Muni Credit News January 31, 2017

Joseph Krist



Last month, the Trump transition team asked the governors association to collect infrastructure wish lists from the states, with an emphasis on “shovel ready” projects that are far enough along in engineering, approval and even construction to begin using the money quickly, and those that enhance national security and economic competitiveness, especially in manufacturing. The president has expressed a preference for private partnerships. Well a list has emerged and we noticed a few trends.

The National Governors Association has released its Priority List – Emergency and National Security Projects. It includes roads, port facilities, dams, river locks, mass transit, bridges, tunnels, and power facilities among others. Some are traditional publicly financed projects seeking federal assistance under traditional programs. Others are wholly privately funded while others are some form of public private partnership. Of the 50 projects on the list, 11 are federal Army Corps of engineers river lock projects. Two others involve all federal projects.

We note some old favorites on the list. These include New York’s Second Avenue Subway, the Maryland Purple Line P3 (MCN 8/4/16), and the Texas Central Railway (7/21/16). The latter two have had their share of controversy over a variety of issues which have held up progress. Those issues will not easily disappear through inclusion on this list.

Of note are the proposed energy projects whether for generation or transmission. These are generally private projects which would now benefit from any infrastructure tax credits which might be adopted through either tax reform or infrastructure legislation. It does not appear that they were ever anything but private projects. They include wind power in Wyoming, transmission in the Southwest, the Northwest, and in New York State. Water supply and storage projects on the list are all private developments as well although end users can be municipal systems and/or customers.

The projects represent various degrees of technological risk if for no other reason than their scale. Of great interest is a privately developed electricity storage system being undertaken in Southern California. Simply put, the project would be a set of giant batteries which could be used to store power generated by renewable energy generation sources and then used to in place of peaking generating units. These have tended to be older less efficient (and dirtier) generating units which are more readily turned on and off. Advances in this technology would have real implications for the use of renewable generation nationwide.

It would seem on its face natural to assume that there would be a place for the low-cost benefits of municipal bond financing in the overall infrastructure scheme. A number of established municipal bond issuers are participants in these projects. They include the Port Authority of New York and New Jersey, Chicago Transit Authority, the Miami-Dade Expressway Authority, the Port of Seattle, the Saint Louis Airport Commission, the Greater New Orleans Expressway Commission, the MTA, the MBTA, Dallas Area Rapid Transit (DART), Northeast Ohio Regional Sewer District, and Departments of Transportation in Colorado, New Hampshire, Ohio, Kentucky, and Pennsylvania. The diversity of issuers by purpose as well as by location would seem to create a foundation of support for the use of tax exempt bonds going forward.


The Puerto Rico Energy Commission (PREC) ordered the Puerto Rico Electric Power Authority (PREPA) “to use all reasonable efforts to persuade the Promesa Oversight Board to provide the maximum debt-service relief available, demonstrating to that board how the savings will benefit the commonwealth’s economy and consumers.”PREPA has said it will defend the current restructuring agreement negotiated with 70% of the bondholders and which cut the debt by 15% before the board, established by the Puerto Rico Oversight, Management & Economic Stability Act (Promesa), was set up.


“PREPA wants to use Promesa to force all the creditors to accept the 15% cut, but that is not the best alternative. PREC is telling PREPA to use all of its powers under Promesa to get the best deal possible,” he said. The PREC order gave PREPA 120 directives on its operations, which business and renewable energy officials said virtually put the utility “under a trust” and under the complete control of the commission. While the order establishes new rates, they will not be permanent. The first rate-revision case will be in October 2017 to determine revenue requirements as well as start evaluating PREPA’s future budgets.

The order raised the basic electricity rate but resulted in a cut in the provisional rate imposed by PREPA last year. The average basic rate was set permanently at 1.025¢ per kilowatt-hour (kWh) compared with 1.299¢ per kWh for the provisional rate. The reduction of 27.4¢ per kWh is the equivalent of $45 million in savings yearly for consumers and businesses. The basic residential rate is 4.34¢ per kWh while the commercial and industrial rates are between 7.67¢ per kWh and 7.80¢ per kWh but those rates do not include other costs and fuel adjustments.

The commission did not raise the “demand charges” for the industrial sector. PREC also established controls over the utility’s debt, set guidelines for PREPA to be transparent and have clear, well-understood accounting records; ordered a performance probe into the utility; and established a process to periodically revise tariffs, which means the rate the commission set is not going to be permanent.

The order hinders the integration of renewables into the system; does not discuss the issue of private investment to help deal with PREPA’s inability to access markets; and does not give adequate weight to the impact of the tariffs on economic development, promote manufacturing through competitive costs or promote wheeling to force PREPA into providing more competitive costs.

