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Muni Credit News Week of January 14, 2019

Joseph Krist

Publisher

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KENTUCKY CONSIDERS MARIJUANA

In the Bluegrass State, a medical marijuana legalization bill will be filed in the 2019 Regular Session. House Bill 136 will look to make medical marijuana available for up to 60,000 Kentuckians. “The intention of this legislation is not the generate tax revenue, but rather to provide relief to the thousands of Kentuckian who suffer from conditions that have not responded to traditional medicine,” according to the bill’s sponsor. The bill does not allow those using medical marijuana to “smoke in public”. It would be up to the doctor to decide what form of cannabis patient would benefit from.

Requirements include a yearly licensing fee and limits on possession. The bill sponsors say the intention is strictly to give patients additional treatment options. Kentucky is already a producer of hemp used for medical marijuana purposes. It exports hemp for use in the production of the non-intoxicating CBD products sold in other states. Medical marijuana would be regulated by the Department of Public Protection’s Office of Alcoholic Beverage Control. The state-run system will issue licenses for cultivators, dispensaries, safety facilities, processors along with practitioners and patients.

PURPLE LINE BLUES

The long saga of Maryland’s Purple Line continues its twisted route to completion. After legal delays and other issues, Purple Line Transit Partners (PLTP), a team of companies building the 16-mile line and helping to finance its construction, has told the state the line won’t begin carrying passengers until February 2023. That represents an 11 month delay from the most recent projection.

It comes as some State officials project an October 2022 opening. The problem is that the February 2023 opening date is possible only if work is accelerated according to the contractor. Also, delays have added at least $215 million to the light-rail line’s cost. The news comes amidst reporting from the Washington Post that the delays — and the potential for hundreds of millions in cost overruns — have been the subject of intense discussions between the state and PLTP for nearly two years, before construction even started.

Even the effort by the State adds to the confusion. “The Maryland Department of Transportation, Maryland Transit Administration and the Purple Line Transit Partners are still working on developing a recovery schedule to open the Purple Line for revenue service by the end of 2022.” The delays add to the Line’s already controversial history. It also is not providing support for the P3 movement as the latest delays are attributable to construction issues as opposed to the many legal issues which slowed development.

THE LATEST FROM NYC

The mayor said a millionaire’s tax, a transportation bond act, and congestion pricing could be used to help fund the nation’s biggest subway and bus system. That is a turnaround from the mayor’s prior position against congestion fees. It is a reflection of how difficult the City’s transit situation is.

Millionaire’s taxes are becoming a more established feature of budget suggestions from “progressive” public officials and candidates. We see this proposal to have the least likelihood of success in the state legislature. It also is interesting that while the City fights calls to increase annual operating funding for the MTA, it has found funding for its attempt at universal healthcare.

All of these issues are arising at a point in the cycle where it is hard to argue that we are closer to the beginning than the end. The undertaking of these kind of significant initiatives at that point generate increased fiscal risks going forward.

GUAM – THE OTHER TERRITORY

After the Puerto Rico debt debacle, some investors sought to maintain the tax benefit of territorial debt by looking at credits in Guam. In the face of the continuing fiscal difficulties in Puerto Rico and the US Virgin Islands, it is refreshing to see ratings progress in at least one case. Last week, Moody’s maintained its Ba1 issuer rating but lifted the outlook to stable from negative.

The loss of income tax revenues triggered by federal tax cuts enacted in December 2017 led Guam’s government to offset the lost revenue in fiscal 2018. It bolstered its liquidity with a temporary increase in the business privilege tax, one-time revenues from a tax amnesty program, and spending cuts. It offset the lost revenue in the fiscal 2019 budget with a permanent extension of the increase in the business privilege tax and a continuation of most of the previously enacted spending cuts.

The credits continue to reflect general fund deficits and debt levels which, while below those of other territories, are significantly above US state medians. Generally positive economic trends and a good economic outlook, and a favorable pension funding situation are also reflected in the rating.

The improved outlook for the general credit of Guam also benefits its other issuers. Guam Power Authority, Guam Waterworks Authority, and the Port Authority of Guam all saw the outlook on their ratings move from negative to stable.

BUDGET SEASON UNDERWAY

California has seen a proposed budget and New York will follow this week. The budget proposals for many other states have begun to emerge. There are a number of common areas of emphasis. Education is the leader with funding being proposed for better compensating teachers as well as universal pre-K. Energy is emerging as a point of emphasis with the expansion of alternative energy capacity is high on the list of many.

Another common theme seems to be transportation. Whether it be the expansion of current capacity, the maintenance of existing but aging infrastructure, or the application of “smart” road technology nearly every state of the state speech references the need to support infrastructure especially for transportation. The need to protect the environment (even if just for tourism development) is another priority given the change in policy in Washington. The current shutdown situation highlights how states view national parks and the vital economic role that some of these facilities play in those jurisdictions.

Overlaying all of this is the uncertainty surrounding the revenue outlook. It is clear that the impact of federal tax changes which led to an increase in state and local revenues has been significant. The concern is that the increases in state revenues seen in 2018 may not be permanent as taxpayers adjust behavior and the impact of changes such as the loss of the SALT deduction on economic behavior finally emerge.

There are also trends which suggest that a bit of caution is appropriate. As states report revenues through year end, there are multiple instances of drops in December’s revenue on a year over year basis. The debate over the tax cut did lead some tax payers to accelerate payments into calendar 2017 and also led to efforts to prepay 2018 taxes so that those payments could be deducted before the SALT deduction change went into effect.

IT ONCE WAS LOST BUT NOW IT’S FOUND

In 2017, a new financial management team in Philadelphia reviewed the City’s finance and accounting practices an records. This process resulted in the discovery of significant discrepancies in the City’s record keeping processes. It was said that the inability to reconcile records had led to the “loss” of $40 million. The solution was the creation of panel of officials to investigate the scope of the problem and seek ad/or implement changes to the City’s accounting practices.

The panel was led by Philadelphia’s Treasurer Rasheia Johnson and former City Controller Jonathan Saidel. It announced last week it has fully reconciled 76 of 77 city bank accounts with reconciliation of the final account slated for early January. The efforts helped reduce the difference between Philadelphia’s city records and its bank accounts to $900,000 from $40 million identified in 2017.

It was easy to look at the situation as a significant negative. We took the view that the situation while not desirable was not a sign of impending crisis or an inability to service debt. Given the fact the problems reflected issues with a lack of technology and centralized bookkeeping, it was likely that the accounts would eventually be reconciled. And so now, what once was lost has now been found.

SHUTDOWN PAIN CENTERS

In Huntsville, Ala., the National Aeronautics and Space Administration and the U.S. Army are the two largest employers. In Chicago, the Chicago Federal Executive Board is the largest employer with nearly 50,000 employees affected by the shutdown. The Treasury Department is a major employer in both the Philadelphia and Kansas City metro regions. Once you are outside major metropolitan areas, the story is perhaps more painful.

Rural states are among those with the highest percentage of their workforces employed by federal agencies that have shut down. Montana, Alaska, New Mexico, Wyoming and South Dakota are some of the most exposed. And it is not just the fact that people are forced out of work. These are often some of the best paying jobs in rural areas.

It’s not just rural areas that see this income effect. Metropolitan-area federal workers earn on average 50% more annually than nonfederal workers, according to 2017 data from the Labor Department. In El Paso the average federal wage is twice the local average and in Huntsville the scientists and engineers employed by NASA generate wages some 85% higher than the local average.

Other problems include holdups in home sales, distributions of monthly transit funding, issuance of Section 8 vouchers, payments to contractors. With each day, the negative impacts of lower spending related to the shutdown become greater and clearer. And pretty soon, Americans will learn about the multiplier effect as reduced spending and economic activity impact businesses which are based on their proximity to federal facilities.

PG&E

The announcement that Pacific Gas and Electric plans to enter into Chapter 11 proceedings is of interest to the municipal market. The timing of the move may have been the subject of some debate but the forces leading to the move have been obvious for some time. For owners of pollution control bonds backed by PG&E, the decision could have real ramifications.

The company, which is the largest investor-owned utility in California, said it faced an estimated $30 billion liability for damages from the 2017 and 2018 wildfires that killed scores in Northern California, a sum that would exceed its insurance and assets. The announcement was driven by state requirements that the company was required to give employees 15 days’ notice of such a move.

PG&E cited 50 complaints on behalf of at least 2,000 plaintiffs in connection with the Camp Fire, including six seeking to be litigated as a class action. It also cited 700 complaints on behalf of at least 3,600 plaintiffs related to 2017 wildfires, including five seeking to be certified as class actions.

We’ve been here before as PG&E went bankrupt early this century when a deregulation move by the state in 2000 and 2001 resulted in blackouts and soaring electricity rates.

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.

Muni Credit News Week of January 7, 2019

Joseph Krist

Publisher

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This week we start the New Year with commentary on some of our favorite subjects. The latest on Florida’s high speed railroad, healthcare mergers, pensions, New York City, pensions, public education and charter schools, and the latest moves in the perpetual Santa Rosa Bay Bridge default. We look at California’s changes to its system of oversight of fiscally distressed school districts. Happy New Year!

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BRIGHTLINE

The Office of Program Policy Analysis and Government Accountability is the research arm of the Florida Legislature. In October it issued a report on rail safety. The report got a bit more exposure as the operators of the Brightline sought an extension on the existing December 31 deadline to close on an issue of private activity bonds. They were successful in obtaining a six month extension of that deadline. The USDOT however, advised Brightline that “any amount of unused bond allocation following an initial bond issuance will automatically return to U.S. DOT’s remaining aggregate amount of private activity bonds, and thus be available for other eligible applicants.” The bond extension gives Brightline more time to complete a separate application for a Railroad Rehabilitation and Improvement Financing loan to further cover the cost of the Miami-to-Orlando service.

HEALTH MERGER

A proposed merger between San Francisco-based Dignity Health and Catholic Health Initiatives, based in Englewood, Colorado, has been delayed. The two hospital heavyweights have moved the expected closing date for their new combined organization to Jan. 31, 2019 from Dec. 31, 2018, according to a statement from Dignity. Dignity’s statement said the two companies “continue to finalize the last steps to bring our operations together and to combine our ministries, including the completion of licenses, certifications and other administrative items. We are looking forward to completing our alignment.”

The merger, proposed in December 2017, aims to create a new company called CommonSpirit Health that will have operations spanning 16 states and including 136 hospitals, including 30 hospitals in California. Dignity runs five hospitals in Arizona, three in Nevada and 31 in California. In the North State, it has Mercy Medical in Redding, St. Elizabeth Community Hospital in Red Bluff and Mercy Medical Mt. Shasta in Mount Shasta.

SANTA ROSA BRIDGE DEFAULT

It may the Freddy Kruger of bond defaults but the bondholders are taking another whack at the Santa Rosa Bay Bridge credit which has had a troubled financial history over its 20 year life. The trustee bank representing bondholders filed a lawsuit seeking to force the state Department of Transportation to raise tolls on Northwest Florida’s Garcon Point Bridge to pay off construction bonds that are in default. The Trustee is asking a judge to order the Department of Transportation to “upwardly adjust” the tolls. The $3.75 one-way toll has not changed since 2011.

