Joseph Krist

Publisher

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SCHOOLS AT THE EPICENTER OF THE VIRUS DEBATE

The outlook for a return to school dimmed significantly this week as districts throughout the country have announced delayed, modified, or suspended reopening. These decisions are coming in the face of a massive pressure campaign driven by conservative political considerations to try to force schools to reopen. The latest example is the announcement that the two largest school districts in California – Los Angeles and San Diego – will conduct their fall semesters on line.

The school districts have been put in an untenable position. The modern US economy, for better or worse, assumes that two parents in each household will be able to work. The resulting shift towards and expansion of the role of school districts to serve as a primary source of child care in the modern economy help create the current situation. Obviously, the economy cannot fully recover until all workers are available to work.

So clearly, school districts are at a crossroads. They are due to open in 5 to 8 weeks but they have no idea of the feasibility of a return to class would be financially, legally, and from a public health standpoint. At the same time, they are highly dependent upon sources of funding like state aid which are uncertain at best. There own local tax bases are undergoing extreme stress. Which leads us to ask, how can a school district rating outlook be anything other than uncertain or developing at best?

The certainly can’t be positive or stable in this environment and in many cases deserve a negative outlook. Here’s what Moody’s says about the pandemic.” The situation surrounding Corona virus is rapidly evolving and the longer term impact will depend on both the severity and duration of the crisis.” On what planet is that a stable environment? Consider the role of state government in funding education and then look at the financial environment for states. We ask again, On what planet is that a stable environment?

We also ask how the pandemic does not raise governance issues for entities like school districts who do not control their own destinies? In many states, the decision to reopen schools will be driven by decisions at the state level. So from a governance standpoint, how is this not a negative factor for school districts? And if this was not a major consideration, why all the focus on the next stimulus bill and its potential funding for states and localities?

The issue of reopening is fraught for the school districts. What is their overall liability? What about the risk to faculty and staff? What are the potential impacts on staffing and costs? These are all basic issues for school districts to address and they currently are not armed with sufficient information so that all stakeholders can have their concerns addressed. For example, The American Academy of Pediatrics has clarified its stance on school reopening. “Returning to school is important for the healthy development and well-being of children, but we must pursue re-opening in a way that is safe for all students, teachers and staff. Science should drive decision-making on safely reopening schools. Public health agencies must make recommendations based on evidence, not politics. We should leave it to health experts to tell us when the time is best to open up school buildings, and listen to educators and administrators to shape how we do it.”

Two headlines we saw this week frame the issue very effectively. “education board in California’s Orange County votes to reopen schools without wearing masks and 7 in 10 parents sat sending kids to school a risk: poll.” These are not the sort of questions which are answered through data and spreadsheets so a more data based quantitative approach to ratings does not answer the real issues facing credits. So I ask once again, on what planet is that a stable environment?

OPPORTUNITY ZONES

When the 2017 tax reform legislation was enacted, one part of the bill placed municipal bonds right at the center of it. Opportunity Zones were included as part of a package designed to drive investment in historically under invested areas. The favorable treatment of capital gains income from investment in OZ projects was the draw for investors. At the time, there was a concern that the structure of the program might not channel investment into the kinds of community based employment and development opportunities most needed.

Initially, the program was seen as not living up to its goals. it was easy to find examples of developments and projects – primarily real estate related – that seemed to have no need for subsidized investment. And in many cases, they were owned by well funded established entities. Now, research from the Urban Institute finds that the critics may be right.

The Institute conducted interviews with a range of stakeholders working on mission-oriented OZ projects across the US. Through that process they found that the incentive’s structure makes it harder to develop projects with community benefit in places with greatest need. There is a mismatch between the type of investment many mission actors desire and the OZ market’s investment parameters, which favor assets providing the highest returns in shorter timelines. That conflicts with the program’s ten year timeline  for maximum tax benefit.

Tellingly, a few developers said the incentives made a difference in allowing a project to go forward, but most admitted their project would have proceeded regardless of whether they raised OZ equity. That highlights the single biggest criticism of the program which was designed to generate a neighborhood based economy more likely to produce longer term neighborhood equity.

The Institute does offer proposed solutions. They include targeting incentives to investments with the greatest impacts. These investments could be more deeply subsidized while more efficiently using total federal tax expenditures. OZ tax incentives could be based, for example, on the number of quality jobs created by the OZ investment. A redesigned OZ incentive could encourage equity investments in Community development financial institutions (Community development financial institutions (CDFIs) Community development financial institutions that, in turn, invest in or lend to OZ projects.  

The weaknesses of the program make an excellent case for more favorable municipal bond provisions. Advance refundings and an expansion of private activity bonds would likely generate more useful benefits in the immediate term.

MILEAGE TAXES GAINING TRACTION

One of the phenomenon we have been observing is the impact of the pandemic on the willingness of legislatures to embrace new ideas. The pandemic, coinciding with the depression in the oil/gas industries, has forced legislators to consider heretofore heretical ideas in their quest to balance their budgets. One of the items that shows this is the growing support for taxes for transportation which are not linked to fuel consumption. We now have data that backs up the view of that support.

In each of the last 11 years, the Minetta Institute for Transportation has surveyed attitudes towards taxes for transportation infrastructure. This year, the survey showed stronger support for a new vehicle taxation model. 49% supported replacing the gas tax with a ‘green’ mileage fee that charges an average rate of a penny per mile, with lower rates for less polluting vehicles and higher rates for more polluting vehicles. Half of respondents supported a “business road-use fee” that would be assessed on the miles that commercial vehicles drive on the job.

The study also found that If Congress were to adopt a federal mileage fee to replace the gas tax, more than three-quarters would prefer to pay monthly or at the time they buy fuel or charge a vehicle, while 23% preferred to pay an annual bill. Respondents thought mileage fee rates should be lower for electric vehicles than for gas and diesel vehicles. A majority valued the idea of using the gas tax revenue on improvements across different transportation modes, including for both road and public-transit-related projects. Only 3% of respondents knew that Congress had not raised the rate of the federal gas tax since 1993.

The data comes as the US Department of Transportation released data on 4th of July travel. Americans took 2.8 billion fewer total trips during the 4th of July week this year than they did in 2019. That overall drop is supported by similar declines in the number of trips per day throughout the week. It is driven by a similar 2.8 billion drop in the number of local trips (under 50 miles) as well as the number of trips taken in each of several local trip-distance groupings. The number of long-distance trips (50 or more miles) edged up by 0.3 million from 2019 to 2020. That slight increase was driven by a 2.2 million rise in the number of trips between 100 and 250 miles, which was tempered by a 1.9 million drop in the number of trips greater than 500 miles. In 2019, on average, 19.7% of Americans stayed home each day during the holiday week; in 2020, that number rose to an average of 24.8% staying home each day.

HEALTH INSURANCE

In spite of the debate over the Affordable Care Act and the efforts of the Trump Administration to have the ACA declared unconstitutional, it has clearly resulted in more people having insurance coverage. This has benefitted not only individuals newly covered but also the institutions which serve them, especially hospitals. as the proportion of uninsured patients has gone down,

Because of job losses between February and May of this year, 5.4 million laid-off workers became uninsured. These recent increases in the number of uninsured adults are 39% higher than any annual increase ever recorded. The highest previous increase took place over the one-year period from 2008 to 2009, when 3.9 million nonelderly adults became uninsured. Nearly half (46%) of the increases in the uninsured resulting from the COVID-19 pandemic and economic crash have occurred in five states: California, Texas, Florida, New York, and North Carolina.

In eight states 20% or more of adults are now uninsured: Texas, where nearly three in ten adults under age 65 are uninsured (29%); Florida (25%); Oklahoma (24%); Georgia (23%); Mississippi (22%); Nevada (21%); North Carolina (20%); and South Carolina (20%). All but Oklahoma are also among the 15 states with the country’s highest spike in new COVID-19 cases during the week ending on July 12. Five states have experienced increases in the number of uninsured adults that exceed 40%: Massachusetts, where the number nearly doubled, rising by 93%; Hawaii (72%); Rhode Island (55%); Michigan (46%); and New Hampshire (43%).

The movement of the pandemic to the Sun Belt is highlighting again the regional nature of the health insurance crisis in the US. This week the nonpartisan consumer advocacy group Families U.S.A., released the results of research which found that the estimated increase in uninsured laid-off workers over the three-month period February to May was nearly 40% higher than the highest previous increase, which occurred during the recession of 2008 and 2009. In that period, 3.9 million adults lost insurance.

That research shows that the highest percentages of uninsured non-elderly individuals are found in the old Confederacy. With the pandemic concentrated in Texas and Florida, it highlights their respective rates of uninsured at 29 and 25%. That will put the hospitals -already under unprecedented stress – to have to deal with the reality that one in four or one in three patients will have to be treated for free.

Contrast that with the environment in early hard hit states where uninsured rates are 10% in NY and 13% in Illinois. Massachusetts has only an 8% uninsured rate. This mitigates the risks associated with high levels of charity care and does provide some comfort that the resumption of elective surgeries will help to support revenues. 

COAL DECLINE LOCAL IMPACT

The National Bureau for economic research released a report documenting the financial impact on counties which have a significant economic dependence upon coal production. The report identified some 27 counties which derive over one third of their revenues from mining activities.

US coal consumption nearly tripled between the early 1960s and 2000s, with growth disproportionately in the Powder River Basin in Wyoming and Montana. Between 2007 and 2017, the tide turned, and total coal production in the United States declined by 32 percent. At coal’s employment peak in the 1920s, 860,000 Americans worked in the industry. As of March 2020, coal mining employed only about 50,000 people. The most concentrated job losses have been in Appalachia. Employment in the coal mining industry declined by over 50 percent in West Virginia, Ohio, and Kentucky between 2011 and 2016. And the decline has been rapid. In Mingo County, West Virginia, coal mining employed over 1,400 people at the end of 2011. By the end of 2016, that number had fallen below 500. Countywide, employment fell from 8,513 to 4,878 over this period.

Which are the most at-risk counties according to the NBER? Boone County, West Virginia, Campbell County, Wyoming, and Mercer County, North Dakota. What does that risk look like in numbers? Campbell County, Wyoming says that of the $5.3 billion in total county assessed property valuation (which includes the value of minerals produced) in the 2016–17 fiscal year, 89 percent was oil and gas production and coal. The Mercer County, North Dakota  general fund received $1.71 million from coal severance taxes, $1.25 million from coal conversion taxes, and $0.76 million from mineral royalty revenue. Overall county general revenues were $7.5 million, making the three sources about half of all county revenues.

About a third of Boone County’s revenues directly depended on coal in the form of property taxes on coal mines and severance taxes. In 2015, 21 % of Boone County’s labor force and 17 percent of its total personal income were tied to coal. Coal property (including both the mineral deposit and industrial equipment) amounted to 57 % of Boone County’s total property valuation. Property taxes on all property generated about half of Boone County’s general fund budget, which means that property taxes just on coal brought in around 30 % of the county’s general fund. Property taxes on coal also funded about $14.2 million of the $60.3 million school budget (24 %).

ILLINOIS MARIJUANA TAXES

As the first state to legislatively legalize recreational marijuana, it has been a source of interest for analysts of the business. So the latest statistics on cannabis tax collections is interesting. Illinois collected almost $52.8 million in tax revenue during the first six months of recreational marijuana sales. This is nearly double the Governor’s budget estimates, which predicted the state would collect $28 million in cannabis tax revenue before June 30.

The state collected about $34.7 million in cannabis specific excise taxes and $18 million in general sales taxes from the industry. The state expects $25.9 million to go into its general fund. As the first Midwestern state to legalize recreational marijuana, Illinois was well positioned to benefit from that status. For once, Illinois is the beneficiary of good timing. The pandemic has also seen a rise in cannabis sales nationwide.

CLIMATE CHANGE AND MUNICIPAL CREDIT

The National Oceanic and Atmospheric Administration (NOAA) has released its 2019 State of U.S. High Tide Flooding with a 2020 Outlook report. The document highlights the increasing impact of climate change and sea levels. The findings have significant implications for the long term creditworthiness of many municipal credits located on the nation’s coastlines.

Evidence of a rapid increase in sea level rise related flooding started to emerge about two decades ago, and it is now very clear. This type of coastal flooding will continue to grow in extent, frequency, and depth as sea levels continue to rise over the coming years and decades. High tide flooding (HTF) is an increasingly frequent phenomenon. The U.S. annual HTF frequency now is more than twice that in the year 2000 due to rising relative sea levels. Nineteen locations also broke or tied their all-time HTF records (median of 13 days) in 2019 along the East and Gulf Coasts including multiple locations along the Texas coastline, as well as at Miami, Savannah, Charleston and Annapolis.

Under current floodplain management practices, by 2030 the national HTF frequency trend is likely to further increase by about 2–3 fold. This highlights the need for municipalities to take remedial steps. HTF is more than twice as likely now as it was in 2000. The rapid growth is in response to relative sea level (RSL) rise, which is occurring along most U.S. coastlines. HTF in 2019 occurred the most along the Western Gulf of Mexico coastline.  HTF occurred more often along the Southeast Atlantic and Gulf Coasts in 2019.

So where was the problem the greatest? HTF occurred most frequently (64 days) at Eagle Point, Tex., which is within Galveston Bay. Other notable locations setting records include Annapolis, Md. where HTF often causes parking and transportation disruption in the downtown area, Charleston, S.C. and Savannah, Ga., Virginia Key in the Miami region, Dauphin Island, Ala. and Galveston, Tex..

