Investors and the state of South Carolina are haggling over who will get a bigger share of revenue from a bankrupt bond-funded toll road.
Owners of $200 million of senior and subordinate bonds issued in 1998 by the Connector 2000 Association Inc. for the toll road outside Greenville say they should have precedence. But the state Department of Transportation says it wants more of the cash to help pay for maintenance of the road.
The toll road’s Chapter 9 bankruptcy filing in June was expected, as traffic on the highway in its nine years of existence has fallen far short of expectations. In 2009, the 16-mile toll road collected $5.25 million, or one third of the revenue estimated in the initial feasibility study.
But the toll road continues to operate, and it will need about $61 million for repairs and maintenance over the next 41 years, the remaining duration of the current license agreement, according to the DOT, the second-largest creditor to the Southern Connector after the bondholders.
Under the license agreement, the state is obligated to maintain the highway but revenues have not been sufficient to reimburse the DOT. Those upkeep costs have put the state at odds with bondholders, who claim to be owed $369 million, including accreted interest, according to bankruptcy documents.
Complicating matters is that the parties are boxed in by an unwillingness to raise tolls. Creditors cannot risk raising tolls above the current rate schedule for fear of losing more traffic.
Since tolls are unlikely to be raised, creditors proposed a plan that would have pushed out the debt maturities. That option, which would have required an extension of how long tolls could be collected, ran into opposition in the legislature as recession-era lawmakers were wary of appearing to offer a bailout to Wall Street investors.
This leaves the two creditors in a bankruptcy showdown for the toll road’s existing insufficient cash flow going forward: for each dollar one party gains in a bankruptcy resolution, the other side loses.
The Connector “had a very spotted history before it got off the ground,” said Richard Lehmann, publisher of Distressed Debt Securities Newsletter in Miami Lakes, Fla., who warned about the project from the start.
He said the toll road was built too close to downtown Greenville. It could have reached more commuters, and generated more revenue, if it started farther from the city.
“The traffic wasn’t there and people were not willing to pay the kind of tolls that this road required,” Lehmann said.
The senior bonds were initially rated BBB-minus by Standard & Poor’s. They were downgraded to B-minus in January 2003 and are currently rated D. Standard & Poor’s did not rate the subordinate bonds.
The Connector defaulted on Jan. 1 when funds from a reserve account ran out. Creditors attempted to restructure the highway’s debt this spring by extending the life of its 50-year licensing agreement with the state so that toll revenue could be collected beyond that 50-year period.
But the extension required legislative approval, and South Carolina lawmakers said no.
Members of the House who voted against the legislation said at the time that they did not want the state to become responsible for the road. Rep. Rex Rice, R-Easley, told The Bond Buyer in February that he wanted an assurance that the Connector legislation “was not another bailout for a program gone south.” Rice is currently running for a U.S. House seat.
By May, it was obvious that bankruptcy was needed to force a restructuring resolution. Bankruptcy also would have been needed under the maturity extension plan, but it could have been pre-packaged.
As the flow of funds currently stands, all toll revenues are paid to the trustee banks, U.S. Bank NA for senior bondholders and HSBC Bank USA NA for subordinate bondholders.
The trustees will pay $2.94 million this year, or $245,000 a month, to the Connector for expenses to keep the toll operations running. The remaining funds are paid to bondholders and to a reserve account for bondholders. The DOT has a subordinate claim to the bondholders.
With its back-of-the-line creditor position, the department is not expected to receive any toll revenue money at the current schedule. So bondholders — who have an interest in seeing the road maintained — offered a haircut on their claims that would give the DOT 5% of the toll revenues.
But in June, the department rejected the offer, saying that amount was not enough, state sources said. The DOT is arguing that it is already owed about $8 million and estimates total daily maintenance plus the cost of four resurfacings over the next 41 years will bring its total bill to $61 million.
South Carolina wants the maintenance and repairs to be considered “operating costs,” which would move the DOT’s claims to the top of the revenue waterfall, ahead of the bondholders.
But the bondholders believe the state is trying to win more of the toll revenues because of the diminishing state funds available for transportation, sources familiar with the situation said. Amid the economic recession, the state’s transportation spending was cut 15% in Gov. Mark Sanford’s baseline budget for fiscal 2011.
The parties are also haggling over the total amount of debt outstanding. Without a restructuring agreement, the Connector is bleeding about $22 million a year as interest accretes on the debt — including zero-coupon bonds.
The state is also arguing that the bonds be valued on a market basis rather than the fair-value basis — the accreted amount owed to bondholders.
Connector bonds maturing in 2038 traded at 22 cents to the dollar on June 29, according to trading data on the Municipal Securities Rulemaking Board’s Electronic Municipal Market Access website. Valued at this mark-to-market basis, bondholders would take a steep discount to the fair value.
Another problem complicating the negotiations is that not all of the bondholders are known.
In November 2008, Goldman, Sachs & Co. found that ownership information was available for about 60% of the senior bonds and for about 40% of subordinate bonds. Without consent from all of the bondholders, restructuring outside of bankruptcy might not be possible, Goldman concluded.
In August, the Connector entered into confidentiality agreements with four institutional bondholders and ACA Financial Guaranty Corp., which insures some of the bonds. Together the parties own or insure about 68% of the future maturity of the senior bonds.
ACA’s website shows it insures about $20 million of Connector debt in its secondary market insured portfolio. ACA declined to comment on the bonds.
Chapter 9 is the blue moon of bankruptcy filings. Only two other municipalities have filed for chapter 9 bankruptcy this year, a hospital in Idaho and a municipal utility in Grimes County, Tex., according to data from Chapman and Cutler LLP. In 2009, 10 issuers made Chapter 9 filings, compared with more than 11,000 Chapter 11 filings.
A Chapter 9 bankruptcy filing is usually an “absolute last resort” for issuers, said James Spiotto, a partner at Chapman and Cutler.
Analysts say the severe economic downturn and its dramatic impact on state and local government finances have raised fears that bankruptcy filings by government agencies are likely to increase in the future.
Sources familiar with the bankruptcy proceedings said it is too early to tell when a resolution for the Connector may be reached. A continuing disclosure document posted on EMMA on July 2 said a proposal could be reached and presented to creditors “over the next three to five months.”