The lawsuit, filed in Leon County circuit court, alleges the failure to increase tolls is a violation of the original bond agreement that stated the Santa Rosa Bay Bridge Authority, which has since disbanded, or the Department of Transportation would maintain tolls that “would always generate sufficient revenue” to pay off the bonds.

Since the bridge authority has no members, the lawsuit said the responsibility to raise the tolls falls on the Florida Department of Transportation, and the agency’s “intentional failure to timely respond to the revenue shortages” has resulted in the loss of toll revenue that should have been collected and paid to the bondholders. The bondholders are caught between the rock of no toll increases and the hard place of insufficient demand for the bridge.

The credit has found itself in a classic death spiral as higher tolls weaken already dampened demand which then drives the need for high tolls. As this story has unfolded, many other factors have changed. The real estate development which was supposed to result from the bridge has been buffeted by a number of events. The latest is the relatively decreased attractiveness of barrier island real estate in an era of climate change. Have the fates conspired against the project? Yes. Does that make it imperative that a speculative investment be bailed out? No.

DIFFERENT PATHS FOR PUBLIC EDUCATION

The City of New Orleans is poised to become the first city in the US to turn over its entire public school system to charter operators. What is interesting about the situation is that one of the pillars of support for the charter school model versus the traditional public school model is the need for choice. Here is the first significant example of a system where there is no choice but that the monopoly which creates this phenomenon is private rather than public. That introduces a totally new twist on the issue whichever side of the charter school issue you find yourself on.

Our interest in the issue is predominantly academic. Over time, the results delivered by the charter school space in a non-competitive environment will go a long way towards shaping the debate over how best to provide K-12 education. Those results will be seized upon by either side in the debate.

As New Orleans goes the charter route, the Los Angeles USD is gearing up for a potential strike by the District’s teachers. The nation’s second largest school district takes up this negotiation in the environment left after numerous teacher job actions across the country highlighted the lack of salary growth for teachers. California has been a less favorable environment for charter schools relative to the rest of the country. The negotiations are expected to be contentious.

PENNSYLVANIA PENSIONS

In 2017, the Commonwealth of Pennsylvania enacted legislation establishing the Public Pension Management and Asset Investment Review Commission (PPMAIRC). The Commission was charged with a comprehensive review of the investment management of the Public School Employees’ Retirement System (PSERS) and State Employees’ Retirement System (SERS). The hope was that the review could generate some $3 billion in savings for the underfunded systems.

Recently, the Commission released the results of its effort. It recommends more indexed investing, better discount rate assumptions, much more reporting transparency. It’s major recommendation – maintaining full payment of the actuarially required contribution. Obviously, there are many variables contributing to the size of that requirement. But in the end, pensions require funding.

So much effort is expended on the retiree side of the equation – they are lazy, greedy, somehow undeserving, they hoodwinked their negotiating counterparts – that to some degree the issue of chronic underfunding (or political cowardice) has become less of a point of criticism. Where changes in conformance with the law are available should they be exploited? Certainly. But at the core the problem in its current state is underfunding.

One other issue which should be easier to address is the issue of costs of managing the funds. The report concludes that the Commonwealth’s pension funds underperform and incur higher than average expenses. According to the Commission, changes in how much work is “farmed out” to external managers or advisors, negotiation of better fee structures, and more efficient internal procedures could generate between $8.2 billion and $9.9 billion of expense savings over a 30 year period.

NEW YORK CITY BUDGET OUTLOOK

The City’s Independent Budget Office (IBO) has released its outlook for the City’s fiscal position in 2019. IBO’s latest projections of revenues and spending under the contours of the Mayor’s November 2018 Financial Plan show the city ending the current fiscal year with a surplus of nearly $400 million. Assuming this year’s surplus is used to prepay some of next year’s expenses, we project a shortfall of $2.1 billion for fiscal year 2020, just 3.0 percent of city-funded expenditures. With a reserve of nearly $1.3 billion already built into next year’s budget, this gap is very manageable, as has been the case in recent years.

IBO’s latest forecast for the local economy and tax collections does not foresee a steep slide through at least 2022. Nonetheless, there are concerning issues given the huge run up in head count by the current administration. Employment growth has slowed in 2018, and is expected to total 64,000 (fourth quarter to fourth quarter), nearly one-third lower than in 2017. It is expected that positive employment growth to continue in 2019 through 2022 but to be well below the average of 97,000 in the preceding eight years. Assuming Amazon’s HQ2 project proceeds as scheduled, it will moderate, but not reverse, the trend.

IBO forecasts tax revenue of $60.8 billion in 2019 growing to $67.9 billion in 2022, with much of the increase attributable to the property tax, which is expected to grow at an average rate of 5.5 percent annually over that period. After an extraordinary 2018, growth in personal income tax revenue will fall off to a more typical pace. IBO’s tax forecast exceeds the de Blasio Administration’s by $558 million in 2019, $1.0 billion in both 2020 and 2021, and $1.6 billion in 2022, with much of the difference attributable to the outlook for property and the income taxes. IBO projects that total city spending will grow from $90.6 billion this year to nearly $100.5 billion in 2022, an average annual rate of 3.5 % and just below the 3.7 % rate of growth it projects for tax revenues.

There are areas of spending growth which are worrisome. The cost of health care for city employees will rise from $6.7 billion in 2019 to $8.1 billion in 2022, an increase of nearly 7 %. IBO’s forecast for tax revenue in the current fiscal year is $60.8 billion, a gain of 3.2 % ($1.9 billion) from 2018. This growth would be slower than all but one other year in the current expansion and far slower than in 2018, when tax revenue increased 8.4 %. Total tax revenue growth will be faster in 2020 and subsequent years but will still be modest compared with growth earlier in post 2009 expansion. For 2020, IBO forecasts $63.2 billion in total tax revenue, 3.8 % ($2.3 billion) greater than the 2019 forecast. We project that tax revenue will rise at an average rate of 3.7 % annually over the final two years of the financial plan period and total $67.9 billion in 2022.

MEDICAID WARS

The only state which has been permitted by the federal government to implement work rules for Medicaid eligibility under the ACA has generated data on what the impact on recipients would be. That data would seem to support the efforts of those turning to the courts for relief from those requirements.

Arkansas has seen only 1,428 low-income adults required to report their hours in November logged at least 80 hours. Roughly 8,400 failed to report 80 hours, with 98 percent of them not reporting any work activities. The state has removed more than 16,000 low-income adults for failing to log at least 80 hours of work, job training, volunteering or similar activity — including 4,655 in November.

Arkansas’ conservative governor cites the motivation for the program – it provides the help residents need to become independent as justification for the program. Unfortunately, many of the affected citizens are in areas which because of geography or economics do not have internet access. That makes it difficult to comply with reporting requirements as does the fact that the internet site is only open for a limited period each day.

All of that makes it much easier to declare noncompliance and remove recipients from the rolls. So it does not necessarily generate jobs for people or improve or maintain access to healthcare. That makes it easier for work rule opponents to voice the view that the goal is not independence but budget savings for the state government. All of this will be hashed out in the federal courts. Individuals who don’t adhere to the new rules for three months get removed from Medicaid for the rest of the year. Nine Arkansas Medicaid enrollees who sued the Trump administration in August to block the rules.

CALIFORNIA DISTRESSED SCHOOL DISTRICT OVERSIGHT

The Golden State’s Office of the Legislative Analyst recently offered its views of recently enacted changes to the State’s system for supporting distressed local school systems. First, some history. In 1991, the State enacted a Formal Process for Supporting School Districts in Fiscal Distress. This system was designed a variety of levels of support and intervention to districts based on their fiscal health. All districts, regardless of their fiscal position are subject to ongoing fiscal oversight from their county office of education (COE). Districts determined to be exhibiting signs of fiscal distress receive special COE assistance. For those districts facing the prospect of being able to meet obligations including operating expenses can request an emergency state loan in exchange for temporarily ceding control to an outside administrator. Prior to 2018, these administrators were appointed and overseen by the state Superintendent of Public Instruction.

The fiscal 2019 budget process led to the enactment of changes to the way that extremely distressed districts would be dealt with. Legislation adopted as part of the 2018-19 budget package made three notable changes to the process for supporting districts in exceptional fiscal distress. First, it authorized special grants to supplement the loans already provided to the Inglewood and Oakland Unified school districts. Second, it shifted takeover responsibilities from the state to county level. Third, it established a new process for appointing outside administrators.

The LAO expresses concerns that the special grants to the two troubled school districts will encourage more districts to seek grants in lieu of making more permanent changes. The LAO view is that the state likely has weakened incentives for all districts to make the tough decisions necessary to balance their budgets. In addition, shifting takeover responsibilities from the state to county level could weaken oversight, as the state is better positioned to provide the independent, external perspective necessary for fiscally distressed districts to recover.

The LAO went farther and made recommendations for how to address the problems they see. They recommend supporting the Inglewood and Oakland Unified school districts within the traditional loan process. If additional support for these districts is deemed necessary, they recommend providing loan payment deferrals in exchange for greater state oversight. Concurrently, the LAO recommend shifting takeover responsibilities back to the state from the county level.

Muni Credit News Christmas, 2018

Joseph Krist

Publisher

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We take this opportunity for indulging my interests as we go off for the Christmas holidays. We wish you a hopeful Christmas. We wish you a brave new year. All anguish pain and sadness, leave your heart and let your road be clear.

IMMIGRATION POLICY AND HIGHER EDUCATION

Total international student enrollment is level (0.0 percent change) among responding institutions. Similar to data from Open Doors 2018, the number of international students pursuing employment opportunities following their academic studies on Optional Practical Training continued to increase (+7.1 %), while the number of enrolled students declined (-1.7 %). New enrollment numbers continue to vary based on institutional characteristics and geographic regions with Associate’s and Master’s institutions, less selective colleges and universities, and the Midwest reporting steeper declines. Research universities indicate an uptick in new international student enrollment. 49 % of institutions describe a drop in new international student numbers. However, 44 % of institutions report an increase, and another 7 % indicate new enrollment was stable. Overall,responding institutions report a 1.5 % decrease in the number of international students enrolling for the first time at a U.S. institution, which indicates a third consecutive year of falling new enrollment. The drop is not as steep as the new enrollment decline in Fall 2017 (down 6.6 % according to Open Doors 2018).

Compared to Fall 2017, more institutions attribute Fall 2018 declines in new enrollment to problems with visa delays and denials (83 percent), the U.S. social and political climate (60 %), and student decisions to enroll in another country (59 %). The common thread linking these issues: immigration policy and attitudes. The unending focus on the “danger” posed by foreigners generally cannot be expected to have anything other than a negative impact on foreign demand.

