Joseph Krist

Publisher

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STIMULUS CARWRECK

The collapse of Congressional negotiations over a next stimulus package is a short term disaster. Obviously, cash strapped state governments need exactly that – cash. The actions announced by the President are in many ways useless towards addressing the major concerns of state and local government. Worse, they show how damaging it is to have a President who cannot or will not learn enough to make intelligent decisions.

Take the unemployment benefit issue. The President “orders” a $400 benefit but asks the states to cover one-quarter of that. That’s in large part because the President is ignorant of the fact that the National Conference of State Legislatures has data that shows that California, Hawaii, Illinois, Kentucky, Massachusetts, Minnesota, New York, Ohio, Texas, and West Virginia have borrowed from the federal government because their respective unemployment benefits trust funds are exhausted.

That is to be expected as these funds often need replenishment during deep recessions. So it is unsurprising that those 10 states and the U.S. Virgin Island have collectively already borrowed $19.79 billion through Aug. 7. The fact that these states have already borrowed and that an additional eight states have prepared requests to borrow shows how useless the President’s idea of having states fund 25% of the proposed unemployment enhancement is. The Governor of New York is right to call the plan something akin to throwing a drowning man an anchor.

HOW’S THAT REOPENING WORKING OUT?

We don’t necessarily link these things to specific credit issues but, they serve as an indicator of what the environment supporting municipal credit generally is looking like. Obviously, the economic outlook is key. Only when it is clear as to the state of the pandemic and the economy which can be sustained under those conditions can one make valid judgments about particular credits. For now, it is a macro issue.

So let’s take a look out over the horizon as we assess the credit environment. One month after reopening, Walt Disney World is reducing its hours of operation beginning on Sept. 8, the day after Labor Day. Hours will be reduced by one to two hours per day, depending on the park. Disney reported an approximately $3.5 billion adverse impact on operating income at its Parks, Experiences and Products segment (theme parks, retail stores, and suspended cruise ship sailings) due to revenue lost as a result of the closures of those operations. 

In Georgia, one school district reopened without masks or distancing. One week in and the schools were closed for two days for cleansing and some 900 students and faculty at the schools are in quarantine. That does not bode well for similar efforts. The large metropolitan school systems are either holding class on line or are holding classes in hybrid form between in person and on line.

Rhode Island Schools were set to reopen on Aug. 31 but the new reopening date will now be Sept. 14. The final announcement of whether it’s safe for districts to reopen in person is expected the week of Aug. 31, rather than Aug. 17. The governor is on record as wanting to monitor data closer to the first day on Sept. 14 while giving school leaders more time to prepare. 

In what may be the most culturally significant action, the PAC 12 and the Big Ten have postponed their football seasons until 2021. The NCAA announced that it “cannot now, at this point, have fall NCAA championships because there’s not enough schools participating.” There was a heavy lobbying effort against such a move. It has real significance given the role of football programs as revenue producers for the schools directly. They are also huge drivers of associated economic activity. Some stadiums become among the five largest populated areas in some states on football Saturdays.

This is about operating within a realm of realism and information or operating in a delusional state.

DEBT RESTRUCTURING

The fact that municipal bond interest rates are at historic lows has created a good opportunity for troubled credits to take advantage of the rate environment to restructure debt. Last week we discussed the use of debt to relieve short term budget pressure. This week, true restructurings were back in the news.

The perennially troubled U.S. Virgin Islands will consider a plan to refinance some $1.1 billion of matching fund debt which is secured by revenues generated through the rum industry. U.S. Virgin Islands Gov. Albert Bryan Jr. announced a plan to create a special purpose vehicle that would receive the rum cover-over payments on U.S. rum sales that currently support the bonds. The new special purpose vehicle should allow the new bonds to pay at around 3.5% rather than the 6% that the current bonds are paying according to the plan. The Governor’s plan assumes that the lower borrowing costs will generate funds not needed for debt service to be applied  to pay off some of the unfunded liability of the Government Employees Retirement System (the government pension).

