Muni Credit News February 18, 2016

Joseph Krist

Municipal Credit Consultant


The long-awaited release of a draft of the Commonwealth of PR’s FY 2014 financial statements has finally occurred. Before a recitation of the numbers, this language is important. “The Commonwealth is currently experiencing a severe fiscal and liquidity crisis. The Commonwealth and its instrumentalities face a number of fiscal and economic challenges that, either individually or in the aggregate, could adversely affect their ability to pay debt service and other obligations when due. The Commonwealth is currently considering a number of emergency measures that could affect the rights of creditors. Recipients of the Draft should be advised that to the extent that the Commonwealth or any entities related to the Commonwealth are unable to materially improve their financial position in the immediate future, such entities and/or the Commonwealth may need to seek relief under existing or potential future laws regarding receivership, insolvency, reorganization, moratorium and/or similar laws affecting creditors’ rights, to the extent available, and may resort to other emergency measures including nonpayment of debt obligations.”

Nothing new or unexpected in terms of the language or the numbers. The Commonwealth’s net deficit position increased $47.48 billion at June 30, 2013 to $50.06 billion at June 30, 2014, an increase of $2.58 billion. The increase is the result of higher operating expenses than operating revenues and an increase in the Commonwealth liabilities, such as bonds and notes, net pension obligations, legal claims and compensated absences, among others. Approximately 57.39% of Governmental Activities’ revenue (including transfers) came from taxes, while approximately 35.69% resulted from grants and contributions (primarily federal financial assistance). Charges for services represented approximately 3.62% of total revenue. The largest expenses were for general government, education, public housing and welfare, health and public safety. In fiscal year 2014, Governmental Activities’ expenses, which amounted to $20.70 billion were funded by $10.78 billion in general revenues, $7.12 billion in program revenues and transfers of $214 million from Business-Type Activities.

So there it is without a surprise in the lot.


When the PR restructuring saga began, it was clear that the path to resolution would be fraught with many artificial hurdles based on the island’s strained political environment. A tradition of populist policies that resulted in artificially low taxes and charges for services was clearly going to be the largest hurdle. We saw more evidence of that this week when the PR House passed the Puerto Rico Electric Power Authority Revitalization Bill (Senate Bill 1523 ) with 26 votes in favor and 22 against. The bill  must now return to the Senate so senators can concur with the House amendments to the legislation.

The process was as untidy as expected. Two members asked to abstain from the vote because they are PREPA employees. The NPP delegation announced it was going to submit a written explanation of its vote against the bill. Members of the Irrigation & Electrical Workers Union (Utier by its Spanish acronym) protested the bill. Some began to shout their discontent from the House galleys after the bill was passed. The bill does not guarantee workers rights.

The bill would create a separate corporation, the PREPA Revitalization Corp., that will issue new bonds that will be exchanged for the PREPA bonds that are currently on the market through a new securitization that will also be used to finance the $2.4 billion Aguirre liquefied gas facility. It will restructure PREPA’s board, create a new structure of contribution in lieu of taxes with cities and promote an increase in the utility rates through the Energy Commission. The restructuring will be financed through a so-called transition charge to consumers. As part of the deal, bondholders are expected to accept a 15% haircut on their investment.

PDP Rep. Javier Aponte Dalmau expressed misgivings about the bill and wanted the vote on the bill to be postponed, insisting that bondholders and PREPA should negotiate further cuts to the utility’s $9 billion debt. He believes that the 15% cut was insufficient. He said his vote on the bill was conditioned to the amendments introduced to the bill. “I am proposing language in the bill stating that the 15% cut is the minimum amount in the cut. I don’t want us to limit ourselves…. If that does not happen, then I have to see which amendments are introduced in the bill so I can determine how am I going to vote,” Aponte Dalmau said. The amendment Aponte Dalmau requested, however, was accepted by the majority late Monday and he announced he would vote in favor of the bill.

The action comes on the heels of a PR Senate investigation into irregularities in PREPA’s fuel purchases that officials say cost millions for customers. The legislation calls for a separate office to handle the purchases. For years, it is alleged that authority bought cheap, residual oil that failed to meet federal clean-air standards, and faked tests to make it look like it had passed. Ledgers were falsified too to make it appear as though the authority had actually bought the higher-grade oil, which cost more. The higher price was then passed on to consumers. In the 1990s, the Environmental Protection Agency found that the oil being burned did  contain unacceptable levels of sulfur. If true, the accusations would go beyond errors in judgment and amount to a decades-long fraud.

During her speech in the House opposing the bill, one House member complained that the restructuring support agreement between PREPA and the bondholders was not included in the bill that enables it. “If this bill validates the agreement, why it is not in the bill? She alerted the public to the fact that the wording in the restructuring support agreement (RSA) and the wording of the bill were not the same. The RSA, she said, put consumers on the hook if the corporation or PREPA failed to pay the debt. “It appears that the debt here is not divided among everyone but that the customers are responsible for it together with PREPA,” she said.

An amendment was introduced in the bill that made it clear that PREPA’s clients could not be held liable for the debt. Another amendment introduced by the House made it easier for consumers to challenge the amount in their utility bills. It was then asked of the bill’s sponsor, if the legislation was eliminating customers as “obligors” of the debt. He did not answer the question.

During his speech on the floor, Aponte Dalmau noted that two years ago he had proposed the creation of a separate corporation for PREPA but was called “crazy.” He was referring to a bill he introduced in 2013 that would have replaced PREPA with a new entity, end the utility’s monopoly in the area of power generation and create separate entities to purchase fuel and set consumer power rates. He did so at the time to help make the utility more efficient. The utility ended up paying Alix Partners nearly $30 million to come up with the idea of creating a separate corporation to handle the securitization of PREPA’s bonds. The new corporation will not be able to incur new debt. “This new corporation will securitize the debt but the only project it can finance is the Aguirre one,” he said.


