the casino, and other economic pressures associated with the corona virus pandemic. Budget balancing is likely to require drastic spending cuts or increased borrowing.

Port credits began to feel the pressure. Moody’s revised its outlook to negative on port credits in Port Canaveral and Miami-Dade due to unprecedented Corona virus (COVID-19) restrictions globally that led to the halt of cruise operations at PortMiami and other cruise ports in the US for a 30-day period since March 13, 2020.

CA LIFORNIA WILDFIRE AGREEMENT

Pacific Gas & Electric reached an agreement with Gov. Gavin Newsom. It pledged billions of dollars to help wildfire victims, improve safety and make other changes. Half of the company’s $13.5 billion payment to wildfire victims will be in the form of PG&E stock under a previously reached agreement. 

Now, PG&E has agreed to a plea bargain in state court to settle pending criminal charges against the company. The plea agreement requires PG&E to accepted a maximum penalty of $3.5 million. In exchange, “no other or additional sentence will be imposed on the utility in the criminal action in connection with the 2018 Camp Fire.” The company will also pay the district attorney’s office $500,000 to cover the cost of its investigation. The plea  must be approved by a state court, which is scheduled to consider it on April 24, and the bankruptcy court.

The agreement should allow the utility to exit bankruptcy by June 30, a state-mandated deadline for it to take part in the fund designed to help utilities pay claims from future wildfires. PG&E must receive approval of its plan by state regulators and the bankruptcy judge by June 30 and have its financing in place by Sept. 30. Failure to do so will set off the sale of the company.

The agreements will keep PG&E as an investor owned entity after it was threatened with an effective takeover by a state created entity. It will not necessarily be able to maintain itself as a sound entity even after this second bankruptcy is concluded. It will be a heavily leveraged entity as it finances capital needs and will likely face a constricted ratemaking environment.

HOSPITALS AND INSURANCE

California, Colorado, Connecticut, Maryland, Massachusetts, Minnesota, Nevada, New York, Rhode Island, Vermont and Washington run their own health insurance exchanges under the Affordable Care Act. These states have opened up enrollment under the Affordable Care Act to allow laid-off workers to get subsidized health insurance. Under the Affordable Care Act, people who lose insurance coverage when they lose their job are already allowed to buy their own insurance.  The newly announced changes will anyone without comprehensive insurance could simply sign up for a health plan, without having to prove such special conditions. 

The potential for large surges in demand through emergency departments especially by those without health insurance created huge risks for hospitals who could see their uninsured charity caseloads skyrocket without knowing how those costs would be covered. The Kaiser Family Foundation estimates that 17 million people already uninsured are eligible for marketplace coverage. More than a quarter of those people were eligible for a bronze plan that would cost them nothing in premiums after federal subsidies were applied (they would still have a high deductible). 

The question remains what the 32 states which operate through the federal marketplace will be able to do. They cannot expand their programs without federal approval. Whether that approval will come while the Administration is fighting to have the ACA declared unconstitutional is unclear. 36 states expanded their Medicaid programs under the Affordable Care Act, and in those states anyone now earning less than 138% of the federal poverty level — about $17,000 for a single person and $35,500 for a family of four, annually — can qualify for coverage right away. 

There has been some effort to support the states from the federal government. The Centers for Medicare & Medicaid Services (CMS) approved an additional 11 state Medicaid waiver requests under Section 1135 of the Social Security Act (Act), bringing the total number of approved Section 1135 waivers for states to 13. The waivers are designed to facilitate relief from administrative requirements, such as prior authorization and provider enrollment requirements, suspending certain nursing home pre-admission reviews, and facilitating reimbursement to providers for care delivered in alternative settings due to facility evacuations.  This will facilitate funding for the states during this crucial period.

The expansion of coverage would be positive for hospitals in that it would reduce charity care burdens and provide more certainty about how they would be reimbursed. The need for increased coverage is highlighted by the plight of rural hospitals. While many of the financially distressed hospitals in this cohort have been smaller, the pressure on the rural hospital sector is impacting larger rural facilities.

Two 200+ bed facilities saw their ratings downgraded . Southeast Hospital, d/b/a SoutheastHEALTH is a not-for-profit 501(c)(3) health system located in Missouri. The system operates a flagship hospital of 245 licensed beds in Cape Girardeau, a rural community hospital in Dexter, and numerous outpatient clinics. It saw its Moody’s rating lowered to Ba1 from Baa3, affecting approximately $127 million of rated debt. The outlook is revised to negative from stable. Moody’s also downgraded Hutchinson Regional Medical Center, Inc. (HRMC) in Kansas to Ba1 from Baa3, affecting approximately $35 million of rated debt. Both hospitals had underlying credit problems but now are facing increased pressure as the result of the pandemic.

For hospitals whose financial position was marginal going into the pandemic, there will be further ratings pressures. These are just two of the latest examples.

BORDER RESTRICTIONS AND LOCAL CREDITS

On the US Mexican border, several credits will be impacted by the closure of the US-Mexico border to nonessential travel to slow the spread of the corona virus until 20 April closure of the US-Mexico border to nonessential travel to slow the spread of the corona virus until  April.20. The reduced toll revenue is also negative for US-Mexico border cities which rely on transfers from their international bridge funds to support general funds. Lower bridge revenue flowing to border cities’ general funds increases the credit-negative effects of reduced sales tax revenue.

Take Laredo, TX where up to 50% of bridge toll revenue is transferred to the general fund. The Laredo International Toll Bridge System consists of four bridges at the intersection of major rail lines and highways. Bridge transfers provided 17% ($34 million) of general fund revenue in fiscal 2018, which ended 30 September 2018, while sales taxes accounted for 16%.  The impact on retail sales in border cities will be replicated at the many other communities which serve as ports of entry. The free flow of goods and people across the border has supported the emergence of commerce based economies with facilities such as warehouses becoming significant sources of property value growth, taxes, and jobs.

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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Publisher’s Note: The overarching impact of the corona virus pandemic is that we are about to see something unprecedented in our nation’s history – the near total shutdown of industry in the country. This week’s announcement that Ford and GM will halt production at their manufacturing facilities through the end of March at a minimum is unlike anything seen in this country since World War II. The companies and the United Auto Workers will work together on plans to restart production in compliance with social distancing protocols among workers, including at shift change times, and to maximize cleaning times between shifts changes. As demand slackens, we would not be surprised to see additional industrial and manufacturing disruptions.

This is a unique experience in US history certainly after World War II. One would have to go back to the Spanish Flu Pandemic of 1918 and 1919 to find a similar experience. The difference is how intertwined the world is now versus then which raises a whole host of issues creating this unique experience. Unique means that in many ways we are making it up as we go along. With that in mind, view this week’s comments.

CORONA VIRUS

The declaration of a national emergency and the actions increasingly being taken by localities to limit gatherings has made it clearer where the potential sector weak spots are in the municipal credit spectrum. So now the process of picking winning and losing sectors depending upon the individual credit characteristics can begin.

It is estimated that some 14% of total consumption spending – recreation services recreation services; food services and accommodation; transportation services- is effectively shut down for an indefinite period of time. The immediate impact will be on credits backed by taxes related to economic activity. “Wages that aren’t earned aren’t spent.” Sales tax bonds will come under pressure as non-essential spending is curtailed as the result of mandated closings of things like restaurants and bars.

Sales taxes provide current cash flow. They are usually collected and remitted to the taxing jurisdiction monthly. Credits secured by things like admissions taxes (from arena and entertainment facilities), hotel taxes, convention center revenues, toll roads, will all see revenue impacts. Flight cutbacks will reduce throughput at airports which rely on the economic activity from the increasingly important retail sales activity at terminals. That will impact general airport revenue bonds. Stand alone enterprise credits like airport rental car and garage facilities will be under stress.

One sector facing long term implications in addition to the short term pressures is the senior living industry. The vulnerability of their residents to the impact of pandemics is clear. There is no way to determine how the experience of the corona virus will impact long term demand for all of these facilities. For those in the early stages of development and fill up, the potential impact is significant as these projects often rely of fairly delicate timelines for the receipt of those revenues to meet covenant requirements as well as repayment schedules. The potential impact on housing demand and sales will make it more difficult to meet financial targets and schedules.

Project financings for things like shopping malls and casinos will be vulnerable. The Carousel Center in Syracuse, NY was already experiencing operating difficulties when it was downgraded by Moody’s in Late 2019. Carousel Center Company L.P. signed a three year loan extension and modification agreement with the special servicer of its subordinate CMBS loan on May 31, 2019. Now, the extended time period of inactivity faced by a project such as this means that its ability to meet the new Debt Yield covenants in 2020 and 2021 to secure the second and third year of the loan extension remains uncertain. While it is likely that the developer will make every effort to make payments in lieu of taxes which secure the bonds, the secondary financing difficulties make the project vulnerable to a bankruptcy by the developer to deal with the secondary financing needs.

The newly opened American Dream mall and entertainment complex in New Jersey was under significant pressure from its start. $800 million of limited obligation revenue bonds backed by a payment-in-lieu-of-taxes agreement between developer Triple Five Group and East Rutherford, along with $287 million of grant revenue bonds supported by anticipated sales tax revenue were issued to finance the project. Now the facility has closed in response to the virus which will further pressure the reliance on developer support for the bonds while tax cash flows are interrupted.

The impact of the stock market will be felt in multiple ways. States like CA, NY, NJ, IL, and MA all are vulnerable to negative impacts on capital gains revenues. So the immediate impact will be on operations. Longer term, pension funds are at the center of stock market risk so it is likely that funding ratio data and expense requirements to maintain funding will generate negative news.

Overhanging all of this is the need for states to take swift action without the benefit of a coordinated federal response. Maryland Gov. Larry Hogan (R) and New York Gov. Andrew Cuomo (D) ordered state health officials to reopen closed hospitals and to convert other facilities in order to accommodate patients. Retired medical staff is being recruited. These are expenses which must be covered but who and how much is effectively yet to be determined. Cuomo’s order will add an additional 9,000 beds to the 53,000 beds already available around the state. Maryland has about 8,000 hospital beds, and Hogan’s order will boost capacity by an additional 6,000.