The City of Harvey, Illinois has been in default on $4.5 million in defaulted debt service that was due in December 2018, June and December 2019 and June 2020 on the $31 million 2007 issue. Bondholders sued to enforce payment of the bonds. The result of the proceedings has been a consent decree requiring  the county tax collector to remit 10% of all ad valorem property tax collections collected in connection with the general corporate levy directly to an escrow agent that manages a tax escrow account for bondholders. The other 90% will be transferred  directly to the city.

The agreement extends until June 2, 2022 as long as the city honors terms of the agreement that call for it to continue negotiations and move towards a debt restructuring. The agreement is not a guaranty that a resolution to the City’s debt situation will occur. Previously, Chicago sued Harvey the city fell in the arrears on payments for Chicago-treated water from Lake Michigan. The two cities agreed to a consent decree in 2015, but Harvey violated it and the court stripped Harvey of control over its water operations in 2017. The City is back in court in an effort to take back control of its water system with the proposed refinancing serving as a vehicle to pay back the City of Chicago. In 2018, Harvey  settled litigation with its public safety pension funds that sought to garnish tax revenues to make up for overdue contributions. Harvey remains in negotiation to resolve a dispute over some of its contributions still in arrears.

NEW JERSEY BORROWING PLAN

The New Jersey COVID-19 Emergency Bond Act authorizes as much as $9.9 billion of state borrowing either through the issuance of general obligation bonds with up to 35-year maturities or short-term debt through the U.S. Federal Reserve’s Municipal Liquidity Facility program. The law was challenged by the state’s Republican Party which sued to have the law declared unconstitutional. This week, The New Jersey Supreme Court unanimously ruled that the law meets the state’s constitutional provisions regarding borrowing.

The bill permits the state to borrow up to $2.7 billion by the end of the extended 2020 fiscal year on Sept. 30, and $7.2 billion for the shortened 2021 budget cycle from Oct. 1 through June 30. The decision limits the borrowing to the amount authorized. The plan is designed to fund the state in the face of a revenue shortfall estimated in May to be $10 billion. The decision is not the final step in the process which will require the Legislature to agree on estimates of revenue which will dictate the amount which will actually need to be borrowed.

The action comes as the Federal Reserve announced that it was lowering the cost of borrowing under the Municipal Liquidity Facility. While the State of Illinois has been the only borrower under the program to date, it would not be surprising to see additional states and other municipalities consider short term borrowing. The debate which played out in New Jersey could be repeated in other states if the economic recovery stalls or falters. Much will depend on whether or not Congress can legislate another aid package that includes direct assistance to state and local government. If it does not, it simply is not reasonable to take the position that the State can cut its way out of a $10 billion revenue loss.

AUTONOMOUS VEHICLES

Before the pandemic and its potentially transformative impact on work, much debate was underway over the future of urban transportation. There has been much discussion over technology and the role of government in the development of infrastructure for things like autonomous vehicles. The potential political, financial, and fiscal implications of the choices made over the next decade are enormous.

So we find very interesting the recent comments on autonomous vehicles from AAA. The AAA automotive researchers found that over the course of 4,000 miles of real-world driving, vehicles equipped with active driving assistance systems experienced some type of issue every 8 miles, on average. Researchers noted instances of trouble with the systems keeping the vehicles tested in their lane and coming too close to other vehicles or guardrails. AAA also found that active driving assistance systems, those that combine vehicle acceleration with braking and steering, often disengage with little notice – almost instantly handing control back to the driver. A dangerous scenario if a driver has become disengaged from the driving task or has become too dependent on the system.

The results will not assuage fears held by those who are reasonably wary of dependence on technology. AAA’s 2020 automated vehicle survey found that only one in ten drivers (12%) would trust riding in a self-driving car. On public roadways, nearly three-quarters (73%) of errors involved instances of lane departure or erratic lane position. While AAA’s closed-course testing found that the systems performed mostly as expected, they were particularly challenged when approaching a simulated disabled vehicle. When encountering this test scenario, in aggregate, a collision occurred 66% of the time and the average impact speed was 25 mph.

