Joseph Krist

Publisher

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LAST DE BLASIO BUDGET

After his end of the world as we know it budget proposal in January, Mayor deBlasio finds himself effectively flush with cash. Now, with about $15 billion in aid now coming from the feds, increased projected tax revenue and a new state budget that significantly increased education funding to the city, the mayor’s new executive budget reflects a completely different view of the world. As a result, the Mayor looks to increase current expense levels by some $10 billion or 10% over the current fiscal year budget.

There are a couple of dangers with this approach. Much of the new spending on education in the city will go toward making pre-kindergarten for all 3-year olds available by 2023. The projected cost for that is $377 million in the coming year, and it will be paid for through federal stimulus money. Beyond 2023, city officials project it will be paid for through projected increases in revenue that are, at least in part, contingent on the city’s post-pandemic economic recovery. This means that one time monies are being used to fund a significant increase in recurring expenditures.

Another is that the cash windfall appears to be largely directed at operating expenses at a time when one time revenues could probably be useful to address the City’s huge unfunded capital requirements. We acknowledge that $1 billion of unanticipated funding for the City’s pension funds is good. But the budget does not address some important issues. The City faces huge capital funding demands – transit funding, the $40 billion and climbing cost of repairs to NYCHA facilities, aging NYC Board of Education physical plant which could be partially addressed through the use of non-operating monies.

Housing was one sector where government spending could help but not much policy was forthcoming.  There is also a clear move to fund what could charitably called make work jobs. Street tidying and graffiti removal is worthwhile but does not exactly create a long term path to economic success.

NUCLEAR HANGS IN AS PART OF THE ASSET MIX

While one source of legacy electric generation is in its inexorable fade, another is strangely benefitting. Nuclear power was once reviled as an environmental threat and for many that continues to be the case. Nuclear generators however, have managed to emphasize the carbon free aspect of nuclear generation in their efforts to keep what many consider to be uneconomical generating facilities in operation.

The effort to do so has involved some good old fashioned lobbying. Whether it’s the impact a plant closing would have on employment and economic activity, the impact on local government budgets, or school enrollments and aid the industry has not been bashful in its effort to stir fear driven support for financial subsidies for nuclear plants. The politicking has been intense and at the center of criminal activity in two states.

The effort by Commonwealth Edison to obtain subsidies is credited with leading to the resignation of the long time Speaker of the Illinois House. In Ohio, it led to criminal charges against the Speaker of the House. That ultimately led to the repeal of legislation which would have generated some $1 billion from ratepayers to offset operating losses at first Energy nuclear generators.

New York was at the head of the pack of states offering such subsidies. It continues its subsidies. New Jersey was the latest to debate such subsidies. An existing program was scheduled to sunset this year which generates some $300 million in operating subsidies. When the program was implemented, the Board of Public Utilities’ five commissioners only had the ability to award the full $300 million per year or deny the applications in full.  For this round, the plant owners threatened to close the plants if the subsidy levels were not maintained. The State relented.

The State’s plans to get to zero emissions are more reliant than is the case for many states in that the State’s residents and businesses rely on nuclear for approximately 40% of their electricity needs.

In Illinois, the Governor has proposed legislation which would provide subsidies to operating nuclear generating plants for a “short term” as the effort to decarbonize unfolds. The proposal would provide a modest level of subsidy over 5 years. The plan is designed to address environmental concerns as well as the concerns of workers at the generation plants. It highlights the sometimes clashing concerns which pit the environment against workers. In Illinois, employment at the two plants which are the subject of subsidies approximates 1,500.

And as the debate in New Jersey moves forward, the Indian Point nuclear plant outside of NYC closed as we went to press.

ANOTHER STUDENT HOUSING BUYOUT

A planned bond issue will kill a couple of birds with one stone when sold by the Trustees of the University of Wyoming. In this case, a private developer built housing in 2011 for sophomores and above on land leased from the University of Wyoming in Laramie. It is a structure common to private or privatized student housing deals.