HUD WILL CONTINUE ITS PLAN TO PRIVATIZE PUBLIC HOUSING

One of the quietist privatization efforts has been underway at the Department of Housing and Urban Development. There have been so many larger issues/scandals during the Trump Administration that efforts led by more low key cabinet members have been able to move under the radar in terms of low income housing policy.

His image may be based primarily on parodies (Trevor Noah crushes it) but HUD has been far from sleepy under the leadership of Dr. Ben Carson. One of his biggest “accomplishments” to date has been to steadily shepherd efforts to get the federal government out of the business of managing and funding low income housing. The more obvious methods of doing so have focused on some large situations (NYCHA comes to mind)which are characterized by a wide range of issues. These other issues – day today infrastructure; funding; and local politics – have successfully obscured HUD’s continuing efforts to shift public housing residents into private housing with Section 8 vouchers.

Carson has suggested raising tenant rents and has held listening tours to encourage more private landlords to accept vouchers as public housing complexes are sold or demolished. That arguably makes sense but only when there are facilities and landlords willing to accept Section 8 vouchers. Recent news has not been favorable regarding the acceptance of Section 8 vouchers.

One example of the push to privatize is the situation with NYCHA. Here HUD has quietly used the potential for direct federal supervision of NYCHA, the nation’s largest public housing agency. In order to fight off such supervision, the DeBlasio administration has revived a previously panned Bloomberg era idea to build market rate housing on open spaces and parking lots included in those properties’ footprints. The plan faces significant political and popular opposition.

In other places, HUD is planning to take projects under its receivership and determine if there are grounds to close those facilities. HUD has done so once before and is in the process of undertaking another such action presently. The current situation in Missouri would mark the second time that the agency has exited a receivership by abolishing a housing authority (the first was in Orange County, Texas, in 2004), and the first time HUD has proposed demolishing or selling all of the public housing complexes in the process.

We will see more of this as the agency’s inspector general prepares to send teams of agents out to examine dozens of “troubled” housing authorities nationwide, which it has never done before, officials said. It is a rough process involving evictions.

The troubled projects share characteristics including incompetent if not criminal management and crumbling infrastructure. Municipal market participants will have noticed a decline in issuance for repairs to public housing facilities. These financings were backed by payments from the federal government to local housing which levered those revenues to support municipal bond debt. That program has been hampered by consistent pressure to cut appropriations to the program as well as uncertainty in funding levels through their inclusion in the annual circus known as the federal budget process.

ANOTHER EFFORT TO PUBLICLY FUND PRIVATE SCHOOLS

The State of Montana operates a tax program designed to help to support private-school scholarships. Many are used for attendance at religiously operated schools. The Montana Supreme Court struck down the state-run program that gives tax credits to people who donate to private-school scholarships, saying the program violates a constitutional ban against giving state aid to religious organizations.

The program giving tax credits of up to $150 for donations to organizations that give scholarships to private-school students amounts to indirect aid to schools controlled by churches. There is a ban in the Montana Constitution on any direct or indirect state aid to such schools, regardless of how large or small the amount is.

Initially a local judge issued an order last year siding with parents who argued that the program is constitutional because it doesn’t use state funds, only taxpayer money. The law was enacted in 2015 as an alternative to a school voucher program designed to give students who want to attend private schools the means to do so. Most private schools in Montana have religious affiliations, and more than 90 % of the private schools that have signed up with scholarship organizations under the program are religious.

The case marks a longstanding effort by religiously based and operated schools to obtain funding from states. I can remember being asked as a fourth grader to write a letter to the Legislature asking for money for books. It was only considered educational if it paid direct costs of which books were not one. This was in the mid 1960s so it isn’t like the internet was around to help if we didn’t get the books.Unsurprisingly, the effort failed as the arguments that the books were not part of education turned out to be unpersuasive. The more things change, the more they stay the same.

It is of interest here because it goes to the root of funding education. The effort to find workarounds to shift funding from public to non-public schools is continuing. Regardless of one’s views on the politics of the issue, the fact remains that every student who moves from public to private is one less source of state aid based on average daily attendance to the public and one more to the private. In the current environment, the supporters of state aid for religiously based schools will continue their campaign. Conflicts like this make school funding and overall budget adoption more complicated and therefore not supportive of credit.

HOSPITAL DSH MAY NOT BE PILED SO HIGH

It appears that the Medicaid and CHIP Payment and Access Commission (MACPAC) is willing to recommend that Congress slowly phase in disproportionate-share hospital (DSH) cuts that are slated to start in October. Congress hasn’t revised its DSH statute since 1992 despite all of the changes in the healthcare space over a quarter century.

MACPAC is considering a proposal for Congress to change how HHS should divide up the DSH payment cuts, as the program’s allotments vary widely among states. The draft recommendation suggested HHS would favor states with the highest total population of poor adults who don’t qualify for Medicare. A state that doesn’t spend its full allotment would see that money deducted from its share the following year. We note somewhat cynically that some of those states would do so as the result of refusal to expand Medicaid under the ACA. It would also incentivize actions to permit short-term insurance providing minimal coverage.

DSH payments are supposed to decrease by $4 billion starting Oct. 1. By October 2020 they will decrease by $8 billion. So even under the status quo, change would be coming. The current debate is over timing and absorption of the lower funding into hospitals’ overall financial position.The decline in these payments, like just about every other policy twist, will work against smaller providers and single site DSH providers. That remains a sector full of credit danger.

MTA WILL CATCH UNENDING BAD PRESS – BUT DOES IT MATTER TO THE BONDS?

As we move closer to the start of the longawaited 15-19 month shutdown of the Millenial Express (to we natives the Ltrain) tunnel connecting the flannel clad beards with their jobs in Manhattan. It is becoming clear that even if the Authority surprisingly completed its project on time and on budget. there will be much to antagonize all sides of the long term transit debate as various governmental agencies as various governmental agencies seek to mitigate the closure. And the Authority received an early lump of ratings coal in the form of a negative outlook from Moody’s.

But the relevant question for investors is does any of this matter? It will be a brutal period filled with sad commute stories,whining about the impact on real estate, and potential economic interruptions for businesses on both sides of the East River. The MTA will have little to do with that other than to focus on getting the job done right in the least amount of time.

What will actually be interesting is to see how the many interest groups and companies will position themselves to be beneficiaries of the “disaster”. They include bicycle proponents,anti-car activists, congestion pricers, TNCs, and the like.

MARIJUANA WILL GROW

The upcoming year could mark a turning point in the movement to legalize marijuana for recreation at the state level. Now that the election time is over, the potential for changes has become clearer. New Jersey is in the midst of debating a plan to legalize recreational use. Recently, Governor Cuomo’s office has confirmed that “the goal of this administration is to create a model program for regulated adult-use marijuana. We expect to introduce a formal,comprehensive proposal early in the 2019 legislative session.”

The debate has seemed to be less about whether cannabis will be legalized but where and how. Those issues will be settled in part by how the expected revenue pie is to be divided. The timing reflects the expansion of legal cannabis to Vermont and now Massachusetts in the last year. In a kind of domino effect, as one state legalizes the next adjacent state seems to move towards it.

We anticipate that the move to legalize cannabis will continue. While some doctors argue about how much research has been done, medical marijuana patients success with cannabis is expanding support for the concept. Medical marijuana seems to be a testing ground for implementation of cannabis deregulation before the tide of public opinion drives approval.

TRADE WILL CONTINUE TO THREATEN JOBS AND REVENUES

The moves may be against tariffs but if the apparent replacement is “quotas”, then the impact on municipal revenues will still be negative. Steel quotas will not lower the cost of infrastructure projects. Less than hoped for relief from agricultural tariffs will alter planting plans, possibly be a basis for longer lasting loss of marketshare and income, drive costs higher thereby pressuring income, and add a level of revenue volatility which did not need to occur.

There are already signs that the trade war is dampening US economic performance. Clearly trade war fears are a significant factor in equity market volatility and performance. Weaker equity markets will hit both the revenue side of the income statement and contribute to underperformance versus pension fund benchmarks. this will require increased spending as well as weaken balance sheets.

PRIVATE HIGHER ED WOES WILL CONTINUE

The latest casualty in the battle by small independent colleges to survive financially, Newbury College in New England announced that it would close at the end of the 2018-2019 academic year. Newbury has been on probation with accreditors since the summer because of financial issues. The school has suffered for several years from declining enrollment. The college was founded in 1961 and has an enrollment of 620,according to U.S. News and World Report.

According to the school, it is”still exploring potential partnerships that would allow us to remain open, but the Board of Trustees and I have concluded that it is in the best interests of our students, prospective students, faculty and staff to notify them immediately, so they can make the best decisions for their future. Financial challenges, the product of major changes in demographics and costs, are the driving factors behind our decision to close at the end of this academic year. “

Newbury will not be the last to suffer this fate. The challenging demographic trends pointing towards an increasingly competitive environment in terms of recruitment will not change and the relative scarce resources available to fund that competition will perpetuate the spiral.

Muni Credit News Week of December 10, 2018

Joseph Krist

Publisher

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ISSUE OF THE WEEK

$1,720,000,000

New York State Personal Income Tax (PIT) Bonds

State Personal Income Tax Revenue Bonds are secured by a pledge of payments made pursuant to a financing agreement entered into by DASNY and the state Director of Budget, backed by a dedication of 50% of New York State personal income tax receipts and 50% of receipts of the ECEP. The Employer Compensation Expense Program (ECEP) established a new optional Employer Compensation Expense Tax (ECET) that employers can elect to pay if they have employees that earn over $40,000 annually in wages and compensation in New York State.

The state created security for the bonds through statutory dedication of personal income tax revenues and more recently, ECEP receipts. The comptroller is required to deposit personal income tax withholding receipts and ECEP receipts into the dedicated revenue bond tax fund (RBTF) in an amount equivalent to 50% of the state’s total monthly receipts from each tax. In addition to withholding, personal income tax receipts include estimated taxes, delinquencies, and final returns. Financing agreement payments are made from the RBTF to the trustees for debt service.

The state comptroller deposits the dedicated personal income tax and ECEP receipts into the revenue bond tax fund upon certification of revenues by the commissioner of the state’s Department of Taxation and Finance. The funds are set aside daily from withholding or ECEP receipts to result in 50% of PIT and ECEP receipts set aside monthly. There must be a legislative appropriation to pay debt service and the monthly financing agreement payments must be made in order for receipts in excess of debt service requirements to be transferred to the general fund and used for any other purpose.

The lockbox structure has been a proven winner in terms of credit for the State of New York. Additional security stems from the enabling act which requires the comptroller to transfer funds from the general fund to satisfy debt service requirements if appropriated and certified receipts set aside for the bonds are insufficient to make the certified financing agreement payments. The comptroller is empowered to do so without appropriation. However, if funds are insufficient to pay debt service on the state’s general obligation bonds, the comptroller is also empowered to direct first revenues of the state to that purpose. If those revenues are insufficient, the comptroller may transfer funds from the dedicated PIT or dedicated sales tax funds to pay general obligation debt service.

