Joseph Krist

Publisher

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Given how much we have commented on the subject of cyber security, it was nice to see the municipal analyst community finally come around and take a stand on cyber security disclosure. The National Federation of Municipal Analysts has released a white paper presenting its proposals for better cyber security disclosure  in the municipal bond market. The proposals essentially echo our calls for more disclosure. They provide a variety of options for issuers to choose from in terms of the timing and form of disclosure. Our choice in terms of the Federation’s options regarding proposed vehicles for disclosure would be all of the above.

The municipal market has been lucky that the cyber attacks undertaken against municipal entities have not created more problems than they have. It has allowed the market to lag in terms of its attention to and response to events to date. So, better late than never to the Federation. The real work comes when it is time to insist on the disclosure that investors need and it becomes enough of an issue to influence pricing.

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INCREASINGLY CLOUDY OUTLOOK

As we went to press, Congress seemed to be temporarily paralyzed as we approached the end of enhanced unemployment benefits. In 2008, the levels of new unemployment claims got up to 800,000 and that was generally determined to be unacceptable. Now Congress is unable at this point after some 40 million new unemployment claims and back to back weeks of 1.5 million. That and we are six months into the pandemic.

It is not a partisan statement to say that the lack of leadership coming from Washington is crippling the ability of the economy to recover. That is just a data based view. The economic data does not lie and the role of certain industries – like the hospitality industry – as a source of potentially rapid reemployment an area of concern. These labor intensive employers can only hire up to a level commensurate with the health regulation environment they operate in.

The recent trends which led to the reimposition of restrictions on the hospitality industry point to a longer less robust economic recovery. This refocuses attention on the fiscal state of governments at the state and local level. It is more crucial than ever that the states, cities, and related public agencies get federal funding help. Especially as there are a growing number of cities across the country with concerning illness rates – Miami, New Orleans, Las Vegas, San Jose, St. Louis, Indianapolis, Minneapolis, Cleveland, Nashville, Pittsburgh, Columbus and Baltimore were specifically cited.

This all comes as the rent delinquency rate is projected to go up as enhanced unemployment benefits run out. This coincides with the end of many programs which effectively stopped or delayed eviction proceedings. According to the National Multifamily Housing Council’s Rent Payment Tracker, 91.3% of renters have made full or partial rent payments for the month of July compared with 93.4% over the same period last year, in large part because of federal relief measures.

Federal moratoriums on evictions and foreclosures are set to expire in July and August. In the end, mass evictions will place incredible pressures on municipalities to provide shelter. There will be political pressure to develop and/or acquire affordable housing if the displacement is as bad as expected.

THE LAYOFFS BEGIN WITH BENEFITS IN DOUBT

The process of laying off employees is beginning to unfold. We’re not talking about people furloughed until businesses reopen. These are real layoffs. Notices of potential layoffs have gone to 36,000 United Airlines employees, 25,000 American Airlines employees and  Delta has seen 20% of its workforce retire rather than risk layoffs. Now layoffs are spreading out to heretofore recession proof industries.

All of the major restaurant chains have announced plans to close hundreds and thousands of locations. That does not begin

The University of Akron board of trustees voted to lay off about a fifth of the university’s unionized work force to balance its budget, including nearly 100 faculty members. Ohio University has had three rounds of layoffs, including more than 50 nonunionized faculty members. The University of Texas at San Antonio laid off 69 instructors, while the University of Michigan, Flint, eliminated more than 40% of the 300 lecturers  it employs.

It comes at a real inflection point. Enhanced unemployment benefits of $600 a month are scheduled to end (as we go to press) on July 31. The whole idea was that across the board curve flattening would have occurred for the pandemic and some sustained recovery would be underway. Instead, the pandemic is raging, lockdowns are being reinstated, and the outlook for the Q3 economy has significantly diminished.

So now the hopes of municipal investors have to be focused on the shape of the next stimulus package. Clearly, it must include direct funding to states. The spread of the virus to mostly red states has significantly altered the outlook for such aid. The only question is how inadequate will it be. That does not include the major public transit systems which face sustained losses of ridership and revenues as economic activity and travel are held back.

SMUD LEADS ON CLIMATE CHANGE

We have argued in the past that municipal utilities are in a unique position in the effort to generate carbon-neutral electricity. Now, the Sacramento Municipal Utility District has announced that it had adopted a climate emergency declaration that commits to working toward an ambitious goal of delivering carbon neutral electricity by 2030. In 2018, SMUD successfully reduced greenhouse gas emissions by 50 percent from 1990 levels.

Its power mix is now 50 % carbon free on average. In January, the California Energy Commission a $7 billion investment to achieve nearly 2,900 megawatts (MW) of new carbon-free resources including 670 MW of wind; 1,500 MW of utility-scale solar, of which, nearly 300 MW will be built in the next 3 years; 180 MW of geothermal; and 560 MW of utility-scale energy storage (batteries).  