The Northeast Atlantic and Western Gulf coastlines are projected to experience the most HTF in 2020. The national median HTF occurrence was 4 days in 2019, and the trend continues to accelerate. By 2030, the national HTF frequency is likely to increase about 2–3 fold (national median of 7–15 days) compared to today without additional flood-management efforts. By 2050, HTF is likely to be 5- to 15-fold higher (national median of 25–75 days), and potentially in some locations reaching nearly 180 days per year, effectively becoming the new high tide.

Keep in mind that this analysis is the product of the current climate ignorant anti-science Administration  in Washington. And it is still bad news for coastal communities. It needs to carry greater weight in the analyses done by investors and certainly the rating agencies.

UPDATES

The Trump Administration has agreed to rescind a directive that would have barred foreign students from the United States if their colleges canceled in-person instruction during the COVID-19 pandemic, following lawsuits by a number of universities and states. Eighteen state Attorneys General and numerous universities across the country challenged the plan in federal court. The reversal eliminates the risk not only for the schools but also for entities like landlords who rely on students who reside off campus.  

We have commented previously on the risks of single project bonds for things like hotels which are extremely vulnerable to the impact of pandemic restrictions on operations. The latest example is the ill-fated Lombard, IL hotel project which has never been a success. The unrated 2005 bonds issued for the project were restructured its bonds through bankruptcy in 2018 . The hotel has not been open since late March and defaulted on its July 1 debt service payment when due. The $142 million bond exchange resulted in recovery rates for the original holders of between 77% and 86% on three most senior series while a subordinated $29 million series took a near total loss. The new debt extended the  final maturity of the debt to 50 years.

The cruise ship industry and those places which depend on it for tourism will continue to be under pressure from the impact of the pandemic. Now that pressure will continue as the Centers for Disease Control and Prevention issued an order that extended the suspension of cruise operations until Sept. 30. The extension reflects the fact that from March 1 until July 10, 80% of the ships in the C.D.C.’s jurisdiction were affected by the corona virus. The agency said there had been nearly 3,000 suspected and confirmed cases and 34 deaths on ships in U.S. waters.  There were 99 outbreaks aboard 123 cruise ships in United States waters alone.

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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It is becoming clear that in spite of the best efforts of the Trump Administration, there will remain serious issues of concern for municipal bond investors. The most central to emerge is the issue of reopening schools. The pandemic has laid bare the role of the public education system as de facto day care. As the economy is currently constructed, two working parent households are the norm if not the necessity. That has put the schools in an untenable position of being pressured to open to enable workers to work outside of the home.  

The biggest unanswered question of the reopening effort is how working families will find child care for the days when their children cannot be physically present in school. Another is the issue of staffing in the schools. The idea behind opening schools is that younger children are less at risk of the virus than are adults. That begs the question of what to do to mitigate the risk in adults. This will create significant financial costs. And that does not include the cost of hiring staff to replace teachers who will either seek medical exemptions or, perhaps worse, retire. In NYC, the city estimates that about one in five current teachers will receive medical exemptions to work remotely.

The second issue is that the reopening experience overall to date has been perilous. The reimposition of some limits on economic activity is the clearest indication that reopening policies have been a failure. The immediate effect is on governmental revenues derived from taxes most directly related to economic activity like sales taxes especially those generated from the hospitality industry. There is a conger term component to this concern. The problem is that most reopening scenarios make the assumption that there will be work to return to.

Take the airline industry. United has threatened to furlough 36,000 workers if it is unable to resume a “normal” schedule. This week saw reopenings by airlines which were quickly pulled back as the pandemic marched through the Sun belt. A large drop in projected demand drove those decisions. In the hospitality sector, employment could take a significant hit without additional federal stimulus. Now will be the time when the small independent operator will have to face the music and decide whether or not their business is viable. The signs of drags on employment are everywhere with a variety of retail entities announcing unit closings and/or financial restructurings. Banks are even contemplating or announcing branch closures. These will undoubtedly serve to dampen the decline in unemployment.

We believe that there will be a significant impact to local revenues that will become clear when tax collection data for FY Q1are available in the fall.

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WHILE WE WERE AWAY

Lots happened in the short time we took away from things. The pandemic has turned the budget processes of a number of issuers on their heads as they attempt to deal with the fiscal impacts of the pandemic.

Oklahoma voters approved a ballot initiative which would expand Medicaid in the state under the provisions of the Affordable Care Act. The ballot measure requires the state to expand Medicaid by July 1, 2021. At least 200,000 Oklahoman adults will be newly eligible for Medicaid. It comes after the State had positioned itself to be the first to receive a federal waiver to implement a more limited form of the Medicaid expansion. It would convert a portion of federal Medicaid payments from an open-ended entitlement into a defined lump sum, known as a block grant. 

The ballot measure inserts Medicaid expansion into the state’s constitution, which could bar state leaders from making conservative changes to the program, like adding work requirements or premiums. The Governor was an early and vocal holdout against the imposition of containment and mitigation procedures in Oklahoma. Since then, the ground has shifted as evidenced by the failed campaign rally in Tulsa.

New York City adopted a budget for FY 2021 that reflects the fiscal realities of the City’s $9 billion budget gap which resulted from the impact of the pandemic on the City’s economy. It also comes as the City attempts to grapple with demands for reducing funding for the police. It is not surprising that the budget process was a highly political one. What is disappointing is the threatened actions of one of the City’s major elected political leaders.

Jumaane Williams, the city’s public advocate has threatened to attempt to use City Charter language which he interprets as giving him the right to stop the City from collecting property taxes. The advocate’s position reflects his long role as a political activist in the City’s political life. What is also reflects is an irresponsible attitude towards its debt holders. The problem with the advocate’s position is that property taxes are by law initially required to be deposited into sinking funds held for the purpose of repaying the City’s general obligation debt. Only after sums required for debt service have been deposited do those monies flow into the City’s general fund.

It does raise the question of whether a control board should be reinstated to oversee the City’s finances. We only have to look to the City’s eastern border at Nassau County. There the County is seeking to have NIFA, the entity overseeing its operations, extend the potential period of its control. The vehicle for that would be the issuance on behalf of the County of debt through NIFA. A control period would extend through the life of any NIFA debt issued. It comes from the same County Executive who ran against NIFA oversight so, many things have changed.

In Maryland, the Board of Public Works cut $413 million out of the state’s budget — one of the biggest single-day revisions in state history.  Funding was reduced for universities, community colleges, crime initiatives and dozens of other state programs. The Board also approved selling off state-owned aircraft and eliminating 92 vacant state jobs. The largest cut — $186.8 million — affected universities and community colleges. The governor has warned that if the board cannot come up with an alternative to those cuts by next month, the state may be forced to lay off 3,157 employees.

PUERTO RICO

The judge overseeing the Puerto Rico Title III proceedings ruled against bondholders in three motions before her. $6.7 billion of Puerto Rico Highways and Transportation Authority, Infrastructure and Finance Authority, and Convention Center District Authority were affected by the decision. Bond insurers Assured Guaranty (AGO), Ambac, National Public Finance Guarantee, and Financial Guarantee Insurance Corp. had asked the court to lift the bankruptcies’ automatic stay provisions on those entities. This would allow the insurers to sue the issuers for the right to retain revenues subject to what is known as the “clawback” provisions for those bonds.

Those provisions were always a threat to creditor to bond payments. It always seemed clear from offering documents that there could be potential conflicts between the strength of statutory versus constitutional claims on revenues. The   insurers had plenty of motivation to challenge the “clawback” which allows some tax revenues dedicated to the revenue bonds to be held back by the Commonwealth in order to conform to the constitutional pledge securing general obligation debt of the Commonwealth. HTA debt to the tune of $2.95 billion gross par . All three issuers have sold insured debt backed by the insurers. With $4.1 billion outstanding, the HTA bonds are the biggest segment of the insurers claim.

And then there is the water system. Starting July 2, nearly 140,000 customers, including some in the capital of San Juan, became without water for 24 hours every other day as part of strict rationing measures. More than 26% of the island is experiencing a severe drought and another 60% is under a moderate drought, according to the US Drought Monitor. Water rationing measures affecting more than 16,000 clients were imposed earlier this month in some communities in the island’s northeast region. 21 of 78 municipalities are affected by the severe drought while another 29 are affected by the moderate drought. An additional 12 municipalities face abnormally dry conditions. The worst of the drought is concentrated in Puerto Rico’s southern region.

Underlying this all is the annual dance around the adoption of a budget for the Commonwealth. For the fourth straight year, the Puerto Rico government budget that went into effect at the start of fiscal year on July 1 was the version presented by the federally created Puerto Rico Financial Oversight & Management Board (FOMB). Section 202 of Promesa mandates the Puerto Rico Legislative Assembly to approve a “compliant budget” and submit it to FOMB before the start of fiscal year. Otherwise, the oversight board’s proposal will be “deemed approved” by the governor and the oversight board will issue it a fiscal plan compliance certification, entering into “full force and effect” at the start of the fiscal year on July 1.

Funding for full payment of the Christmas bonus to public employees is not included in the approved budget. The House budget plan contained an allocation of $48 million to pay the Christmas bonus to public employees, and the Senate insisted on $64 million in bonus funding. It’s a symptom of the state of denial in which the Commonwealth government exists  and serves as a drag on recovery.

MORE BAD NEWS FOR THE MTA

The New York City Independent Budget Office (IBO)has released an analysis of the impact of declining dedicated tax revenue on MTA finances. Revenue from dedicated taxes comprised 37 %  of the Metropolitan Transportation Authority’s operating budget in 2019. Dedicated taxes made up a similar share of NYC Transit’s budget, or nearly $3.7 billion. On the basis of the recent experience, the IBO has delivered several projections of the revenue impact on MTA revenues due to the pandemic.

Over the years 2020-2022, IBO estimates that dedicated tax revenues for the transportation authority will fall a combined $2.7 billion short of projections by the agency prior to the pandemic. IBO estimates the shortfall will be $484 million in 2020, $1.4 billion in 2021, and $816 million in 2022. Looking just at dedicated taxes from the city, known as the urban tax and the mansion tax, IBO projects a substantial decline from the amount forecast by the Metropolitan Transportation Authority in February. IBO projects urban tax collections will fall $355 million short of the nearly $1.9 billion previously expected by the transportation authority over the years 2020-2022. IBO estimates the mansion tax will generate about $450 million less than the transportation authority estimated over the same period.

IBO anticipates other dedicated taxes also will generate revenue well below previous expectations. For example, the transportation authority had projected that the payroll mobility tax would garner about $5.0 billion in revenue for the years 2020-2022. IBO estimates collections will fall about $500 million short over the three-year period. NYC Transit’s fare revenue totaled $4.6 billion in 2019. NYC Transit’s fare revenue, which totaled $4.6 billion in 2019.

Before the Covid-19 crisis, the MTA expected to receive between $1.0 billion and $1.1 billion per year from the regional sales tax. IBO’s projections for this tax are $138 million (13 %) lower in 2020, $187 million (17 %) lower in 2021, and $142 million (13 %) lower in 2022. The for-hire transportation surcharge (FHV Surcharge) is a fee on trips taken by traditional taxis, car services, or app-based service such as Uber or Lyft, that begin, end, or pass through Manhattan south of 96th Street. The surcharge is $2.75 for app-based services, $2.25 for traditional taxis and car services, and $.75 per passenger in “pooled” vehicles. The MTA in its February 2020 Financial Plan projected FHV Surcharge revenue of $417 million in 2020 and $385 million in 2021 and 2022. Preliminary actual revenue for 2020 was $384 million, and IBO projects revenue of $332 million in 2021 and $365 million in 2022.

One tax source has held up. The internet marketplace tax took effect in New York in calendar year 2019. The legislation authorizing the tax requires third party retail sites such as Amazon and eBay to collect and remit sales tax on purchases made by New York State residents. Most of the revenue from the tax is earmarked for the MTA’s capital program. Given the strength of online sales in the wake of the Covid-19 pandemic, IBO has not adjusted the projected revenue from this tax in 2021 and 2022. The preliminary total of actual dedicated tax revenue received by the MTA in 2020 is $6.4 billion, $484 million (7 %) below what the MTA projected in its February 2020 Financial Plan. IBO projects dedicated tax revenue for the MTA of $5.7 billion in 2021 and $6.5 billion in 2022. Compared with the MTA’s February forecasts, these projections are $1.4 billion (25 %) and $816 million (11 %) lower, respectively.

SCHOOL IS OUT FOR COLLEGE TOWNS

The higher education sector has been under increasing pressure as unfavorable demographics and a demand base which is warier about taking out significant debt to finance attendance have exerted downward pressure on demand. This has led to universities seeking to cut costs and lean on their endowments for greater amounts of annual support. While these factors have pressured university finances, the economic impact of those factors has been somewhat muted for those businesses which cater to college populations. Now, the pandemic may be able to do what these other factors have not – significantly damage local economies.

One way to identify potentially localities vulnerable to the impacts of containment and mitigation strategies is to see whether or not colleges have a significant impact on their local economies. Many of these institutions are state universities located in areas where they have become the dominant employer. With the potential for predominantly online learning due to student fears over returning to a traditional residential campus setting, many of these local economies face the loss of significant economic activity if normal university/college related activities do not resume this semester.