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One of our recurring themes is that consolidation remains a significant credit factor in the hospital sector. While it is not determinative, size is one way to mitigate credit risk as those entities with larger and stronger balance sheets remained the best positioned to withstand the various winds of change buffeting the industry. So to that end, here is a list of the 15 largest (by number of hospitals) non-profit hospital systems in the US.

Ascension Health (St. Louis) — 76 Aa2
Trinity Health (Livonia, Mich.) — 45 Aa2
Kaiser Permanente (Oakland, Calif.) — 37 AA-
Dignity Health (San Francisco) — 36 A3
Catholic Health Initiatives (Englewood, Colo.) — 33 Baa1
Adventist Health System (Winter Park, Fla.) — 31 A
Sutter Health (Sacramento, Calif.) — 26 Aa3
Providence Health and Services (Renton, Wash.) — 26 Aa3
Northwell Health (Great Neck, N.Y.) — 21 A3
Banner Health (Phoenix) — 20 AA-
Baylor Scott & White Health (Dallas) — 19 Aa3
CHRISTUS Health (Irving, Texas) — 19 A1
SSM Health Care (St. Louis) — 18 A+
Intermountain Health Care (Salt Lake City) — 17
Mercy Health (Cincinnati) — 17 A

The credits are all rated in at least the A category with the exception of one which has always been characterized by above average leverage. The larger systems tend to have balance sheets with significant resources to survive as they navigate mergers and expansions and changes in reimbursement. We are not surprised by the correlation.

LESS HEALTHCARE CONTROL FOR STATES

Certificates of Need were a significant tool used in the healthcare space to limit uncontrolled and eventually wasteful spending on health delivery facilities like hospitals and nursing facilities. In an era when efficiency is at the core of nearly every aspect of the provision of healthcare and its finance. While they have their detractors, there has largely been little public support for building additional hospital facilities. Current trends in the industry towards consolidation would seem to indicate a market view that the current rate of capital expansion works.

So it is interesting that in the face of those trends, The US Department of HHS’ new report about ways to improve “choice and competition” in the U.S. health care system includes repealing state laws that require providers to ask for permission to build new facilities. Some observers believe tha tthe Administration might use requests for waivers as a vehicle for pressuring repeal on states.

The effort to repeal CONs is generally considered to be a conservative issue. Repeal would theoretically allow for the opening of more independent free standing facilities privately owned by physician groups. These facilities have had checkered financial and health related outcomes so their revival would be an issue from a credit perspective.

WHILE HEALTHCARE SPENDING SLOWED DOWN

Overall national health spending grew at a rate of 3.9 % in 2017, almost 1.0 percentage point slower than growth in 2016, according to a study conducted by the Office of the Actuary at the Centers for Medicare & Medicaid Services (CMS). Medicare spending grew at about the same rate in 2017 as in 2016, while Medicaid spending grew at a slower rate in 2017 than in 2016. According to the report, overall healthcare spending growth slowed in 2017 for the three largest goods and service categories – hospital care, physician and clinical services, and retail prescription drugs.

Hospital spending (33% of total healthcare spending) decelerated in 2017, growing 4.6 % to $1.1 trillion compared to 5.6 % growth in 2016. The slower growth for 2017 reflected slower growth in the use and intensity of services, as growth in outpatient visits slowed while growth in inpatient days increased at about the same rate in both 2016 and 2017.

Physician and clinical services spending (20 % of total healthcare spending) increased 4.2 % to $694.3 billion in 2017. This increase followed more rapid growth of 5.6 % in 2016 and 6.0 % in 2015. Less growth in total spending for physician and clinical services in 2017 was a result of a deceleration in growth in the use and intensity of physician and clinical services.

Retail prescription drug spending (10 %of total healthcare spending) slowed in 2017, increasing 0.4 % to $333.4billion. This slower rate of growth followed 2.3 % growth in 2016, which was much slower than in 2014, when spending grew 12.4 %, and in 2015, when spending grew 8.9 %. These higher rates of growth in 2014 and 2015 were primarily the result of the introduction of new, innovative medicines and faster growth in prices for existing brand-name drugs. Retail prescription drug spending growth slowed in 2017 primarily due to slower growth in the number of prescriptions dispensed, a continued shift to lower-cost generic drugs, slower growth in the volume of some high-cost drugs, declines in generic drug prices, and lower price increases for existing brand-name drugs.

Closer to the hearts of municipal analysts are the subjects of Medicare and Medicaid. Medicare spending (20% of total healthcare spending) grew 4.2 percent to $705.9 billion in 2017, which was about the same rate as in 2016 when spending grew 4.3 %. In 2017, slower growth in fee-for-service Medicare (Medicare FFS) spending (1.4 % in 2017 compared to 2.6 % in 2016) offset faster growth in spending for Medicare private health plans (10.0% in 2017 compared to 8.1 % in 2016). The trends in Medicare FFS and Medicare private health plan spending are attributed in part to an increasing share of all Medicare beneficiaries enrolling in Medicare Advantage.

Medicaid spending (17 % of total healthcare spending) growth slowed in 2017, increasing 2.9 % to $581.9 billion following growth of 4.2 % in 2016. The slower growth in total Medicaid expenditures in 2017 was influenced by a deceleration in enrollment growth and a reduction in the net cost of Medicaid health insurance resulting from an increase in recoveries from Medicaid managed care plans for favorable prior period experience. State and local Medicaid expenditures grew 6.4 %, while federal Medicaid expenditures increased 0.8 % in 2017. In 2017, states were required to fund 5 % of the costs of the Medicaid expansion population, while in prior years these costs were funded entirely by the federal government.

In 2017, the federal government’s spending on healthcare slowed, increasing 3.2 % after 4.9 % growth in 2016. The deceleration was largely associated with slower federal Medicaid spending due to lower Medicaid enrollment growth, a reduction in the federal government’s share of funding for newly eligible Medicaid enrollees, and a decline in the net cost of insurance for Medicare and Medicaid enrollees in private plans in 2017.

CALIFORNIA AND PENNSYLVANIA NOVEMBER REVENUES

State Controller Betty T. Yee reported the state received $9.69 billion in revenue in November, exceeding projections in the 2018-19 fiscal year budget by 15.1 %, or $1.27 billion. Personal income tax (PIT), sales tax, and corporation tax –– the state’s “big three” revenue sources –– all were higher than expected in the enacted budget.

For the fiscal year, revenues of $44.97 billion are 5.4 % ($2.29 billion) higher than projected in the budget enacted at the end of June. Total revenues for FY 2018-19 thus far are 9.8 % ($4.02 billion) higher than through the same five months of FY 2017-18.

For November, PIT receipts of $5.96 billion were 22.3 % ($1.09 billion) more than expected in the FY 2018-19 Budget Act. Sales tax receipts of $3.52 billion for November were 12.4 % ($388.4 million) greater than anticipated in the FY 2018-19 budget.
November corporation taxes of $26.9 million were 2.8 %higher than FY 2018-19 Budget Act estimates.

The Commonwealth of Pennsylvania’s Department of Revenue reported that year-to-date through November revenue collection in the state general fund had reached $12.4 billion for fiscal 2019, which started July 1. The growth in total general fund revenue is the highest the state has recorded in almost 10 years. Current year revenue collection is trending 2.8%higher than the state had forecast through November of this fiscal year. Income taxes and sales taxes are growing at rates higher than in most years of the current decade. These are the two largest sources of General Fund revenue to the Commonwealth. Income taxes through November are below forecast, but only by 1.4%. Sales taxes are 3.1% higher than the state anticipated through November and up 9% relative to the same time last year.

How enduring a trend this is may be subject to question. Like many other states, federal tax law changes increased the pool of available taxable income. Businesses may have shifted some income from last year to this year to take advantage of the lower federal tax rate. The Commonwealth changed the way corporations report net income, which the state estimated would moderately increase corporate tax revenue.

Underlying all of this is a clear improvement in many of Pennsylvania economic performance metrics. While there has not been a significant improvement in Pennsylvania’s long-term manufacturing outlook,increases in healthcare employment (especially around the state’s medical centers Philadelphia and Pittsburgh) are generating higher incomes. It is also not a sign of significant budget improvement as FY 2018 showed a small surplus in the Commonwealth budget. This after the Commonwealth bonded out the previous accumulated deficit.

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.

Muni Credit News Week of December 3, 2018

Joseph Krist

Publisher

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ISSUE OF THE WEEK

MUNICIPAL ELECTRIC AUTHORITY OF GEORGIA

$245,000,000

$175,000,000* Power Revenue Bonds

$70,000,000* General Power Revenue Bonds

Moody’s A1 Fitch A-

In the midst of ongoing dispute and litigation between and among owners of the Votgle expansion units, MEAG comes to the market with refunding bonds. According to Moody’s, these bonds have “the strongest bond security provisions versus peer agencies in the U.S.”. MEAG is unusual in that its participants have also pledged their general obligation to levy unlimited ad valorem taxes in order to meet their contractual obligations to MEAG. The contracts have been court tested and validated in the State of Georgia.

The bonds from this issue are refunding bonds. The refunded debt matures in 2026 but the refunding generates savings for the Authority by extending maturity. So while the refunding lessens the near term pressure on the participants, it offsets some of the benefit by extending the life of the liability. The extension exposes MEAG to greater risk from major regulatory changes or delays which push up costs significantly at MEAG Power’s existing generation facilities thus causing MEAG Power participants to question contract terms and affect their compliance.

Our issue with the credit has to do with concerns that substantial additional cost increases and delays will erode rate payer support for the credit. Yes the legal provisions are strong but legals which are not supported by strong underlying economic fundamentals are not enough to offset the economic issues. Legal provisions let you know where you are in line at bankruptcy court but they don’t magically create money.

What happens if JEA is successful in its efforts to extricate itself from its obligations to pay for now unwanted nuclear capacity? According to Moody’s, this risk is mitigated by the fact that in the case that JEA defaults on its obligation, MEAG Power would still be required to fund future construction costs related to what Project J had been scheduled to finance due to its 22.7% ownership interest. Provisions in a new agreement with GPC provide for up to $300 million of financing capacity to help address this worst case situation.

Additionally MEAG Power and its participants could decide to use available internal liquidity or access external liquidity to fund such a funding requirement. in the case that JEA defaults on its obligation, MEAG Power would still be required to fund future construction costs related to what Project J had been scheduled to finance due to its 22.7% ownership interest. Provisions in a new agreement with GPC provide for up to $300 million of financing capacity to help address this worst case situation. Additionally MEAG Power and its participants could decide to use available internal liquidity or access external liquidity to fund such a funding requirement.

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HOSPITAL MERGERS AND ACQUISITIONS

The California Department of Justice has given conditional approval to the ministry alignment agreement between Dignity Health and Colorado-based Catholic Health Initiatives. The resulting organization, CommonSpirit Health, will operate nearly 140 hospitals in multiple states, including 30 hospitals in California.