Early in the week, The President advised states to seek out their own equipment, a potential sign that the federal government was not prepared or equipped to aid states that are going to need serious help. That will require funding. States will also be at the front lines of providing and funding unemployment insurance.

For smaller communities, orders to effectively shelter in place will reduce short term travel and reduce the opportunity to collect fines. In some rural communities, reduced travel will impact their ability to collect fines which are often an important component of local budgets. Less traffic makes it harder to issue speeding tickets which for many small towns are a significant revenue source. In larger communities, reduced travel will result in lower revenues from parking charges as well as parking related fines. In some localities, ticketing and fines have been suspended which will impact revenues.

On the public transit side, ridership on the NY subway was down 27% in one week and that was before schools and public facilities were closed. Seattle’s Sound Transit has experienced a 25 percent drop in ridership in February compared to the month before. Ferry ridership in Seattle was down 15 percent on Monday, March 9th, compared to the previous Monday. In San Francisco, BART fares account for 60 percent of the agency’s service budget and officials estimate the current drop in ridership will cost BART up to more than $600,000 each weekday. Ridership has fallen some 30%.  

WHO WORKS WHERE

The Airports Council International-North America (ACI-NA) represents local, regional and state governing bodies that own and operate commercial airports in the United States and Canada. They have their own agenda but they have produced data to reflect the potential impact of the economic downturn we are in. The council estimates  that about 1.2 million people work at 485 commercial airports in the United States. O’Hare in Chicago employs 41,000 alone.

Casinos in most places are shut down. Obviously the front line for economic impact would be Las Vegas. Nevada employs 403,000 in the gaming industry segment alone. The top five include New Jersey, Pennsylvania, Mississippi, and Louisiana each with between 30,000 and 40,000 employed.

And then there are the overall leisure/hospitality statistics. Some 16.8 million are employed as of February 2020. Less than three percent of them are unionized so they are not likely to have employment terms favorable to their being laid off. They make an average of $435 per week. So their unemployment will generate pressure on the health and shelter providers.

PRACTICAL FISCAL RESPONSES TO CORONA VIRUS

When one tries to assess the potential fiscal impact of the ongoing pandemic, the implications for ongoing funding things like education must be considered. School aid is often based on formulae which include factors like attendance and the provision of a minimum number of school days. The legislation by which things like ongoing school aid as well as state enhancement programs securing local school bonds does not always include provisions to cover situations such as is occurring right now.

One state’s recent action highlights one such example. In New York, aid is based on attendance as well as minimum day requirements. Should a district choose or be forced to close their facilities for any extended period, it was not clear whether the laws under which school aid is distributed would permit all of the anticipated aid. Districts and their creditors were concerned that cash flow issues related to delayed or lessened anticipated school aid could cause payment interruptions by districts. So it was positive to see that The Governor issued an Executive Order to eliminate the aid penalty for schools directed to close by state or local officials or those closed under a state or local declaration of emergency that do not meet 180-day requirements if they are unable to make up school days. 

For the states generally, the demand for unemployment support and the need to fund it is already apparent. Initial unemployment claims are in the tens of thousands in many states. Twenty three states have unemployment trust fund balances below their recommended funding levels according to the US department of Labor. That is before any Medicaid hit just from that cohort and not inclusive of corona related costs.

After several years of significant headcount increases, the City of New York finds itself with less room to maneuver through the corona virus pandemic. The City does have budgetary reserves but they will be quickly evaporated as it faces a significant revenue hit. This week, City Comptroller Scott Stringer estimated that the City would experience a $3.2 billion loss to the city’s tax revenues over the next six months. The comptroller called for spending at most agencies to be reduced 4% from what the mayor had proposed. For the Department of Homeless Services, the Administration for Children’s Services and the Human Resources Administration, reductions should be 2%. The Health Department and the department overseeing the city’s public hospitals should be exempt, according to the Comptroller. He estimates that over the next six months, restaurant sales will go down 80%, real estate sales, 20% and tourism-related retail, 20%. 

Seattle’s budget director last week estimated the city could collect $110 million less than expected in general-fund tax revenue this year due to an economic breakdown caused by the virus and by efforts to slow its spread. Hawaii’s chief state economist estimates that tax revenue coming into Hawaii state coffers is now expected to be $48 million to $80 million less than previous estimates for the rest of 2020 due to the impact of the corona virus. The drop will be primarily driven by declines in visitors coming to Hawaii and their spending. The latest data indicate that international arrivals are already down by more than 30% compared to the same period last year.

The virus is taking its toll operationally. In Pennsylvania , the Department of Transportation (Penn DOT) is suspending all operations, including construction, except critical and emergency work. Driver licenses, photo ID cards and learner’s permits scheduled to expire from March 16, 2020 through March 31, 2020, the expiration date is now extended until April 30, 2020. Vehicle registrations, safety inspections and emissions inspections scheduled to expire from March 16 through March 31, 2020, the expiration date is now extended until April 30, 2020. Persons with Disabilities Parking Placards scheduled to expire from March 16 through March 31, 2020, the expiration date is now extended until April 30, 2020. Moves like this should be expected across the country. That will impact the timing of fee revenues which along with possible tax payment deferrals could impact cash flows.

SOUTH CAROLINA PUBLIC SERVICE LITIGATION SETTLEMENT

In 2017, concerns were rising about the viability of the project to expand nuclear generating capacity at the Sumner Nuclear plant. A group of consumers filed a class action lawsuit against the plant’s sponsors The suit was brought in an effort to claw back charges customers paid for the unfinished twin nuclear reactor project. It names several electric cooperatives, former and current Santee Cooper directors, South Carolina Electric & Gas and SCANA Corp., and Dominion Energy, which bought SCANA in January 2019.

Now Santee Cooper has announced that it has reached a proposed settlement with the plaintiffs. The utility’s board of directors agreed to pay $200 million in cash over three years and to freeze rates for four years to end the suit. Dominion will pay $320 million in stock that will be sold and converted to cash as part of the settlement. Santee Cooper and Dominion also agreed not to attempt to recover settlement proceeds in base rates or other customer charges.

The settlement, if approved by the court, will remove a major source of uncertainty for Santee Cooper and may enhance its prospects for remaining a public utility. It allows the utility to more accurately estimate its stranded costs and determine a more certain course for its ongoing viability. It reduces the total liability with which creditors and investors would be effectively competing.  

The proposed settlement also helps to solidify some of the math being used to support assumptions being made by potential private suitors involved in efforts to acquire Santee Cooper’s assets. It is likely that the settlement will enhance the position of those who support reforming Santee Cooper’s oversight and management while maintaining its ability to compete. The ability to continue to finance its capital needs in the tax exempt market will continue to provide Santee Cooper with a cost advantage.

Proponents of a sale to private interests still have support in the state legislature and the outcome of deliberations currently underway in the state legislature is unclear. The approval of the proposed settlement is still uncertain. Preliminary approval of the settlement by the judge will begin a process during which all members of the class will be identified, and then they will be given the opportunity to opt into or opt out of the settlement.

Conclusion of the settlement process will be a credit positive event for the Authority and its bondholders.

GREAT LAKES WATER AUTHORITY

During the bankruptcy of the City of Detroit, investors holding debt issued for the Greater Detroit Water and Sewer Systems may have been one of the best positioned creditors. Between existing precedents for special revenue debt like that of the water and sewer systems and its regional revenue base, those credits were the most likely to be successfully restructured. So it was easy to counsel patience to those investors especially retail investors who were significant holders of the debt. Eventually, the Greater Detroit debt was restructured into a new entity, the Great Lakes Water Authority.

Now patient investors who worked through the bankruptcy, restructuring, and exchange process are seeing that patience rewarded. Moody’s Investors Service has upgraded to A1 from A2 and to A2 from A3 the senior and second lien water revenue ratings and the senior and subordinate sewer revenue ratings, respectively, of the Great Lakes Water Authority (GLWA), MI Water Enterprise. It cited ” continuation of strong operating performance that has resulted in healthy annual debt service coverage and liquidity. Additionally factored are the system’s large scale of operations, independent rate setting authority, and sound legal provisions of outstanding revenue debt. At the upgraded rating, these strengths continue to balance the system’s elevated debt burden, as well as their reliance on revenue derived from retail operations within the City of Detroit (Ba3 positive). The upgrade of the second lien revenue bonds to A2 incorporates the same factors while the lower rating reflects a subordinate claim on pledged net revenue.”

The restructuring improved regional oversight of the systems while maintaining their geographically diverse revenue streams. The regional character of the revenue base has only become clearer over time providing a solid foundation on which to rebuild its credit strength. It was always a regional credit and while Detroit had its problems the utilities managed to maintain the city’s suburban communities as customers of the systems.

RATINGS ACTIONS

We cited NY’s Metropolitan Transportation Authority as a vulnerable credit do to its reliance on farebox revenues. The corona virus will impact many credits and sectors but the MTA’s Transportation Revenue Bonds were especially vulnerable in the short term. So we view with interest the announcement this week that the Moody’s outlook for the A1 Transportation Revenue Bond (TRB) rating is negative.

According to Moody’s, MTA’s ridership levels and financial performance will be vulnerable if a widespread coronavirus outbreak occurs in NYC, or if local precautions to control an outbreak are extended. The credit impact will depend on the depth and duration of the economic and service disruption. We note that the MTA has ridden out prior interruptions in ridership – strikes, natural disasters, terror attacks without any real impact on bondholders. Unlike those events, the pandemic is forcing the MTA to fund increased employee education, customer communications and station and fleet sanitization, which will increase expenditures. 

The situation highlights the security structure for the MTA farebox bonds. Unlike most other rated transit systems, there is no debt service reserve fund. Pledged revenues flow to a trustee held account and are set-aside monthly for debt service before being released for operations. Longer term , the basic challenges the MTA faces – flat ridership trends, rapidly escalating leverage that includes growing market access risk, large debt and capital needs and growing public pressure to improve service and limit fare increases – will remain in a damaged economic environment. In the longer term, MTA will also be challenged by growing and relatively inflexible labor costs, and environmental risks (particularly from natural disasters).