The most recent hit to international student demand has come from the announcement that the Trump Administration has determined that international students must take their courses in person, in order to remain in the US on their student visas. In our February 24 edition we highlighted the importance of international students to many institutions and their local economies. The regulations proposed from the Department of Homeland Security say that students on study visas whose schools will operate entirely online this fall will not be allowed to remain in the US.

The decision will impact all types of universities. The California State system, Harvard and the University of Massachusetts Boston are among those institutions offering only online classes this fall. Harvard and MIT asked a federal court in Boston for a temporary restraining order and permanent injunction against the administration’s new policy. The lawsuit alleges several violations of a federal law known as the Administrative Procedure Act (APA), which concerns how much decision making power resides with federal agencies. 

The effort by DHS to promulgate these regulations at this date under these circumstances seems designed to be as disruptive as possible for the students and the institutions. There have been several affirmations of stable ratings outlooks of state university credits. Under current circumstances, the move against international students is not a source of stability.

Another segment of university operations to succumb to the pandemic is athletics. The pandemic has provided an opportunity for institutions to eliminate varsity support for a number of “unprofitable” sports. The biggest example is the announcement that Stanford University will discontinue 11 of its varsity sports programs at the conclusion of the 2020-21 academic year: men’s and women’s fencing, field hockey, lightweight rowing, men’s rowing, co-ed and women’s sailing, squash, synchronized swimming, men’s volleyball and wrestling.  The 11 programs include 240 student-athletes and 22 coaches. 

It is a trend seen across the country. The University of Akron cut men’s cross country, men’s golf and women’s tennis, while Furman eliminated baseball and lacrosse. Brown is planning to demote eight teams to club status.  If football and basketball result in restricted and/or partial seasons, than the mother’s milk of college sports will have been impacted creating further pressure on college finances.

COAL – NOT IF BUT WHEN?

Coal continues its struggle against the realities of economics and climate change. Last week, the Trump Administration made a last ditch effort to subsidize coal with a $120 million program to seek other uses for coal. This was offset by the trend of utilities in the western US retiring coal-fired plants before they reach the end of their expected useful lives. Even stalwart facilities like the Navajo Generating Station are shuttering. Now, more western utilities are making similar moves even as they are located within reasonable shipping distance of low sulphur coal.

Colorado Springs Utilities voted Friday to close the two municipally owned coal plants, one in 2023 and another by 2030. Colorado Springs Utilities will close its Martin Drake plant in 2023 and its Ray Nixon plant by 2030. The municipal utility’s “Energy Vision” calls for reducing carbon emissions 80% by 2030. The announcement means only three of the state’s remaining coal generators are slated to continue running after 2030. Colorado had 17 coal boilers spread across eight power plants in 2008.

Tucson Electric Power released a proposal to ramp down the usage of its two boilers at the Springerville Generating Station before closing them altogether in 2027 and 2032. The plan is subject to approval from Arizona regulators. Tucson Electric Power said it plans to operate two of Springerville’s four coal boilers on a seasonal basis beginning in 2023, using the units only in the summer months. The utility said it plans to install 2,457 megawatts of new wind and solar by 2035 — a 70% increase in its renewable capacity.

CONVENTION BLUES

The nation’s large convention centers have been under the gun as they deal with cancellations and the decline in tourism which is impacting revenues pledged to support the debt issued to finance their construction. The latest victim is the debt issued by the Las Vegas Convention and Visitors Authority (LVCVA), Nev. S&P announced that it was lowering its rating on the Authority’s outstanding debt from A+ to A.

S&P acknowledges that “the authority is a primarily tax-funded public operating entity”. Nevertheless, “with the onset of the COVID-19 pandemic and social distancing measures implemented in response to the outbreak, economically sensitive pledged revenues are expected to fall sharply in 2020, weakening the authority’s coverage metrics and introducing significant revenue volatility risk in the short-to-medium term, which is reflected in the downgrade.”

Ninety-three events (conventions, events, and meetings) were held at LVCC facilities in fiscal 2019. The pandemic and the restrictions on travel and large gatherings has created real uncertainty regarding medium-term large-scale travel, general tourism, and traditional heavy scheduling of fall conferences in the wake of resurging cases has the potential to slow traffic to the city and significantly reduce expenditures for an extended period of time. Demand for hotels and large-scale events has fallen, leading to weakening pledged revenue collection and debt service coverage. 

NO REST FOR THE HACKERS

Cybersecurity in the public sector was back in the news. NetWalker, a ransomware gang is holding Fort Worth’s Trinity Metro. The group is threatening to release all their data from Trinity Metro’s private files. The group is bold as they are the ones publicizing the hack.

Trinity Metro has the option to either pay up — which most experts discourage — or they can rely on backups of the data and risk the information being posted publicly. The NetWalker ransomware group has attacked the University of California — San Francisco. The university recently paid the hackers $1.14 million to prevent the release of student records and other information. Michigan State University and Columbia College of Chicago were also hacked by NetWalker in June. It’s not clear whether they paid as well. It only takes a few to give in to encourage this activity. As the old saying goes, a million here and a million there and pretty soon it adds up to real money.

CONGRESS AND INFRASTRUCTURE

A bipartisan bill has been introduced in the Senate to support the financing of infrastructure by state and local governments. The  legislation – The American Infrastructure Bonds Act of 2020  – would allow state and local governments to issue taxable bonds for any public expenditure that would be eligible to be financed by tax-exempt bonds. These bonds could be used to support a wide range of infrastructure projects, including roads, bridges, water systems, and broadband internet.

The bonds would be modeled as a “direct-pay” taxable bond, with the U.S. Treasury paying a percentage of the bond’s interest to the issuing entity to reduce costs for state and local governments. The Treasury Department would make direct payments to the issuer of the bonds at 35% after the date of enactment and down to an estimated revenue neutral rate of 28% starting in 2026. These payments would encourage economic recovery from the corona virus pandemic by subsidizing AIBs issued through 2025 at a higher percentage of the bond’s interest.

The payments would revert to a revenue neutral percentage for projects after 2025, reducing long-term costs for the federal government and providing a permanent financing option for localities. the payments from the U.S. Treasury to issuers would be exempt from sequestration. This became an issue as Congress steadily chipped away at the support for Build America Bonds which were authorized in 2010.

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

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

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

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

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

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STATES

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

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

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

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

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

PANDEMIC CASUALTIES – CAPITAL INVESTMENT

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

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

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

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

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

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

BUSINESS AND GOVERNMENT ON THE SAME PAGE?

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

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

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

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

MIXED SIGNALS ON HIGHER EDUCATION

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

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

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

PURPLE HAZE OVER MARYLAND P3

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

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

PANDEMIC CASUALTIES – GOVERNMENT HEADCOUNT

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

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

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

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

Localities would be hard pressed under the best of circumstances

HOUSE PROPOSES BOND FRIENDLY INFRASTRUCTURE BILL

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

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

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

NUCLEAR STUMBLE

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

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

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

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

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

Joseph Krist

Publisher

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NEW YORK CITY HOUSING AUTHORITY

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

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

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

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

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

DATA BEGINS TO TELL THE STORY

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

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

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

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

SANCTUARY CITIES

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

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

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

PANDEMIC CASUALTIES – PORTS

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

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

PANDEMIC CASUALTIES – AIRPORTS

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

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

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

SAFETY NET HOSPITALS

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

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

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

SUTTER HEALTH BACK IN COURT

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

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

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

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

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

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

GOVERNMENT AS EMPLOYER

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

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

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

ANOTHER STUMBLE FOR JACKSONVILLE ELECTRIC

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

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

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

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

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

Joseph Krist

Publisher

________________________________________________________________

PANDEMIC ECONOMY

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

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

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

PANDEMIC DOES DRIVE SOME BENEFIT

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

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

RATINGS AND WHAT THEY ARE TELLING US

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

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

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

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

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

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

MC CORMICK PLACE

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

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

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

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

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

RESERVE FUNDS MATTER AGAIN

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

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

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

PRESSURE ON PROPERTY TAXES

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

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

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

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

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

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

VIRGIN ISLANDS

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

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

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

NEW YORK HOSPITALS REPORT THE DAMAGE

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

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

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

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

LOST IN THE FOG OF THE PANDEMIC

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

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

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

Joseph Krist

Publisher

________________________________________________________________

RATING IMPACT BECOMES CLEARER

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

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

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

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

PUERTO RICO

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

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

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

PANDEMIC CASUALTIES – MEDICAID EXPANSION

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

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

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

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

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

P3 CHANGES

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

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

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

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

SOUTH CAROLINA PUBLIC SERVICE AUTHORITY

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

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

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

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

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

MUNICIPAL LIQUIDITY BORROWING

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

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

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

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

PENNSYLVANIA INTERIM BUDGET

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

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

PANDEMIC CASUALTIES – HOSPITALS

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

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

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

NEW JERSEY TURNPIKE

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

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

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

PANDEMIC CASUALTIES – CULTURAL FACILITIES AND TOURISM

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

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

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

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

SCHOOL DISTRICTS

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

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

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

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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So we have now passed the 40 million mark for new unemployment claims verifying what one can see with their own eyes. At the same time, the Administration has apparently decided that releasing economic projections as a part of the budget process would contain more bad news than they believe the American public can handle. The claims number is 25% of the labor force even as the reported rate is over 13%. The implications for FY 2021 for states and municipalities are bleak.

Municipal bonds will and should be at the center of the debate over next steps on the road to recovery. There seems to be a growing consensus that infrastructure could be a key generator of jobs going forward. A number of comments and proposals have been floated all involving municipal bonds. Whether they be issued for capital finance purposes or  for operating purposes, municipal borrowing is likely to be a key component of any recovery process. It was true of the Great Depression and it is true during the current depression.

The current Depression has raised worries over government solvency. Moody’s made some comments about bankruptcy which should give investors pause. They raise issues which we have raised previously.” Municipalities will not strive to make bondholders whole when doing so would be too painful for residents and other constituents… municipalities will not strive to make bondholders whole when doing so would be too painful for residents and other constituents.”  The second issue reflects cracks in the legal consensus around the treatment of special revenues .

Moody’s notes that decisions in the ongoing Title III proceedings in Puerto Rico have been negative for special revenue backed bondholders. “If this court determines that the revenues securing Fairfield’s bonds constitute special revenue pledges protecting bondholders against impairment, just as another judge ruled in Jefferson County’s bankruptcy case in this district, it would contrast with the recent 1st US Circuit Court of Appeals decision in the Puerto Rico (Ca negative) bankruptcy-like proceedings and likely provoke further litigation, possibly ending at the appellate-court level.”

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HOSPITALS AND FEDERAL AID

We have for some time been advising that investors should be very wary of the small and/or rural hospital sector. They have always been characterized by narrowly balanced finances at best. In recent years, these hospitals have been asked to deal with an increasing share of uninsured patients and cash positions have narrowed in the face of weakened reimbursements. Obviously, these institutions have been among the worst positioned to withstand a significant economic decline. So one might have hoped that the needs of these institutions would have been addressed through any of the pieces of federal legislation designed to mitigate the impact of the corona virus pandemic.

Unsurprisingly, the Trump Administration has taken a different path. The Department of Health and Human Services (HHS) has now begun distributing a portion of the $175 billion allocated for grants to health care providers in the Coronavirus Aid, Relief, and Economic Security (CARES) Act and the Paycheck Protection Program and Health Care Enhancement Act. Congress stated the money can be used either for costs related to treating COVID patients or to reimburse for lost revenue due to the pandemic. The largest share of the initial tranche of $72.4 billion to be distributed is the $50 billion that the Department of Health and Human Services allocated to providers who participate in Medicare based on their total net patient revenue from all sources.

A recent analysis of the distributions was released by the Kaiser Family Foundation (KFF) and it confirmed the worst fears of the rural hospital sector. These institutions tend to have higher levels of patients either under Medicaid or uninsured. The KFF research showed that the formula used to allocate the $50 billion in funding favored hospitals with the highest share of private insurance revenue as a percent of total net patient revenue. The hospitals in the top 10% based on share of private insurance revenue received $44,321 per hospital bed, more than double the $20,710 per hospital bed for those in the bottom 10% of private insurance revenue.

The disparity reflects the reliance of HSS on input from the larger hospitals and the for profit sector. The formula penalizes smaller and rural hospitals for the fact of the underlying demographics of their patients. KFF found that when compared to the 457 hospitals with the lowest share of private insurance revenue, the 457 hospitals with the highest share of private insurance revenue are less likely to be teaching hospitals (10% vs. 38%) and more likely to be for-profit (33% vs. 23%).  The hospitals with the highest share of private insurance revenue also had higher operating margins (4.2% vs. -9.0%) and provided less uncompensated care as a share of operating expenses (7.0% vs. 9.1%).  Uncompensated care includes bad debt, charity care and unreimbursed Medicaid and children’s health insurance program expenses.

KFF also notes that all things being equal, hospitals with more market power can command higher reimbursement rates from private insurers and therefore received a larger share of the grant funds under the formula HHS used. An alternative methodology for distributing the funds based on patient volume or that increased the size of the grant for providers that are more reliant on public payors such as Medicaid would have distributed the funding more evenly and less skewed by higher revenues from private insurers.