It has often been driven by economics rather than ideology, but this is not the first time that SMUD has found itself at the forefront of the power generation debate. In 1989 Sacramento made history by being the first community to shut down a nuclear power plant by public vote. Now, a 160-megawatt solar project on the site of the decommissioned Rancho Seco Nuclear Generation Station is poised to begin operations at the end of this year and SMUD has executed a long term purchase agreement for the output.

THE ROAD TO RECOVERY IN NEW YORK

The Partnership for New York has represented businesses interests and viewpoints for some time. It is always important to remember that whenever they weigh in on government policy issues. So keeping that in mind we reviewed with interest a report issued last week by the Partnership documenting its views of how the City should manage its recovery from the pandemic.

Most business leaders are confident that the city will remain a leading financial and commercial center, but it will be more difficult to attract and retain talent until people trust that the urban environment is healthy, secure and welcoming. Many of Manhattan’s 1.2 million office workers will continue to work remotely through the end of the year or until they know that transit is safe, and that schools and childcare centers are fully functional. The attractions that New Yorkers value most in the city—its cultural, social, and entertainment assets—will remain at least partially shuttered until next year. As many as a third of the 230,000 small businesses that populate neighborhood commercial corridors may never reopen.

The pre-COVID economic environment was positive on a macro level. Yet even the Partnership acknowledges that “despite its great assets and amenities, in 2019 New York City was becoming far less livable for large numbers of low wage workers, seniors and even young professionals. The unintended consequences of strong economic growth and rising real estate values had made the city and surrounding region unaffordable to large numbers of residents and small business owners, creating a divisive political climate and contributing to the deterioration of the social fabric of many communities. COVID-19 exposed and exploited disparities of race, income, education and health care that now demand a reckoning if the city and region are to heal.”

There are other challenges. The number of international visitors to the city is expected to decline by over 5 million in 2020, down more than 40% from 2019, causing an estimated loss of over $8 billion in international tourism spending.  Owners of mixed-use apartment buildings report that rent collection is down 60% from commercial tenants. Residential rent delinquencies are about 10% in market rate apartments and 20-25% in regulated or affordable units, as compared to 15% on average prior to the pandemic.

A survey of employers conducted by the Partnership for New York City indicates that about 10% of workers will return to Manhattan offices this summer and only about 40% by the end of the year. According to one survey conducted in late May, 25% of office employers intend to reduce their footprint in the city by 20% or more, and 16% plan to relocate jobs from New York City to the suburbs or other locations.61 Half of companies surveyed anticipate that only 75% of their workforce will come back to the office full time.

One issue in the report piqued our interest. The Partnership makes some very specific recommendations regarding healthcare in New York City. “While hospitals will always be necessary for addressing high-acuity cases, delivering low-acuity services in community health hubs can make preventative care more accessible and help lower health care costs. Community health hubs with telehealth capacity can play a key role in expanding preventative services such as screening and diagnostics, home-care delivery, physical therapy and nursing services.88 Infusing health care services into schools, supermarkets and pharmacies would provide more access points close to home and encourage New Yorkers to use preventative care services more frequently.”

Here’s the problem. Community based medical care was suggested by the Dinkins administration – thirty years ago. At the time, the idea was derided and often faced opposition from the very businesses interests supported by the Partnership. So what is different now? Is it that many tech based companies would profit from tech based medicine? It’s a bit disingenuous to suggest that community based healthcare is a new idea. It wasn’t rejected by the communities, it was rejected by interests more concerned with lower taxes or tax abatements.

The same can be said for the Partnership’s recommendations for education. Their answers are to much more heavily engage with the private  sector especially technology based companies. These are the same companies that look for tax abatements which weaken resource streams available for things like improved schools. When Amazon was looking for huge tax benefits for its Long Island City project, it would only commit to providing space for schools but not to constructing school facilities. Is that the kind of tech based corporate response being suggested? Are landlords owning emptying corporate based real estate willing to convert existing space to educational uses? Are they willing to equip schools and/or their students with the right technology?

The answer may unfortunately be found in the report’s recommendations for addressing some of these issues. Unfortunately, they center around some tired concepts which emphasize roles for the private sector in ways that would be profitable to them. When it comes to things like how to pay for the programs they suggest, the answers are a little different if not painfully predictable. The message has not changed for over a half century. No new taxes. Yes there are many administrative problems in the provision of services by New York City especially in the areas of education and housing. At the same time, the major issue facing those sectors has historically been funding.

The growth that the Partnership likes to take credit for occurred in spite of the allegedly job and economy killing tax policies in New York State and City. Can anyone argue with a straight face that economic development (at least in terms of monetary value) has been constrained in New York City during the 21st century to date?