PANDEMIC POSTPONES BOND VOTES

After the California primary, transit advocates were concerned that results from those elections might indicate that there was diminishing support for tax funding for transportation projects. Now, with 7 Bay Area counties under shelter in place regulations, there has been concern that a proposed sales tax backed transit funding program in a nine county around the Bay Area might not succeed at the polls this November. The proposal would ask voters in those counties to approve a 1 cent increase in sales taxes with proceeds dedicated to supporting debt issued to fund various transportation projects in the region.

The ballot measure was being proposed to the state Legislature under Senate Bill 278. In order to be placed on the November ballot, the bill would have had to be passed under an urgency clause that would have required at least two-thirds majority support from both the Senate and Assembly. Gov. Gavin Newsom would then have had to sign the law by June 24. Now in light of current events, proponents have announced that they are shifting their emphasis to the post-2020 time frame.

We would not be surprised to see other bond proposals wither in the face of the unprecedented funding demands due to the pandemic. It will be very difficult to garner support for any increases in taxes in the near term as individuals and businesses struggle in the face of extraordinary limits on economic activity. There are practical considerations as well. Many ballot actions in support of proposed bond issuances benefit from efforts to generate support in the community. Efforts in that regard are thwarted by the restrictions (required or voluntary) resulting from the pandemic.

Many scheduled elections in which bond ballot measures would be offered will be difficult to hold. To that end, Texas Governor Greg Abbott announced that local governments could suspend May 2 elections until the general election Nov. 3. The Metropolitan St. Louis Sewer District will go to court in an effort to postpone a $500 million bond referendum scheduled for April 7 because of the COVID-19 outbreak.

NONTRADITIONAL CREDITS UNDER PRESSURE FROM VIRUS LIMITS

Here in New York, there are certain credits which will be under unique pressures due to the limits on public gatherings. While no one is currently predicting defaults, four  prominent cultural or sports functions are exposed to financial pressure as seasons and performances are put on hold.

Bonds issued to finance Yankee Stadium and Citi Field are secured to varying degrees by revenues tied to attendance. The Yankee Stadium bond revenues pledged to debt service are dependent upon attendance or as George Steinbrenner used to put it “fannies in the seats”. A protracted stoppage would be akin to the risk of an extended labor stoppage which has always been cited as a major risk to the bonds. The Citi Field debt is secured by a pledge of certain seat revenues as well as revenues from advertisers at the stadium.  When all is said and done, a downgrade would not be surprising.

The Metropolitan Opera also issued municipal bond debt. It was downgraded in 2018 as the impact of  softening ticket revenue. It also faces labor pressures, pension costs, and disappointing fundraising trends. Weakened operating performance including inability to cover debt service with a 5% endowment spending rate, reduction in unrestricted liquidity, meaningful reduction in total cash and investments, and softened prospects for donor support or inability to meet fundraising targets were all cited as potential drivers of another downgrade. Now, the opera estimates that it will lose $60 million of revenue – a 20% hit after it announced that it would cancel the rest of its season because of the coronavirus pandemic and begin an emergency fund-raising effort aimed at covering the anticipated loss of revenue.

Other NY institutions with debt outstanding include the Museum of Modern Art. It just had its rating of Aa2 affirmed in January by Moody’s which cited excellent visitor demand and programs and strong membership which support revenue prospects. It also noted that the museum remains vulnerable to changes in New York City tourism patterns or art programming preferences. Additionally the museum has some exposure to contractual expenses through pension plans and collective bargaining agreements. Now it has announced that it will stay closed at least until July and expected a nearly $100 million shortfall.

There will be other examples across the country as cultural and educational facilities around the country are closed potentially for extended periods.

IT’S FLOOD SEASON AGAIN

While signs of Spring abound after the 2nd hottest February on record, not all of them are good. This is the time of year when the National Oceanic and Atmospheric Administration released its annual Spring Outlook and its estimates of potential flooding during the winter runoff. Last year saw exceptional levels of flooding across the middle of the country.

This year, NOAA says that major to moderate flooding is likely in 23 states from the Northern Plains south to the Gulf Coast, with the most significant flood potential in parts of North Dakota, South Dakota and Minnesota. It is forecasting above-average temperatures across the country this spring, as well as above-average precipitation in the central and eastern United States. Significant rainfall events could trigger flood conditions on top of already saturated soils. 

The flooding will renew the debate over physical mitigation (flood walls and levees) versus strategies such as managed retreat. The greatest risk for major and moderate flood conditions includes the upper and middle Mississippi River basins, the Missouri River basin and the Red River of the North. Moderate flooding is anticipated in the Ohio, Cumberland, Tennessee, and Missouri River basins, as well as the lower Mississippi River basin and its tributaries. The West seems best positioned going into flood season. Drought conditions are expected to persist and expand throughout California in the months ahead, and drought is likely to persist in the central and southern Rocky Mountains, the southern Plains, southern Texas, and portions of the Pacific Northwest.

Once again, states and localities will be central to any response further straining finances after the impact of the corona virus pandemic. The Army Corps of Engineers and the Federal Emergency Management Agency, are linchpins of the nation’s flood response. They could be stretched thin as the nnation fights the virus.

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, the emergence of a full blown pandemic and an anemic federal response to it have clearly shifted the operational and funding burden to the issuers in the municipal bond market. The nature and timing of this event, relative to many current trends and the nation’s political realities, create an unprecedented set of challenges.

The nature of the pandemic such that anyone who pretends to tell you that they know what will happen is, to be charitable, irresponsible. Our comments about the pandemic and its potential impact on credit reflect that view. We hope that these thoughts however, inform your own assessment of the event and its potential impact on the credit security of your portfolios.

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CORONA VIRUS IMPACT EXPANDS

The language is both stark and boilerplate. It soberly outlines the current risks to credit related to the corona virus for any credit reliant on travel or large gatherings. In the case of the following it applies to one credit but it could also be applied to a variety of credits dependent upon people gathering together and generating economic activity. Just substitute the appropriate words for McCormick Place or the Metropolitan Pier and Exhibition Authority for the credit of your choice. It happens that McCormick Place and the Authority are in the front lines of this situation.

“If the COVID-19 persists as a public health emergency or if other health epidemic conditions arise and persist, additional events at McCormick Place or other venues owned or operated by the Authority may be cancelled and related commercial activity and taxable transactions reduced. Such additional cancellations could also occur as a result of event and travel restrictions imposed by federal or local governmental authorities, voluntary decisions to withdraw by event sponsors and planners, and voluntary decisions to forego travel by expected event attendees.

While as of the date hereof, the remainder of events scheduled for the balance of 2020 at McCormick Place or other venues owned and operated by the Metropolitan Pier and Exhibition Authority have not been cancelled due to concerns about COVID-19, the Authority gives no assurance that there will not be future cancellations, nor is it possible for the Authority to predict whether or to what extent COVID-19 or any other pandemic, epidemic or other health-related conditions will affect the Authority’s operations, commercial activity, taxable transactions or the Revenues.”

This is one event which has actually resulted in disclosure. While the factors referenced may be obvious, the reality is that seeing them addressed in a timely manner by a major issuer is a positive development.

We consider certain states to be good indicators of the potential near term impact of the virus. They would be states with a reliance on sales as opposed to income taxes. There the impact in terms of declining travel and economic activity will give a fairly good real time measure of the impact. Florida is our primary target. The travel and economic activity related to MLB spring training, Disney World and other tourist attractions, and spring break are significant drivers. The monthly sales tax data from Florida will give us some basis for comparison and analysis. Texas, another sales tax state, has already seen the cancellation of South by Southwest and California’s Coachella festival has been postponed until the Fall. The center of attention – Washington State – is another state which relies on sales taxes. Nevada is a sales tax state as well as transportation/tourism dependent.

Some 100 major colleges and universities have cancelled classes. Some local school districts are closing schools for at least a week. Now that mass gatherings have been effectively banned, the fallout will quickly spread. The ban on gatherings will, if it lasts include the Easter season, traditionally a strong period for tourism. With events like the NCAA basketball tournament, Broadway, and the major professional sports leagues shut down, the economic impact will quickly emerge.

That brings us to the potential policy impact. As we go to press, the Administration proposals for steps to address the employment issues resulting from these event shutdowns are insufficient. That is not a political opinion – it’s just how it is. So many of those who works in those impacted industries – tourism, sports, cultural events, hospitality, transportation – are not covered by benefits or unemployment insurance. They will experience an immediate cash hit. And the big question is how long will this last? Unfortunately, there is no way to know until widespread testing is available and implemented.

What we do believe is that major governmental issuers – states, counties, and large municipalities will bear the brunt of any fiscal impact. It is a good sign that some major employers – Walmart and Darden Restaurants – are offering two weeks paid sick leave.  Implementation of such policies across the board would substantially relieve pressure on tax revenues.

One of the issues which will arise from an extended duration of social distancing is the potential long term impact on where and how people work. The immediate impacts will be on traffic as it is reflected in different commuting realities and on mass transit.

The photo is of one of New York’s busiest rush hour subway stops, the express platform at 59th Street and Lexington Avenue. This is 9 a.m. on a Thursday. Normally, the 4 and 5 lines are the busiest lines in Manhattan. If the pandemic is not dealt with, this could be the reality for many transit systems. That would result in a significant impact on revenues. One comfort is that many of the bonds sold to finance rapid transit construction and expansion are backed by dedicated sales taxes (Los Angeles and Atlanta are two). In New York however, the primary security for MTA bonds for the buses and subways is a pledge of the gross revenues of the system (the farebox). There doesn’t seem to be a lot of revenue potential in the picture.

HOSPITALS AND CORONA VIRUS

It is impossible to predict the impact on this sector on either a micro or macro level. Each institution will have its own set of circumstances and levels of outside government support as the effects of the pandemic spread. Having said that, here are the things which concern us.

Utilization will increase but it will not be profitable utilization. There are between 28 and 30 million uninsured individuals and many of them will either be treated or tested through hospital facilities. We are still not getting good data about the actual scope of the pandemic and there is not enough data on which conclusions may be reached regarding the potential need for acute care admissions The messaging from the Administration is muddled at best. Supposedly testing will be paid for (how and by whom is not clear) but there are no provisions for covering inpatient care or drugs for this cohort.