Dignity Health, the Cleveland Clinic, and Stanford Health Care were the only organizations to receive over $100 million in payments from the Relief Fund. Other recipients include Memorial Hermann Health System, $92,422,556, NYU Langone Hospitals, $92,120,455, County Of Los Angeles, $80,867,712, HMH Hospitals Corporation, $76,839,719; Florida Cancer Specialists & Research Institute, $67,343,375; Memorial Hospital For Cancer And Allied Diseases, $64,048,724; Massachusetts General, $58,076,206; Yale New Haven Hospital, $54,994,143; Ohio Health Corporation, $53,810,332, Allina Health System, $53,596,403; Texas Oncology Pa, $52,039,485.

The reimbursement formula is just another brick on the credit load faced by the smaller and rural hospital sector. Only one could be considered a safety net provider. And it is one more reason to avoid the single site and rural hospitals.

VEHICLE MILEAGE TAXES

The pandemic has potentially created opportunities to innovate in the funding of certain services. One of those sectors in the middle of technological change and its impact is transportation. Some states may find that the need to strengthen state finances in the aftermath of the pandemic allows for more creative thought.

We saw this week that the Director of the Wyoming Department of Transportation has suggested a ” a per-mile road usage charge was an option worth considering” as a source of funding for state road projects. Utah and Oregon recently implemented their versions of vehicle mileage taxes (VMT). Other alternatives in Wyoming include a bill to create a master I-80 tolling plan, which would have considered ways to exclude Wyoming drivers. It failed introduction in the Senate, with nearly two-thirds of legislators in opposition. 

Wyoming has assumed for its revenue projections a program with a penny-per-mile rate, which would be half a cent lower than those in Oregon and Utah. It is estimated to bring the state roughly $104 million in annual revenue. That would cover a significant part of the state’s estimated annual road bill.

The discussion is reflective of certain trends regarding the potential for tolls to become a major funding source. In any number of jurisdictions, voters have shown clear opposition to tolls for both new projects as well as maintenance projects. The opposition has been across the country even where there has been a clear need for improvements. That opposition limits the range of funding options available for capital development.

ILLINOIS BUDGET

Illinois was one of the states in similar straits to that of New York with high caseloads and impacts which could potentially result in  difficult budget process. New York moved relatively quickly and enacted its budget essentially on time. Now the Land of Lincoln has moved forward with its budget. The state legislature passed approved a “maintenance level” budget of $40 billion. It depends on federal funds and on companion legislation designed to made another effort to get a casino in Chicago up and running.

The adopted budget keeps spending essentially flat for everything except pandemic related health expenditures. Any budget enacted would be a highly uncertain one given the dispute over state and local aid levels in any future federal legislation. Add the additional uncertainty of the pending November vote on the constitutional amendment restructuring the state’s income tax rates. Asking for more could be a bit unrealistic.

NYC BORROWING REQUEST MEETS OPPOSITION

The state Legislature refused to take up Mayor Bill de Blasio’s request to allow New York City to borrow $7 billion to address a shortfall triggered by the corona virus pandemic pandemic. The Mayor estimates that the pandemic will impact the City’s revenues by some $9 billion. Publicly, the reasons include a desire to wait and see what aid is generated for state and local governments in an expected fifth stimulus bill. There are also issues of oversight cited by both the Legislature and the Governor.

To address those concerns, it has been proposed that should a borrowing be authorized for essentially operating costs, that the borrowing be done under the oversight of the Financial Control Board. The real story is the lack of trust between the Mayor and the State, both the Legislature and the Governor. We have discussed on numerous occasions the concerns that existed about absolute spending levels by the City as well as the number of employees and accountability for spending programs like Thrive NY. While publicly unspoken, these are real drivers of the debate.

The Legislature adjourned for this session leaving a number of topics for later discussion which are normally settled in the session ending in June. In the interim, the City Council President (a 2021 mayoral candidate) has expressed concerns about oversight as well. The City also has to adopt a balanced budget by June 30. The lack of borrowing authority will force a more rigorous approach to expense control as the budget process unfolds.

We expect that that the City will ultimately receive borrowing authority but under much tighter outside oversight and control than the Mayor would like.

EDUCATION, HEALTH, AND THE PANDEMIC

Stanford University is poised to come to market with $750,000,000 of taxable municipal bonds. The issue provides a good opportunity to see how one of the financially strongest private universities talks about how it will operate going forward. This comes as universities large and small, public and private, grapple with the issue of how to approach the fall semester.

The University has announced that a university-wide salary freeze and a moratorium of hiring were in place and that operating budgets were to adopt expense reduction targets of up to 25%. This is driven by, among other things, a projected 15% reduction in revenue available through the university’s endowment. These funds are estimated to account for 26% of the pre-pandemic current budget. That budget projected a $126 million surplus. The most recent estimate issued in May is for a $40 to $45 million operating deficit.

In FY 2019, student income – tuition, room and board, fees – generated 11% ($653 million) of operating revenues. As is the case with the major private research facilities that research is actually a financial keystone for many of them. In the case of Stanford, sponsored support for research comprises 27% ($1.7 billion) of total operating revenue. The medical facilities are integrated into the University’s financial operations. They account for 20% of revenue.

Currently, the University does not estimate a reopening schedule in terms of on-campus teaching and residence. Currently, the entire University operates remotely. It does say that research operations will resume before in-person instruction resumes. In the meantime, Stanford Health Care was one of three organizations to receive over $100 million in payments from the CARES Act Relief Fund.

In Massachusetts, a committee of a dozen Massachusetts college presidents has released an outline of a plan to help universities reintegrate half a million students and some 136,000 employees back into a campus setting. The plan comes with higher education leaders also urging the governor and legislature to change the law so that institutions are held legally harmless if they reopen and people get sick.

That may be a bigger issue than even the extra costs of equipping facilities to provide mitigation. It is a common theme whether it be for businesses (especially those with offices) or for educational institutions. College heads are less certain about being able to test students, faculty, and staff particularly when they come back to campus, according to a survey the advisory group conducted of nearly 90 campus leaders. 

According to the Boston Globe, slightly fewer than 60 percent of state institutions were very or somewhat confident that they could do robust testing of everybody returning to campus. Fewer than three quarters of college leaders felt strongly that they could do the contact tracing to curb the virus’ spread, according to the survey. Boston University recently announced it would open its own testing lab and is buying robots to conduct large-scale testing.

Michigan State will resume in-person classes in the fall along with “enhanced” remote learning opportunities. Students will be able to return for in-person classes on Sept. 2, as previously scheduled. There will be both in-person and online components to instruction in the fall semester. It is planned to end all in-person instruction on Wednesday, Nov. 25, with remaining instruction, study sessions and final examinations moving remotely for the remaining three weeks of the semester. Students will have the option of returning to their permanent residences for the Thanksgiving holiday and not returning to campus, or remaining on campus until the semester ends. 

The question of liability will likely be central to the debate over the next stimulus package. While resistance to state and local aid appears to be softening, there appears to be a linkage between government aid and liability protection.

TOURISM BEGINS TO GEAR UP

With venues large and small being closed for some three months, some bonds backed by tourism related revenues (sales taxes, hotel, car rental) were seen to be at particular risk. Now we see that the relaxation of pandemic related restrictions on public activity is driving the reopening of some of these facilities in some of the most tourist dependant municipalities.

The Orlando area has announced several openings and dates. Disney World is slated begin reopening in July. Magic Kingdom — the most attended park — and Animal Kingdom will reopen for business on July 15. Universal Orlando, is expected to reopen June 5 with Sea World reopening a week later.

Las Vegas will begin to try to create a viable model going forward after the Governor of Nevada announced that casinos will begin reopening next week on June 4.  Nevada had the highest unemployment rate of any state in the country last month, with 28.2% of workers without a job — nearly double the national average of 14.7%.  Guidelines issued this month by the Nevada Gaming Control Board limit capacity to 50% and require new cleaning and social-distancing policies.  This reduces the number of slot machines and regulators have capped capacity at three players a table for blackjack and four for poker.

Both of these areas will provide a good initial test of the dynamic between the desire to reopen, whether there is enough current demand, and whether hospital employees will be willing to return to work under proposed mitigation protocols.

NYC RESTAURANTS AND STREETS

The latest interest group to seek use of the public streets for its businesses is the New York City Hospitality Alliance which represents the City’s restaurant industry. The NYC Council introduced legislation backed by the restaurant industry requiring the mayor to find a way to open streets, sidewalks and public plazas to outdoor dining.  Proponents have couched it as a way to rescue the businesses.

The controversial part comes from comments from the Alliance. ““Our hope is there may be areas where entire streets could be shut down for restaurant service.”  That raises issues which have been heretofore been primarily the provenance of the transportation space namely who owns the streets. Are municipalities expected to turn over use of its streets to certain businesses but not others? How does that reflect in things like property taxes? Do proposed closures raise issues of public safety (access to police and fire) and do they create negative real estate impacts?

The NYC moves come in the wake of the release of guidance for restaurants seeking to reopen in Chicago. That city calls for tables to be placed at least six feet apart, or have a permanent barrier, such as Plexiglas, installed between them, while parties at one table should be capped at six people. Patrons must always wear face coverings — except, of course, when eating — while employees should cover up allowed for the time being.

PG&E UPDATE

The California Public Utilities Commission voted 5 to 0 in favor of PG&E’s plan to exit bankruptcy. The approval was seen as the last significant hurdle for the company to overcome. It preserves the utility’s status as an investor owned entity. Over 200 public officials across the state had supported the idea of creating a public entity to own and operate the PG&E assets. Legislation to allow for such a takeover is working its way through the California Assembly.

The plan includes a statement that its bankruptcy reorganization would not increase customer rates and would lead to about $1 billion in interest savings to customers.  One condition of the approval is guidelines for PG&E and other utilities that cut power to customers during extreme weather events to prevent equipment from causing wildfires. The guidelines require improved communication with local governments and communities while limiting the duration of the power shut-offs.

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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Memorial Day did not become an official Federal holiday until 1971. It sprang from the originally Southern tradition of decorating soldiers graves on the last Monday in May. It recognized service and most importantly sacrifice. While we remember the sacrifices of the past this Monday, it is worth comparing the sacrifice we commemorate to the sacrifices we are being asked to make today. Dying in combat or wearing a mask? Dying in combat or waiting a couple of more weeks to go to the bar? Yes these are difficult and in our lifetimes unprecedented times but they can be overcome with a little sacrifice. Enjoy Memorial Day just do it responsibly.

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MUNICIPAL BONDS IN THE IDEOLOGY CROSSFIRE

Jerome H. Powell, the Federal Reserve chair, testified before the Senate banking Committee and suggested that the central bank might expand its program to buy municipal debt and agreed that state and local governments could slow the economic recovery if they laid off workers amid budget crunches. “We have the evidence of the global financial crisis and the years afterward, where state and local government layoffs and lack of hiring did weigh on economic growth.” 

The Congressional Budget Office (CBO) released its economic outlook through 2021. CBO estimates that real (inflation-adjusted) gross domestic product (GDP) will contract by 11% in the second quarter of this year, which is equivalent to a decline of 38% at an annual rate. In the second quarter, the number of people employed will be almost 26 million lower than the number in the fourth quarter of 2019. The estimates seem to assume that there is not a spike in the fall and early winter into 2021.

Compared with their values two years earlier, by the fourth quarter of 2021 real GDP is projected to be 1.6% lower, the unemployment rate 5.1 percentage points higher, and the employment-to-population ratio 4.8 percentage points lower. Inflation and interest rates on federal borrowing will remain relatively low because of subdued economic activity and weak labor market conditions through 2021.

These estimates and comments reflect one side of the current economic debate over the ultimate scope and scale of stimulus spending. The other side reflects the ongoing efforts of the starve the beast anti-tax movement. It’s latest iteration comes from an Op-Ed in the New York Times from former Wisconsin Governor Scott Walker. He advocated against any direct aid to states and localities because “workers and small businesses need help more than government bureaucracies. ”

Among his other pearls of wisdom are that “one way to help, which will not cost the federal government more money, is to allow people collecting the enhanced unemployment benefit of $600 per week to go back to work and keep the payment until the end of the program. ” And who funds unemployment payments? Those hard pressed states who under Mr. Walker’s proposal would be subsidizing people with jobs, not businesses who could raise pay to incentivize people.

He also goes on to assert that “shortfalls created by the disappearance of federal stimulus funds was a primary reason for the budget crisis that many state governments faced after the last recession.” Too bad it was his political party that fought the stimulus after 2008. What is really rich is that he takes credit for Wisconsin’s pension funding status as the best funded pension funds in the nation. Those funds were the best funded because of a long history of bipartisan cooperation on the issue. All he did was take something that was doing well for years and didn’t screw it up.

As for economic development, here’s where things get dicey. Walker was the governor who pushed for tax incentives to the tune of $3 billon for the Foxconn manufacturing development. That deal is already on track to under deliver in terms of total number of jobs as well as the salaries available for the majority of the jobs.  Should Wisconsin be treated badly for the Foxconn deal?

From our standpoint, the whole red/blue aid discussion misses the point.  At the moment, jobs are jobs. A basic understanding of economics would see the multiplier effect of people being paid no matter the source of that pay.  There will be a time for the ideological issues to be sorted out but right now, the people reopening businesses could not care less how their customer funded his purchase. They’re just thankful for cash flow.  Aid to states and localities would provide much needed cash flow.