Why are we optimistic? After 9/11, the fastest growing residential neighborhood in New York was the area adjacent to the World Trade Center site, an area without significant education infrastructure and a local economy built around an office based economy. The area continued to have appeal even after the flooding from Hurricane Sandy. The social, cultural, and economic attractions of the city will remain and once the issues of safety are addressed, we believe that the past will indeed be prologue and that the City will recover again.

ANOTHER VIEW OF THE NYC FUTURE

At the same time the Partnership was offering its prescriptions for the City’s economic recovery, the NYC Independent Budget Office was releasing its latest outlook for the NYC economy. IBO believes that New York City will lose an estimated 564,200 jobs in 2020, with the biggest losses—197,000 jobs—in the leisure and hospitality industry. In the years 2015-2019, the city averaged job gains of 93,400 annually.

At the same time, this year’s state budget includes provisions allowing imposition of mid-year reductions in state aid for localities and school districts if— as expected—gaps emerge in the state’s financial plan. The budget law sets up three points in the year when the Governor can propose reductions to the adopted budget, which take effect unless the Legislature comes up with equivalent alternative savings. Although the first test point passed with no action taken, the Governor’s budget has already stated that balancing the budget would require a recurring reduction in state aid for localities, which IBO estimates would cut education aid to the city by $2.3 billion.

Collections of business and personal income, sales, real estate-related, and hotel taxes are all expected to decline sharply in 2021 before growth returns in 2022. IBO expects growth in city-funded expenditures to resume in 2022, after remaining essentially at from 2019-2021. IBO estimates a $4.5 billion gap in 2022. This gap could be partially closed through the use of existing reserve funds, $1.25 billion of budgeted reserves and just under $2.1 billion of funds remaining in the Retiree Health Benefit Trust Fund.

GOVERNANCE AND RATINGS

A long running soap opera involving a significant customer of the Metropolitan Water District of Southern California has resulted in the Central Basin Municipal Water District in California being lowered from Baa2 to Ba1 due to governance issues. Moody’s cited the fact that since late 2019, the district’s board has not been able to meet with a proper quorum to govern the district and act on crucial matters to conduct business. This included failure to appoint a general manager, a general counsel, and an informational technology manager for several months, resulting in risks to the district’s supervisory control, water flow management, billing system, payroll system, and computer network.

The district was also not able to address urgent infrastructure repair needs and maintain its capital improvement plan. Most recently, the district was not able to adopt a budget in time for fiscal 2021 that began July 1, 2020 and has not yet imposed a standby charge for the fiscal year. Failure to approve and impose the standby charge by August 10, 2020 would reduce the district’s annual revenue by around $3.3 million and likely result in rate covenant violations of outstanding bonds during fiscal 2021.

Central Basin provides water to millions of residents of nearly two dozen cities across southeast Los Angeles County. It’s management has been the subject of many criticisms and investigations. A law approved in 2016 after an audit a year early found the board approved inappropriate spending and displayed instances of bad management. Board members spent lavishly on meals and travel to conferences, cycled through six general managers in five years, and broke state law by establishing a $2.75 million trust fund with no public disclosure.

Legislation in the state legislature is under consideration (Senate Bill 625) which would put the municipal water district under receivership. It has been a long hard fall for the District which was rated Aaa in 2013. It is not easy to follow the ratings path which District management has chosen over the years. It is likely that the legislation will pass as soon as the state legislature is able to convene and that actions will be taken to arrest the District’s financial and ratings decline.

SANTEE COOPER LITIGATION

A South Carolina state judge approved a $520 million settlement in a customer class-action lawsuit against state-owned utility South Carolina Public Service Authority (Santee Cooper) over increased rates for a failed nuclear construction project. The finalized deal also requires Santee Cooper to freeze electric rates for four years. The utility must also refund $200 million to its ratepayers, including members of South Carolina’s 20 electric cooperatives. 

The settlement is positive in that it does reduce the impact of litigation uncertainty on Santee Cooper. At the same time however, the rate freeze reduces financial flexibility going forward during this most uncertain time. Plaintiff’s attorneys have estimated that the rate freeze will take some $500 million from the utility in the form of foregone revenues.

The settlement will also resolve all of those lingering legal disputes between South Carolina Electric and Gas (SCE&G) and Santee Cooper over their roles as co-owners of the abandoned Sumner nuclear project.  With those issues settled, attention returns to the South Carolina legislature where the future of Santee Cooper is in the balance. It is not clear whether or not he settlement and rate freeze will hamper the ability of the State to sell the utility to a private entity.

So the uncertainty which has plagued this credit since it agreed to participate in the Sumner project will continue. For investors, a sale to a private entity would see the outstanding debt of Santee Cooper fully refunded. Continuance as a revenue limited public entity would force investors to cope with continued uncertainty for an extended period with little upside credit potential.

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