The potential for major hospitals to incur substantial unexpected expenses for supplies and personnel is significant. Because of the trends of declining inpatient utilization and the reduction of available beds, there is much less slack in the system than many think is the case. Estimates are that there are approximately 200,000 “excess” beds in hospitals nationwide. These are not likely to be sufficient in the event of a rapid need for care. An Economist article cited a recent study of covid-19 in China which found that 5% of patients needed to be admitted to an intensive care unit, with many needing intensive ventilation or use of a more sophisticated machine that oxygenates blood externally. America has 95,000 ICU beds and 62,000 mechanical ventilators, while only 290 hospitals out of 6,000 offer the most intensive treatment. 

This leads us to the issue of how charity care is funded and/or reimbursed. Charity care has traditionally been funded by states although the levels of funding and resources available to fund such care varies widely across the country. In the interim, utilization and revenues will be negatively impacted as hospitals are being asked to delay and/or curtail elective surgery. This will reduce revenues from sources which tend to have insurance.

Should corona related demand spike, hospitals will face daunting personnel challenges which will likely result in increased costs for more staff and/or overtime costs. Most troublesome is the fact that there is no good guidance as to how long the pandemic will last or how serious its effects could be. Hospital managements will have to rely on the strength of their balance sheets and available cash resources to fund operations as the pandemic unfolds.

That puts systems and large facilities at an advantage once again relative to stand alone institutions and smaller institutions. Rural hospitals will again be at relatively greater risk since they tend to have weaker balance sheets and operating profiles. On sector where size may not be an advantage will be the safety net hospitals. They will be exposed to the greatest potential for demand from uninsured patients who also are more likely to be in those groups considered most vulnerable.

OIL PRICES

The two places likely to see the greatest impact from lower oil prices are Texas and North Dakota as they are in the lead in terms of traditional drilling and fracking, respectively. There has already been employment impacts in oil dependent states but the current situation seems more dire. It’s not just the number of rigs which operate but the jobs in the oil services sector, the heavy equipment sector, as well as jobs in general services including restaurants and residential facilities.

Before this weekend, the impact of oil prices did lead to rig closures but it was the decline in new drilling where it was truly felt. Albeit in Canada, the pre-crisis price of oil made a multi-billion project in the Canadian oil sands uneconomical and was cancelled. Now the impact of the price war between Saudi Arabia and Russia is even more severe so there be even more reduced investment in smaller projects throughout the oil patch.

Generally, the uncertainty around the length and depth of an economic slowdown could not come at a worse time for governmental budgets. With so many of them facing June deadlines, it may be hard to predict with any certainty what the impact on both sides of the government income statement will be. We suspect that Credit volatility – at least in perceptions if not immediately ratings – will happen through the end of 2020 at least. Any significant deviations from projections on the downside will raise real concerns as they appear monthly and quarterly.

Other credits under pressure include those ports which derive significant revenues from oil exports. An example is the Port of Corpus Christi, TX. It handled 40% of total U.S. oil exports in January, or about 1.38 million barrels a day. The short term impact is blunted by the fact that many of the port’s agreements are based on take-or-pay contracts — meaning the port gets paid whether barrels are shipped or not.  The price decline, if it maintains over an extended period, will reduce production and shipments and will impact long term demand for the port.

PUERTO RICO

The Puerto Rico debt restructuring proceedings will extend through Election Day according to a schedule approved by the judge overseeing Puerto Rico’s Title III proceedings. The Puerto Rico Oversight Board and some groups of holders of general obligation bonds supported a schedule advanced by the Chief Mediator leading negotiations and other parties such as the Puerto Rico Fiscal Agency and Financial Advisory Authority, the Unsecured Creditors Committee, bond insurer Assured Guaranty (AGO), bond insurer Ambac Assurance, Invesco (IVZ), and others opposed the proposed timeframe.

The judge said she would set aside weekdays Oct. 21 to 31 and Nov. 1 to 6, excepting days for the omnibus hearing and for Election Day, to be used for the confirmation hearing. The deadline for the filing of objections to the release of a disclosure statement covering the proposed settlement to April 24. A hearing will also be held on the diversion of money from local government instrumentalities and their revenue bonds to the central government-guaranteed bonds, better known as “clawbacks”.

The uncertainty continues.

CALIFORNIA SCHOOL BOND DEFEAT

Supporters of a school bond authorization initiative were surprised when the 2020 Proposition 13 did not pass on March 3. After all, California voters have passed every construction bond for education since 1994, when voters narrowly defeated two small bonds, one for higher education and one for K-12 schools.  Organizations representing teachers, parents, school leaders, higher education groups, unions and business groups like the California Business Roundtable all endorsed Prop. 13.

The ballot summary of the bond made clear  that the principal and the $11 billion in interest on the bond would be repaid through the state’s general fund. Apparently, that was not enough to convince people that this initiative had nothing to do with the tax limiting Prop. 13 initiative which passed in 1978. Every decade, starting the year ending in “8,” the numbering cycle starts again for California ballot initiatives.  There were a dozen initiatives on state ballots in 2018; the state construction bond was the only measure appearing for the March primary, so it became Prop. 13.

Apparently, a large number of people believed that the two propositions were related and that the initiative would require higher property taxes. What did not help was the inclusion of provisions regarding requirements for the use of union construction workers on school projects and  increasing the local school district bonding limit. This allowed opponents to frame the issue as one of likely tax increases and higher costs for capital facilities.

One other provision would have reduced fees that districts can charge multi-unit housing developers and eliminated fees for large residential complexes near transit lines. This concerned some larger district managements who feared a loss of those revenues without some offset. Development around transit facilities is a hot button issue for affordable housing advocates who see the impact of gentrification as outweighing the benefits of new development.  

We do not read anything into these results which could have national implications. The factors contributing to this unexpected defeat we see as California issues.

NYS BUDGET SHIFTS COSTS TO NYC

As a result of the 1996 federal welfare legislation and the 1997 implementing legislation adopted by New York State, the state and city have three distinct cash assistance programs. Those on Family Assistance qualify for federal Temporary Assistance for Needy Families (TANF) grants. Needy single adults or couples without children are not eligible for Family Assistance but can receive benefits from the state’s Safety Net Assistance program. Safety Net Assistance was originally funded jointly by the city and state, each paying 50 percent of the cost, with no federal contribution. Families that reach their 60 months of federal TANF eligibility who are still eligible for benefits can shift to the 60 Month Converted to Safety Net program. Emergency Assistance for Families provides up to four months of grants for families in danger of homelessness.

The state’s funding comes through block grants from the Federal government so the experience is instructive as other programs come under consideration for block grants (block grants for Medicaid are a Republican dream) from the Federal government. In state fiscal year 2011-2012, the state allocated more of its TANF block grant to Family Assistance, increasing the federal share for the program from 50 to 100 %. Changes to the Safety Net and 60 Month Converted programs, which had previously been funded with 50 % state and 50 % city shares, but now were funded with 71 % city and 29 % state shares.

Governor Cuomo’s 2020-2021 Executive Budget proposes to increase the city share of both Family Assistance and Emergency Assistance for Families from 10 to 15 %. Since the city’s 2021 cash assistance budget includes a combined $455.4 million in federal funds for these two programs, a 5 percentage point increase in the city share would cost New York City an additional $25.3 million annually.

TRANSPORTATION AND MOBILITY

The lack of a comprehensive approach to emerging transportation technologies is forcing individual jurisdictions – large, medium, and small – to take their own regulatory approaches. The latest example comes from Spokane, WA where the city is considering a slate of proposed changes to the city’s contract with Lime and city laws that govern the use of scooters and bicycles. The proposals reflect issues around persistent complaints about scooters illegally cruising down sidewalks and being abandoned in places that obstruct pedestrian walkways.

The city official in charge of micro mobility planning summed up where we are. “We’ve done the carrot – we’ve done education, we’ve done Lime Patrol, and we’ve done all these things to encourage people to act right. Now we’re providing the stick, which is a fine through their user account when they park improperly.” Scooters and bicycles are not allowed on downtown sidewalks. Riders must be at least 18 years old, and scooters and bicycles must be parked in a way that leaves sidewalks clear.

The local press reports that an in-person survey of traffic by city staff at one busy intersection last year found more scooters illegally riding on the sidewalk than on the road, where they are meant to be used. City officials propose adding a new regulation that would require the company to tag each scooter with an identification number. City code enforcement officers would document parking violations via a time-stamped photograph and charge Lime $15 for each infraction. The company would pass on the fine to the user. The city will require Lime to suspend the account of any user who violates the rules three times in a year.

NEW MEXICO TAKES ON PENSION FUNDING AND THE BUDGET

The State of New Mexico has enacted legislation which primarily reduces Public Employees Retirement Association (PERA) fund cost-of-living adjustments (COLAs) and mandates increased contributions by employees and participating governments. The legislation primarily reduces Public Employees Retirement Association (PERA) fund cost-of-living adjustments (COLAs) and mandates increased contributions by employees and participating governments. PERA is severely underfunded, with a 71% funded ratio based on a reported 7.25% discount rate. Halve the discount rate and the funding ratio drops below 50%.

Moody’s has developed what it calls its “tread water” indicator to determine pension underfunding exposure. Using that metric, the governments’ collective tread-water indicator was $570 million in fiscal 2019, roughly 25% of payroll. Unfortunately, the state and participating governments contributed roughly $371 million in aggregate to PERA in fiscal 2019 (ended June 30, 2019), which equated to roughly 15% of active employee payroll.  The legislation calls for the state and its participating employees to increase their contributions to PERA by 0.5% of payroll per year for four years, producing a 2% cumulative increase relative to payroll for both the state and the employees, beginning July 1. Local governments that participate in PERA and many of their employees will similarly increase contributions relative to payroll, but not until  July, 2022.

The legislature also approved a fiscal 2021 budget of $7.6 billion. The final budget reflected the realities of the current health problem. When the Governor signed the bill, it was after she had cut $110 million in projects from an accompanying public works package due to concerns over plummeting oil prices and the impact of corona virus.

The action will hopefully not be the start of a trend where operating problems are solved by cutting back on infrastructure. The projects spanned many sectors including proposed school improvements, tribal building repairs, road renovations, and street signs. This as the budget left intact 4% pay raises for New Mexico teachers and state employees that will take effect in July. 