PANDEMIC CASUALTIES – SAFETY NET HOSPITALS

While the arguments over when, how, and where to “reopen” the country continue, there are some issues about which there can be little disagreement. Data to date shows the disproportionate impact of the pandemic based on race and/or economics. As with all other major health issues, disproportionate share hospitals (DSH) bear an indeed disproportionate share of the resulting burdens from the pandemic. While always under pressure, the DSH or “safety net” facilities are in a uniquely difficult spot in that their limited financial positions make it difficult to cope with both the revenue losses and the rapidly increased supply expenses associated with the pandemic.

With plenty of existing hurdles to overcome, these facilities now face potential regulatory burdens stemming from their participation in the federal 340 b drug program. Established in 1992 under Section 602 of the Veterans Health Care Act, the 340B Drug Pricing Program allows eligible hospitals, health centers, and clinics (covered entities) to access covered outpatient drugs at reduced prices from manufacturers participating in Medicaid. The program includes a variety of documentation requirements which are more difficult to comply with. If a facility is unable to meet those requirements even under these emergency circumstances, the resulting expense burden occurring as the result of being out of the program could be substantial.

Hospitals, healthcare professionals, and advocacy organizations  have asked the federal Health Resources and Services Administration’s (HRSA) Office of Pharmacy Affairs (OPA) which is responsible for administering the 340B program, to relax program regulations during the pandemic to relieve this burden. Part of the problem is limited technical abilities to generate and transit the required information under current circumstances which rely on electronic data transmissions. These facilities were already behind the curve in many cases technologically going into the pandemic due to limited financial resources. The financial impacts of the pandemic will not help them.

Obviously the risk will be credit specific. So what sort of institutions would we look at? NYC Health and Hospitals, Boston Medical Center, Temple University Medical Center, LA County/USC Medical Center are urban examples. Rural hospitals are also often DSHs.

PG&E MOVES TOWARDS RESOLUTION

It would have been a difficult task to accomplish but the takeover of PG&E by a public entity became less likely with the announcement that thousands of homeowners and businesses had overwhelmingly approved a $13.5 billion settlement for wildfires caused by PG&E’s equipment in 2018. The deal requires the power company to begin compensating, as early as August, some 70,000 wildfire victims who lost homes, businesses and other property.

The announcement means that the most significant remaining hurdle to the resolution of the utility’s bankruptcy proceedings by June 30 to qualify for a $20 billion wildfire fund created by the California legislature. PG&E has agreed to pay half of the $13.5 billion in cash and the other half in the company’s stock. In an all-cash settlement, PG&E has agreed to pay $11 billion in a separate deal with a group of investors and businesses that own insurance claims against the company.

PG&E still has to gain approval for its bankruptcy plan from the California Public Utilities Commission, which is scheduled to vote Thursday on a record penalty of almost $2 billion against the utility for the wildfires it caused.  The actions come after the coalition of government officials who support the creation of a public entity to take over PG&E asked the PUC to reject the proposed settlement.

PANDEMIC CASUALTIES – SENIOR LIVING

Senior living quickly emerged as a prime sector for exposure to the pandemic as the earliest clusters were at nursing homes. While there are great differences in the range of care offered by facilities in this cohort – independent living, assisted living, skilled nursing, some combination of some or all of these – there are common aspects which conflict with best practices in mitigation of the pandemic. An older population, some already old and sick, and all in some form of congregate housing all put these facilities in the crosshairs.

Now there is confirmation of the financial impact of the pandemic on this sector of the municipal market. Moody’s recently cited a variety of specific impacts. They include The Amsterdam House Continuing Care Retirement Community in Nassau County, New York which failed to make a debt service deposit due April 1, and requested debt service waivers through at least July 1 from bondholders. Henry Ford Village in Michigan also missed a monthly debt service deposit, and expects to miss another this month. The project will draw from its debt service reserve fund.

Eagle Senior Living has outstanding bonds secured by revenues from an obligated group operating  17 facilities across eight states. It reported in a Municipal Securities Regulatory Board (MSRB) filing that a reduction of leads and presentations throughout the month of March ranging from 25 to 40% had occurred and there was a reduction of 75% of the same to date in April. has implemented a 14- day quarantine of all new admissions to independent and assisted living as well as strict move-in procedures requiring staff to disinfect and move in furniture. Resident families and guests are not permitted to visit along with all non-essential visitors. No new admissions are being made to memory care due to resident safety and the impracticality of being able to maintain a 14-day quarantine period.

These are more than mere headwinds. The business relies on a steady growth in assets held by potential residents and in particular, a healthy home sales market. The economic impact of the pandemic, especially in a dreaded second wave, would devastate those two markets and limit the available pool of customers needed to maintain occupancy levels.

CHAPTER 9

Fairfield, a city of just under 12,000 residents west of Birmingham, AL filed for bankruptcy under Chapter 9 of the federal bankruptcy code in the U.S. Bankruptcy Court for the Northern District of Alabama in Birmingham. The petition states the city has between 200 and 999 creditors with $1 million to $10 million in liabilities. It’s largest creditor was listed as US Bank with an $18 million unsecured claim. The top 10 creditors for the city are: Fairfield Board of Education $2 million; Jefferson County Finance Department $1.7 million; Alabama Power $994,091; AMBAC $900,000; Alabama Finance Department – Computer $590,532; Birmingham Water Works $550,924; Regions Bank $417,752; Jefferson County Sheriff $349,576; and Retirement Systems of Alabama $305,000.

The city admits that its financial position was precarious before the pandemic. A resolution by the Fairfield City Council states the city has faced “a substantial decline in revenues in recent years due to economic forces beyond its control.” Yes the city has seen some of its businesses succumb to the limits imposed by the pandemic. But the pandemic also gives cover to public officials seeking to take advantage of ” an opportunity to reorganize, reassess our finances.”

Here is where the impacts of recent bondholder unfriendly bankruptcy decisions come back to bite future bondholders. The Fairfield bankruptcy resolution states the city while the bankruptcy process proceeds will honor all pre-petition accrued obligations to current City employees for wages and salaries, including earned vacation, severance and sick leave pay and contributions to employee benefit plans. It also will honor “pre-petition and post-petition continuing obligations to trade vendors that have provided and continue to provide goods and services to the City in the ordinary course of business and according to the credit terms agreed to by such vendors and the City.”

The resolution pointedly omits bondholders from this cohort of pre-petition obligations to be honored. Fairfield says it wants to develop a plan that includes adjusting the terms and conditions of its debts and obligations under Chapter 9. Fairfield brings to an even dozen the number of Alabama municipalities to file for Chapter 9 reorganization since 1991.

STATES BEGIN BUDGET ADJUSTMENTS

South Carolina has decided to enact what is effectively a temporary budget in the face of the fiscal impacts of the pandemic. The Governor has signed a continuing resolution which will allow the State to keep operating until the Legislature can reconvene in September. At that time, the State will have a much better idea of what federal resources will have been provided to the State to offset the budget impact of the pandemic.

To date, South Carolina has received more than $2.7 billion in federal COVID-19 relief. The Legislature is requiring that $1.9 billion of the State’s share into a separate account and treat its spending similar to how the Legislature approaches a budget bill: allow the full General Assembly to first approve it. In the meantime, the agreement allows state agencies and colleges and universities the ability to furlough employees, a step the University of South Carolina has been considering after it moved classes online and returned money back to students.

Waiting would allow South Carolina to see how some of its major industries fare under reopening. The problems facing the hospitality industry hit hard in the state’s coastal region. On the other side, the “autobahn” between Greenville and Spartanburg holds it breath while the auto industry reopens. In Michigan and Illinois, Ford had to stop production at two reopened facilities due to corona virus infections even after a heavy sanitizing and mitigation effort.

WILL MUNIS FINANCE ANOTHER DAM FIX?

Two years ago it was a government built and owned dam in northern California that flooded. That put the State Department of Water resources on the hook for financing needed repairs at the Oroville Dam. The circumstances of the latest example are different and once again highlight the municipal finance industry’s role as a savior of corporate failure.

The Edenville Dam is one of four hydroelectric projects along the Tittabawassee River northwest of Midland, MI. The city is the corporate headquarters location for Dow Chemical and facilities in the city include a nuclear reactor.  Now the dam has failed and 40,000 residents in Midland are at risk. So is Dow Chemical. So who is responsible for fixing the dam?

The Edenville dam and three others were owned by a private interest. That entity failed to invest in the dams over time and the Edenville Dam was constructed in 1924 and was on FERC’s list of “high hazard” dams. Rather than invest, the private owner instead agreed in January of this year (the deal finally closes in 2022) to sell the dams to a municipal authority which planned to finance some $100 million of capital investment in the four dams.

The purchase was apparently the only way to get the needed work done as FERC had repeatedly faulted the previous owner for failing to maintain and improve spillways, which help direct excess water around the dam to relieve pressure on the structure. FERC is reported to have assigned a 5 in 10 chance that the dam would fail under high flood conditions while the private owner put the odds at 5 in 1,000,000. 

SCHOOLS FACE HIGHER COSTS

As the country moves towards reopening, school districts across the country are assessing how to mitigate against the spread of the virus. The possible fixes involve fewer students in each classroom, alternate schedules or even an old favorite (I date myself here) split sessions. Split sessions were originally intended to deal with attendance demands due to population trends. Now, split sessions could address new pandemic based attendance requirements.

The cost of operating schools will of course go up to address enhanced cleaning requirements, increased physical infrastructure requirements, and personnel costs associated with increased cleaning and transit employees. And it is fair to say that teachers will never have a better time to make their case as to their value to the community. It is no surprise that many parents are pressing to get schools open after lockdowns, especially in the case of working parents who rely on the schools as much for day care as they do for education.

This puts school districts in a tough position. Their underlying tax bases will likely be under pressure as businesses close and property values are depressed. If the states which are ultimately the funders of education do not receive federal assistance, it will be that much harder for them to downstream revenues to those districts under the state school aid programs in every state.

LIKE THE VIRUS CLIMATE CHANGE IS NOT GOING AWAY

As the massive flood in Michigan bears witness, significantly increased moisture is becoming an annual feature of each year. Now, the National Oceanic and Atmospheric Administration has issued its predictions for the 2020 hurricane season. Significant incidents in Puerto Rico, Texas, and Florida have become annual events. NOAA’s Climate Prediction Center predicted a 60 % chance of an above-normal 2020 Atlantic hurricane season, with a 30 % chance of a near-normal season. The agency predicted just a 10 % chance of a below-normal season.

NOAA forecast the 2020 Atlantic hurricane season that runs from June through November will include 13 to 19 named storms, with six to 10 possible hurricanes. Three to six of those could become “major” hurricanes of Category 3 or higher. If 2020 does meet that forecast, it would mark a new record of five consecutive above-normal Atlantic hurricane seasons, surpassing a previous record of four seasons during 1998 to 2001. An average hurricane season produces 12 named storms, with 6 becoming hurricanes.

Such a storm season would contribute to issues like flooding again draw attention to the vulnerability of infrastructure to floods and storms. Issues like raising the elevation of streets, rezoning, preventive infrastructure, and managed withdrawal will arise again. This time however, the debate will occur in the context of constrained budgets and revenue generating ability which will in the short term drive that debate. Can local governments fund and finance the investments in resilience under the likely depressed revenue environment?

SHORT TERM BORROWING IN THE SPOTLIGHT

Do this long enough and you see just about every cycle come full circle. That is about to be the case with short term borrowing by state and local government poised to increase. Attention has increased with the development of the Federal Reserve’s Municipal Liquidity Facility. These borrowings – usually in the form of tax and/or revenue anticipation notes have long been an effective cash management and project funding tool. Many issuers, especially states, have used these notes to address timing differences which create temporary cash imbalances.

This year the pandemic has created special pressures on cash flows. This has been exacerbated by extensions of the tax filing date into this summer. This has caused significant cash deficits as these issuers struggle with reduced revenues during their traditionally heaviest quarter of revenue receipts with the unprecedented expense demands related to the pandemic. Because the size and timing of potential issuance is uncertain and the ability of the market to deal with the potential flow due to credit fears, the Federal Reserve’s Municipal Liquidity Facility was authorized and funded at $500 billion.

One of the concerns is that short term debt has at times been not a means to address structural and timing issues but a form of deficit spending. Technically, that concern can be correct. That overlooks the importance of short term borrowing in the process of recovery from extraordinary events. A good example is the experience of the City of New York in the aftermath of 9/11. The City was able to use such borrowings to finance the increased current expenditures driven by the attack and its aftermath. There is no reason to look negatively at borrowers who issue notes in the current circumstances where it can be argued that the economic impact of the pandemic is much greater in comparison.

Right now, the market is focusing on Illinois and its potential borrowing requirements. Yes, Illinois entered this period in a significantly weaker position than most states. Yes, the $4.2 billion of short term borrowing is significant. But it is not an outlier in terms of its decision to use such borrowing to meet disaster induced funding needs. So we do not view the potential for significant short term borrowing by the state to be any sign of a lack of will to address its problems. The real risk pre-pandemic was the failure of a proposed constitutional amendment to move the state income tax to a graduated rate scheme on the November ballot. That has not changed or increased the level of uncertainty which already existed before the pandemic.

TRAVEL WOES HIT LAS VEGAS CREDITS

It’s pretty well established that one of the last sectors to fully rebound from the impacts of the pandemic is the travel/hospitality/leisure industry. For economies where tourism and/or entertainment serve as primary economic pillars, the limitations of attendance and operations have had severe effects. One of the best examples is the greater Las Vegas economy.