At the same time as the AAA comments were being released, a new 34-page research brief was issued by the Massachusetts Institute of Technology. It said that “analysis of the best available data” suggests that the “reshaping of mobility” around automation will take more than a decade. “We expect that fully automated driving will be restricted to limited geographic regions and climates for at least the next decade and that increasingly automated mobility systems will thrive in subsequent decades,” the report said; with winter climates and rural areas experiencing still longer transitions.

As a result, the MIT researchers concluded that AVs should be thought of as one element in a “mobility mix” and as a potential feeder for public transit rather than a replacement for it. They acknowledge that unintended consequences such as increased traffic congestion could result from the use of these vehicles. Examples cited of projects being undertaken to “encourage” AV development are mainly centered around data collection about traffic and demand patterns. We still do not see evidence that the thornier issues surrounding AV technology especially their vulnerability to bad weather are moving forward quickly enough to justify the kind of investment by municipalities sought by the industry to facilitate its rise.

The report highlights the fluidity of the environment in which the transportation debate occurs. We have always believed that technologic change would evolve gradually and that there was no clear path forward. This would support a cautious approach to financing and funding decisions by municipalities as the autonomous or vehicle sector develops. It is simply not prudent for municipalities to make the kinds of substantial investments which futurist technology proponents wish to be made. It is clear that autonomous transportation technology remains at an early stage, with development, acceptance, and widespread utilization still many years away.

PRIVATIZED STUDENT HOUSING AND THE PANDEMIC

“While the CDC may be of the belief that student housing reducing density in student housing may lower the possibility of infection, we do not believe that requires a reduction in the number of roommates that would typically be permitted in the student housing or the number of students that can be housed in a given building.”  Well that is one way for a private operator to react. It of course ignores the realities facing college administrators and the realistic fears of many students and parents.

It also highlights the double edged sword reflected in efforts to include limits on liability in the next stimulus package. For business (and that includes entities like colleges), liability protection is a big concern. For entities like student housing operators, such protection could be the difference between financial viability and bankruptcy. For students and their families, a press to return generated by these operators could perversely lead to widespread lack of demand.

Private operators have at least initially taken an aggressive approach as reflected by the opening quote.  The comments on reopening and distancing have often been accompanied by implied threats of legal action to force occupancy at these facilities. It highlights once again the unique position in which many privatized student housing projects exist.

While often located on land leased from the campuses these facilities are meant to serve, they nonetheless are not university owned. Universities often incorporate these facilities into a portfolio of housing choices available to students. What they do not do is guarantee occupancy or revenues to these project financings.  Privatized student housing deals are risk shifting transactions designed to move the risk of these projects off of university balance sheets, first and foremost. If they were “guaranteed” by the colleges than their main objective would not be met.  The risk would still be on the school’s balance sheet.

So far, when we have seen responses from private sponsors to potential limitations on occupancy and actual on campus attendance they are adversarial. Threats of litigation against colleges by these sponsors may ultimately not be realistic. The point for investors is short of an occupancy guarantee from a college clearly spelled out, these facilities are true stand alone project financings.

CONSTRUCTION DURING THE PANDEMIC

During the initial phase of lockdowns, activity on construction sites ground to a halt. It was one of the first sectors to look to reopen as the pandemic unfolded. There has not been a lot of data regarding the impact of the pandemic on building activity until recently. The New York City Independent Budget Office (IBO) has released some research on construction activity during the second and third quarters of 2020 in New York.

Guidelines first issued by the buildings department restricted construction to affordable housing projects, hospitals and health care facilities, utilities, public housing, schools, homeless shelters, and a broad category titled “approved work.” Even when a site was designated as essential, that did not necessarily mean all work on the project could proceed. As of early June, more than two-thirds of essential sites included components that were required to remain idle during the pause. Conversely, all work was permitted to continue at only 32% of the sites.

This “approved work” fell into different subcategories. Emergency construction covered construction that would be unsafe if it was left unfinished, as well as projects deemed necessary for the well-being of building occupants. Work performed by a single worker was allowed since solo work reduces the risk that an infection would spread. The Department of Buildings also approved work on sites that house, or will eventually house, a business allowed to operate under the shutdown restrictions.