It is telling that the budget was adopted with the cuts despite the fact that as of last month, the state was estimated to have $1.7 billion in reserves when the budget year ends in June. It was not all bad news for infrastructure. The signed budget bill does include $180 million for statewide highway construction and repairs.

FLOOD CONTROL – MANAGED RETREAT VS. EVICTIONS

We have frequently commented on the impacts of climate change and various possible mitigation approaches. Two weeks ago, we discussed the concept of managed retreat as a way to deal with rising water levels and their impact on infrastructure. That is one approach as is the use of eminent domain as a way to relocate vulnerable structures and people. Now the use of eminent domain is back in the news with real implications for local credits.

The Army Corps of Engineers’ mission includes protecting Americans from flooding and coastal storms. It is the primary source of infrastructure development for flood mitigation from the federal government. Building sea walls, levees and other protections, and elevating homes are all elements in the Corps’ set of responsibilities and its projects are generally two thirds funded by the federal government.

Now as flooding becomes more frequent and severe, the Corps is taking a different approach paying local governments to buy and demolish homes at risk of flooding.  It is not a partisan approach as the Corps said that voluntary programs were “not acceptable” and that all future buyout programs “must include the option to use eminent domain, where warranted” in 2015 under the Obama administration.

The Corps estimates how much damage a house is likely to suffer in the next 50 years, then compares that to what it would cost to buy and tear down the house, plus moving expenses for the owner. If the buyout costs less, the homeowner is asked to sell for the assessed value of the home. It is not a universally accepted strategy. Some of the most vulnerable places – New Jersey and Miami-Dade – have refused to use eminent domain.

Now these and other jurisdictions face the loss of the Corps’ share of funding for mitigation. Some initially agreed to the terms of the Corps’ funding plan but have since reversed themselves as political backlash grows. So far the scope of these programs seems fairly limited but the reaction has not been positive from homeowners. 

What is particular to this administration is an unwillingness to advance infrastructure funding at the federal level. The view that too much overdevelopment in vulnerable areas contributes to huge natural disaster losses is not new. But this plan comes at a time when so many things – flood mitigation, public transit, and roads – which have relied on a state/local/federal partnership are facing severe federal funding cutbacks.

Now lower levels of government must choose between draconian actions like eminent domain or significant funding challenges to address the issues themselves. The result of this process is not likely to be positive for local credits under the current regime. It also continues a trend of federal influence on local affairs generally being on the negative side as has been the case for some time in regard to capital financing generally.

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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PUBLIC BANKS

California legalized public banks last October. Now the first steps in establishing local public banks have been taken. The Santa Cruz County Board of Supervisors voted to begin discussions with  jurisdictions proposing a viability study, the first step in the creation of a public bank. A letter was sent to Monterey, Santa Clara, San Luis Obispo, San Benito and Santa Barbara counties and to the cities of Seaside, Monterey, San Luis Obispo, Watsonville, Scotts Valley, Santa Cruz and Capitola.

The move has achieved significant support not only from progressive legislators but a broader slice of the political establishment. The effort to coordinate with a significant number of jurisdictions reflects Santa Cruz County’s view that “the scale of operations for public banks is far too large to be undertaken by anything smaller than the largest cities or counties in California or multi-jurisdictional efforts.”  The idea of a public bank has even received support from the business community. The Monterey Peninsula Chamber of Commerce and the Salinas Taxpayers Association have said “this is a progressive vision that would have some crossover appeal for business.”

RURAL INTERESTS TAKE ANOTHER HIT

The U.S. Department of Education recently dealt another blow to some of the nation’s poorest rural school districts when it informed them of a bookkeeping change which will likely result in a significant reduction in federal aid to local school districts. 800 schools stand to lose thousands of dollars from the Rural and Low-Income School Program because the department has abruptly changed how districts are to report how many of their students live in poverty. 

The department has allowed schools to use the percentage of students who qualify for federally subsidized free and reduced-price meals, a common proxy for school poverty rates, because census data can miss residents in rural areas. This has been the case since the program began in 2002. Now the Department insists that the Districts use data from the Census Bureau’s Small Area Income and Poverty Estimates to determine whether 20% of their area’s school-age children live below the poverty line.

Congress created the Rural Education Achievement Program when it determined that rural schools lacked the resources to compete with their urban and suburban counterparts for competitive grants. The program is the only dedicated federal funding stream for rural school districts. There is some geographic concentration among the impacted school districts. Over half of them are in Oklahoma.

Some 100 of the 149 schools in Maine that qualified last year would lose funding this year under the census criteria. The funding supports increased literacy and is also often applied to fund technology investments in areas which are already plagued by limited or no broadband access. Rural school districts serve nearly one in seven public-school students and the Rural School and Community Trust found that many districts “face nothing less than an emergency.” Nearly one in six students living in rural areas lives below the poverty line, one in seven qualifies for special education services, and one in nine has changed residence in the previous 12 months.

SUMNER NUCLEAR DEBACLE CONTINUES

The South Carolina legislature is in the middle of a debate over the future of the South Carolina Public Service Authority (Santee Cooper). The debate is over whether to maintain the status quo or to sell the utility which finds itself mired in the center of the cancelled  V.C. Sumner nuclear plant quagmire. The V.C. Summer project cost more than $9 billion before it was called off in 2017 by its sponsor, South Carolina Electric and Gas.  Now that the state looks to move forward in its process of deciding what to do, the story has taken yet another turn.

The Securities and Exchange Commission and the U.S. Attorney’s Office for South Carolina have announced that they are suing executives of SCE&G for fraud in their disclosures (or lack thereof) in connection with the failed project. The SEC’s lawsuit was filed against SCANA (the holding company for SCE&G) and Dominion’s (the buyer of SCE&G) electricity business in South Carolina, as well as two of SCANA’s top executives during the project: former CEO Kevin Marsh and former Executive Vice President Steve Byrne.

Bechtel Corp., one of the world’s largest construction and engineering firms was paid $1 million to study the project by SCANA and Santee Cooper, which owned 45% of the reactors. Bechtel informed SCANA’s executives in 2017 that the project likely wouldn’t be completed in time to claim billions of dollars in federal tax credits that were set to expire in 2021. Gov. Henry McMaster forced Santee Cooper to release the study.

While nuclear power is often mentioned as a potential source of source of climate friendly generation, the fact is that the economics of nuclear generation construction remain prohibitive. The financial risks associated with nuclear power have yet to be successfully addressed and the industry finds itself in much the same place as it was in the 70’s and 80’s when it came close to bankrupting numerous investor owned utilities. Many of the joint action agencies around the country were established essentially as bailouts for the investor owned sponsors of nuclear power. The South Carolina Public Service Authority is just another in a long line of such entities.

This is what happens when factors other than economics are allowed to drive decisions. The fact that this project as well as the Votgle projects in Georgia have failed is not a surprise. The decision to participate was driven by politics as much as anything else. When project sponsors as well as potential investors ignore economics and reality, it is at their peril.

JEA RATINGS

Moody’s has decided to weigh in on the City of Jacksonville’s efforts to extricate itself from the aforementioned financial disaster that is the Plant Votgle expansion. The city and its utility were the subject of downgrades this week as Moody’s views the action as ” calling into question its willingness to support an absolute and unconditional obligation of its largest municipal enterprise, which weakens the city’s creditworthiness on all of its debt. The city and JEA sued to invalidate a contract the city-owned utility signed in 2008 with a Georgia utility authority that binds JEA to help pay open-ended construction costs at the Votgle expansion.

Moody’s made it clear that the rating would be restored if the City dropped the suit. A recent estimate for the project’s completed costs was around $27 billion. JEA could pay $2.5 billion or more of the project’s cost. The plant was once priced around $14 billion.

Given the unique nature of nuclear plant construction and its financing, it is hard to make the case that Jacksonville is somehow unwilling to meet its overall debt obligations. The governance issues which the action has raised in conjunction with the botched effort to privatize the Jacksonville Electric Authority are legitimate but there has never been an implication that Jacksonville is seeking to walk away from its debts. We are more troubled by the attempt to privatize the utility because of the governance and oversight issues it raised.

From our standpoint, Moody’s is doing the right thing for the wrong reasons. The privatization effort revealed weak oversight. The legal challenge to the power purchase agreement with MEAG to purchase Votgle capacity is a legitimate process to address the issues arising from the Plant Votgle debacle. We do not agree that this is a sign of an overall policy change impacting the City’s willingness and ability to pay its debts.

HARDER TIMES FOR COAL COUNTRY

The US Federal Trade Commission released a February decision to block a joint venture in the Powder River Basin (PRB) coal-producing region of Wyoming. Peabody and Arch in June 2019 had announced a definitive agreement to combine seven operating coal mines and reserves in the PRB and Colorado into a joint venture. The expected synergies were being undertaken to improve profitability in the face of a coal market under continuing pressure from the decline in demand from utility operators. The US Energy Information Administration forecasts that production in the US Western Region, including the PRB, will fall to 310 million tons in 2020, down from 378 million tons in 2019 and 418 million tons in 2018 – a decline of over 25% in two years.

Much has been made of the potential economic impact of responses to climate change and their dampening impact on coal prices. The decline of demand from utilities especially impacts the PBR as its surface mined low sulfur coal is especially attractive to utilities. Moody’s projects that US coal production will fall by 15%-20% in 2020, based on significant ongoing reductions in the electric utility sector’s coal consumption, down from 24% in 2019 and about 50% in 2008. Like so many other industries where climate and economic realities have led to long term declines in production, the handwriting has been on the wall for some time in communities whose economies have been built around coal. The impact of climate change on demand is yet one more brick on the load of the coal industry.

The region in northeastern Wyoming which comprises the Powder River Basin covers all or part of 8 counties in the state. Coal operations are largely conducted within two – Campbell and Converse counties. There is not a lot of tax backed debt outstanding and the bulk of it is for school districts. The major city in the region – Gillette – is a Aa3 rated issuer but its dependence upon the coal based economy has a dampening impact on the city’s rating potential.

The fact that credits are subject to single industry dependence for economic, demographic, and tax growth is not new even though some seem to believe that climate change related pressures are somehow different in terms of their potential credit impact. The changes coming to credits like those in the powder River Basin are nothing that market participants haven’t seen before.