Now the impacts of laid off employees and no visitors is being reflected in the ratings of local issuers. This week Moody’s announced that it has downgraded two significant issuers. The Clark County School District had its rating affirmed at A1 but the outlook for the rating was lowered to negative. This reflects Moody’s  expectation that the district’s financial position will be challenged by the coronavirus pandemic which has severely affected the region’s tourism and gaming dependent economy. The State’s ability to support the District will be limited by the impact of the pandemic on state revenues.

The ever growing City of Henderson is feeling the pressure as well. It’s Aa2 rating now carries a negative outlook as the same pressures impacting the Clark County School District are hitting Henderson.

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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Call it what you want but we face depression level employment conditions. The most recent claims number brings unemployment to 23% without accounting for non-participants in the work force. While we realize that precipitous moves in ratings are most likely not in  the cards, that does not mean that the market can’t establish it view of creditworthiness. In the meantime, the debate over the next stimulus package will center around aid to states and municipalities. The argument for stimulus is bolstered by the Fed chairman’s most recently expressed views supporting additional stimulus.

Without it, states and cities will have to take steps to deal with their declining fiscal positions which will have direct economic implications. The traditionally busy summer construction season will look completely different this year. Major capital projects like road repairs are already being slowed, suspended, or reimagined to use different materials and work crews. The contract letting process is on hold in number of states and the economic impact of those decisions has yet to fully take hold.

On the county and local level, those governments cannot wait to decide whether to make cuts. While advertised as temporary, many of these entities have furloughed employees. Many of these cuts are in basic services which support economic activities through functions like business licensing, real estate transactions, inspections, and permitting. These changes will act as a further drag on local economies.

The next obvious concern is the impact on the economies of primarily small businesses for their survival. The multiplier effect stemming from these delays, cancellations, and changes is yet to be felt. That may also be said about the impact of potential delays in the re-openings of institutions like colleges. While the impact of closures and shifts to online learning are clearer, the economies of many localities depend on the presence of colleges to generate demand for all sorts of goods and services. Many of these local economies have long felt essentially immune from the changes in the larger economy.

The reality is that while the present economic realities are daunting, the worst may be yet to come. Empty campuses do not generate pizza deliveries. The potentially longer lasting effects of the downturn will pressure state unemployment trust funds and likely generate borrowing which must be supported by fees from employers. This will serve as an additional drag on the recovery of the economy as well as state fiscal positions.

Given the increasingly negative economic outlook, we would expect to see a series of state downgrades over the summer. States are in the middle of their budget processes and we expect that the rating agencies will wait for the legislative session season to play out before making any moves. Like so many other times of economic challenge, this period has reinforced the role of the rating agencies as lagging indicators of creditworthiness. We discuss the revisions in the fiscal outlook for several states this week. We  ask how these states can be considered worthy of the same ratings they had just eight weeks ago?

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PANDEMIC CASUALTIES – STUDENT FACILITIES REVENUE BONDS

The California State University, the nation’s largest four-year public university system, announced that classes at its 23 campuses would be canceled for the fall semester, with instruction taking place almost exclusively online. More than 480,000 undergraduates are enrolled at the Cal States and they have been taking their classes online since March.

To date, only several smaller institutions have announced similar decisions.  Many schools, public and private, are weighing various courses of action for the fall semester. The decision to open or close has implications for the outstanding debt of these institutions. For bonds secured by student dining and housing revenues to finance those facilities, the plan to stay online has potentially significant implications for the bonds. In the same way, bonds for non-academic facilities backed by student fees also will face financial pressure.

The public institutions are the primary issuers of debt backed by “auxiliary service” revenues. California State is a good example as it issues debt secured by revenue including gross revenue from various auxiliary and mandatory student fees. Total pledged revenue was $5.33 billion for fiscal 2019, including $3.35 billion of Tuition Fees (the basic enrollment charge paid by all CSU students). There is a sum-sufficient rate covenant and no debt service reserve fund.

The university issued system revenue debt in February with a Aa2 rating. The rationale for the rating was “continued excellent demand for The CSU, accompanied by consistently solid cash flow and debt service coverage.” The State of California continues to provide healthy increases in state funding, including capital support. Now, the source of outside support (the State) is under incredible short term stress, 40% of historic revenues are at risk, and demand for the system is under pressure as students attempt to assign a real valuation to the on-campus experience. The rating assigned in January carried a stable outlook but assumed cash flows and demand which may not be realized.

Given the pressures on the revenue sources (the state, economically weaker students, and potentially closed facilities) it’s hard to see how the credit behind the debt could be considered stable.

PANDEMIC CASUALTIES – PORT REVENUES

The National Retail Federation tracks import/export data for its members and produces, among other things, reports on things like port activity. Twenty foot equivalent units (TEU) provide the base metric and input for any analysis of operations and trends. A recent report from NRF documents the actual and potential impact on port operations as the result of the pandemic.

Imports at major U.S. retail container ports are expected to see double-digit year-over-year declines this spring and summer. April was estimated at 1.51 million TEU, down 13.4% year-over-year. May is forecast at 1.47 million TEU, down 20.4% from last year; June at 1.46 million TEU, down 18.6; July at 1.58 million TEU, down 19.3%; August at 1.73 million TEU, down 12%, and September at 1.7 million TEU, down 9.3%.

Before the coronavirus began to have an effect on imports, February through May had been forecast at a total of 6.9 million TEU but is now expected to total 5.87 million TEU, a drop of 14.9%. The first half of 2020 is forecast to total 9.15 million TEU, down 13% from the same period last year. So the current impact of the declines is significant but not unmanageable. At the same time, the importance of getting reopening the country right is highlighted in the report.

The Port of Los Angeles the port handled 689,000 TEUs in April. That’s a 6.5% year-over-year decrease  but better than the March results which showed the port handled 449,568 TEUs in March, a year-over-year volume plunge of 30.9%. According to the Port, “based on the first quarter of this year, the volume at the Port of Los Angeles was down 18.5%, and now if we add in the April stats we’re down about 15.5. On any given day looking at the traffic moving through the Port of Los Angeles we’re doing about 80% of normal volume for this time of year.”

The NRF projections rely on no emergence of a “second wave” of the virus. The report comes with the caveat that “we continue to expect recovery to come in the second half of the year, especially the fourth quarter and into 2021. This is based on the big and somewhat tenuous assumption that there is no second wave of the virus.”

PANDEMIC CASUALTIES – SMART DEVELOPMENT

The Smart Cities movement took a hit recently with the announcement by Google’s parent – Alphabet – that it was no longer going to pursue its experiment in smart cities development under way in Toronto, Canada. Originally dubbed “Sidewalk Toronto” in October 2017, the project was designed to oversee technology based development in a 12 acre area along the Toronto waterfront. The plan called for new housing and smart city technologies including sensor-based traffic signals, dynamic curbs, underground delivery routes for trucks, self-financing light rail transit, heated pavement and pneumatic waste collection.

Quayside is the name of the 12-acre waterfront district on Lake Ontario that was scheduled to be redeveloped by Sidewalk Labs and government-appointed nonprofit Waterfront Toronto. The project was outlined in June 2019 by Sidewalk Labs,  the Alphabet entity created for projects like this. Sidewalk Labs unveiled a three-volume, 1,524-page master plan for the site which estimated the cost at $2.8 billion.  It also helped the public understand some of the issues associated with the anticipated technologies to be used.

The public reaction to the project was mixed. While the effort to produce a fairly walkable, self-contained community was seen as a positive, the reliance on technology based monitoring raised concerns.  Those concerns centered around data privacy and the collection of information from citizens, which are an essential feature of many promised smart-city features.

So here we have one technology company advancing a project which raises data concerns amongst the public while in California we have technology/transportation companies fighting efforts by governments to access data to monitor and manage micromobility providers within their jurisdictions. It places the technology industry writ large on both sides of the privacy/technology debate.

So why care if you are a municipal bond investor? The pandemic is leading proponents of various strategies and technologies to try their best to use the temporary changes in urban living and transportation to advance their agendas. Most of those strategies will involve substantial capital investment on the part of host municipalities. The sort of investment to be required to produce development along the lines of the Toronto project would be substantial and the private sector has not shown the appetite to finance or fund it on its own.

Whenever those conditions arise, the municipal market is looked to as a source of affordable financing. So, municipal investors need to support sound decision making on the part of municipalities so as not to squander resources on a level of risk which really should not be borne by taxpayers and bondholders. It is an important thought to hold as companies like Uber, Lyft, and Airbnb all announced substantial employment cuts. With future funding in some doubt, the transportation networking companies are in a weaker bargaining position going forward as they engage governments while they try to expand. The decision by Uber to dump its Jump e bike subsidiary onto Lime reflects the instability in the mobility space.

 As the executive director of the San Francisco Municipal Transportation Agency (SFMTA) recently pointed out “At a time when all of these private companies should be demonstrating their value, they’re actually fighting for their own financial lives and therefore prioritizing the convenience of the privileged over the needs of cities and their most vulnerable travelers. The private mobility space has got a lot of work to do, to rebuild relationships with cities, and get people to see them as actually a part of a solution, rather than just a mechanism for some potential profit in the future.”All of that is positive for governments and their finances.

PANDEMIC CASUALTIES – HOSPITALS

Strata Decision Technology is an advisory firm in the hospital sector with access to operating information on some 1,000 U.S. hospitals. They have released research on the impact of the pandemic on hospital operations and finances. They found that across all service lines and in every region of the country there was an average decrease in the number of unique patients who sought care in a hospital setting of 54.5%. Clinical service lines that saw the sharp drops in patient encounters included those with life-threatening illnesses such as a 57% decrease in cardiology, and a 55% decrease in breast health with a 37% decline in cancer care overall.

The restrictions on elective surgeries can be seen in the data. The top 10 procedures account for over 50% of the total payments made to hospitals. In this category there were significant declines in the number of hip (-79%) and knee (-99%) replacement surgeries as well as in spinal fusions (-81%) and repair of fractures (-38%). Coronary stents (-44%) and diagnostic catherization (-65%) also saw significant declines. If you’ve had any of those done lately, the potential revenue hit to hospitals is obvious. Access to clinical care for patients with life-threatening conditions declined significantly including congestive heart failure (-55%), heart attacks (-57%) and stroke (-56%).

Those procedures are effectively where the money is for hospitals. Health systems in the study cohort (2 million patient visits and procedures from 51 healthcare delivery systems in 40 states, with varying rates of COVID-19 cases in their 228 hospitals) lost an estimated $1.35 billion in revenue during the 2-week study period compared to the prior year.  Extrapolating the drop in volume from the cohort to a national view would be the equivalent revenue loss of $60.1 billion per month for hospitals nationwide.

According to the study, the number of uninsured or self-pay patients has increased dramatically in the last 90 days, mirroring the rise in the national unemployment rate. In January, 7% of all inpatient and outpatient encounters in the study cohort were with patients who lacked health insurance. By April that figure had risen to 11%, and early results from May indicate 15% of all patients in the cohort are now uninsured, an increase of 114% in just 90 days. 

FEDERAL PANDEMIC ASSISTANCE TO NYC

The New York City Independent Budget Office (IBO) estimates that $5.3 billion in aid from the federal government’s four coronavirus relief packages will flow to the city budget. That does not include federal aid granted to public agencies that provide essential city services but are outside the city budget. That additional aid include $3.8 billion for the Metropolitan Transportation Authority (MTA), at least $818.6 million for NYC Health + Hospitals (H+H, the city’s public hospital system), and $211.9 million for the city’s public housing authority.

The majority of the $5.3 billion in aid that the city is estimated to receive must be used to cover direct costs incurred by the city due to the Covid-19 pandemic or to fund programs that provide aid to city residents impacted by the resulting downturn, such as increased funding for existing food and rental assistance programs. The more than $700 million in federal education aid included in this total will replace state school aid cut by the Governor in the state’s recently enacted budget. The largest impact on the city budget comes from changes to Medicaid funding. The Families First Coronavirus Act increased the share of Medicaid paid by the federal government by 6.2 percentage points (called the enhanced Federal Medical Assistance Percentage, or eFMAP.) In New York the federal, state, and city governments share Medicaid costs, so if the state allows the savings from the eFMAP to flow through to localities across the state there would be savings for the city.

STATES TRY TO COPE

A survey conducted by the Louisiana Oil & Gas Association found that members have been forced to reduce 23% of their Louisiana workforce. This reflects the fact that 77.5% of operators have already begun taking steps to shut-in production. and 51.35% said bankruptcy is likely. 34% applied for Economic Injury Disaster Loans (EIDL) funds, of those only 25% received the funds they expected. Of those who received funds, 46.6% indicted they were not enough to help them stay in business and 72% indicated they were not enough to avoid layoffs. It is not just the number of jobs lost but the fact that jobs in the oil and gas industry are among the state’s best paying. The impact on income tax revenues and sales tax revenues will be substantial.

Georgia has requested that all state departments and agencies submit revised budget plans for fiscal 2021, which ends 30 June 2021, that include a 14% cut from the original fiscal 2020 base of about $27.5 billion. That is positive for the state’s financial position. The across the board nature of the proposed cuts does however, lessen the amounts available for local aid including school districts. Moody’s estimates that the State Department of Education may see its funding cut by $1.5 billion. That would require districts to cut programs or raise taxes. April was the first month to include the full effect of the coronavirus-induced downturn, with Georgia’s revenue falling 35.9% year on year, reducing year-to-date revenue 3.4% versus 2019.