One estimate is that PREPA’s level of debt is the equivalent of 5.6¢ per kWh, or 24.5% of the utility’s total costs after restructuring. For these reasons, the commission ordered PREPA to take “all actions possible” to use the Promesa process for the advantage of PREPA’s customers. “If and when these changes occur, PREPA shall inform the commission of the necessary changes to the revenue requirement. On receiving that information, the commission will determine how and when to adjust the revenue requirement,” PREC said.

According to PREC, the final debt costs to PREPA’s ratepayers will depend on the application of Promesa’s provisions. Under Section 601 of Promesa, if a certain percentage of bondholders choose to participate in a debt-restructuring process, the oversight board can require the remaining bondholders to participate as well. PREPA’s RSA is only with 70% of its creditors and the utility wants to include them all. PREC said that if all creditors participate in the restructuring agreement, some $314 million in debt would move out of PREPA’s fiscal year 2017 revenue requirement and into PREPA’s revitalization corporation revenue requirement, to be recovered through the new transition charge. “Ratepayers would save money because all the debt, rather than only the participating debt, would be subject to the 85% recovery cap, the lower interest rate and the five-year principal holiday called for by the restructuring support agreement.

In its order, PREC did not pass judgment on the performance of PREPA’s Chief Restructuring Officer in the debt-restructuring negotiations because the intervenors in the technical hearings did not present evidence to show she could have obtained a better deal. PREPA has already obtained from most bondholders a 15% reduction in principal, lower interest rates and a five-year deferral of principal. “No intervenor presented evidence that PREPA could have obtained more concessions had it bargained more effectively,” the commission said. “In a political setting, it may be acceptable to complain about costs. In an administrative adjudication, arguments require evidence.”

PREC noted that there has been a reduction in technical staff and the system was very poorly maintained in 2014 and 2015, adding that PREPA’s situation was far more serious than expected. Puerto Rico’s government-run electricity utility and its creditors agreed to extend a restructuring agreement, giving the authority more time to comply with the only deal the island has reached to cut some of its $70 billion debt. PREPA extended a deadline contained in the deal until Feb. 28, creditors said


New York; Oakland, Los Angeles; Minneapolis; San Francisco; and Seattle are all so called sanctuary cities. Other cities like Philadelphia have declared themselves “Fourth Amendment” cities and refuse to support unreasonable searches and seizures and no longer commit their police to federal immigration work. With his executive order on immigration, President Trump has threatened to withhold federal funding from cities which refuse to cooperate with federal immigration enforcement efforts. For many cities with this status, a loss of federal funding could cause real fiscal distress. There is however, real uncertainty about how enforceable this threat is.

On November 20, 2014, an executive order directed Immigration and Customs Enforcement (ICE) to discontinue the Secure Communities program, under which noncitizens arrested by local law enforcement could be detained and eventually transferred to federal custody to process their deportations. In 2014 several federal district courts had found that local police would be liable for civil rights violations if they heeded ICE detainer requests by keeping noncitizens in custody when a citizen in the same situation would be released.

The constitutional problem was that ICE does not obtain judicial warrants before it arrests immigrants for deportation. Nor is there any immediate probable cause finding. In immigration enforcement, warrantless arrests are the norm, and there is no automatic, neutral review of probable cause if the arrested person is held in custody as would be required in a criminal case under the Fourth Amendment. As a result, federal district courts found no legal basis for local police to detain people, even when an ICE officer believed them to be in the country unlawfully.

Cities and counties will rely on this trend of court findings to support their refusal to support ICE detainer requests. They will additionally rely on the June 28, 2012, U.S. Supreme Court decision in the case challenging the constitutionality of the Affordable Care Act (ACA), National Federation of Independent Business (NFIB) v. Sebelius. The Constitution grants Congress certain enumerated powers, and when Congress acts within those power, its laws are supreme. All powers that are not specifically enumerated in the Constitution as belonging to the federal government remain with the states pursuant to the Tenth Amendment. If Congress oversteps by enacting a law (or the President issues an executive order) that exceeds its powers, the Supreme Court has authority to declare the law or order invalid.

In NFIB v. Sebelius, the Roberts plurality found that when conditions on the use of federal funds “take the form of threats to terminate other significant independent grants,” as opposed to governing the use of the funds themselves, Congress has impermissibly pressured states to implement policy changes. In their joint dissent, Justices Scalia, Kennedy, Thomas, and Alito stressed that the “legitimacy of attaching conditions to federal grants to the States depends on the voluntariness of the States’ choice to accept or decline the offered package.”

According to this group, while Congress may encourage states to regulate in a certain manner, Congress may not compel states to do so because political accountability would be threatened. Like the Roberts plurality, the joint dissent notes that Congress is prohibited from directly “‘commandeer[ing] the legislative processes of the States by directly compelling them to enact and enforce a federal regulatory program,” and Congress should not be able to effectively accomplish the same goal by coercing states to participate in federal spending programs.

