Sell Side

Insurers Announce Plan to Help Jefferson Co.

Bond insurers Financial Guaranty Insurance Co. and XL Capital Assurance Inc. Friday announced a plan they say would help Jefferson County, Ala., solve its current debt crisis, including a solution in which the county would issue more bonds backed by sales tax revenues to retire some of the old debt.

Though the details are still being finalized, the insurers proposal calls for the county to issue about $1.7 billion in sales tax-backed debt. The proceeds of the sale would be used to refinance about $1 billion in education warrants to which the sales tax revenues are currently pledged, and about $600 million to $650 million in sewer warrants, said Slayton Dabney, the lead King & Spalding LLP attorney on the project.

Jefferson County, which includes Birmingham, has been unable to pay certain obligations in its massive, $3.2 billion sewer-debt portfolio because costs have risen dramatically due to the unexpected meltdown of the variable- and auction-rate markets. Many of those problems stem from downgrades to the bond insurers, including FGIC and XL Capital Assurance, as a result of their exposure to securities backed by subprime mortgages.

In addition to King & Spalding, R. W. Beck Inc., Lamont Financial Services Corp., Blackstone Group Advisory Services, and Adams & Reese LLP are advising the bond insurers.

A second phase would involve a number of "revenue enhancements" - enacting a clean water fee on septic system users in the county and improving the efficiency of the sewer system - aimed at getting the county into a position over the next few years to refund the remainder of the sewer debt, Dabney said.

The plan is similar in some respects to one the county is working on, of which few details have been released. County officials have said they want to apply excess sales tax revenues - currently dedicated to county-issued school warrants - to help pay off sewer debt and avoid raising sewer rates.

"The concept of sales tax is not something I can say is original to us," Dabney said. "It was a concept, as we understand it, that was suggested to the county by perhaps the governor as a means to address the problem."

However, a key difference in this plan, as understood by the bond insurers and Dabney, is that Jefferson's plan would consist of keeping the education warrants outstanding while using excess sales tax revenue, whereas the bond insurers propose refinancing the warrants. The bond insurers' plan was thought to address one criticism of the county's plan: sales tax revenues are already pledged to the education warrants and not easily transferred to other debt.

Alabama's approval must be secured for the plan to work, Dabney said.

Both FGIC and XL Capital Assurance, owned by Security Capital Assurance Ltd., said in April they would stand behind their insurance policies on the majority of the $3.2 billion in debt owed by the county's sewer system. Most of the debt is in variable-rate or auction-rate mode, with FGIC exposed to about $1.2 billion and XLCA's portfolio at about $800 million in exposure.

Both Radian Asset Assurance and Assured Guaranty Ltd. also have exposure to Jefferson County sewer revenue debt. Radian's exposure was $302 million and Assured's exposure was $578 million, as of the end of last year, according to company filings.

The so-called revenue enhancements would pay for themselves, potentially bringing in more than $48 million a year, Dabney said. Analysis conducted by R. W. Beck finds a large amount of water being treated that is not being billed. The replacement of water meters would capture that inefficiency, Dabney said.

Clean water fees, if they were half of what sewer users pay, could bring in about $38 million a year, and an increase in industrial sewer rates could bring in an added $10 million, Dabney said. In all of this, the average residential sewer bills would remain unchanged, a contingency desired by the county.

During this time, the bond insurers would be responsible for covering the interest payments on the auction rate debt.

"While they are getting themselves into that position, my clients understand we would have to [pay] a certain amount of the interest differential on the auctions between what the county can [afford and the costs]," Dabney said. "We're prepared to do that."

And the extent of that payment remains to be seen. According to Jeffrey Cohen, a lead attorney for Cohen & Associates PC who has been following the crisis, there are many question about with the bond insurers' plan.

"Without a serious reduction in the existing debt service I don't know how they can pull it off," he said.

And that may be difficult. To break even or find much savings through refunding the education warrants or the sewer warrants, swap counter parties would have to agree, Cohen said. It is likely to cost millions of dollars, maybe as much or more than $100 million, to pay those swap termination fees, he said.

There are also questions about state rules regarding the use of sales tax revenue for sewer bonds, or caps on county debt levels, Cohen said.

Regardless, it is not clear how the county will react to the plan. A meeting between county officials and the insurance companies is planned for today.



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