Texas reported $2.58 billion in state sales tax revenue in April — an approximate 8% drop from what the state collected the same month last year. That drop, from $2.8 billion to $2.58 billion, marked the steepest decline since January 2010 and covered sales made in March. Florida’s sales taxes provide for 78 % of the State’s general revenue programs. A May 1 daily revenue report showed that sales and use taxes, plus a few other unrelated revenues, collected during April were about $773 million below the state’s $3.1 billion sales tax estimate.

Other general impacts on projected budget results include Connecticut where the state’s Consensus Revenue Estimates revised general fund revenues and special transportation revenues downward for the current fiscal year, FY 2020 and next three ensuring fiscal years from January estimates. .General fund revenues are now estimated to drop $942.1, or 4.8%. The special transportation fund is expected to decline by $164.4 million, or a 9.5% reduction from January.

In Illinois the current fiscal year general fund revenues were revised to $2.7 billion below February estimates of $36.9 billion by the Governor’s Office of Management and Budget (GOMB). GOMB reports that the revenue shortfall and additional FY 2020 borrowing has created a budgetary gap when compared to the Governor’s original spending plan in February. 

Maryland Comptroller Peter Framchot and the Bureau of Revenue Estimates outlined a shortfall of approximately $2.8 billion during the final quarter of FY 2020. The impact represents a loss of nearly 15% to the state’s general fund.  Maryland’s withholding tax revenues declined by 22% or an average monthly impact of $185 million in losses. The economic shutdown could also result in a loss of 59% of all sales tax revenue in a month, or almost $250 million. 

Pennsylvania’s Independent Fiscal Office (IFO), reported that April revenue collections were down by $2.16 billion, or 49.8% less than projections released in August 2019. Sales and use tax collections fell short of estimates by $357.3, or 35.9%. Personal income tax revenues were below estimates by $1.48 billion and $105 million is estimated to be permanently lost due to reduced economic activity. 

TRANSPORTATION MEASURES THE IMPACT

A University of California-Davis study issued on April 30 found that total vehicle miles traveled or VMT in California is down statewide between 61% and 90% as a result of various stay-at-home orders issued by Governor Gavin Newsom. It estimates that COVID-19-related reduction in travel is slicing an estimated $46 million per week from fuel tax funds for California transportation projects. In Illinois, road travel is down as much as 46% across the state. The Maine Department of Transportation is expecting a roughly $74 million loss in transportation revenue due to COVID-19 over the spring and summer months.

The Minnesota Department of Transportation (MnDOT)  estimates it will take in $440 million less than anticipated over this year and next. MnDOT predicts income from the gas tax will plummet by about 30% compared with what was anticipated for the rest of this fiscal year, which runs through June 30. During the 2021 fiscal year, which starts July 1, the agency said it might drop by 15%.

WHILE YOU WERE SHELTERING IN PLACE…

The Maryland Purple Line, a controversial light rail project, had been the subject of litigation for some time. The litigation – which ultimately did not succeed in stopping the project – only slowed it. The first lawsuit delayed construction by almost a year before a federal appeals court rejected it in 2017. A federal judge dismissed a second lawsuit last year. The slowdown did impact construction and generated costs, however.

Those extra costs are the subject of an ongoing dispute between the state and the contractors on the project. The contractor said May 1 that it would quit in 60 to 90 days because of years-long disagreements with the state over who should pay for cost overruns related to construction delays. Now a third lawsuit is moving through the federal courts alleging that the U.S. Army Corps of Engineers had violated the Clean Water Act by allowing construction crews to discharge dredge and fill into streams.

That suit was dismissed by a U.S. District judge in April. Now, the plaintiffs have decided to appeal the decision to the U.S. Court of Appeals for the 4th Circuit in Richmond. Briefs are scheduled to be filed by lawyers on both sides this summer. The appeal could result in further delays and it will complicate the dispute between the contractor and the state.  

PRESSURE ON UTILITIES

The US Energy Information Administration (EIA) released its latest monthly Short-Term Energy Outlook (STEO) and it validates a number of points we have made in our comments on the sector over time. The outlook says that the effects of social distancing guidelines are likely to continue affecting U.S. electricity consumption during the next few months. EIA expects retail sales of electricity in the commercial sector will fall by 6.5% in 2020 because many businesses have closed and many people are working from home. Similarly, EIA expects industrial retail sales of electricity will fall by 6.5% in 2020 as many factories cut back production. Forecast U.S. sales of electricity to the residential sector fall by 1.3% in 2020 because of lower electricity demand as a result of milder winter and summer weather, which is offset slightly by increased household electricity consumption as much of the population spends relatively more time at home.

Here’s what really caught our eye. EIA forecasts that total U.S. electric power sector generation will decline by 5% in 2020. Most of the expected decline in electricity supply is reflected in lower fossil fuel generation, especially at coal-fired power plants. EIA expects that coal generation will fall by 25% in 2020. EIA forecasts U.S. average coal consumption will decrease by 23% to 453 Million short tons (MMst) in 2020. The decrease is primarily driven by a 24% decline in electric power sector consumption and persistently low natural gas prices. EIA expects renewable energy to be the fastest-growing source of electricity generation in 2020, the effects the economic slowdown related to COVID19 are likely to affect new generating capacity builds during the next few months. EIA expects the electric power sector will add 20.4 gigawatts of new wind capacity and 12.7 gigawatts of utility-scale solar capacity in 2020.

Even the pandemic disaster has not been enough to deter the market forces driving the decline of coal. We expect that municipal utilities will have to become bigger players in the renewable energy space as developers of  renewable generating resources directly and not just as ultimate distributors. They will have to remain nimble as local economies absorb and adapt to changes in job locations, commutes, and work habits which are likely to result from the pandemic.

ONE LESS FOR THE ROAD?

The same energy report projected fuel consumption and those numbers do not look good for transportation infrastructure funding. EIA expects U.S. total liquid fuels consumption will rise from an average of 15.9 million b/d in the second quarter of 2020 to 18.7 million b/d in the third quarter of 2020 and then to average 19.8 million b/d in 2021, up 8% from 2020, but lower than 2019 levels. EIA forecasts jet fuel consumption to decline by 25% year-over-year for all of 2020 and by more than 50% year-over-year in the second quarter. Gasoline and distillate fuel consumption will both see consumption fall about 10% compared with 2019 levels.

This directly impacts gas tax revenues obviously. Where it multiplies is in what it implies about the impact of changes in travel especially commuting. The impending shift to more telecommuting for work we believe is real. The implications for the impact on mobility choices and demands are real and potentially substantial. It will require creative approaches to road funding and the support for the capital it relies on.

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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We keep hearing that the pandemic isn’t everyone’s problem when it comes to federal assistance to states. Data out this week showing that the virus moved from the coasts and gateway cities out to the rest of the country will not help anti- New York bias out there among them. Fortunately, data suggests that the State of New York might have been better positioned to deal with the pandemic if more of the state’s resources had been allowed to remain in state rather than bankrolling the rest of the country.

That data shows that in Federal Fiscal Year (FFY) 2018, New York State generated an estimated $26.6 billion more in federal taxes than it received in federal spending. In total dollars, New York’s deficit was the highest among the 50 states. For every tax dollar paid to Washington, our State received 90 cents in return—well below the national average of $1.21. The State generated nearly $254 billion, 8 % of the $3.2 trillion in federal tax receipts. By contrast, the $227 billion in federal spending the State received represented 6 % of the nationwide total, virtually the same as New York’s share of the U.S. population.

So the State would able to fund the entire revenue loss from the pandemic and have money left over were it not for this imbalance. It could even help NYC if it chose. Connecticut tops the list of donor states. Residents there receive just 74 cents back for every $1 they pay in federal taxes. Kentucky on the other hand pays in only about one half of what New York contributes on a per capita basis. So no matter your political leanings, the data tells the story.

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RATINGS TOLL BEGINS TO TAKE SHAPE

The negative impact of the pandemic on the economy and taxes derived from economic activity is already manifesting itself in negative ratings actions. The latest example is the entity which financed Miller Park and the arena for the Bucks in Milwaukee, The Wisconsin Center District . The district’s Series 1996A, 2003A, 2016A and 2020A bonds are secured by a senior lien on the following special taxes: a 2.5% Basic Room Tax, a 0.5% Local Food and Beverage Tax, and a 3% Local Rental Car Tax, all of which are levied across Milwaukee County (Aa2 stable) and can only be used for debt service. The bonds are additionally secured by a 7% Additional Room Tax levied in the City of Milwaukee (A1 negative), which is pledged first to debt service and then any lawful purpose.

Now, Moody’s Investors Service has downgraded to A3 from A2 the rating on Wisconsin Center District’s senior debt to A3 and its junior lien debt to Baa3. The analysis assumes a gradual recovery beginning in the second half of 2020 with slow improvement over the ensuing months. Now the District is undertaking and advanced refunding of some of its debt. The resulting restructuring of the District’s debt service schedule will reduce near term debt service requirements which will accommodate the limits on the economy resulting from the pandemic.

The uncertainty facing the higher education space is unprecedented. Already, schools are seeing fewer acceptances by the usual May 1 deadline so it is difficult for administrators to estimate enrollments and revenues. So far, the vast majority of institutions indicating that they plan to reopen are the state university systems. Overseen ultimately by politicians, these institutions are getting caught up in pandemic politics as states which are considered to have pro-Trump governors are the most favorably disposed to open.

The real risk is in the private space, especially in the smaller college category. These schools were already under financial stress from existing pressures on enrollments. S&P Global Ratings revised the outlooks to negative from stable and affirmed its ratings on certain U.S. not-for-profit colleges and universities (including all related entities), due to the heightened risks associated with the financial toll caused by the COVID-19 pandemic and related recession. The public and private colleges and universities affected by these actions include primarily those with lower ratings (‘BBB’ rating category and below).

Helpfully, S&P named liquidity, as measured by available resources compared to debt and operating expenses, as the primary metric assessed. Liquidity will be the key as colleges manage the financial impact on institutions from the loss of auxiliary revenue from housing and dining fees, and parking fees; as well as revenues from athletics, theater, and other events, which is material for many.

Another risk is the limitations of travel and the potential impact on historically lucrative foreign student demand. If global travel restrictions are prolonged, or the imminent recession diminishes foreign students’ financial means, then some could opt to study or work in their home countries instead. Growth in this demand was already slowing from pre-pandemic efforts to limit immigration. The pandemic has exponentially increased the negative pressure on foreign demand. This impacts public and private schools.

The impact on investments resulting from the pandemic will hurt as most U.S. colleges and universities depend on endowments and fundraising for a significant portion of revenues. Declines in performance and endowment market values along with weaker fundraising results could negatively affect credit metrics during the outlook period. 

For public institutions all major revenue sources are under pressure. Recent increases in state support may not be sustainable and it is likely most states will make cuts to higher education funding. Funding for higher education still remains below pre-recession levels in certain states and this will continue. Some have already withheld funds from higher education institutions for the remainder of the fiscal year (New Jersey and Missouri, e.g.).

FISCAL CURVE IS NOT FLATTENING

The NYC Independent Budget Office (IBO) is updating its forecasts for the NYC budget for the rest of FY 2020, FY 202, and FY 2022. It notes that even after only two months that its outlook has continued to weaken. Now, IBO projects that  the city has a budget gap of $544 million that must be closed in the two months remaining in the current fiscal year. It also estimates a shortfall in the upcoming fiscal year of $830 million and a budget gap that balloons to nearly $6.0 billion in 2022, just 14 months from now. Tax revenue for 2020 is now projected to fall $2.9 billion (4.6 percent) below what was estimated in the Preliminary Budget report; for 2021 the shortfall is $6.6 billion (9.9 percent). It  expects tax collections will total about $61.5 billion this fiscal year, a gain of only 0.2 percent from 2019 and the picture for 2021 is considerably worse. Tax revenues for 2021 will total about $2 billion less than this year, a year-over-year decline of 3.2 percent.

The State of Minnesota has released a revised budget outlook. Like many states, the economy and a rainy day fund had Minnesota riding high fiscally. The February budget estimate is traditionally the one on which the legislature bases its budget debate. Now that the pandemic is eating away at fiscal strength, the picture is much different. The February estimate included a projected revenue surplus in February, 2020 of $1.5 billion. The revised Projected revenue deficit in May 2020 is $2.42 billion. The $3.9 billion reversal is covered in part by $2 billion the state has received from the federal CARES Act and a rainy day fund balance of $2.36 billion. As no one expects the economy to “snap back” to pre-pandemic levels, the damage has not stopped but available are all spoken for.  Minnesota can dip into the rainy day account once there is an official projection of a deficit to pay for the existing budget and be done without further action by the Legislature.

Ohio is in the middle of its biennial budget process. It has a “rainy day” reserve of some $2.7 billion but the state is so far relying on expenditure cuts.  The state had previously reported revenue estimates were up by $200 million over budgeted projections, but state fiscal results through April now project a $777 million deficit. To cover the deficit, the Governor has opted for $700 million of budget cuts instead. The State reported that in April collections showed a $636 million decline in state income taxes and a $237 million decline in sales taxes. Tax revenue overall declined by $867 million. The cuts will impact primary spending priorities. Medicaid spending is budgeted to decline by $210 million. Kindergarten through 12th grade foundation payments will be cut by $300 million and higher education by $110 million and trim $100 million in other general state agency spending. 

