Special Masters: No Jefferson County Resolution

BRADENTON, Fla. - Economic, political, and legal challenges prevented special masters from reaching a successful conclusion in Jefferson County, Ala.'s federal sewer receivership case, the masters said in a report late Friday.

The 14-page report submitted by John Young, president of American Water Services Co., and John Ames, a tax, finance and bankruptcy attorney with Greenbaum Doll & McDonald PLLC, once again recommended that a "consensual resolution" would be in the best interest of the county, sewer ratepayers, bondholders, bond insurers, and other parties they did not name.

Young and Ames were appointed special masters last fall after the county's two largest bond insurers - Syncora Guarantee Inc. and Financial Guaranty Insurance Co., as well as trustee for bondholders Bank of New York Mellon - filed a federal lawsuit asking that a receiver be appointed to take charge of the sewer system.

The special masters were charged with facilitating a solution to restructuring approximately $3.2 billion of outstanding sewer warrants, most of which are in troubled variable- and auction-rate mode. But complicating the discussions are interest rate swaps, they said.

"The sheer scale of the dollars involved in the warrants and the swap agreements ... makes the attainment of a global resolution more difficult," the special masters wrote, adding that the amounts owed under the swap agreements could equal or exceed the outstanding debt.

While the special masters did not report what the estimated swap payments might be, all of the swaps have been terminated. At last report, the total cost for the swap termination payments and related expenses owed by the county to various counterparties was estimated at $766.3 million.

The special masters said their ability to do a full-scale investigation of potential litigation claims was "greatly limited" because of difficulty obtaining financial information from Jefferson County. They also said "interested third parties" were involved in the proceedings but they were not named.

"There were economic, political, and legal challenges beyond the current control of the parties to this litigation that greatly limited the ability of the court, the special masters, the parties to this litigation, and even the interested third parties, to reach a settlement at this time," their report said.

Those challenges included financial difficulties experienced by FGIC and Syncora, litigation related to the county's occupational tax, political issues that "prevented both a promising plan developed by the governor and proposed bills in the Alabama Legislature from providing gravely needed assistance to the county," and failure of the county to take aggressive measures to enhance sewer revenues and improve sewer system efficiency.

U.S. Judge David Proctor, who is overseeing the receivership case, was expected to stay the federal suit yesterday because he previously ruled that federal law prevented him from appointing a receiver with ratemaking powers.

Proctor also said the plaintiffs are free to file a new suit in Alabama state court seeking a receiver.

Last week, Jefferson County attorneys notified Proctor that they intend to pursue counterclaims against FGIC and Syncora.

The county is seeking a jury trial and more than $100 million in damages against the insurers and has filed a three-count counterclaim alleging that their negligence resulted in rating downgrades, that they breached their contracts by failing to provide investment-grade insurance, and that they committed fraud by failing to disclose risks associated with their investment portfolios and residential mortgage-backed securities.

In April, the insurers filed a claim with the county stating they intend to file lawsuit to recover at least $701.1 million in past and future payments to the county.

In a legal notice filed in advance of the suit, the insurers alleged that Jefferson County fraudulently obtained bond insurance for its 2003 sewer refunding deals by failing to disclose critical financial information.

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