CommonSpirit Health is required to maintain emergency services and women’s health services for 10 years. The new entity must also create a health initiative to help homeless patients.

Community Health Systems, Inc. (NYSE: CYH) announced that subsidiaries of the Company have signed a definitive agreement to sell four South Carolina hospitals – 82-bed Chester Regional Medical Center in Chester, 225-bed Springs Memorial Hospital in Lancaster, 396-bed Carolinas Hospital System in Florence, and 124-bed Carolinas Hospital System – Marion in Mullins – along with related businesses, including physician clinic operations and outpatient services, to the Medical University Hospital Authority in Charleston, S.C.(A1 by Moody’s)

In calendar year 2017, the four hospitals combined delivered care through more than 129,000 emergency department (ED) visits, 159,000 outpatient visits (excluding ED visits), 18,800 hospital admissions, and 339,000 clinic visits with physicians. Once the acquisition is completed, MUSC will employ more than 16,400 team members throughout the state. MUSC is the South Carolina’s only comprehensive academic medical center. Founded in 1824, the university is located in Charleston and has awarded more than 36,000 degrees over its history.

The university includes six colleges with more than 1,700 faculty members and awards degrees in 50 specialties. MUSC includes University Medical Associates, a group practice for faculty and clinical professionals and MUSC Foundation, a fundraising organization that also aids in management of endowed funds. The academic medical center also includes Medical University Hospital Authority which owns and operates an over 700 bed full service hospital. When combined the organizations had operating revenue of over $2.3 billion in FY 2016. The medical center is an NCI-designated Cancer Center and Level 1 Trauma Center.

The Massachusetts attorney general approved the merger between Beth Israel Deaconess Medical Center and Lahey Health with various conditions. The combined system will be barred from raising prices beyond the state’s own healthcare cost growth benchmark, which is currently set at 3.1%. It must also participate in the state’s Medicaid program indefinitely, increase access to mental health and substance use disorder treatment and funnel significant investments to its safety net hospitals and programs.

Looking at it from an investment standpoint, the deal should be positive. The Massachusetts Health Policy Commission has said that BILH’s market share would nearly equal that of Partners HealthCare System (Partners), market concentration would increase substantially, and BILH would have significantly enhanced bargaining leverage with commercial payers.”

QUESTIONABLE NUMBERS FROM PUERTO RICO AGAIN

The Financial Oversight and Management Board for Puerto Rico announced that after its review of the pension forecasts and projected PayGo payments in the new fiscal plan it had certified on Oct. 23, it concluded that the pension forecasts and projected PayGo payments through fiscal year 2058 were understated by $3.35 billion. The revisions to the existing pension forecasts result in “no net material impact during the first 20 years of the projections (through 2038), and are concentrated in the last 20 years of projections (2039-2058),” according to the board.

The board said it will “further refine” the pension forecasts and projected PayGo payments after it “receives and analyzes more accurate information from the actuaries for the Commonwealth’s pension plans in the coming months.” It is yet another example of what can be so maddening about the effort to restructure the Commonwealth’s debt.

Now there are complaints from some quarters in Puerto Rico about the fact that Congress has been making suggestions to the fiscal oversight board about what actions could or should be take. It continues to astound that there is a view that when one asks for a financial bailout that the party being asked to provide the resources is not entitled to have input over how the funds are spent. In this case, some are objecting to the suggestion that PREPA be privatized. I have always compared this to a child asking a parent for money and then objecting to any strings being attached. One pretty much goes with the other.

It’s not condescending or taking a colonial attitude to want to make some suggestions as to how resources are expended especially when the funding is not generated locally. The unwillingness on the part of multiple administrations in Puerto Rico to admit that there was anything wrong is a large part of the story of how they got in the position in which they find themselves today. I have asked various representatives on multiple occasions about why cities like D.C. and New York had to accept restrictions and oversight in return for outside financial help but that somehow the idea of controls and oversight should not apply to Puerto Rico. We are still waiting for an answer.

REALITY BITES

The outgoing Governor of Maine has made the fight against Medicaid expansion in the Pine Tree State a centerpiece of his administration. Despite being term limited and being replaced by a pro-expansion candidate, he continues to fight on in court against being compelled to expand Medicaid under the ACA. This despite the fact that Maine’s voters approved expansion in a vote. Voters approved Medicaid expansion — a key component of the Affordable Care Act — 59 to 41 percent in the 2017 referendum.

The Maine Department of Health and Human Services requested a stay of a judge’s order that would compel the LePage administration to move ahead with Medicaid expansion. The judge hearing the case had ordered that Maine DHHS had to implement expansion by Dec. 5. The LePage administration argues that because the federal government has yet to approve the state’s expansion plan, Maine would be at risk of paying the full cost of expansion from July through December, instead of 10 percent of the cost as required by the Affordable Care Act.

Medicaid expansion will cost state taxpayers about $50 to $60 million per year, but Maine will receive more than $500 million annually in federal funds to help pay for health care for newly-eligible Medicaid enrollees. The incoming Governor intends to implement expansion as one of her first official acts.

SMALL STEPS OF PROGRESS IN CYBERSECURITY

Two Iranian nationals were indicted by a federal grand jury for crimes in their connection with cyberattacks over recent months and years which affected a number of governmental and non-profit entities. The two men collected more than $6 million in ransom payments and caused $30 million in damages in attacks that began in December 2015.

“These defendants allegedly used ransomware to infect the computer networks of municipalities, hospitals, and other key public institutions, locking out the computer owners, and then demanded millions of dollars in payments from them”, according to federal prosecutors. Who are some of the victims? Hollywood Presbyterian Medical Center in Los Angeles; Kansas Heart Hospital; MedStar Health in Maryland; Nebraska Orthopedic Hospital; and Allscripts Healthcare Solutions in Chicago .

Atlanta, Newark, the Colorado Department of Transportation and the University of Calgary were among the government agencies attacked. The Atlanta and Colorado attacks were well publicized and this is the first reference we have seen regarding the source of the Atlanta attack which is one of the most extensive so far in terms of municipalities.

While a step forward on the law enforcement front, the news should serve as a warning to other municipal entities. It also reinforces the notion that cybersecurity is and should be a source of increased inquiry and analysis and hopefully will support the efforts of by some investors to press for far more disclosure about the risks of cyber attacks against municipal credits.

Muni Credit News Week of November 26, 2018

Joseph Krist

Publisher

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ISSUE OF THE WEEK

Water Replenishment District of Southern California Financing Authority, CA

Revenue Bonds

S&P: AA+

Fitch: AA+

The Water Replenishment District of Southern California Financing Authority, CA has been serving for 60 years replenishing groundwater resources not replenished naturally by purchasing recycled or imported water and, to a lesser extent, through the capture of storm water runoff. Water is injected into the aquifers or spread on the surface to percolate down to the basins. There are 43 cities within the district’s boundaries that are groundwater pumpers, including the cities of Los Angeles and Long Beach.

The district derives the majority (95%) of its annual revenues through a replenishment assessment on each of the users based on their annual extraction. Assessments saw significant increases over the last decade to address the rising cost of imported water and reduced groundwater pumping from the basins during the drought. In the next several years assessments are expected to continue to increase (5%-6%, annually) to provide for increased annual debt service costs.

In a time of drought and other climate changed events making water more scarce and reducing the reliability of water sources, the District’s role takes on greater importance. The recent updates to the Colorado River compact highlight the need to reduce the amount of water that southern California imports from outside and/or out of state sources. The latest bond issue occurs as the District’s Albert Robles Center comes on line. The Center will purify approximately 10,000 acre feet (3.25 billion gallons) of tertiary treated (recycled) water annually to near-distilled levels through an advanced water treatment facility. Together, with another 11,000 acre feet (3.6 billion gallons) of recycled water, the District will deliver 21,000 acre feet of water to the San Gabriel Coastal Spreading Grounds where it will percolate into the Central Basin.

The bonds are payable from installment payments made by the district from its system net revenues, including replenishment assessments. The district’s obligation to make installment payments is absolute and unconditional as governed by the installment purchase agreement between district and the authority.

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BET THE INVESTORS WISH THIS WAS TRUE

The latest absurdity out of the White House is the existence of multiple reports that President Trump believes that aid from FEMA and other sources is covering Puerto Rico’s debt service requirements. Axios reports that Trump also told senior officials last month that he would like to claw back some of the federal money Congress has already set aside for Puerto Rico’s disaster recovery, claiming mismanagement.

We do not think that such an effort would be The comments are more likely a future indicator of the Administration’s willingness to ask for or authorize additional aid. The news of the President’s sentiments reinforces the views he expressed in a late October tweet. “The people of Puerto Rico are wonderful but the inept politicians are trying to use the massive and ridiculously high amounts of hurricane/disaster funding to pay off other obligations. The U.S. will NOT bail out long outstanding & unpaid obligations with hurricane relief money!”

The President apparently believes that any positive movement in prices in the secondary market for Puerto Rico debt reflects use of disaster funds for debt repayment. One would think that after the President’s extensive experience with defaulted debt and bankruptcy proceedings, he would have a better understanding of the process.

WHAT IS TRUE

The Puerto Rico legislature has approved a proposed COFINA restructuring agreement which has been submitted to the court overseeing Puerto Rico’s bankruptcy. The agreement, the first to be submitted to the court for approval, reduces COFINA debt overall by 32% and gives senior bondholders 93% of the value of the original bonds and junior bondholders 55%. It also saves Puerto Rico about $17.5 billion in debt service.

The approved bill establishes COFINA’s ownership of a portion of the island’s sales and use tax. It also creates a lien to benefit COFINA bondholders, establishes certain agreements in the name of the commonwealth and allows the sale of certain COFINA bonds held by the Puerto Rico Infrastructure Financing Authority.

A decision in the case is expected to be rendered in January.

BRIGHTLINE BECOMES VIRGIN USA

Richard Branson will become a minority investor but that is enough to cause the All Aboard Florida (AAF) high speed rail project to rebrand itself as Virgin USA. The partnership was announced as AAF faces a yearend deadline to secure tax exempt bond financing for its build out across the state. The company hopes to launch rail service along the Interstate 4 corridor from Tampa to Orlando in 2021 and it expects ridership to take two years to ramp up. Construction for the Tampa-to-Orlando service has an estimated cost of $1.7 billion.

Travel time between the two cities is projected to be an hour — Virgin’s trains will have a top speed of 125 mph — compared with 90 minutes by car and 2 hours and 5 minutes for Amtrak’s Silver Star. Travel time between the two cities is projected to be an hour — Virgin’s trains will have a top speed of 125 mph — compared with 90 minutes by car and 2 hours and 5 minutes for Amtrak’s Silver Star.

The project’s outlook remains cloudy as unaudited financial statements reveal Brightline struggled in the first half of the year, losing $28.2 million in the first quarter of this year and $28.3 million in the second quarter. It is reported that reported in October that Brightline’s passenger volume increased to 106,090 in April, May and June, up from 74,780 during the first three months of the year, but far below projections.