Despite the restrictions, The Department of Buildings issued a total of 4,376 stop work orders and violations during the shutdown period. That is roughly half the number of violations issued by the buildings department during the same period last year, although there was an average of just 6,000 active constructions sites during the pause compared with 35,000 before the pause.

CARES ACT SPENDING COMPLICATES PATH FORWARD

In light of the crushing failure by the Administration and Congress to find a way to move an additional spending package, attention is being focused on how money distributed by the federal government to the states is being spent by the states. Opponents of large scale aid to states and municipalities (largely centered on the Republican side) cite the potential for “bailing out” poorly run blue states. So it is more than ironic that spending by three of the reddest states is at the center of a debate over how the money is being spent.

The debate focuses on what the money is being spent on as well as the potential political/policy implications of some of that spending. The CARES Act says state and local governments must use relief money to cover “necessary expenditures” incurred because of the pandemic. It says governments can’t use the money to cover costs they’ve already budgeted for, and must spend the money on costs incurred between March and December 2020. That has caused questioning if not criticism of how those monies are being spent.

Idaho’s governor  is inviting counties and cities to apply for grants — paid for with federal money — to help cover their public safety budgets. Localities that take the money must agree to keep property taxes constant next year and pass on money they would have spent on payroll this year to taxpayers as a property tax credit. Comments by supporters blow the cover away from any pretense that the program has no political motivation. “Meaningful property tax relief has been the acute focus of lawmakers for several years now,” the House Speaker said in a statement.

County prosecutors are worried their clients will be held responsible for returning misspent funds.

South Dakota officials have spent $4.7 million of the state’s nearly $1.3 billion in aid paying highway patrol officers, according to the state Bureau of Finance and Management. The state is now trying to get permission to use federal aid to cover payroll costs for other public safety positions, such as corrections officers. $45.6 million — has gone to paying unemployment benefits. But the Department of Public Safety has received more funding than any other state agency besides the Department of Health and the Board of Regents.

In West Virginia, the state has admitted that it has received more aid than it knew what to do with in terms of corona virus related expenses. “We got down to a point in time where we had $100 million and we didn’t have a bucket for it,” according to the Governor. “And we could have done one of two things. We could have just sent it back to the federal government, or try to find a way that we could use it within West Virginia and use it for our people.” The state’s legal advisor noted “a cautious approach should be taken before deciding whether to allocate [federal relief] funds to any particular project due to there being no specific mention of road or highways repairs in the list of eligible expenses set forth in Treasury’s guidance.” 

So here we have three states being run from an ideological perspective – not “poorly run blue states” – effectively making the case against additional relief merely by their actions. And the Treasury is facilitating it for states where their governors are being viewed as supportive of the President. All it is doing is helping these Governors achieve political ends which have nothing to do with the pandemic (property tax relief) at the expense of the state and local government sector as a whole. In the meantime, states and cities have been hung out to dry as they cope with the frontline costs of the pandemic without the financial support needed to fund the tasks which the Administration has effectively downloaded to them.

PANDEMIC CASUALTIES

There has been much focus on the impact of the pandemic and economic activity on credits dependent upon economic activity. One sector which has shown signs of weakness is the parking revenue space. The impact shows up two ways, The obvious one is that people are not driving to downtown areas and utilizing paid parking facilities. It has already led to downgrades in this space.

The second less obvious impact has been on the revenue from fines associated with parking. New York City offers a case study. In the weeks before the pause in March, the city issued an average of about 51,600 parking and school zone speeding summonses each weekday. In contrast, over the weeks from March 23 through May 31 the average number of weekday (non-holiday) summonses was 26,571, nearly a third fewer than during the same period last year when the daily average was about 38,400.

Seventy-seven percent of all violations issued this year from March 23 through May 31 were for speed camera violations. Only slightly under 4,600 weekday violations were manually issued. During the same period in 2019, only 13.4 percent of weekday violations issued were due to speed cameras.

