Moody’s Downgrading of Woodland’s Bond Rating Will Not Impact Water Project

Sacramento-River-stockThe announcement that Moody’s Investors Service last week downgraded the city of Woodland’s (CA) 2002 Lease Revenue Bonds to A2 from A1 and 2005 Lease Revenue Bonds to A3 from A2, trigger a bit of a stir and some misconceptions about the potential impact of the rating downgrade on the joint Woodland-Davis water project.

According to the January 10, release, “The A2 rating for the 2002 Lease Revenue Bonds reflects the continued external support of debt service payments from the Sewer Development Fund and Sewer Enterprise Fund and the highly essential nature of the leased asset (the city’s wastewater collection and treatment system).”

The release continues, “The A3 rating for the 2005 lease revenue bonds reflects the diminished external support of debt service payments from fire and park facilities fees, resulting in a moderately elevated General Fund lease burden. The rating action also incorporates the city’s below-average assessed value (AV) and resident wealth; continued AV contraction; demonstrated management of fiscal challenges despite ongoing pressures relating to fixed-cost budget constraints and long-term liabilities; and lagging economic recovery.”

“This was not unexpected,” Woodland City Manager Paul Navazio told the Vanguard.  “(It) follows on their announcement several months back that it was reviewing similar development-secured debt in some 38 California jurisdictions.”

Mr. Navazio explained that there are two specific debt issues.

“A 2002 lease-revenue bond issued to finance expansion of our wastewater plant, and secured – in large part – by sewer connection fees; this bond was down-graded one ‘notch’ from A1 to A2, which keeps it within Moody’s Medium Investment grade rating,” he said.

“A 2005 lease-revenue bond issued to finance construction of the Senior/Community Center and new fire station; this bond was entirely secured by park and fire development fees expected to be collected through new development activity; this was down-graded from A2 to A3.”

The commonality is that both of these debts were secured by development fees and guaranteed by the city’s general fund.

The water project is different and will be secured entirely through the ratepayers, and therefore will be unaffected by Moody’s actions.

As Davis’ financial advisor, Mark Northcross, explained, “The lease revenue bonds are secured by the City’s general fund – where property taxes, sales tax and other general fund revenues are legally allocated.”

However, he said, “The water revenue bonds are secured solely by the City’s water fund – with no cross default provisions of any kind with the City’s general fund.”

He added, “Apparently, Moody’s believes that Woodland’s general fund is still under stress, but that its water fund is doing OK. “

An example of this is the City of Stockton which is going through the bankruptcy process to invalidate its general fund lease debt.

However, Mr. Northcross explained that Stockton is “keeping its water fund debt out of the bankruptcy. So, right now, Stockton’s lease revenue bonds are very, very risky, but its water fund debt is unchanged by the bankruptcy.”

Paul Navazio explained, “The most important point to note is that Moody’s action does not affect the City’s water utility-rate backed credit rating. This rating maintains a AA-minus rating, which is in the category of High Investment Grade (and is actually a higher credit rating than either of the above-referenced bonds, even BEFORE the downgrade).”

“Woodland took action last year to secure water utility rates needed to support the surface water projects, and our ability to service the anticipated debt on the water project remains very strong – and is completely independent of any credit rating action on these two bond issues,” he explained.

The result, Mr. Navazio said is “Woodland remains on solid footing for the water project – either in partnership with Davis, or on our own if necessary.”

Moody’s listed strengths as the “diverse tax base in Sacramento metro area, county seat of Yolo county,” and the manageable general fund net direct debt burden.

Challenges for Woodland include: Exposure to weak local economy; Ongoing financial imbalances in certain enterprise and governmental funds; and pressures relating to other post-employment benefits (OPEB) and pension liabilities.

Moody’s argue that the following could cause an upward revision of the rating: Resolution of deficit fund balances with minimal negative impact to General Fund; Strengthened economic recovery reflected in AV expansion and revenue improvements; and Sustained fiscal balance allowing for increases to cash and reserves.

On the other hand, the following could cause the rating to further decline: Increased encroachment of challenged funds on General Fund and enterprise fund resources; Inability to adequately fund or successfully resolve existing long-term liabilities; Weakening of financial position from current level.

Woodland City Manager Paul Navazio added that Woodland’s general fund is reported by Moody’s to be “financially sound.”  However, like many other municipalities, including Davis, Woodland has work to do on their unfunded liabilities.

“It would (be) unfortunate and a misrepresentation of the facts if it were used to argue against the water project partnership with Woodland,” Mr. Navazio said.  “From the perspective of the City’s overall financial position and in the eyes of the credit rating agencies, the downgrade of the 2002 and 2005 lease-revenue bonds are entirely unrelated to our creditworthiness in relation to issuing and servicing debt in support of the water project.”

—David M. Greenwald reporting

About The Author

David Greenwald is the founder, editor, and executive director of the Davis Vanguard. He founded the Vanguard in 2006. David Greenwald moved to Davis in 1996 to attend Graduate School at UC Davis in Political Science. He lives in South Davis with his wife Cecilia Escamilla Greenwald and three children.