The partnership comes as Brightline’s major investors announced plans to buy the rights to build a high-speed railroad between Southern California and Las Vegas. Service there is to launch in 2022, and eventually could expand into the Los Angeles area, according to Brightline. Brightline says that “Virgin has built a respected and trusted brand in travel and hospitality.”

In Britain, there is no shortage of those who would beg to differ with that characterization. Virgin is one of the entities which took over rail lines when British Rail was privatized. That has produced at best mixed results in spite of promises to invest in equipment and improve operating performance. Virgin Group’s existing high-speed railroad in the United Kingdom, also called Virgin Trains, has had its own financial struggles and faced criticism earlier this year for accepting a government bailout.

Those issues have not received the same level of attention here on this side of the Atlantic. The hope seems to be that the Brightline’s below projection operating results will be boosted by “access to millions of customers with the potential for increased ridership from other Virgin branded travel and hospitality businesses, including Virgin Atlantic, Virgin Hotels and Virgin Voyages.”

LOOKING TO THE COURTS TO LOWER OBLIGATIONS

Platte County, Missouri sold $32 million in bonds in 2007 to provide up-front financing for two public parking garages. The bonds would be paid back over time by sales taxes generated at Zona Rosa. Zona Rosa is an approximately 500,000 square feet, mixed-use development located in Kansas City, Platte County, Missouri. The project opened in 2004 and was expanded by an additional 500,000 square feet in early 2009.

Now in the face of a changing environment in the retail sector, Zona Rosa has not generated enough in sales tax revenue to pay annual debt payments. The County is being looked to as a source of funds to cover the debt service shortfalls. The shortfall on the annual debt payment to bondholders, which is due on Dec. 1, exceeds $1 million.

Now Platte County is taking a fairly aggressive stance in court. The lawsuit asks a judge to declare that Platte County is not legally responsible for shoring up Zona Rosa’s debt, and that it would be unconstitutional for the county to do so. Explicitly, the suit states that “The decision of whether to pay will be made by the Platte County Commission based on the law and the best interests of Platte County taxpayers, not the demands of a Trustee representing investors that accepted the risks of their investments.”

The County has already felt the ratings impact of its position losing its investment grade status in the face of its initial opposition to making payments. Moody’s said in association with its action that “the downgrade of the county’s GOLT rating to Ba1 from Aa2 reflects the county’s lack of willingness to fulfill a contractual obligation to make payments sufficient to pay principal and interest on the Industrial Development Authority of the County of Platte County, Missouri Transportation Refunding and Improvement Revenue Bonds (Zona Rosa Retail Project), Series 2007 (NR), and the amount of any deficiency in the bond reserve fund, if the Trustee has not otherwise received sufficient funds. The county’s lack of willingness to honor its intentions under the financing agreement with the Industrial Development Authority (IDA) represents a lack of willingness to pay on an obligation that supported debt issued in the capital markets.

WHY PEOPLE IN NY ARE UPSET ABOUT THE AMAZON DEAL

Where do we begin? Questions about whether or not Amazon even needs the subsidies to want to be in the center of finance and the center of political power for a start. The same week that the $1.7 billion package of inducements was announced, the MTA announced that it would increase bus and subway fares 4%. Why? A funding shortfall of some $1 billion annually. So let’s see – the Amazon deal increases the mass transit burden facing the city and state. The amount of subsidies would actually cover about 1.7 years of revenue shortfall. So why wouldn’t current residents wonder if the fares could have been maintained?

In theory, Amazon’s 25,000 incoming employees might wonder about things like schools for their children. Well Amazon has pledged to donate space at its new Astoria campus for a school. Not funding for its construction or operation – just space. Likely space to be obtained through eminent domain. Housing? The recent experience in Seattle is instructive regarding its effort to generate funding from the tech industry.

So if you live by the Amazon site say in the nation’s largest public housing project, you might ask: Will this deal generate resources to improve my home or will it continue to be without heat but with lead for the winter? Will my child have a chance to go to a modern school equipped in order to enable my child to get a job across the street at this employment behemoth? Lacking that will my neighborhood have better transportation so that my child and I can get to better educational and employment opportunities?

These are reasonable questions to be asked not a cover for NIMBYism. Especially in light of the really mixed results from many other subsidy schemes. They are questions which should be asked by the neighborhood but also by objective analysts of the plan (muni analysts).

Muni Credit News – November 19, 2018

We try each week to provide the observations and commentary which we think will be most useful for all who make their living in the area of municipal credit. With a light calendar and the many distractions of Thanksgiving looming over the whole week, here is some helpful information to help with your Thanksgiving meal.

https://www.offthegridnews.com/how-to-2/how-to-raise-and-slaughter-turkeys-on-your-homestead/

Enjoy your weekend. We return next Monday.

Muni Credit News Week of November 12, 2018

Joseph Krist

Publisher

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ISSUE OF THE WEEK

What caught my eye this week was not the underlying credit stories behind some of the deals but the number of sizable in the water sector. The condition of older water systems and threats to local supplies as the result of infrastructure deterioration will likely drive more rather than less difficulty with issue surrounding the state of repair of the infrastructure. This week Los Angeles, Philadelphia, and the New York State Revolving Fund all provide examples of the service needs of varying types of systems.

Los Angeles which is dealing with long term supply concerns, the impact of droughts (climate change), and a continued growth in population reflect those issues. Philadelphia must deal with the constant need for upkeep of physical plant to insure delivery reliability and water quality. The NYS revolving fund program allows smaller often rural systems a source of financing for their water infrastructure needs. A small NY community was in the news in recent months over contamination issues with the community’s drinking water supply.

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S&P EXPLAINS ITS RECENT CHICAGO RATING ACTIONS

It is understandable that a criteria change at a rating agency which results in a significant downward adjustment in ratings is frustrating to issuers and bond holders alike. The latest instance in which such an action has occurred is in S&P’s treatment of the sales tax revenue bonds. Late last month, S&P lowered the rating of Illinois’ Build Illinois senior- and junior-lien sales tax bonds to ‘BBB’ from ‘AA-‘.

When the Build Illinois bonds were first issued they were hailed as a way to provide a secure and lower cost credit that would be somewhat insulated from changes in the general credit standing of the State of Illinois. As the state’s overall credit fundamentals of the State deteriorated over time, Build Illinois bonds provided a bit of a safe haven for investors. With this criteria change and its attendant negative impact on ratings, this is no longer the case.

So what has changed? The criteria change reflects a view that deterioration in an issuer’s general creditworthiness can reflect a diminished capacity to make all payments, including debt statutory or contractual claim on revenues with a higher priority than competing claims. Priority lien ratings factor in the fundamental credit quality of the obligor, not solely the revenue stream pledged to the bonds. Under the new criteria, a priority lien rating is limited to a maximum of four notches above the obligor’s creditworthiness (captured in an issuer’s general obligation [GO] rating), and four notches can only be attained in limited circumstances.

S&P cites the fact that the issuing entity collects its own priority-lien revenue and the revenue is used for general operating purposes (i.e., there is no lockbox arrangement). Second, after the priority-lien obligations are satisfied, there is no meaningful limitation on the use of the revenues. S&P takes the view that the State’s funding of pensions was a violation of state law which raises concerns about willingness to pay, despite legal structures supporting payment of the Build Illinois bonds. S&P notes that Illinois would first look to local share sales tax revenue reductions or violations of state law in times of liquidity distress.

Nonetheless, despite the level of coverage (1.82x) and favorable history of funding debt service the rating on the Build Illinois bonds is now tied directly to that of the State. The rating on the bonds now will move in tandem with the State’s GO ratings. So much for the insulation from the State’s problems which the credit was designed to address.

As for the Chicago the Sales Tax Securitization Corporation (STSC), Ill.’s outstanding sales tax securitization bonds issued for the city of Chicago, a different view prevails. S&P cites the Illinois Public Act 100-0023 authorization for home rule municipalities to sell their interest in revenues or taxes received from the state of Illinois to special purpose entities. This is meant to insulate bond holders from operational risk associated with Chicago.

Illinois Public Act 100-0023 authorizes home rule municipalities to sell their interest in revenues or taxes received from the state of Illinois to special purpose entities. The Illinois Department of Revenue collects revenues and then passes them directly to the corporation or its bond trustee. There is a legal opinion that once sales taxes are sold, they are no longer property of the city and would not be treated as such in a bankruptcy case.

PENSION CHANGES IN ARIZONA

In 2017, the state enacted legislation which made numerous changes to benefits offered under the Corrections Officer Retirement Plan (CORP). Many participating employees in the CORP hired after 1 July 2018 no longer receive defined benefit pensions, which will gradually reduce pension risks, for the state and other sponsoring governments, associated with investment performance and employee longevity.

In aggregate, participating employers in CORP must currently contribute 29% of payroll to the pension system, 21% of which is to amortize past unfunded liabilities. In comparison, employer contributions to the defined contribution plan are only 5% of payroll, with no risk of future unfunded liabilities developing. New cost-of-living adjustment (COLA) formulas will apply prospectively to current employees and retirees.

The key to these changes is their prospective nature. Making changes going forward typically gets around statutory and constitutional issues which speak to the diminishment of benefits for retirees. There usually is no prohibition against changes made on a going forward basis. So when we look at the debate around public employee pensions, we wonder why so many jurisdictions spend their time spinning their wheels trying to diminish vested benefits when they could take the immediate step of closing existing schemes and imposing new terms for new employees while adjusting benefits on a going forward basis.

Had these types of steps had been taken there would still be a significant problem requiring substantial resources in the future. The scale of the problem would not be as severe as it is. Jurisdictions which have taken the approach of tiered benefits schedules are better off than those which have not. Even a union friendly state like New York has successfully implemented tiered approaches to pensions without producing the adversarial approach which so many states and municipalities currently face.

WHEN LOSERS ARE WINNERS

In the aftermath of the apparent decision by Amazon to build new headquarters facilities in northern VA and in New York City, the notion of whether or not those cities which did not make the cut actually win in the long run has taken hold. Those who believe that the Amazon facilities would be at best a mixed blessing are noting that both markets are already facing significant negative impacts in the form of increased demand on already overburdened housing stocks and mass transit systems.

Both proposed sites have much in common in terms of location near major centers of finance and politics. They both have significant cohorts of educated and younger workers. The areas both have significant rapid transit infrastructure. Both of those transit systems are however, better known for their poor service and deteriorated infrastructure. The adjacent airports are both slot limited and, while the closet to their respective downtowns are also limited as to their scope of service due to their small size relative to current airport designs.

Only time will tell if the way to win this competition was to lose competitively. It will be interesting to watch.

“Health care was on the ballot, and health care won.”

This is true from just about any perspective. Medicaid expansion won in the three states with initiatives designed to accomplish the task. It also won in terms of the election of governors in states like Maine where outgoing governor Paul Le Page has fought requirements to expand Medicaid pursuant to a 2016 initiative. Kansas elected a Democratic governor who supports the expansion of Medicaid. While the Trump Administration will continue its assault on the Affordable Care Act, we believe that the ballot box will out.

