Muni Credit News February 25, 2016

Joseph Krist

Municipal Credit Consultant

HEALTH CREDIT IN THE ERA OF OBAMACARE

The current presidential campaign has highlighted healthcare  as a major issue. Candidates have proposed various schemes ranging from single government payer to completely private schemes. while this all plays out, providers are grappling with how to plan under the existing scheme. Intermountain Healthcare, a nonprofit health system in Salt Lake City, is a major issuer of tax exempt debt. Operating 22 hospitals throughout the American West, it is a major provider in that region. As such, it is at the forefront of many of the current trends in healthcare finance. So it is with interest that we look at IHC’s answer.

It has a new health plan, SelectHealth Share, which guarantees to hold yearly rate increases to one-third to one-half less than what many employers across the country typically face. To help keep the rate increases roughly in line with changes in consumer prices, Intermountain says it will produce savings of $2 billion over the next five years. IHC believes it has established itself as a leading health system by tracking and analyzing costs and the quality of patient care, allowing it to improve treatments and reduce unnecessary expenses.

Intermountain has already saved money by renegotiating the cost of surgical staplers, pitting a cheaper manufacturer against another and saving $235,000 a year. It saved $639,000 a year by ensuring that heart attack patients get into the catheterization lab within 90 minutes of emergency room contact, thereby helping patients recover faster.

Intermountain’s Share program sets the increase at approximately 4 percent — which is seen as particularly attractive to employers because coverage then becomes a predictable expense. IHC said its new effort was not a marketing gimmick. But there are risks for its Aa1/AA+ credit as it experiments. Intermountain, for example, could incur significant losses if it wound up having to spend a lot on caring for patients, which is why few, if any, systems — or insurers — make similar guarantees.

Intermountain is concentrating on its most costly patients, most of whom have complicated chronic conditions like diabetes that also might be accompanied by depression or other problems.  There have been growing pains. A two-year-old clinic created to deal with these sick patients was expected to manage about 1,000 patients, but so far only about 140 are enrolled, many of whom need a daily check-in. Patients are also staying longer — while the ultimate goal is to send someone back to a primary care doctor once stable. Only 19 patients to date have graduated from the clinic and can now see a regular doctor.

Intermountain says it will not have information it can share publicly until this summer. In 2016, the system expects to achieve savings approximately equal to 8 percent of its volume, or about $500 million. It decided it would not keep the savings or wrangle with outside insurers about who gets to pocket the money.“What we’ve decided to do is to give it back to the community in terms of lower rates,” said Dr. Brent James, the executive director for Intermountain’s Institute for Health Care Delivery Research.

Intermountain is taking a somewhat different tact in that it has agreed to care for about a third of its patients for a fixed amount. That puts the risk on IHC if its health care costs rise too much because it did not do enough to keep people healthy or because its treatments were too expensive. It is among the minority of systems ready to do so.

Doctors who are not affiliated with Intermountain who care for patients under the plan must agree to changes like using an electronic medical record and sharing information about their outcomes. Employers must agree to offer coverage that their workers can afford by paying for at least 70 percent of average premiums and funding a savings account with a sizable contribution. Businesses must also choose SelectHealth as their and doctors to take care of patients without worrying about whether they will switch if their health plan changes or skip a needed doctor’s visit because of a high deductible.

PREPAID NATURAL GAS DEALS RETURN

Before the financial crisis in the last decade in the era of high energy prices, many smaller municipal utility consumers of natural gas looked for ways to stabilize their future supplies and prices through transactions with financial institutions and gas suppliers. These transactions effectively allowed the utilities to pre-pay for long term supplies of gas under long-term supply contracts. These complex transactions involved bond issuances, gas supply contracts, interest rate swaps, investment agreements all supplied by a variety of financial intermediaries. When the creditworthiness of some of the financial institutions providing the necessary products declined or even resulted in their financial failure, investors in these transactions saw significant declines in market value of their bonds and even some risk to principal repayment. Hence, they went out of fashion.

Now we are in a new era in the energy and financial markets with restored financial institution balance sheets, a new understanding of the risks inherent in these transactions, and a new cost environment for supplies of natural gas. These factors have joined to renew interest in pre paid gas transactions to enable utilities to lock in lower prices and provide an outlet for potential oversupplies of gas stocks. this is evidenced by at least two transactions proposed for the first quarter in the municipal bond market.

The Lower Alabama Gas District hopes to sell up to $675,000,000 of bonds to finance the prepayment for a 30 year supply of natural gas for sale to municipal gas systems in Alabama and Louisiana. The transaction involves purchases of gas from the commodity trading subsidiary of Goldman Sachs who will guarantee that entity’s financial performance as well as act as underwriter for the District’s bonds. Goldman will also guaranty the performance of the provider of an Investment Agreement for the Debt Service Reserve Fund, the earnings on which along with net revenues from the purchasing utilities will pay off the bonds. The economics of the transaction will also involve commodity swap agreements with a Royal Bank of Canada subsidiary.

The second transaction is a $1,000,000,000 issue from the Black Belt Energy Gas  District to finance the prepayment of a 30 year supply of natural gas for sale to municipal gas systems in Alabama, Tennessee, and Georgia. In this deal, Royal Bank of Canada and its subsidiaries will act a gas supplier, interest rate swap counterparty, liquidity provider, and bond underwriter. The Bonds are paid from the net revenues of the ultimate gas supply customers.