In the Wyoming deal, the Trustees will issue debt and use the proceeds to purchase the facility and effectively incorporate it into its overall housing system at the University. The structure of the deal results in a significant extension of final maturity related to this project (out an additional 12 years) but it also relies on a revenue stream not project specific. In the case of this credit, ultimately the security rests on a pledge that revenues from the leasing royalties collected on the extraction of minerals on federal land are directed to designated bonds from state agencies. This is one such issue.

So it is a chance to see if the recent changes in the economy overall in terms of oil and gas demand are a concern to investors. The pledged payments come from already leased land. The moratorium on leases only covers new leases. That is why the industry “stockpiled” lease requests in 2020 especially under the Trump administration. The University gets 6.75% of annual pledged revenues under statutory formula. The State Supreme Court has ruled that any change in the statutory formula which impairs debt repayment cannot be valid.

GREEN BONDS FOR DIESEL?

The State of Louisiana has tentatively allocated some $200 million of private activity bond cap for a project to generate diesel fuel from wood waste. The resulting product would be mixed with traditional diesel to generate lower outputs of emissions. The State is characterizing the project as one being financed with green bonds. It looks like a good transaction to use as a test of what green really means in the municipal bond market.

Situated on a 171-acre site at the Port of Columbia, the plant would produce up to 32 million gallons of renewable fuel annually through established refinery processes with wood waste as the feedstock. The use of the wood waste derived from forestry operations may or may not be green and there are real questions about how the production of a product to extend the use of diesel and how that fits into the green bond bucket.

This is the sort of dilemma which the industry struggles with. We don’t currently have universally accepted standards for what is green. There is no objective quantitative standard for measuring what is green in the municipal market. The National Federation Of Municipal Analysts is working on the development of green standards. Currently, ESG buyers of municipal bonds must rely on their own criteria as well as the range of numerous sources of criteria. There are over half a dozen potential criteria sets in addition to those issuers who have developed their own standards.

MANAGING THE ENVIRONMENT

The complexity of the issue of climate change manifests itself in many ways. Like the weather, the impacts of climate can be extreme and wildly variant even across short periods of time. One set of conditions today can present many complex challenges which may resolve themselves or be replaced by a whole new set of concerns. Often, contradictory concerns result making decisions and commitments made in one circumstance seem unnecessary or an overreaction.

Four years ago at this time, the Oroville Dam in California was in the news as the potential source of a devastating flood. Heavy rains had led to significant runoff into Oroville Lake raising the level of the lake such that it nearly overwhelmed the dam. Water releases were damaging diversion spill ways and there were real concerns about downstream flooding and property destruction.

Flash forward to today and the situation is completely different. Now the issue is drought. Water levels at Lake Oroville have dropped to 42% of its capacity. That reflects the realities of the second  dry winter   in a row. The situation reflects the difficulty in dealing with shorter term fluctuations in environmental realities with typically long lived physical responses. Four years ago, people wondered why the height of the dam was not raised. Now that question would seem misplaced at best.

SOUTH CAROLINA PUBLIC SERVICE AUTHORITY

NextEra Energy has withdrawn its offer to purchase Santee Cooper  from the State of South Carolina. NextEra Energy terminated its transaction agreement with South Carolina and asked the state to return the $25 million deposit it made when offering to buy Santee Cooper.  NextEra had been identified by the State as the preferred buyer of the utility.

The decision by NextEra to withdraw its agreement likely will result in the maintenance of Santee Cooper’s status as a public entity. If not sold, the utility is expected to face greater oversight by the State and limitations on its rights to enter into power purchase agreements and incur debt. At present, the two legislative houses are at loggerheads. The Senate is against a sale of Santee Cooper while the House seems supportive of a sale.