Over March through May 2019, 2.8 million parking summonses were issued, for a total liability of $205.4 million. From March through May 2020, 2.2 million summonses were written for a total liability of $138.3 million—a decrease of 38%  in fines assessed from the same period in the prior year. Much of the decline in revenue is attributable to the suspension of street cleaning for all but one week from March 18 through May 31. With street cleaning suspended there was no ticketing for violations of alternate side of the street parking.

Based on past trends, the New York City Independent Budget Office (IBO)  estimates that street cleaning suspension alone reduced the total number of summonses issued by approximately 400,000 during this period, which would have generated about $21.6 million in fines.

This validates some trends observed nationwide. With the decline in the number of cars on the road, speeding was significantly increased. Parking was down all across the country. The fines and fees associated with traffic and parking violations are key components of many local budgets. The loss of these revenues has a real impact on smaller communities.

ILLINOIS DEBT CHALLENGE REVIVED

A state appeals court has allowed an activist investor to continue his legal challenge to the payment of debt service on bonds still outstanding from a $10 billion pension issue in 2003 and a $6 billion payment backlog financing issue in 2017. The plaintiff, activist John Tillman, has challenged outstanding debt from the two prior issues, asserting that they ran afoul of state constitutional constraints  of reversed a lower court’s dismissal of the case which was based on the view that the suit was frivolous and based on politic rather than legalities. The appellate court ruled that the suit could proceed at the district level.

The appeals court decision implies nothing about the legal issues raised by the suit. The ruling case simply establishes that the plaintiff should effectively “have their day in court”. Most observers believe that ultimate success by the plaintiff is unlikely but a definitive ruling against the suit would have removed all uncertainty. The state’s fiscal year 2021 (ending June 30, 2021) general fund budget includes the potential issuance of about $1.3 billion in additional backlog bonds. Whether they can be issued while the case is pending is another story. It will become a more important issue if the constitutional amendment to change the state income tax on the upcoming November ballot is not approved.

Right now all of the legal maneuverings have focused on the issue of the right to bring the suit. The law requires a petition phase prior to filing an action against officers of the state government to limit frivolous suits by taxpayers. The legal proceedings so far have related to the petition phase. There  have been no hearings on the  merits of the case.

BRIGHTLINE LOSES VIRGIN

The never ending saga of the high speed rail line in eastern Florida continues to take twists and turns. In its latest iteration, the Virgin Trains USA Florida LLC (referred to herein as “Brightline”), is the borrower pursuant to the Series 2019A and 2019B Florida Development Finance Corporation Surface Transportation Facility Revenue Bonds (Virgin Trains USA Passenger Rail Project).  Brightline is majority owned by Fortress Investment Group and that parent has announced that it will no longer use the Virgin brand following the termination of its licensing agreement with Virgin Enterprises Limited.

The move follows on the news of major financial difficulties at Virgin’s Australian airline operations which have gone into administration in Australia and into Chapter 11 in the U.S. These distractions follow on Virgin’s less than successful rail operations in the United Kingdom. The railroad will be rebranded as the Brightline. It shouldn’t be hard as the paint was barely dry on the rebranded logos on the trains when service was halted in late March.

Restrictions on social and economic activities remain in effect in South Florida through at least August 13th. Through March 25, the railroad carried a total of 271,778 passengers and recognized $6.6 million of total revenues in 2020. The project is undertaking agreements to expand its revenue base. These include an agreement to build a station on site in Disney World and to reach an agreement with Miami-Dade County for the use of its right of way for commuter service. Such an agreement could provide a steady stream of revenue to Brightline.

It is not a surprise that the affiliation with Virgin USA was not a fruitful one although its dissolution in such a short period of time was. It was always questionable as to wh3ther the Virgin affiliation was more of a marketing or packaging ploy. Its British rail affiliates lost their right to operate long distance trains in Britain after many complaints around the level of service provided. It was not clear what particular expertise Virgin would bring to the actual operation of the railroad. It certainly is not clear as to when economic conditions will return to levels able to sustain the project. So if demand is artificially depressed, it may not matter what the train is called.

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