Each of the states in which purchasers of the gas are located have had experience with these kinds of transactions and have been involved in essentially failed transactions. The major risk in these deals stems from their complexity and the multi-faceted roles of the primary financial institution providing the underlying financial performance guarantees of the various participants. A prime example of this is when Lehman Brothers collapsed thereby involving a number of gas prepayment transactions to experience payment interruptions and involvement in its bankruptcy and subsequent unwinding.

So in the end, investors are buying a municipal bond that is on a practical basis bank debt. It is important for individual investors to understand that this is likely where the primary risk is, not the ultimate gas utilities or their customers.  That is why the rating of the primary financial institution participant is the real basis for the rating on the bonds. There still are many moving parts which can result in deal restructuring or early termination so it remains difficult for the individual investor to understand what their bond is worth at any given point in time.

SIFMA RELEASES 2015 MARKET STATS

The following are excerpts from the 2015 SIFMA Municipal Market review. Long-term public municipal issuance volume totaled $76.4 billion in the fourth quarter of 2015, a decline of 11.3 % from the prior quarter ($86.1 billion) and a decline of 23.0 % year-over year (y-o-y) ($86.1 billion). Including private placements1 ($8.4 billion), long term municipal issuance for 4Q’15 was $84.7 billion. Despite the fourth quarter decline, full year issuance was $377.6 billion, an increase of 19.9 % from 2014 and just slightly above 10-year volume averages. According to the SIFMA Municipal Issuance Survey (“Survey”), respondents expect long-term municipal issuance in 2016 to decline slightly to $388.5 billion.

Tax-exempt issuance totaled $67.4 billion in 4Q’15, a decline of 11.2 % q o-q and 24.9 % y-o-y. For the full year, tax-exempt issuance was $338.4 billion, an increase of 19.7 % from the prior year; Survey respondents expect tax-exempt issuance to rise slightly to $347.5 billion. Taxable issuance totaled $5.2 billion in 4Q’15, a decline of 34.1 % q-o-q and 22.8 % y-o-y. For the full year, taxable issuance was $27.8 billion, an increase of 21.2 % from 2014; for 2016, Survey respondents expect taxable issuance to rise slightly to $30.5 billion. AMT issuance was $3.8 billion, an increase of 60.8 % q-o-q and 42.3 % y-o-y. For the full year, issuance was $11.3 billion, 24.0 % above 2014 volumes; Survey respondents expect 2016 volumes to be lower at $10.5 billion. By use of proceeds, general purpose led issuance totals in 4Q’15 ($15.7 billion), followed by primary & secondary education ($14.7 billion), and water & sewer ($8.4 billion).

For the full year, general purpose led issuance totals ($91.2 billion), followed by primary & secondary education ($82.5 billion), and higher education ($36.6 billion). Notable sectors that saw increased q-o-q issuance were solid waste ($152.3 million, an increase of 882.6 %and 468.3 % q-o-q and y-o-y, respectively), airports ($4.1 billion, an increase of 36.3 % and 232.4 % q-o-q and y-o-y respectively), and single-family housing ($2.4 billion, an increase of 3.2 % and 28.4 % q-o-q and y-o-y, respectively). Refunding volumes as a percentage of issuance declined slightly from the prior quarter, with 43.4 % of issuance attributable to refundings compared to 48.9 % in 3Q’15 and 53.1 % in 4Q’14.

According to the Investment Company Institute (ICI), fourth quarter net flow into long-term municipal funds was positive, with $10.8 billion of inflow in 4Q’15 compared to $2.5 billion of outflow from 3Q’15 and $9.6 billion of inflow y-o-y. For the full year, approximately $14.9 billion of inflow was recorded, down from the $28.0 billion of inflow from the prior year. According to Bank of America-Merrill Lynch indices, municipals returned 1.72 %in the fourth quarter of 2015 and 3.55 % in the full year.

FLINT REVERBERATES IN ATLANTIC CITY

Efforts to have the state intervene in a financial restructuring for Atlantic City, ran in to a near term hurdle when the City’s elected officials of this struggling gambling resort calling the state’s plan to take more control of the city fascist and hypocritical. Mayor Donald Guardian urged lawmakers to reject legislation introduced last week in the State Senate, saying it would hand too much power to the state. “We cannot stand here today and accept any bill with the broad, overreaching powers as the one presented to us last week contained,” Mr. Guardian, a Republican, said. “It is unacceptable. The civil rights of our citizens are being trampled on.”

The legislation was introduced by the Democratic president of the Senate and would give the state nearly complete control of Atlantic City’s finances and the power to renegotiate contracts with the police and fire departments. A similar bill was introduced in the Assembly on Monday. Atlantic City officials had drawn up different legislation that they hoped would be introduced soon, though he declined to say who might sponsor it. A key difference in this bill, he said, would be a provision for redirecting more of the taxes collected from casinos to the city.

State officials oppose allowing Atlantic City to make what would be the state’s first municipal bankruptcy filing since the Great Depression. The issue of racism as a factor in the dispute was introduced when the NAACP said the organization would file a civil-rights lawsuit against the state if the takeover proceeded. About 70 percent of Atlantic City residents are black or Hispanic.  The experience of Flint, MI. was cited by one local official as a reason to protest any attempt by state officials to take control of the provider of water in the city, the Municipal Utilities Authority. The authority is one of the few assets the city has to sell to pay off some of its debts, but residents fear that their water bills will rise and that the quality of the water could decline under private ownership.

A spokesman for the Democratic leadership of the Senate, said, “No one has been a better partner or a better advocate for Atlantic City than Senate President Sweeney, but the city has had more than two years to make the types of cutbacks and reforms needed to bring finances into line but has failed to do the job.”

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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