The move by NextEra to terminate its agreement will disappoint bondholders who invested based on the notion that the utility would be sold and the bonds taken out from proceeds of the sale.  Now in the absence of a sale, the Senate adopted a reform plan which proposes giving the Office of Regulatory Staff, which represents the public’s interest in utility rate cases, oversight of rates and allowing an appeal of those rates to be made to the state Supreme Court. The Public Service Commission, which regulates utilities’ rates on customers, would have to approve Santee Cooper’s long-term energy generation plans.

One of the hallmarks of municipal utility credits is the lack of outside oversight which would interfere in the utility’s power to raise rates as needed. The need for Santee Cooper to get approval for increased rates has to be viewed as credit negative.

MICHIGAN AND NEXT GEN AUTOS

So much is made of the potential for disruption as the US economy slowly shifts towards renewable energy and decarbonization. The fear has been that as demand for traditional sources of transportation and energy recedes, that those working in those industries will suffer economically. That may be true especially in areas which base their economies on resource extraction. 

In industries based on the production of products, the outlook is much more mixed. We have noted several recent announcements by legacy automakers that they will be able to covert production facilities to the production of electric vehicles. We recently noted the expansion of electric vehicles and related products in Tennessee. Now we see additional examples in communities more traditionally associated with auto manufacturing.

Ford Motor Co. said it plans to accelerate battery development by devoting a team of 150 people to a new “Ford Ion Park,” described by the automaker as a $185 million project focused on technology research — “including the future of battery manufacturing.” The 200,000-square-foot lab will be located in southeast Michigan and will open in late 2022 although Ford did not specify a location nor how many new jobs might be created. Ford also announced Tuesday it is putting a battery and benchmarking lab in Allen Park.

It is becoming clear that electric vehicles are not driving significant relocations of manufacturing operations. Existing plant is being retooled and many of the new battery manufacturing plants are best located adjacent to vehicle production facilities.

THE PANDEMIC AND ENDOWMENTS

The National Association of College and University Business Officers (NACUBO)  has released the results of a survey of endowments at some 700 higher education institutions. They represent a combined $637.7 billion in endowment assets.  College endowment returns averaged 1.8% in fiscal year 2020. The average rate of return was considerably lower than last year’s 5.3 % and falls sharply below the historical target rate of 7.5%. It was the lowest average annual return since 2016. 

Surveyed institutions spent a collective $23.3 billion from their endowments during fiscal year 2020. Seven in 10 institutions increased their spending last year, with an average spending increase of $3.3 million over the previous year. The largest chunk of endowment spending — 48% — paid for financial aid to students. Another 17% funded academics, which includes teaching, tutoring and related support.

The results come at a turbulent time for endowment investment managers. The numbers tell you that returns continue to trend lower. The lower returns come at a time of increasing pressure for universities to divest from certain industries (primarily fossil fuels) while maintaining the resource base endowments provide.

NACUBO also asked institutions about environmental, social and governance, or ESG, policies. Only 19% of institutions said they believe responsible investing can deliver performance that is better than average market returns.

CAP AND TRADE GETS ANOTHER SPIN

The State of Washington has enacted legislation establishing a “cap and trade” system in order to reduce greenhouse emissions. The law is the culmination of an over ten year long effort to establish such a system. California is the only other state with its own cap and trade system. Legislative failures in WA were accompanied by two failed ballot initiative efforts. Now with the state aiming to reduce emissions by legislative actions.

The revenue raised will go toward renewable energy projects, reducing emissions from buildings and transportation, and adapting to the effects of climate change — such as supporting the relocation of tribes as the sea rises. In an unusual move, the bill also establishes a regulatory program to reduce air pollution in areas where people are breathing particularly unhealthy air.

The basis of the bill is the goal of reducing emissions by 95% by 2045. That is more ambitious than California’s goal. The fact that many interest groups could point to actual revenue allocations in the bill generated a more favorable climate for support. The bill checks off environmental justice and economic issues which generated diverse support for the bill.

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