Alaska had already been dealing with the declining reliability of oil as the state’s main source of income. Battles over the Permanent Fund dividend had led to contentious budget processes over several years. Those pressures however, pale in comparison to what the state of Alaska faces now. ConocoPhillips, the third-largest U.S. oil producer, announced it would its production in Alaska by half, roughly 100,000 barrels a day, beginning in June. The decline in throughput accompanies similar moves to maintain temporary production cuts demanded by Alyeska Pipeline Service Co. (owned by ConocoPhillips, BP and Exxon Mobil) for May due to projections of oversupply and lack of tanker transport. Alyeska carries crude from the North Slope to the Valdez Marine Terminal.

The California Department of Finance reports that California began 2020 with a strong bill of financial health—a strong economy, historic reserves, and a structurally balanced budget.  The unemployment rate (3.9%) was one-third of its Great Recession peak (12.3%).  The “Wall of Debt” (past budgetary borrowing) was eliminated, and supplemental payments were made to retirement obligations.  The 2020-21 Governor’s budget reflected a $5.6 billion surplus.  The budget reflected a record level of reserves: $21 billion in FY 2020-21, including $18 billion projected in the state’s Rainy Day Fund.  Revenues through March ran $1.35 billion above January’s projections, as markets outperformed the budget forecast.

Now for the May Revision. In the last one-week reporting period, nearly 478,000 claims were filed in California for state and federal unemployment benefits. Since mid March, more than 4.2 million claims have been filed. Finance projects that the 2020 unemployment rate will be 18%, a much higher rate than during the Great Recession. California personal income is projected to fall by nearly 9% on an annual basis in 2020.

Compared to the January forecast, the state’s three main General Fund revenue sources are projected to drop for the 2020-21 fiscal year as follows:  Personal Income Tax: -25.5 %.  Sales and Use Tax: -27.2 %.  Corporation Tax: -22.7 %. Specifically, Finance projects that General Fund revenues will decline by $41.2 billion below January projections, as follows:  2018-19: +$0.7 billion  2019-20: -$9.7 billion  2020-21: -$32.2 billion. Under Proposition 98’s constitutional calculation, this revenue decline results in a lower required funding level by $18.3 billion General Fund for K-12 schools and community colleges.

The Revenue declines of ($41.2 billion), combined with $7.1 billion in caseload increases supporting health and human services programs, and other expenditures of approximately $6 billion (the majority in response to COVID) will result in an overall budget deficit of approximately $54.3 billion, of which $13.4 billion occurs in the current year and $40.9 billion is in the budget year.  This overall deficit is equal to nearly 37 % of General Fund spending authorized in the 2019 Budget Act.  This is also nearly three and one half times the revised balance in the Rainy Day Fund ($16 billion).

JEA BACK IN THE SPOTLIGHT

The Jacksonville Electric Authority has asked its former CEO, Paul McElroy who retired in April of 2018, to serve as an interim CEO of the troubled utility for six months while a permanent CEO is hired. The outgoing CEO is part of the group under federal investigation over the recent failed attempt to privatize the utility.

The process of investigating exactly what happened at JEA and in the city that allowed the privatization plan to advance as far as it did is ongoing. It includes the Mayor’s office as well. It raises serious concern surrounding the governance of the utility both directly and through oversight by the city. The credit would be expected to suffer a ratings impact if the agencies are serious about their emerging emphasis on environmental, social, and governance issues (ESG).

It has also been pointed out that the new interim CEO approved the contract with the Municipal Electric Authority of Georgia (MEAG) for power from the Votgle nuclear plant. The Authority is now in litigation to void the purchases required under the contract. That contract was among issues contributing to lower ratings for the City’s debt. The contract litigation will effectively cap ratings where they are unless a settlement can be achieved.

CHICAGO PENSIONS

The debate over the next stimulus bill from Congress will center on aid to states and localities. In that debate, Illinois’ name keeps coming up along with pensions. So, however unhelpful that debate is to addressing the incredible burden being shouldered by states and municipalities, it does bring a spotlight back onto pension problems in the state.

The Illinois state legislature’s non-partisan Commission on Government Forecasting and Accountability has released its latest analysis of the state of the pension funds supporting workers from the major public agencies serving Chicago. The Chicago Transit Authority Retirement Fund covers all employees of the Chicago Transit Authority. At the end of FY 2018 (January 1, 2019) there were 8,159 active employees and 8,020 employee annuitants. Total Actuarial Assets of the system at the end of that year were $1.836 billion and Total Actuarial Liabilities were $3.489 billion. That is essentially a one to one ratio of active workers to retirees which is not sustainable. The funding ratio – 53%. The Cook County Employees’ Pension Fund covers all persons employed and paid by the County. At the end of 2018 there were 19,671 active employees and 15,820 employee annuitants. Total Actuarial Assets of the system at the end of that year were $10.513 billion and Total Actuarial Liabilities were $17.304 billion. The worker/retiree ratio is just north of one to one. Funding ratio – 61%.

The Firemen’s Annuity and Benefit Fund of Chicago covers anyone employed by the City of Chicago in its fire services whose duty it is to in any way participate in the work of controlling and extinguishing fires. At the end of 2018 there were 4,487 active employees and 3,422 employee annuitants. Total Actuarial Assets of the system at the end of that year were $1.130 billion and Total Actuarial Liabilities were $6.156 billion. That is a 1.3 to 1 worker/retiree ration. Funding ration – 18%. The Policemen’s Annuity and Benefit Fund of Chicago covers any employee in the Police Department of the City of Chicago sworn and designated by law as a police officer. At the end of 2018 there were 13,438 active employees and 9,930 employee annuitants. Total Actuarial Assets of the system at the end of that year were $3.145 billion and Total Actuarial Liabilities were $13.215 billion. Funding ratio – 24%.

On an overall basis, the eight funds reviewed produced a combined unfunded liability of $44 billion. The funding ratio for the combined funds is a paltry 35.2%. That calls for significant transfers of current revenues into pension funding but that is not going to happen in the current environment. We have doubts about whether voters will approve the amendment to the state constitution allowing for a graduated income tax versus the current flat rate. That is a key component of the plan of the governor for fiscal and pension reform that is currently holding the state’s ratings where they are.

PENSION REFORM IN TEXAS

In 2017, Dallas, TX faced a looming crisis in its police and fire pension funds. Pensioners had historically had the ability to make lump sum withdrawals under the terms of the DROP provisions included in their pension plans. Deferred retirement option plans (DROPs) allow employees to continue to work past their eligible retirement age and in exchange, an employer will set aside annual lump sum payments into an interest-bearing account. Upon retirement, the money that has grown in this account will be paid to you, on top of the rest of your accrued earnings. 

Many large lump-sum withdrawals by participants in the Dallas pension funds from their DROP accounts followed investment losses in real estate and other alternative asset classes in 2014 and 2015. This forced the city to contemplate significant increases in expenditures for payments into the funds in order to keep them solvent. In an effort to reduce the amounts needed from current revenues, the City did not allow lump sum withdrawals beginning in 2017. Unsurprisingly, the police and fire unions sued the city.

The Dallas Police & Fire Pension System’s (DPFP) are one of the city’s two pension systems. They  account for some two-thirds of Dallas’ adjusted net pension liability (ANPL). As of its fiscal 2019  reporting and based on a 4.22% discount rate, Dallas’ ANPL was $6.2 billion. Its reported net pension liability, based on a weighted-average 6.73% discount rate, was $3.8 billion. In fiscal 2019, pension contributions consumed around 12% of the city’s operating revenue. That was not a tenable situation going forward and the ability to limit the lump sum withdrawals was a key component of the City’s effort to manage its pension liabilities.

Under current conditions, it would be expected that another “run” on the fund could be imminent. Coming at a time of exceptional market volatility and economic distress, the City would have been hard put to maintain the solvency of the system in the face of significant withdrawals. In an environment where the pandemic is driving expenses while at the same time revenues are crashing, the City’s credit would come under immediate pressure.

Now that pressure is off with the decision of the Fifth US Circuit Court of Appeals which affirmed the City’s right to halt the lump sum withdrawals in 2017. It ruled that the removal of participants’ lump-sum withdrawal options in 2017 was permissible, eliminating a potential liquidity risk for the system and ultimately the city’s budget. Significant withdrawals would pose a threat to the DPFP’s solvency and exacerbate the pressure on the city’s finances, in part because the system struggles to unwind its heavy asset allocation to real assets and other alternatives.

Before the current environment took hold, the system’s net cash flows were close to zero in 2017, 2018 and 2019. This reflected the halt to DROP withdrawals. This allowed the system to stabilize, relieved pressure on the City’s fiscal position, and helped to stabilize its credit ratings. The court decision is definitely credit positive for the City.

CULTURAL INSTITUTIONS CUT BACK

The American Museum of Natural History cut its full-time staff by about 200 people, amounting to dozens of layoffs, and put about 250 other full-time employees on indefinite furlough. The museum projects a budget deficit of between $80 million and $120 million for the remainder of this fiscal year, which ends on June 30, and the next fiscal year. The Whitney Museum of American Art  laid off 76 of its 420 workers. The Metropolitan Museum of Art, facing a potential shortfall for the next fiscal year that might swell to $150 million, announced last month that it was laying off more than 80 people. And the Solomon R. Guggenheim Museum has said it would furlough more than 90 staff members.

What is interesting is the fact that these institutions are by and large not tapping into their endowment funds to cover keeping employees on the payroll. Given the potential for a significant negative impact on donations, this is probably a rational response to that phenomenon. Some of the institutions are being criticized for taking this approach. While these institutions may be not for profit, they are still businesses. It is prudent to take these steps in the interest of long term solvency given the current economic realities.

CYBERSECURITY

President Donald Trump signed an executive order titled Securing the United States Bulk-Power System. The executive order calls for the development of procurement policies that prioritize the security of the US energy grid, as opposed to current rules that give preference to the lowest-cost bids. The Secretary of Energy is empowered through the order to determine if equipment is insecure or harmful to national security, and with blocking its use in US power plants and their transmission systems. The idea is to incentivize manufacturers to invest in developing and maintaining strong cyber security practices or risk exclusion from the US market.

The order is intended in part to address the widespread presence of critical infrastructure components, including software applications and telecommunications equipment, from equipment manufacturers in China and Russia. These countries are known for active cyber espionage and tampering with the physical operations of utility facilities. Wide variance in cyber security practices between suppliers  exposes utility operations and networks to indirect threats that utilities cannot accurately monitor or prevent. The reliance on foreign made equipment and software has been a concern for officials responsible for cyber security. The order does not detail specific products or countries of origin. It instead charges the Secretary of Energy to determine which particular individuals, companies and countries are “foreign adversaries exclusively for the purposes of this order.”

WHERE THE JOBS ARE BEING LOST

The highlight number of the week was the April unemployment number. The 14.7% rate and the number of unemployed at 22 million are already records for the post-war era. Since the numbers are based on a mid-month survey, we know based on the unemployment claims data that this greatly understates the real situation. The May data is likely bring those numbers up to 20% and 35 million unemployed.

There is new data out on the unemployment situation which reveals that unemployment is primarily concentrated in two sectors – construction and the leisure/hospitality space. The data shows that of the 701,000 nonfarm jobs lost in the United States in March, nearly 60 percent came from food services and drinking places, according to the Bureau of Labor Statistics. The potential long term impact on employment is huge. Recently, we have seen estimates that 40 to 50% of bars and restaurants may not reopen. And those are businesses which were thriving in late 2019.

The potential impact of this would be subject to a multiplier effect as these industries traditionally  have been a great source of jobs for those with no college background or as a first job. These would be the individuals less well positioned to compete for the jobs which do return after the pandemic.  They have less ability to wait out the pandemic and therefore are more likely to turn to government social service programs more quickly. These businesses, many of which are individually owned , are finding that complying with all of the regulations attached to the PPP could actually make participation less practical

A recent NY Times article highlighted one of the weaknesses of the Payroll Protection Program in that the loans are only forgiven if they keep paying workers.  Problems with business interruption insurance are making it harder for businesses to hold on.  The fact that restaurants are consistently found in polling to be the last businesses that people would feel comfortable returning to, the outlook for this sector and the sales tax backed debt which it supports is dire.

Opportunity Insights, a non-profit organization at Harvard University has produced data on the change in consumer spending in different locations in the country. It uses data from credit card processors, payroll firms, job posting aggregators, and financial services firms to develop its estimates. The map below reflects more current real time data as opposed to much of the Federal data which by its nature tends to be time lagged. One example of the phenomenon is the Employment Situation Summary (i.e., jobs report) released by the Bureau of Labor Statistics on May 8. It presents information on employment rates as of the week ending April 12. The OI data is as recent as three days before.

That is an important distinction as the OI numbers allow us to take a look at reopened states. That data shows that recent policies ending shut-downs in certain states such as Georgia and South Carolina have not been associated with significant increases in economic activity. These findings suggest that the primary barrier to economic activity is the threat of COVID-19 itself as opposed to legislated economic shutdowns. In Georgia, consumer spending, employment and hours at small businesses, the number of small businesses that are open, and time spent at work all remain relatively similar to their levels prior to April 24.

 
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