CHINA SYNDROME HITS U.S.PORTS

First it was tariffs. Then it was the Lunar New Year. The corona virus followed up. It’s a triple threat impacting port operations throughout the country. Now we have data to support those concerns.

On the West Coast, The Port of Los Angeles saw the number of 20-foot equivalent units fall 5.4% in January when compared with 2019. The port processed 806,144 TEUs compared with 852,449 a year ago. Port of Long Beach saw a 4.6% year-over-year drop in January. The port processed 626,829 TEUs compared with 657,286 in 2019. The Port of Oakland experienced a 0.6% in January, processing 211,160 TEUs compared with 212,433 in 2019. The Northwest Seaport Alliance, which operates facilities in Seattle and Tacoma, Wash., saw a 19.1% year-over-year drop in TEUs as it processed 263,816 containers compared with a record 326,228 last January. 

While the largest numbers of ill patients is found along the West Coast, the impact is being felt at East Coast ports as well. The Port of Savannah saw a 12.7% decline in January volume as the port processed 377,672 TEUs compared with 433,079 in 2019. The Port of Virginia saw a 5.3% decline in January, to 227,234 TEUs from 240,111 in 2019. The Port of New York and New Jersey, saw its monthly container volume slip in January by 0.9%, to 617,024 TEUs compared with 622,531 during the year-ago period.

CORONA VIRUS

The concerns which might arise as the result of the corona virus breakout are not hard to guess at. Credits dependant on travel (airports, transit) are obvious candidates. Many convention centers and conference centers will see cancellations. Hotel credits are obviously at risk. These could obviously experience short term credit deterioration. In our view, the issue is not necessarily short term risk of default but the longer term impacts of events like the pandemic.

After 9/11 travel limitations caused many businesses to rethink their conference and meeting practices. Conference lengths were shortened. Many were moved to in house sites. Declines in occupancies and demand were experienced. The underlying assumptions driving feasibility studies no longer were no longer valid. SARS had a similar impact on hotels, travel, and tourism in 2003. The financial crisis of 2008 also had similar impacts. This caused a rethink of the importance of many of the meetings and conferences and increased the utilization of online meetings and presentations.

Now that mass meetings of all sorts are being discouraged and cancelled, the potential for disruption both short and long term grows. It is important for investors in this space to understand the project specific credit drivers supporting the projects you own. Know whether the credits in this space you own are stand alone project financings or whether they rely on supplemental government support. Make sure you understand the nature of the local obligation which you are relying on. The level of government commitment varies widely and often is contingent on future legislative actions.

RAINY DAY FUNDS WHEN IT ISN’T RAINING

A recurring theme in the municipal bond press has been that states are well positioned to deal with any potential recession because they have been able to accumulate reserves to fund initial revenue shortfalls. That is all well and good when times are fairly normal. Unfortunately, that might not remain the case. Huge reserves do position states well but only if they are used for the purposes for which they are intended. We are beginning to see signs that the relative health of state general fund balances or “rainy day funds” may be pressured as legislators look to fund needed infrastructure and now public health needs.

There is no way to assess right now the impact on state budgets which might result from the corona virus. There is such inconsistent information and resources coming from the federal government that states will have to share the initial burden. The potential for serious financial consequences remains. The crisis comes at a time when skepticism is arising about various proposals to increase funding at the state level for  shifted attentions to issues infrastructure. Connecticut legislators have expressed a desire to apply some of the state’s budget reserves to funding transportation in lieu of higher gas taxes or tolls.

In Michigan, Republicans are proposing replacing the six percent sales tax on gas with a per-gallon tax. The goal is try to gain the money without raising net taxes on Michiganders. The plan is estimated to generate $800 million which would then be directed toward local and county-maintained roads. Some 92% of the roads in the state are owned and maintained by cities, villages and county road commissions. This plan is a response to the Governor’s proposal to issue $3.5 billion in debt for transportation. That proposal followed a rejection of a proposed increase in gas taxes.

EARTHQUAKE RISKS

It has been a while since the San Francisco and Northridge earthquakes brought attention to the risks of those sorts of events. Since then, climate change and its attendant impacts on life in the State have shifted attention to events like wildfires and issues with water. The fear has skewed more towards the potential impacts of those events and the potential impact from seismic events have received less attention.

So our radar was awakened by the release of a study by the Earthquake Engineering Research Institute San Diego Chapter. A study, partially funded by FEMA, found that San Diego County is subject to seismic hazards coming from several regionally active faults, including the local Rose Canyon Fault which runs through the heart of downtown San Diego. An earthquake originated on this fault may produce substantial damage and losses for the San Diego community. San Diegans need to be aware of this hazard.

According to the study, The Rose Canyon Fault Zone strikes through the heart of the San Diego metropolitan area, presenting a major seismic hazard to the San Diego region, one of the fastest growing population centers in California and home to over 3.3 million residents. The region’s large population coupled with the poor seismic resistance of its older buildings and infrastructure systems, make San Diego vulnerable to earthquakes. Best models show San Diego County facing an 18 % probability of a magnitude 6.7 or larger earthquake occurring in the next 30-year period on a fault either within the County or just offshore. Primary geologic hazards include surface fault rupture and severe ground shaking from La Jolla, along the I-5 corridor, through Old Town, the Airport, downtown San Diego, and splintering into the San Diego Bay, Coronado, and the Silver Strand.

The scenario earthquake the study observed  is expected to cause widespread damage to buildings, including moderate to severe damage to approximately 120,000 of the nearly 700,000 structures countywide. Economic losses associated with building and infrastructure damage are estimated at more than $38 billion. In part, that reflects the fact that much of the existing infrastructure of the San Diego region was built before recognition of the seismic hazards posed by the Rose Canyon Fault Reason to disinvest? No. But San Diego is usually not associated with earthquake risk to the same extent L.A., S.F. and many inland communities are. It’s just another factor in the credit equation to evaluate. 

NYU LANGONE UNDER FEDERAL INVESTIGATION

NYU Langone Medical Center is a major provider in Manhattan and regionally in the New York metropolitan area. It has revealed that it received a subpoena in January from HHS’ Office of the Inspector General that asked for information related to its Medicare cost reports submitted from 2010 to 2019. The Office of the Inspector General is asking for data and documents used to calculate how much money the health system should receive for indirect medical education expenses. The indirect portion is a welcome source of revenue for teaching hospitals that train physicians and tend to have higher costs.

NYU Langone closed on a $466 million bond issue on January, 2020. There is reference to how much the hospital gets from indirect medical education expenses but the offering document does not reference the subpoena. The time period in question was very difficult for NYU Langone. Over that time, it opened a new facility and suffered significant damage from Superstorm Sandy. The investigation does not appear as a pre-sale rating concern.

It’s not clear as to what amount of money may be at risk or the timing of a finding, if any. It is also fair to note that this process often leads to negotiated resolutions. It is unlikely that the federal government would be seeking to significantly damage the hospital’s financial position. It is however, something to watch.

HARVEY, IL BOND RESTRUCTURING

The Chicagoland suburb of Harvey has been in litigation with a variety of parties as it seeks to regain its financial footing after years of declining property values and revenues. The weak finances have landed the city in hot water with its uniformed services pensioners, the City of Chicago, and its bond insurers. Holders of a 2007 issue of general obligation  bonds have been in litigation since the city defaulted on that debt ($32 million).

After a status hearing last week in a lawsuit filed by holders of Harvey’s $32 million 2007 general obligation bond issue, Harvey’s legal representative hinted that a bond exchange might be the city’s best alternative. Under the terms of a decision rendered by the court in December, 2019, Cook County was ordered to segregate Harvey’s tax revenues needed to cover debt service payments in an escrow before sending tax dollars to the city. Harvey’s interim agreement with the 2007 holders that frees up $301,000 of property tax revenue currently held in escrow was approved in Cook County court.

Chicago sued Harvey after it fell in behind on payments for Chicago-treated water from Lake Michigan. The two cities agreed to a consent decree in 2015, but Harvey violated it and the court stripped Harvey of control over its water operations in 2017. A new administration in Harvey has argued the receivership has failed to accomplish the goal of bringing the city current  on water payments while extracting fees for its services and withholding revenues. The bondholders argue they are entitled to a portion of water rents and rates because about $5 million of the 2007 bonds financed water system improvements. 

Ultimately, a negotiated restructuring is likely the city’s best plan for resolving its debt dilemma. Any such resolution would likely extend the maturity of the debt and reduce debt servicing obligations significantly in the next few fiscal years.   

CALIFORNIA ELECTIONS HAVE NATIONAL IMPLICATIONS

Californians voted on some 289 local ballot measures. While they are local, some reflect policies which are being considered nationwide. Proposition D targets San Francisco’s rampant storefront vacancy problem with a tax on landlords who keep stores empty for more than six months. It would impose a $250 per foot tax on sidewalk frontage the first year, then $500 and $1,000 in subsequent years. As we go to press, it received the required 66% approval pending mail-in ballots. New York’s City Council is considering legislation along the same general lines.

There were mixed results for issues funding public transit and schools. In many places the issue was not whether there was a majority in favor of proposals but whether the required supermajorities (they range from 55 to 66.7%). Housing and development issues were front and center. Prop. E is San Francisco would tie commercial development to residential development. It is a reaction to the current real estate/housing environment and looks like it will pass with the required supermajority.

These are all issues which resonate nationally. Look and learn to see where politics and policies are going. A growing constituency across the country is more willing to embrace government intervention in local housing markets and developments. California is just the leading indicator.

WILDFIRE RATINGS FALLOUT

Recent actions taken to lower ratings in the aftermath of the most recent wildfires in California are impacting some of the state’s largest and best known electric utility issuers. while PG&E has been at the center of most of the attention paid to the role of utilities in the spread of wildfires, municipal utilities are not immune to the impact. recently, S&P downgraded the long-term and underlying ratings on the Los Angeles Department of Water & Power (LADWP) power system revenue bonds to ‘AA-‘ with a negative outlook from ‘AA’.

S&P specifically cited its updated assessment of the department’s overall wildfire risk profile as informed by our review of its revised wildfire mitigation plan taken in conjunction with the department’s specific wildfire exposure and ongoing potential liability claims as measured against power system reserves and insurance coverage. is a The risk posed by the operation of large scale transmission and distribution infrastructure is yet another headwind facing the utility as it navigates an increasingly complex array of issues facing LADWP as it operates in the California legislative and regulatory environment.