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  1. Herman

    I think dismissing Moody’s downgrading of Woodland bonds as an unimportant piece of news is disingenuous at best. Woodland, and Proponents of Measure I, have worked themselves up into fits of righteous indignation whenever it has been suggested that Measure I (or its draft forerunners) would impose a financial strain on the community of Woodland (or Davis for that matter). They have explicitly or implicitly denied that Woodland had any structural financial problems.

    If, however, one takes the trouble to read the reasons why Moody’s downgraded Woodland the news is not so comforting. I have already quoted parts of the report in past posts. Let me just quote briefly two important sentences from the report: “The rating action also incorporates the city’s below-average assessed value (AV) and resident wealth; continued AV contraction…” And under the heading CHALLENGES “Exposure to weak local economy.”

    Is this not more than prima facie evidence that a large increase in water rates, combined with increase in other utility rates, might not be a very severe strain on the Woodland ratepayers??? What more evidence do proponents of Measure I require to prove the financial fragility of Woodland???

    While there might seem to be no direct and immediate impact on the city finances of Woodland, this is a very facile argument to make indeed—not to mention its insensitivity to the plight of Woodland ratepayers. If the ratepayers of Woodland should strain under the weight of their much higher utility bills sales tax revenues will decline; quite possibly, even likely, property values will decline and so also all other sources of revenue related to Woodland ratepayers wealth and income. And, yes the end result could be city bankruptcy.

    In sum, Woodland is not in a good position to take on this huge burden of debt, and thus Woodland is a perilous financial partner for Davis who itself will face some of the same challenges that Moody’s identified for Woodland.

  2. Robb Davis

    Okay Herman – I will “bite”. The following are the questions I have. They are not rhetorical questions and not meant to be snarky in any way. I truly do not know the answers and would ask someone with an understanding of the JPA agreement to help me.

    If Woodland ratepayers are unable to support the project at some point in the future–meaning that a critical mass is unable or refuses to pay their water bills–what does this mean for Davis? What does the JPA structure anticipate in such a case:

    Is Davis left “holding the bag” and does it become responsible for the full cost of the project–implying our rates would again more than double? If not, who pays?

    Would the pumps pumping water from the river to the treatment plant be shut down?

    Would the treatment plant be shut down?

    Would the pipe carrying water from the treatment plant to Davis be turned off?

    What recourse would Davis have in such a case?

    I think we should be able to have answers to these questions and I am genuinely curious as to what is anticipated in this worst case scenario that you are suggesting is a real possibility (though you have not attached probabilities to its occurrence).

    Can anyone help me out with these questions?

  3. Robb Davis

    Thanks Don. Here are the relevant sections. This does not, perhaps, answer all my questions but covers most of them:

    6.5.3. Notwithstanding anything to the contrary herein, each of the Parties shall be individually liable to the other Party for its failure to pay its respective share of the Authority’s annual costs (including but not limited to debt service on any bonds or related obligations). In the event that a Party fails to make any payment of such costs (a “Defaulting Party”), the non-defaulting Party may make such payment on behalf of the Defaulting Party, but the Defaulting Party shall remain obligated to reimburse the non-defaulting Party for such advance with interest calculated at one and one-half the rate of return earned by the treasury of the non-defaulting Party during the time period of the default. If the Defaulting Party has not repaid the non-defaulting Party for such advance by the end of the fiscal year in which the default first occurs, the non-defaulting Party may take such legal action as it deems appropriate to enforce payment of such obligation.

    6.5.4. Any payment remaining unpaid by a Party 30 days after its due date shall bear interest at the rate of one percent per month beginning on the due date. In the event of such a default, in addition to any other remedy that may be available, the Authority may cease providing water to the Defaulting Party until the delinquent amount with interest has been paid in full.

  4. Herman

    I have many of the same questions as Robb about what happens in a worst case scenario in which Woodland defaults PERMANENTLY. I am not good at reading and understanding legalese, but I have read the JPA agreement, including the section that Robb quotes above. However, at the risk of being or a appearing dense, I do not see how this section (or any other part of the JPA agreement) answers the basic worse case scenario question. To me it seems that Davis would only have two alternatives: 1) To continue the project and pay Woodland’s share of the costs; 2) To abandon the project. If this is not the case, then please, Don or somebody, write and tell me what Davis’s options would be.

  5. Davis Progressive

    herman: based on what you write here, i’m not sure how much you really understand this. the sewer bonds were financed it appears not just with enterprise funding from rates, but also from general fund sources, hence the bonding ratings are lowered based on the fiscal climate of woodland. but those are a different kind of bond than the revenue bonds for the water project – thus the expectation that this will not impact water rates, both navazio and northcross explain this very carefully and look at the stockton example if you need an example of a place whose finances are so bad they are declaring bankruptcy, but their water project is safe because it is entirely financed through ratepayers.