Based on this body of existing legal thinking, we think that the immediate danger to local fiscal positions is not high. We expect that any hold back of funds would be greeted with a strong legal response from entities with both the means and the motivation to pursue all of their legal options. It is important during this tumultuous time in America’s politics to remember that much of what is emanating from the White House in this first week are symbolic actions designed to show the appearance of real sustainable actions. Many of them will require action by Congress for them to be funded and implemented while others, such as this one, will be subject to extensive judicial review. Our view is that none of them at present should be the basis for credit concern.


Illinois state senators have deferred their planned vote on a compromise to end a historic budget deadlock until February. Not a single vote was recorded on what has been called the “grand bargain” to loosen the grip of stalemate between Democrats who control the Legislature and Republican Gov. Bruce Rauner. This is the longest period a state has gone with no spending plan since World War II. It has created a projected deficit of $5.3 billion, $11 billion in overdue bills and a $130 billion gap in what’s needed to cover retirees’ pensions.

Senate President John Cullerton, said “The problems we face are not going to disappear; they’re going to get more difficult every day. When we return Feb. 7, everybody should be ready and prepared to vote.” The plan raises the income tax and creates a service tax to beat down the deficit; includes cost-saving measures to the workers’ compensation program and a property-tax freeze sought by Governor Rauner. Pension- and school-funding overhauls are included as well as expanded casino gambling and more.

In the meantime, Attorney General Lisa Madigan, a Democrat, filed a motion in St. Clair County Circuit Court, requesting a judge to dissolve his July 2015 order that authorized the state comptroller to pay wages of all Illinois employees despite the state not having a budget in place, court documents showed. The order has “removed much of the urgency for the legislature and the governor to act on a budget,” Madigan said in a statement.


Time and time again, local governments get themselves mixed up with private recreational attractions which come back to bite them financially. One more example of this is in Kentucky. Floyd County saw  its rating lowered to Ba1 in 2013. The move reflects the county’s reliance on volatile and declining intergovernmental revenues derived from coal severance taxes to subsidize its increasingly unbalanced operations. The rating also reflects substantial tax base concentration in coal mining and a weak socioeconomic profile, with poverty and unemployment levels much higher than state and national medians. The downgrade also captures significant risk related to county debt issued for the Thunder Ridge Racetrack.

Now the racetrack threatens to severely impact County finances. For several years, Keeneland (the thoroughbred breedstock seller) was in talks with Appalachian Racing Inc., which owns and operates Thunder Ridge, to buy that track’s license. The plan was for Keeneland to move the license to a quarter-horse track that it wants to build in Corbin. Floyd County officials had hoped that deal would include paying off the debt left on a $2.7 million bond that the county issued in 1993 to help the Thunder Ridge project.
But Keeneland has announced it would no longer pursue the Thunder Ridge license and will instead apply for the state’s ninth license, which is not assigned to any track. Keeneland also said its potential deal to buy Thunder Ridge never included debt on the Floyd County bond. The County believes that it had a separate agreement with ARI that if Keeneland bought the Thunder Ridge license, ARI would pay off the bond debt.

Without the sale, local officials are concerned that the company someday either won’t or can’t keep up the payments which are relied upon to pay debt service. The County would then be responsible. Expenses at Thunder Ridge have outstripped revenue for several years. The county has no surplus to pay the $2.1 million. Five years ago, the county’s annual budget neared $20 million, but that has been cut to $11 million in the face of a declining coal industry.

The Thunder Ridge deal was set up with a $2.7 million bond issued by the Floyd County Public Properties Corp. Thunder Ridge declared bankruptcy in 1994 but reorganized and stayed open, sometimes asking for Floyd County’s help with bond payments. Now, a refinancing deal was issued in April 2016 and will be due May 1, 2017. It is not clear what will happen if the County is unable to refinance the bonds.


We had the opportunity to participate in a roundtable involving issuers, investors, and accounting professionals hosted by the Governmental Accounting Standards Board. The subject was what kind of information should be required to be included in the notes to audited financial statements. For the average individual it wasn’t riveting stuff, but for the professionals in the room it provided a window into the various prisms through which providers and users of governmental accounting see the purpose and value of their financial statements.

For large issuers of debt supported by the financial and technical resources, compliance with accounting standards is often simply an issue of will. Their need for regular access to the public financial markets in substantial amounts makes the need for investor friendly disclosure clear if not obvious. In spite of some four decades of effort by the Board and the investor community, smaller irregular issuers still do not necessarily see the need for the level of detail investors desire. In other cases, their overseers (usually boards of directors) are not supportive of efforts to provide information outside of what they see as the scope of their requirements.

My biggest take away from the event is that the effort to obtain fully investor friendly financial accounting from issuers in the tax exempt market will have to continue. Until issuers which do not provide that kind of information lose public market access, they will resist implementation of these “best practices” and investors will continue to be subject to the kind of surprises we discuss in cases like the one just discussed involving Floyd County, KY.

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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