The downgrade of one of the major electric utility credits in the state has had knock on effects on the ratings of joint action projects in which LADWP is a significant participant. The latest example is the S&P Global Ratings revision of the outlook to negative from stable and affirmed its ‘AA-‘ long-term rating on the Southern California Public Power Authority’s (SCPPA) series 2012A and 2012B Mead-Adelanto Project revenue bonds and Mead-Phoenix Project revenue bonds.

The action reflected the significant share of project entitlement and debt service represented by participants rated AA-/Negative. LADWP and Glendale together represent a significant share of transmission entitlement and debt service. It comes as LADWP deals with the conversion of the Intermountain generating asset away from coal and the aggressive climate change mitigation targets legislated by the State.

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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UNLIKELY ALLY IN THE MOVEMENT AGAINST TAX INCENTIVES

The World Trade Organization concluded last year that Boeing benefited from unfair subsidies in the form of tax incentives from the State of Washington worth roughly $100 million a year. The decision was made over a complaint from the Trump Administration against Airbus, Boeing’s European rival.

In its case, the U.S. cited the fact that Airbus received billions in so-called launch aid from European countries as it developed new aircraft. In its defense, Airbus cited the receipt by Boeing of tax incentives for its Washington State and South Carolina manufacturing facilities. After the WTO decided in favor of Boeing, the company remained concerned that the tax breaks could be used to justify the imposition of tariffs by the EU in retaliation for those imposed by the U.S. after the WTO decision.

In reflection of those fears, Boeing is now seeking to end those tax incentives at least in Washington State. Legislation has been introduced on behalf of Boeing to do so. A sponsor of the bill, said the proposal had come from Boeing itself. It is under current consideration by the Washington legislature. Doing away with the state tax breaks eliminates a target for European Union trade representatives.

This response from the State and Boeing is reflective of the changing landscape over which these entities approach economic development. Tax incentive schemes in the U.S. reflect 20th century rules and thinking. The globalization of not only production but also supply chains means that incentives are no longer an intramural fight between U.S. entities. They have global trade implications which could seriously impact local economies.

There are many sound arguments against the use of these incentives. The potential impact on trade  and the economies reliant on it have just created more of those arguments.

THE FUTURE OF TRANSPORTATION REVENUES

New research for The Pew Charitable Trusts shows that even moderate use of  autonomous vehicles (AV) could affect the fiscal outlook of states that collect substantial taxes and fees from cars and trucks through a range of revenue streams that would diminish.  The research, conducted by a professor at the University of Tennessee at Knoxville, and published by Pew, examines the effect of the adoption of AVs on tax revenue in California, New Hampshire, New York, Ohio, Tennessee and Texas. The research focused only on transportation-related taxes and fees, assumed that AVs will be largely electric-powered, and modeled the direct fiscal changes using each state’s current tax structure.

First, the data.  States currently collect about 8 % of their total revenues from vehicle-related taxes and fees on sales, licensing, registration, and fuel.  That percentage involves a range of outcomes. Transportation-related revenues in Texas would drop by nearly a third over a 15-year period, from 18.4 % of total state revenue in 2025 to 12.7 % in 2040. New York’s vehicle-related revenues are already less than 5% of total state revenue. Although vehicle-related revenues would drop by more than half in the Empire State, the projected decrease in overall revenues is still only from 4.6% in 2025 to 2.1% in 2040.

Now the caveats. The study only covered six states. Importantly,  it assumes that current tax regimes remain as they are. While the difficulties to date in establishing vehicle mileage taxes to replace gas taxes are clear,  a consensus is forming around the issue and it currently has bipartisan committee leadership support in the U.S. House. The other is the analysis assumes that AVs eventually replace person-driven vehicles entirely.

What does this tell us? The concentration by advocates on transportation without taking into effect the overall economic impacts of full AV adoption is a major flaw in approach. Eight percent, while significant,  is a manageable revenue drop.  The real costs come when one looks at the implications for employment especially among lower skilled workers. The revenue drop would occur in the context of massive employment disruptions which would have a greater impact on state revenue bases. At the same time, at least initially, a significant social service funding impact would have to be absorbed by the states.

PRIVATE COLLEGES CONTINUED HEADWINDS

Yet more small private liberal arts institutions finds the current headwinds facing the sector too much for their ratings to bear. There are two latest casualties which have seen their Moody’s ratings downgraded. Saint Michael’s College (SMC)  is  a small private coeducational Catholic institution located in Colchester, Vermont offering experiential learning near Burlington, Vermont. Like so many of its size it is dependent upon ongoing demand to generate sufficient operating revenues through tuition. Under current economic conditions and demographic trends, this leaves an institution’s finances under constant pressure.

In the case of SMC, net tuition revenue decreased 15% over the fiscal 2015-19 period as enrollment declined 20%. In fiscal 2019 the college recorded operating revenues of $73 million and for fall 2019 enrolled 1,721 full-time equivalent (FTE) students. Outstanding rated bonds are an unsecured general obligation of the college. There are no debt service reserve funds. So the College’s ability to cover debt service is not in peril in the short run but, the long term outlook is quite negative in the face of current enrollment trends.

All of this added  up to a downgrade of the SMC debt by Moody’s to Baa2 from Baa1. Some $50 million of bonds are subject to the downgrade. The rating outlook remains negative. The school needs to diversify its revenue streams (especially in terms of donation support) or it will continue its tuition reliance, vulnerability to several negative trends, and need to draw down quasi-endowment funds to cover operations.

On the West Coast, Linfield College is a small undergraduate college with two locations in Oregon. The main, primarily traditional liberal arts campus is in McMinnville, Oregon. The college also has the Linfield Good Samaritan School of Nursing in Portland and the Online and Continuing Education division with online students nationwide. Linfield generated $62 million of revenue in fiscal 2019, and in fall 2019, the college had 1,763 full-time equivalent students. Their rating action reports could have been essentially exchanged for each other.

Linfield was downgraded to Baa2. Its rating outlook is negative. Pardon us if the rest sounds familiar. The credit is highlighted by prior multiple years of significant enrollment declines. absent continued net tuition revenue growth, the college will struggle to restore fiscal balance. Enrollment losses led to two consecutive years of deepening operating deficits, with debt service coverage below 1x in fiscal years 2018 and 2019. A comparatively small and shrinking scale, with $62 million of revenue, down nearly 8% over the past five years, will make material expense reductions difficult as the college invests in programs and facilities to sustain competitiveness.

The sector remains a minefield for investors.

RED LIGHT ON TOLLS IN CONNECTICUT

It appears that the ongoing inability of the State of Connecticut to agree on a program to fund transportation hit another red light. For some time, the Governor has been trying to persuade legislators and voters that a plan to levy tolls on trucks using the interstate highways in the state was away to enhance transportation funding without increasing the burden on state residents. a significant portion of annual truck volume originates  and ends out of state so the view was that tolls on trucks were a painless way for the state to develop a new funding source.

It appears now however, that the plan has been overwhelmed by politics. Gov. Ned Lamont announced that he was withdrawing his plan to collect tolls. It had always been the subject of Republican opposition but it became clear that even with a substantial Democratic majority in the Senate, that the votes were not there to enact it. That reflects the excessive politization of the issue on both sides of the debate.

This means that regardless of one’s view of the toll plan, the defeat puts the state’s credit back to square one in some ways. The immediate response would be to issue general obligation debt for transportation crowding out a myriad of projects from capital funding. That would put more pressure on general revenues during a period of high anti-tax sentiment. This effectively closes off an increase in any of the state’s major taxes for transportation funding.

It is a credit negative outcome for the State of Connecticut.

AND CAUTION LIGHTS FOR OTHER TOLLS

When the State of Alabama decided not to move forward with a toll funded project to improve resilience through the Interstate 10 Mobile River Bridge and Bayway project, opposition to tolls was a main driver supporting the opposition.  The project would have marked the first tolled interstate through a public-private partnership. Now that project decision has emboldened other opponents of tolls to finance needed highway infrastructure.

Alabama law now states that prior to building any new toll roads, bridges, or tunnels, the state Department of Transportation must conduct a public hearing in each affected county. A pending bill, SB151,  would add a requirement for the Alabama DOT to complete an economic impact study prior to any toll project being undertaken. A second bill, SB 152, would give voters the final say on any toll project. Specifically, voters would decide whether to put into the state’s Constitution a requirement for a public vote in any county where a toll project is planned.

A 1978 Maryland law requires the state to get consent from local government leaders in the nine counties on the Eastern Shore before moving forward with any toll plans in the area. Now legislation would be introduced which would impose that requirement statewide. It is in direct response to plans tolls to cover costs to widen Interstate 270 between I-495 and I-70, and portions of I-495 in Montgomery and Prince George’s counties. The project would create toll lanes to relieve congestion along existing roads which would remain toll free.

The Wyoming legislature early in its current session rejected proposals to place tolls on Interstate 80 where it runs through the state. Recently, the Florida DOT announced that it was suspending the use of dedicated lanes subject to tolling along the Palmetto Expressway. The State will reduce the number of northbound express lanes from two to one, add a regular southbound lane and create new access to the express lane. It will also reduce the minimum 50-cent toll to zero, meaning tolls will be suspended indefinitely.

The change in Florida reflects the perception that congestion was not meaningfully reduced as the toll lanes did not see the demand which was expected. Two Miami-area legislators who say the tolls lanes have had a disastrous effect on traffic gridlock sponsored a bill to get rid of the tolls and convert the express lanes to regular lanes which was pending at the time of the suspension announcement. During the suspension, construction will take place on the highway, along with short-term work like restriping lanes and moving lane dividers. 

ILLINOIS BUDGET

Gov. J.B. Pritzker released a $42 billion state budget that ties education support, pension funding and other programs to the fate of a constitutional amendment authorizing a graduated income tax to pay for more spending.  “To address the uncertainty in our revenues, this budget responsibly holds roughly $1.4 billion in reserve until we know the outcome in November. Because this reserve is so large, it inevitably cuts into some of the things that we all hold most dear: increased funding for K-12 education, universities and community colleges, public safety and other key investments—but as important as these investments are, we cannot responsibly spend for these priorities until we know with certainty what the state’s revenue picture will be.”