  6. Herman

    Growth Issue. Maybe I don’t understand it that well but I paste in a small section in Wikipedia on Municipal bonds and their risks:

    “However, sharp drops in property valuations resulting from the 2009 mortgage crisis have led to strained state and local finances, potentially leading to municipal defaults. For example, Harrisburg, PA, when faced with falling revenues, skipped several bond payments on a municipal waste to energy incinerator and did not budget more than $68m for obligations related to this public utility. The prospect of Chapter 9 municipal bankruptcy was raised by the Controller of Harrisburg, although it was opposed by Harrisburg’s mayor.[9]”

  7. DT Businessman

    According to Navazio’s statements, the JPA bonds are project financing bonds, not municipal bonds. Navazio stated explicitly there is no city backstop. The quote immediately above has no bearing on the matter.

    -Michael Bisch

  8. Robb Davis

    Considering everything written here, the only way a “worst case scenario” is going to arise is if a massive number of Woodlanders choose not to pay their water bills. Though not impossible, this scenario seems unlikely. It means that people would essentially have no money because when it comes to paying for basic needs one does not risk having one’s water shut off. One may give up cable, internet, luxury foods or other items but one does not merely say “I am not paying for water” unless one is in a dire situation. Indeed, if it comes to that then I would assume that Woodland would be facing massive foreclosures. Is this likely to happen? Because Woodland’s economy is more diversified than Davis’ (more light manufacturing, more connections to ag) even IF the jobs are lower paying, it would seem they are more secure.

    The idea that large numbers of Woodlanders are going to stop paying their water bills seems like a stretch to me. If they did then Davis would also likely be in a great deal of trouble of its own. I just don’t see it.

  9. Robb Davis

    BTW: I consider the “bond” issue to be just another “red herring”* being brought into the water discussion. Yesterday we had the “Berryessa” red herring. We have already had the “slush fund”** red herring. Today we have the “bond” red herring. We are likely to see a LOT more fish of this kind in the coming weeks.

    *According to wikipedia: “Red herring is an English-language idiom that commonly refers to a type of logical fallacy in which a clue is intentionally or unintentionally misleading or distracting from the actual issue.” It has an interesting fox hunting-related etymology.

    **The CC and staff has been accused of using inflated rates to create a “slush fund” several times in the comment section of this blog. If you look at the common usage of “slush fund” it carries the meaning of collecting money for one reason and illegally using it for other ends. Those introducing the “slush fund” red herring into the discussions would thus seem to be making a fairly serious allegation against city staff and Council. Indeed, they are accusing the CC of deliberately creating an illegal fund.

    (Notice how I am using footnotes here just like Rich Rifkin does?!)

  10. Davis Progressive

    Herman: That can’t happen here. The enterprise fund cannot be used for those types of payments. They cannot raid the fund. It’s a one-to-one factor. The enterprise fund is funded from rate payments on actual water usage. I don’t know how other states work, but in this case the bonds are revenue bonds, basically an advance on the money that will be generated through the prop 218 process. And the bond rating is based on the ability of the city to secure the loans. You can’t use Harrisburg, PA as an example. Look again at Stockton. That’s your comparison point with a comparison of state law to state law.

  11. Rifkin

    HERM: [i]”I think dismissing Moody’s downgrading of Woodland bonds as an unimportant piece of news is disingenuous at best.”[/i]

    Then you think I am [b]as disingenuous as Manti Te’o ([url][/url])[/b]? But you don’t say why I would be.

    HERM: [i]”Woodland, and Proponents of Measure I … have explicitly or implicitly denied that Woodland had any structural financial problems.”[/i]

    I have been very clear I think every municipal government in our region has structural financial problems. I understand Woodland’s financial picture much better than you do.

    You have mistakenly conflated the City of Woodland’s potential insolvency with the ability and/or willingness of Woodland residents to pay their utility bills. The former has nothing to do with the latter.

    Let’s say, for argument sake, that the City of Woodland goes into Chapter 9 municipal bankruptcy in 2013*. What that means is the City would present a plan to a federal bankruptcy judge which would reduce its obligations (i.e., monthly expenses written into contracts).

    In Woodland’s case, it likely would mean that: the City would pay off its general obligation bonds over a longer period of time and at a reduced interest rate, making their monthly payments much lower; their retirees would have to pay more of their own medical benefit and the City less; employees would have to take a pay cut which in turn would reduce the City’s pension-funding costs; the medical benefit to City employees and their families would be cut back; employees would have to pay substantially more to fund their own pensions; and some non-essential employees would be laid off and/or outsourced.

    Once the bankruptcy judge accepted those terms (effectively re-writing Woodland’s labor contracts, changing terms for its retirees and changing terms for its creditors), the City of Woodland would come out of bankruptcy and it would have sufficient long-term monthly revenues to meet its long-term expenses.

    Woodland’s water utility ratepayers would [i]not be affected[/i] by the City’s bankruptcy, other than those few who are City employees or retirees. Woodland’s current population is listed at 55,806 people. Those directly harmed by a bankruptcy action would probably be lower than 558 people (employees and retirees).

    *I put the asterisk on for Robb Davis’s benefit. 🙂

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