In spite of a very checkered history for such projects being successfully financed in  the muni market, a Maryland community wants to try to tax-exempt finance a conference center/hotel project. These projects are seen by many suburban entities as a way to jumpstart local downtown development. Yet suburbs in New Jersey, Illinois, and Maryland previously have previously seen those projects fail to pan out.

Frederick County, MD lawmakers hope to move through the state General Assembly session as a delegation divided — at least on two issues: a downtown hotel project and a hotel tax. A bill authorizing $19.8 million of Maryland Stadium Authority bond funding to help support a proposed downtown Frederick hotel and conference center project failed to get majority support from the County delegation. The bill was nonetheless introduced in the House of Delegates on Friday. It outlines how Maryland Stadium Authority funding will move forward, if approved by the General Assembly. The bond bill represents the largest piece of public funding for the conference center, which is now projected to cost about $69.8 million.

About $44 million of that cost will be paid by the hotel’s developer, Plamondon Hospitality Partners. The rest would be a combination of city, county and state funding. The budget includes $14.8 million in bond funding from the Stadium Authority, but the bill is written to include a figure the Maryland Stadium Authority believes could be paid back through revenue generated by the project. In July, a Stadium Authority report concluded that the state could leverage up to $17.8 million in bonds that would be paid off, including interest, through the project’s revenue in 20 years. This week, that number was increased to $19.8 million, the figure included in the filed bill.

The bill outlines what would happen if the project fails to be in line with the projected budget if there are cost overruns. Those would be assigned to the city, which intends to pass along such costs and responsibilities to the developer in separate legal agreements. If the project comes in under budget, rebates would be returned to the city and county. The city of Frederick will buy the land for the hotel and conference center, and the city and Stadium Authority would each own half of the leasehold interest for the property.

Income from an increase in the County hotel tax was included as part of a funding plan for the downtown hotel and conference center, but Republican members of the County delegation voted to introduce a bill to cap the tax at its current rate of 3 percent. Those members said it would be unfair to pass a tax on to customers of other hotels to help finance the construction of a competitor. County leaders said the bill interferes with local authority to set the rate, and other revenue increases from a proposed 5 percent rate would have helped fund other tourism programs. The county collected about $1.3 million in hotel taxes last year. An increase to a 5 percent rate would increase revenue to about $2 million.

The proposed hotel and conference center will continue to face obstacles, aside from the General Assembly bill. After the session, a financing plan must be approved by the state Board of Public Works before bonds can be issued, and other legal requirements, like approval from the city’s Historic Preservation Commission, must also be met. County Executive Jan Gardner said county government would also continue to support the project.


From time to time, advocates for direct user financing schemes for highway expansion and development bring up the idea of imposing tolls on many currently untolled sections of the Interstate Highway System. Recent experience has shown that the introduction of tolls on those roads as well as on existing toll roads can be a political minefield. The most recent effort was in Pennsylvania where the tolling of Interstate 80 was proposed. That effort was concurrent with the enactment of a plan to use higher Pennsylvania Turnpike tolls to generate revenues for statewide road expansion.

Now the Congressional Budget Office (CBO) has weighed in on the subject through a recently released report. The report states that ” more widespread charging for the use of roads could increase economic output by giving drivers a financial incentive to switch to other roads and discouraging some travel and reducing congestion. Highly valued freight would thus move more quickly and more reliably, reducing delivery costs for producers as well as inventory costs for retailers, thereby freeing up resources to accommodate additional demand by consumers or allow for additional investment by businesses.

Similarly, shorter commutes could translate to a boost in the supply of labor in the economy by allowing workers to spend more time on the job or encouraging some people to take a job at a more distant location. Charging for the use of roads could allow for more travel overall by reducing congestion, which occurs in many urban areas during peak periods. That counterintuitive effect occurs because user fees, by diverting even a relatively small number of users to other roads or to another time of day on the same road, can cause speeds to rise sharply, increasing the total number of vehicles that can pass through a bottleneck during peak periods.1 In addition, charging drivers would raise revenues, which could be used to make repairs, expand capacity, substantially renovate the Interstate System, or pursue other purposes.”

While they make an excellent argument, it goes awry with the last three words of the excerpt from the report – pursue other purposes. This is where toll proposals go off the rails. Look at the bad reaction to a similar scheme for the PA Turnpike whereby toll revenues for that road were to be raised for other highway purposes throughout the state. It lead to lower usage, more frequent toll increases, higher bond and debt service requirements and an overall degradation of the credit. That is just one example for  tolling opponents to point to.


Standard & Poor’s made nearly twice the number of upgrades as downgrades in United States Public Finance in 2015, the fourth consecutive year and the 13th consecutive quarter that S&P’s upgrades outnumbered its downgrades in the sector. Every subsector except higher education and charter schools saw more upgrades than downgrades. S&P downgraded 69 higher education ratings and upgraded 29 in that group. It downgraded 25 and upgraded nine charter school ratings.

Unsurprisingly, Puerto Rico and other organizations in the commonwealth accounted for more downgrades – 115, including four defaults – and more multiple notch downgrades than any other entity. These were 7% of all of S&P’s U.S. public finance rating changes in the year. The upgrade of California to AA-minus from A-plus in July affected 97 ratings. Improved issuer finances were the primary reason for upgrades outnumbering downgrades. At the same time, S&P’s rated issuers had 12 defaults in 2015, the third highest since 1986.

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.

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