So who benefits? The provider system which will always be better off if everyone has insurance. Any reduction in the reliance on the emergency room as the primary patient entry point to healthcare system is a credit positive. The hospital sector will step back on stage and allow the pharmaceutical industry to occupy center stage in the effort to control healthcare costs. With the Administration and Congress in broad agreement on the need to lower prescription drug costs, we would expect to see a legislative effort in that direction.

When hospitals return to center stage, issues like the restoration of disproportionate share (DSH) payments for rural and safety net providers. Small rural hospitals can hope to get some relief through state expansion of Medicaid and restored DSH payments. There is a real crisis in the rural healthcare space which is now a significant source of default in the healthcare sector.

CALIFORNIA REVENUES

State Controller Betty T. Yee reported the state received $6.57 billion in revenue in October, falling short of assumptions in the 2018-19 fiscal year budget by 5.9 percent, or $412.2 million. This month, sales tax was the only major revenue source to come in higher than projected in the enacted budget. Personal income tax (PIT) and corporation tax –– the two other revenue sources in the “big three” –– were lower than assumed in the enacted budget.

Four months into FY 2018-19, revenues of $35.28 billion are 3.0 percent ($1.02 billion) higher than projected in the budget enacted at the end of June. Total revenues for FY 2018-19 thus far are 8.1 percent ($2.63 billion) higher than through the first four months of FY 2017-18. Sales tax receipts of $1.03 billion for October were 8.2 percent ($77.9 million) more than anticipated in the FY 2018-19 budget.

For October, PIT receipts of $5.13 billion were 8.4 percent ($472.0 million) less than expected in the FY 2018-19 Budget Act. October corporation taxes of $254.8 million were 10.9 percent ($31.1 million) below FY 2018-19 Budget Act estimates.

CHARTER SCHOOLS FACE HEADWINDS

One under the radar issue is the potential impact on the charter school movement and industry in light of the revised post-election map. The turnover of seven governorship and an increase in Democratic Party control would seem to result in a slowing of momentum for the industry. In some states, the issue was a significant one in the governor races.

Wisconsin’s rejection of Gov. Scott Walker replaces him with a much more union and public education friendly governor. Illinois Governor elect Pritzker is in favor of slower creation of charter schools and the incoming governor in Michigan has explicitly opposed the policies (pro charter) of Michigan resident and education secretary Betsy deVos.

For charter school operators the potential for more regulation and transparency in terms of their results and finances is seen by some as an unwelcome burden. That is the most likely significant result of “regime change” at the state level. The new regulations could include more stringent requirement and supervision of the provision of facilities to accommodate the disabled.

Muni Credit News Week of November 5, 2018

Joseph Krist

Publisher

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RURAL HEALTH

A Government Accountability Office report requested by U.S. Sen. Claire McCaskill reinforces our concerns for the rural hospital sector. The GAO found that although only about half of all rural hospitals are in states that didn’t expand Medicaid, 83% of the ones that closed from 2013 to 2017 were in those states. The data shows part of the story supporting voter initiatives which would seek Medicaid expansion under the Affordable Care Act.

Now the non-expansion state Kansas, is the site of another rural hospital closing. Mercy Hospital in Fort Scott is a 46 bed facility in eastern Kansas. Without expanded Medicaid these hospitals face a variety of pressures dealing with reimbursements and high rates of uninsured. Mercy Hospital says it spent $2.56 million in fiscal year 2017 on uncompensated care, as well as the traditional charity care write-offs it’s obligated to make to maintain nonprofit status. One estimate puts the benefit to Mercy of an expansion at an additional $2.7 million in revenue each year on average, according to the Kansas Hospital Association.

The current facility scheduled for closure opened in 2002. It has 230 employees who in 2017 admitted about 1,000 patients, performed about 1,500 surgeries and saw another 70,000 people on an outpatient basis. The hospital will close Dec. 31, including all inpatient services, the emergency department and ambulatory surgery.

Researchers from Northwestern Kellogg School of Management have found that hospitals in Medicaid expansion states saved $6.2 billion in uncompensated care, with the largest reductions in states with the highest proportion of low-income and uninsured patients. Consistent with these findings, the vast majority of recent hospital closings have been in states that have not expanded Medicaid.

There is not an initiative on the Kansas ballot regarding Medicaid expansion. It is seen as a major factor in the race for Governor. So while not a direct referendum on the issue, the Kansas governor vote can be grouped with the results of direct initiatives in Utah, Idaho, and Nebraska calling for Medicaid expansion.

CALIFORNIA PROPERTY TAX BALLOT INITIATIVES

The proposed California ballot initiative Proposition 5 amends the State Constitution to expand the special rules that give property tax savings to eligible homeowners when they buy a different home. Beginning January 1, 2019, the measure: allows moves anywhere in the State. Eligible homeowners could transfer the taxable value of their existing home to another home anywhere in the state.

It would allow the purchase of a More Expensive Home. Eligible homeowners could transfer the taxable value of their existing home (with some adjustment) to a more expensive home. The taxable value transferred from the existing home to the new home is adjusted upward. The new home’s taxable value is greater than the prior home’s taxable value but less than the new home’s market value.

It Reduces Taxes for Newly-Purchased Homes That Are Less Expensive. When an eligible homeowner moves to a less expensive home, the taxable value transferred from the existing home to the new home is adjusted downward. It also removes Limits on How Many Times a Homeowner Can Use the Special Rules. There is no limit on the number of times an eligible homeowner can transfer their taxable value.

According to the LAO, schools and other local governments each probably would lose over $100 million per year. Over time, these losses would grow, resulting in schools and other local governments each losing about $1 billion per year (in today’s dollars). Current law requires the state to provide more funding to most schools to cover their property tax losses. As a result, state costs for schools would increase by over $100 million per year in the first few years. Over time, these increased state costs for schools would grow to about $1 billion per year in today’s dollars.

The case for includes the view that as the measure would increase home sales, it also would increase property transfer taxes collected by cities and counties. This revenue increase likely would be in the tens of millions of dollars per year. Because the measure would increase the number of homes sold each year, it likely would increase the number of taxpayers required to pay income taxes on the profits from the sale of their homes. This probably would increase state income tax revenues by tens of millions of dollars per year.

RESILIENCE AS A CREDIT ISSUE

Austin, the Texas state capital, had to put into effect a boil water notice for all of its customers due to elevated levels of silt from last week’s flooding. This is the first time in the utility’s history that a notice of this kind has been issued for the entire system. Nonetheless, the city was more concerned not with a surplus of water but with a real supply deficit. That is because the silty, debris filled river supplying Austin’s three water treatment plants is delivering more water than the plants may treat.

Normally, Austin Water can process more than 300 million gallons per day, but because of the extreme weather the utility was not able to process much more than 100 million gallons daily at the height of the flooding. Customers were asked to reduce water usage as much as possible.

This is a state capitol, home of the state’s flagship university, and a major economic center. So it is clear that resilience is an important issue as the city attempts to expand and modernize its economy. Clearly, the greater frequency of major storms must be considered when any estimate of resilience is made. The likely solution is expansion of the regional flood management infrastructure. This will introduce extra costs onto the regional tax and economic base.

Meanwhile, The New York Academy of Sciences released the results of a study which reviewed the potential cost of climate change resilience for Los Angeles County. The report already has a high level of exposure to flooding (e.g. people, ports, and harbors), climate change and sea level rise will increase flood risk. The study covers a number of technical issues which we do not need to review here. What is important to us is the potential cost of resilience projects to manage this change. The research suggests three adaptation pathways, anticipating a +1 ft (0.3 m) to +7 ft (+2 m) sea level rise by year 2100. Total adaptation costs vary between $4.3 and $6.4 billion, depending on measures included in the adaptation pathway.

FLORIDA TOLL DISPUTE MOVES TO COURT

The Florida legislature passed the Florida Expressway Authority Act this and the previous summer which was designed to lower tolls on the state’s various toll roads. The legislation provides for a number of changes allowing for things like P3 partnerships but it also seeks to alter the process by which tolls may be raised. Included amendments, among other things, mandated a reduction in toll rates, limited the amount of toll revenue that can be used for administrative expenses, and changed auditing procedures.

Those changes in the ability of the individual issuers to raise revenues are now the subject of a lawsuit by the Miami Dade County Expressway Authority (MDX). MDX alleges these tolling requirements should be rendered null, as they usurp authority granted to MDX via a transfer agreement signed in 1996. That agreement “granted to MDX full financial control” of the five expressways located in Miami-Dade County.

MDX is asking for a declaratory judgment that the amendments are unconstitutional. MDX claims that the toll provisions clash with non impairment provisions included in the bond resolution.

ATLANTIC CITY ON THE LONG CLIMB UP

Moody’s Investors Service has upgraded the City of Atlantic City, NJ’s Long-Term Issuer Rating to B2 from Caa3. The outlook remains positive. The upgrade is a positive notch in the belt of the state overseers managing the city’s finances. The mid-B rating still takes into account the city’s continued, albeit reduced, financial and economic distress. The agreement with the city’s casinos securing payments in lieu of taxes is a positive as is material budgetary improvements undertaken under State oversight.

The city still needs to further its economic diversity to reduce reliance on the casino industry. The gaming industry is still seeing new entities coming into the regional marketplace and those facilities while not achieving their projected operating results still serve as a source of serious competition for the marginal gaming dollar.

DOMINION OFFERS TO MANAGE SANTEE COOPER

Dominion Energy, a major Virginia investor owned utility, has offered to buy SCANA, the parent company of South Carolina E&G. That would place them in the position of managing the Sumner nuclear expansion which was put on hold earlier this year. Now, Dominion is making an offer to the other major utility partner in the project – South Carolina Public service Authority (Santee Cooper) to manage Santee Cooper to help it save costs after the state-owned power company racked up $4 billion in debt on the failed nuclear project.

The letter including the proposal makes some bold promises. The offer would save Santee Cooper’s electric customers “hundreds of millions of dollars in overhead, fuel and capital related costs.” It purports to provide a vehicle to stabilize rates especially for large industrial and electric cooperative customers. Santee Cooper retail customers already pay an additional $5 monthly due to Sumner costs and face an additional $13 monthly until project related debt is retired.

Dominion claims that this proposal is superior to a sale of Santee Cooper to an investor owned utility. Dominion would not say whether the offer would stand if the Virginia-based power utility does not complete its proposed purchase of Cayce-based SCANA. According to the state, a handful of utilities privately have expressed interest in buying it.

The offer is a bit of an end run around the framework established by a South Carolina state committee charged with evaluating alternatives to the status quo. Dominion asked the S.C. Public Service Commission to reject Santee Cooper’s request for a $351 million payout if the Virginia-based utility is allowed to buy SCAN. Dominion claims that the arrangement would allow Santee Cooper to remain state owned, tax exempt and keep an “A+” credit rating.