This puts the vote in November, 2020 at the forefront of the effort to solidify and improve the state’s credit. Fiscal 2021 is projected to be the first year that the State will fully fund its required pension contribution after years and years of delay and underfunding. It reflects the Governor’s view that a constitutional amendment necessary to cut benefits would not be approved by the electorate. On the spending side, Pritzker said his administration has already identified $225 million in budget savings for the upcoming fiscal year, and as much as $750 million through the end of his first term. The biggest share of the savings, according to Pritzker’s office, came from are costs for state employees reduced health care costs for state employees, accounting for $175 million in the upcoming year, and an estimated $650 million over the next three years. These cuts were negotiated with the relevant unions.

Under the Evidence Based Funding formula that lawmakers approved in 2017, state funding for public schools is supposed to increase by at least $350 million. Meanwhile the state’s mandated pension costs, including the cost of paying down pension obligation bonds  that were issued in 2003, are scheduled to increase nearly $460 million, to a total of $10.4 billion.

ILLINOIS CANNABIS

The sale of legal recreational cannabis products began on January 1 in Illinois. We now have at least one month of data to see what the take from cannabis taxes is and how that relates to expectations. So far, the buzz seems to be pretty good from the revenue standpoint.

According to the Illinois Department of Revenue, January sales generated more than $7.3 million in cannabis tax revenue and more than $3.1 million in sales tax revenue. This represents some over 37% of the amount projected to be collected by the end of June. Customers spent more than $39.2 million on recreational marijuana during the first month of legal product.

The majority of sales were to residents. As has been the case where adjacent states have no or only some level of legality, out-of-state residents spent more than $8.6 million some 22% of the total sales. The strong numbers were produced despite shortages. Shortages have become a staple of the startup phase of any legal sales regime.

Illinois is just the latest example of the disjointed way in which government has undertaken the process. By now there ought to be a better way to assess demand and permit supply accordingly. It has been characteristic to see regulatory impacts on one problem can needlessly impede the industry from operating standpoint. The numbers also reveal the potential. Marijuana-infused products are taxed at 20%. All other marijuana with 35% THC or less is taxed at 10%, and marijuana with THC content higher than 35% is taxed at 25%. Municipalities can levy an additional 3% tax however those revenues were not included in the state data.

So will New York be next?

UTILITY CYBER ATTACK

The Cybersecurity and Infrastructure Security Agency (CISA) of the Department of Homeland Security responded to a cyberattack affecting control and communication assets on the operational technology (OT) network of a natural gas compression facility. A cyber threat actor used a Spearphishing Link to obtain initial access to the organization’s information technology (IT) network before pivoting to its OT network. The threat actor then deployed commodity ransomware to Encrypt Data for Impact on both networks. Specific assets experiencing a Loss of Availability on the OT network included human machine interfaces (HMIs), data historians, and polling servers. Impacted assets were no longer able to read and aggregate real-time operational data reported from low-level OT devices, resulting in a partial Loss of View for human operators.

The attack did not impact any programmable logic controllers (PLCs) and at no point did the victim lose control of operations. Although the victim’s emergency response plan did not specifically consider cyberattacks, the decision was made to implement a deliberate and controlled shutdown to operations. This lasted approximately two days, resulting in a Loss of Productivity and Revenue, after which normal operations resumed. 

The attack highlights the need for utilities to have robust defense and recovery plans against cyber attacks. In this case, the victim’s existing emergency response plan focused on threats to physical safety and not cyber incidents. The victim cited gaps in cybersecurity knowledge and the wide range of possible scenarios as reasons for failing to adequately incorporate cybersecurity into emergency response planning.

Absent disclosure from municipal issuers, this situation sounds a lot like what one would expect to find at a smaller municipal utility. Two days of lost service, production, and or revenues is no small thing and this happened to a sophisticated private operator. Even if your local utility operations are prepared, those entities are at the mercy of other providers. The US natural gas pipeline industry, now the primary fuel supplier to the US power generation fleet, has no federally mandated cybersecurity standards.

Moody’s rightly points out that “Natural gas distribution utilities rely on pipeline infrastructure for gas distribution to customers for heating and other purposes, exposing them to the safety, operational and financial risks from pipeline cyberattacks. Because of the increased interdependence between electric utilities and natural gas pipelines amid the growing use of low-cost natural gas as a transition fuel to renewables and away from coal, the electric grid infrastructure is exposed to cyberattacks on natural gas pipelines.”

In addition to actions taken by utilities, investors can add to their protection by demanding robust disclosure as to cyber security actions being taken over and above procuring insurance. Insurance to provide funding for remediation is fine but some disclosure about the ability of an insurer to effect real change in terms of preparedness should be available. It is important to  have some sense of the potential damage to revenue streams which support for debt service since after all that is what pays debt service.

FLORIDA HIGH SPEED RAIL BACK IN COURT

Earlier this year, Indian River County announced that it decided to throw in the towel on its efforts in the federal courts to challenge the use of tax exempt debt to fund the development of the high speed rail line serving the Miami to Palm Beach corridor. It had been to date a costly and unsuccessful process. The county has spent $3.5 million on litigation with Virgin Trains, including other cases over other safety issues. Now, the Indian River County Commission has rethought that position and decided to move forward with an appeal to the U.S. Supreme Court. $200,000 of private money and a legal team including a retired judge once short-listed for the Supreme Court convinced the County that an appeal is viable.

Our view on this issue is colored by our view that it becomes tiresome to see private entities insist on being viewed as private risk takers while fully exploiting the use of tax exempt financing. No matter how you slice it, the use of tax exempt financing is the use of a public subsidy. We would like to see these private entities stand on their own to prove their point that private is better than public.

MANAGED RETREAT IN THE SPOTLIGHT

We have discussed the various approaches available to and taken by municipalities to deal with the specific issue of rising sea levels resulting from climate change. for some time. There haven’t been many examples where a municipality has been able to develop public support for the issue. Lately, one such municipality has been in the spotlight for its efforts to deal with the issue of rising sea levels which do not focus on hard infrastructure answers.

Marina is located along the central coast of California, 8 miles west of Salinas, and 8 miles north of Monterey. It has a population of some 22,000. Sea walls are forbidden, and sand replenishment projects do not have local support. It does require real estate disclosures for sea level rise. It works to move infrastructure away from the water. It is working with a private resort in town to relocate its oceanfront . 

Much of the shoreline remains undeveloped. Marina’s coast has one of the highest rates of erosion in California and the city was also the site of an industrial facility which effectively removed tons and tons of sand annually. There are some other facilities including office buildings, a sewer pump and an aging water treatment facility. They are all subject to the impact of continuing erosion.

At some point, many of these facilities as well as public facilities including public beach infrastructure such as a parking lot and public restrooms will have to be moved. those types of facilities will be needed to maintain access to the ocean. Some of that can be accomplished through regulation but buy in from the public and from private property owners is essential. Municipal credits are in a position to be at the center of that debate.

We find the Marina example instructive. There is much focus on large events like natural disasters which inflict large scale damage and inspire large scale reactions. In reality, the impact of rising water levels is smaller scale. It’s situations like Marina, its steadily crumbling walkways and access points around the Great Lakes and other places seeing smaller scale but increasing incidents of erosion and undermining. Cities will increasingly face a choice between ongoing and incident based remediation – essentially an ongoing patching process or a longer term policy based approach.  

AV SPEED BUMP

Columbus, Oh has been at the forefront of efforts to test out the realistic potential of autonomous vehicle technology to provide practical mass transit alternatives. The city has been testing a small scale shuttle service with two 12-passenger shuttles which began running Feb. 5. An operator is always on board to monitor the shuttle. Now, a recent incident has taken the shuttles out of service. One unexpectedly stopped in the middle of a route and a woman fell from her seat onto the floor.

Now, the city has decided to take the vehicles out of service until the vendor can investigate the causes of the unplanned stoppage. It is portrayed as erring on the side of caution and we do not dispute that. It does highlight the fact that like many other implementations of new technologies, the use of AV technology will be a gradual process with both forward and backward steps being a part of the process.

In the wake of the Columbus incident, the vendor who provided the vehicles is coming under closer inspection by regulators. The National Highway Traffic Safety Administration (NHTSA) said operation of the battery-powered buses in 10 U.S. states would be suspended pending an examination of “safety issues related to both vehicle technology and operations.” The vehicles are all provided by Easy Mile now all Easy Mile vehicle use is subject to the suspension.

The deployment in Columbus that started earlier this month was the first public self-driving shuttle in a residential area. It is not the first incident with Easy Mile vehicles however. In July, one passenger in Utah was injured and required medical assistance when the EasyMile shuttle he was in came to an abrupt stop.

It is not a reason not to move forward but it is a reason for governments to be involved in the process at the earliest possible point. Successful development of AV technology into a major component of the mass transit service plan will rely on reliability and transparency throughout every phase of the development and implementation process. That will be the case for emerging micromobility technologies in their efforts to become mainstream.

HARTFORD UPGRADE

Some two and a half years after the city seriously contemplated bankruptcy, Hartford, CT has begun to move forward on the path to fiscal recovery. Those efforts were rewarded this week with an upgrade in its rating at least from Moody’s.  Moody’s Investors Service has upgraded the city of Hartford, CT’s long term issuer rating to Ba3 from B1. The outlook has been revised to stable from positive.  While it does not have any debt outstanding based solely on its underlying rating, the move does signal that the City may have turned a corner in its efforts to recover its financial standing.

Moody’s cited “stable financial operations and improved liquidity that has been achieved through adherence to the city’s financial recovery plan including the benefits of the state’s contract assistance agreement and cost saving measures taken by the city through labor contract agreements and tight expenditure controls. The rating also incorporates strong and continued state oversight through the Municipal Accountability Review Board (MARB) and contract assistance agreement.”

That discipline and oversight will remain important as Hartford has limited revenue flexibility resulting in part from the high percentage of exempt properties within the tax base, persistent challenges of high poverty, above average unemployment and low median family income. Those factors will continue to be the City’s prime credit characteristics and will make it difficult for the City to regain investment grade status on its own for a long time.

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.