BROWARD HEALTH MANAGEMENT UPHEAVAL

Broward Health which runs the former North Broward Health System has dismissed its chief counsel. The move comes as doctors complained that her office’s failure to get contracts through was costing the system essential physicians and Broward Health’s own chief executive complained about a “pervasive culture of fear” that the counsel helped create.

The board was a creation of outgoing Governor Rick Scott whose antipathy to the public provision of health services is well established. At the same time, five current and former Broward Health leaders indicted last year on charges of violating Florida’s open-meetings law. One of them is the departing chief counsel.

The counsel had angered board members with a series of investigations undertaken by outside attorneys whose fees were paid by the district. These investigations were seen as a part of an effort to discredit board members who oppose some of the Governor’s health policies. The period of oversight by the board – appointed by Scott – has included a massive federal fine, the suicide of its CEO, the decline of its bond rating and unending controversies and investigations.

The move to fire the counsel comes amidst charges that patient care has suffered, as physicians fled its hospitals and a failure to sign contracts on time cost the system necessary medical equipment. The negotiation and execution of contracts was under the purview of the counsel.

In the meantime, the district’s tax supported Baa2/BBB+.

MEDICAID UNCERTAINTY IN CALIFORNIA

The California State Auditor has released results of its payments that the Department of Health Care Services (Health Care Services) made from 2014 through 2017 because it failed to ensure that counties resolved discrepancies between the state and county Medi-Cal eligibility systems. Counties are generally responsible for determining Medi-Cal eligibility and for recording this information in their eligibility systems, which then transmit the beneficiaries’ information and Medi-Cal eligibility to the State’s eligibility system. Health Care Services uses the information from the State’s eligibility system to determine the amount that it pays for Medi-Cal beneficiaries.

Statewide comparison of Medi-Cal beneficiary eligibility data identified pervasive discrepancies between the state and county systems. Specifically, the analysis of 10.7 million Medi-Cal beneficiary records from December 2017 revealed more than 453,000 beneficiaries marked as eligible in the State’s eligibility system although they were not listed as eligible in the counties’ eligibility systems for at least three months. Upon examining the data for these beneficiaries from 2014 through 2017, we found that 57 percent of these discrepancies had persisted for more than two years. Many of these discrepancies resulted from Health Care Services failing to ensure that counties had evaluated the Medi-Cal eligibility of beneficiaries transitioning from other programs. One reason counties failed to complete those evaluations promptly was because of the implementation of the federal Patient Protection and Affordable Care Act which created a backlog of Medi-Cal applications and eligibility redeterminations.

It is not clear as to whether a County has any financial obligation as the result of these “overpayments”. If they do, then Los Angeles County is one to look at as some 50% of the questionable eligibility cases are concentrated there. Ironically, LA County is one of three who blame their eligibility problems on implementation of the Affordable Care Act. Effectively, the counties claim that the expansion created an unmanageable burden for them. State law gives the county of residence the responsibility for determining eligibility and providing ongoing case management; however, health care providers use the state’s Health Care Services’ records to authorize care.

Muni Credit News Week of October 29, 2018

Joseph Krist

Publisher

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ISSUE OF THE WEEK

$1,306,200,000

SALES TAX SECURITIZATION CORPORATION

Chicago will sell this issue which is designed to appeal to a very wide range of investors both domestic and international. Nearly $400 million of the issue will come in the form of taxable debt. The deal is structured with many of the features which appeal to taxable investors. As a securitized deal, the structure offers a security and redemption package with which those investors are familiar. They include make whole call provisions. In a number of discussions and presentations, these are the sort of relatively mundane issues which are raised as possible impediments to a fuller expansion of the municipal bond market beyond its traditional buyers.

This type of flexibility will be of enormous importance as the municipal market undertakes to shoulder a greater portion of the nation’s financing burden for infrastructure. With tax policy at the federal level effectively diminishing the attractiveness of municipal bonds to traditional buyers, the ability of the municipal market to innovate and adapt to a changing investment environment will be tested as never before.

The bonds are rated AA- by S&P and AAA by Kroll based on the strength of the lien securing the revenues for the benefit of bondholders. The Act and the City’s home rule powers provided the legal mechanisms by which the City: created the Corporation; assigned and effectively accomplished a “true sale” of the pledged Sales Tax Revenues; and irrevocably directed the State to distribute the pledged revenues directly to an account of the Trustee for these Bonds. Further, the Act provides covenants by the State to refrain from impairing these mechanisms or altering the basis upon which the City’s share of transferred revenues is derived. The Act also provides that Bonds issued by the Corporation are secured by a “statutory lien” on those transferred revenues, providing additional protection to bondholders in the unlikely event of a City bankruptcy.

The issue also takes advantage of the relatively calmer perception of the credit position of the State which has had benefits for the City as well. Whether that perception is well founded – the ship may not be taking on any more water but it’s not as if the water is not still deep – remains to be seen.

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ECONOMIC DATA SENDS MIXED SIGNALS

The recent GDP report indicated that growth is still strong at 3.5% but there are signs of slowdown in the economy. Growth in the second quarter was over 4% but that was before the full implementation of tariffs. Now there are signs that those tariffs are having a negative effect on incomes across the economy, especially in the farm belt.

Based on many reports we have seen, even ardent supporters of the tariff based trade policies acknowledge that they will cause short term pain for the agricultural sector. prices for crops are lower and the Administration’s $12 billion farm bailout is not replacing even half of the income lost to tariffs. Now it appears that the woes of the agricultural sector are impacting the broader economy especially for manufacturers who sell to farmers.

The latest example is Caterpillar. It’s third quarter earnings release indicated that Cat sees tariffs negatively impacting its bottom line. The company specifically cited the rising cost of basic steel and aluminum inputs as dampening demand and expected profits. “Manufacturing costs were higher due to increased material and freight costs. Material costs were higher primarily due to increases in steel prices and tariffs,” the company says.

The company said the impact of tariffs for third-quarter material costs was about $40 million. “For the full year of 2018, we expect the impact of recently imposed tariffs will be at the low end of the previously provided range of $100 million to $200 million,” the company said. Cat will raise prices having informed its dealers in the third quarter of an upcoming price action of 1 to 4% worldwide on machines and engines with certain exceptions. The new, higher prices will take effect in January 2019.

Over the past year, a 36% rise in the price of hot rolled steel has impacted heavy machinery producers. We will monitor the impact of the tariffs on state budgets from those states with significant agricultural components to their economies.

MEDICARE PROVIDER SEES WEAKENED CREDIT

Temple University Health System (TUHS) is the largest Medicaid provider in the Commonwealth of Pennsylvania. Located in Philadelphia, the system’s finances have always been precarious reflecting the ebbs and flows of the Philadelphia economy. With the vast array of changes challenging hospital credits, weaker players have less flexibility to deal with them and less financial resilience. TUHS is a $1.8 billion academic health system anchored in northern Philadelphia. The Health System consists of TUH-Main Campus; TUH-Episcopal Campus; TUH-Northeastern Campus; Fox Chase Cancer Center, an NCI designated comprehensive cancer center; and Jeanes Hospital a community-based hospital offering medical, surgical and emergency services. TUHS also has a network of community-based specialty and primary-care physician practices. TUHS is affiliated with the Lewis Katz School of Medicine at TU.

Now, Moody’s Investors Service has revised its outlook on THUS’ Ba1 rated credit from stable to negative.

Moody’s cites ” elevated execution risks as TUHS pursues major changes to its corporate structure and business model during a period of weak margins and growing competition. Despite some recent improvement, expectations of continued deep operating deficits in the absence of one-time favorable events, will continue to foster TUHS’ heavy reliance on Commonwealth supplemental funding. Though Temple University (TU) engaged consultants and has appointed a Chief Restructuring Officer to improve operations, adjust the system’s business model and right size operations, efficiencies will be difficult to realize as industry headwinds grow and consolidation in the Philadelphia market further disadvantage TUHS.”

THUS isn’t going anywhere due to the unique socioeconomic profile of its patient base. moody’s notes that It is also anticipated that TUHS will be challenged to grow revenues due to disproportionately high exposure to governmental payers at nearly 75% of gross revenues. Without significant operating improvement, capital spending will be constrained and/or liquidity will likely decline over time. So the rating is maintained at its current level.

The membership of the obligated group reflects the high level of change which has been a constant feature of the Philadelphia health landscape over the last two to three decades. The obligated group consists of Temple University Hospital, Inc.(TUH), TUHS, Jeanes Hospital, the Fox Chase Entities, Temple Health System Transport Team, Inc. and Temple Physicians, Inc. Each member of the obligated group is jointly and severally liable for all obligations issued under or secured by the Loan and Trust Agreement.

Each member of the obligated group has pledged its respective gross receipts as security for the obligated group’s obligations .

PUERTO RICO ECONOMY SLOWS

The Economic Development Bank for Puerto Rico (EDB) published the Economic Activity Index (EAI) for August, which remained above the threshold of 100, indicating expansion, and remained virtually unchanged when compared with July and August 2017.

The EDB-EAI is made up of four indicators: Total Payroll Employment (Establishment Survey/ Thousands of employees). The establishment survey provides employment, hours, and earnings estimates based on payroll records of business establishments in Puerto Rico. Total Electric Power Generation (Millions of kWh). This indicator includes the electric power generation produced by petroleum, natural gas, coal and renewable energy sources. Cement Sales (Millions of 94-pound bags) and Gas Consumption (Millions of gallons) round out the data set. The bank says that the index “is highly correlated to Puerto Rico’s real GNP [gross national product] in both level and annual growth rates,”

Average nonfarm payroll employment for August 2018 was 859,900 employees, an increase of 0.2% over the month of July 2018 and a reduction of 2% when compared with August 2017. The preliminary estimate for gasoline consumption in August was 75.7 million gallons, or 9.2% less than in July and a 4.9% reduction from August 2017. Power generation was of 1.52 billion kWh in August, or 2.2% less than in July and 10.9% less than in August last year.

SANCTUARY CITIES

With all of the attention on the immigration front focused on family separations and the “caravans” moving toward the border, the ongoing issue of sanctuary cities and the Administration’s effort to thwart their goals can recede into the background. A federal court has ruled against the Trump administration in a lawsuit over funding for the cities of Seattle and Portland, the two plaintiffs named in the lawsuit.

The decision found that part of President Trump’s executive order to end federal grant funding for sanctuary cities is unconstitutional. Seattle filed its lawsuit in March 2017 seeking to clarify Trump’s executive order. The order gave the Justice Department and Department of Homeland Security the power to withhold federal grants to cities that did not comply with federal immigration law.

“Because Section 9(a) of Executive Order 13,768 directs Executive Branch administrative agencies to withhold funding that Congress has not tied to compliance with 8 U.S.C. § 1373, it would be unconstitutional for Executive Branch agencies to withhold appropriated funds from plaintiffs Cities of Seattle and Portland pursuant to Section 9(a) of the Executive Order.”