Investors: All Eyes on Menasha, Wis., Steam-Plant Lawsuit

CHICAGO — Investors who hold $23 million of defaulted steam-plant bond anticipation notes, which the city of Menasha put its appropriation pledge behind, warned in their latest court filing that the municipal world is following their federal lawsuit and their claims the Wisconsin city misled potential investors.

“The eyes of the municipal finance world will be focused on this lawsuit to determine if it will provide legal precedent for municipalities around the country to ignore or nullify similar governmental obligations,” lawyers for a group of noteholders wrote last week in response to the city’s dismissal bid.

The group alleges Menasha violated federal and state laws by misrepresenting the prospects of the steam plant and by failing to make good on the appropriation pledge. It issued the notes in 2005 and 2006 to finance the conversion of a portion of its electric generation plant to produce industrial steam for area paper mills.

Cost overruns and regulatory issues hurt the plant’s ability to generate enough revenue to cover operations and debt repayment. It was shuttered last October. At the time the notes were issued, the city intended to issue longer term debt to repay them when they came due last September.

A group of investors filed the lawsuit in the U.S. District Court for the Northern District of Indiana after the city defaulted on the notes and refused to honor its pledge to cover any shortfall.

The city, Menasha Utilities, and RBC Capital Markets are co-defendants. In documents asking the judge to dismiss the case, the city argued that the noteholders improperly filed suit in Indiana and “concocted” a fraud claim under federal securities rules to enable them to do so in federal court.

The noteholders claim they were purposefully misled about the plant’s final costs, completion date, and prospects and the city’s intent to refinance the notes with long-term debt. They assert the defendants knew long before September 2009 they might not be able to refinance the notes.

Menasha argues in its motion to dismiss that the bond offering statements offered only an “estimated” cost and an “expected” completion date. They also cautioned that the plant had four “potential” users, but offered no guarantee all would use the plant.

The city asserts that at the time of the offering it fully intended to convert the notes to long-term bonds when they came due and the only plant’s failure prevented them from doing so.

“The cautionary disclosures in the 2005 and 2006 official statements and accompanying exhibits negate any claim of fraud,” the city wrote in its motion to dismiss.

The city also argued it did not commit a breach of contract by failing to appropriate the funds to repay the notes because the bonds were solely backed by a pledge of plant revenues, rather than a general obligation pledge. It argued that a court order mandating the payment would violate state law.

The noteholders dismissed Menasha’s assertions in their response, arguing that the city’s current position supports their contention it misrepresented its willingness to cover bond repayment in the event of a shortfall.

“The inclusion of this language in the bond resolutions and official statements was designed solely to induce the lead plaintiffs and others to buy the notes based on a promise Menasha had no intention or expectation of fulfilling,” the filing reads. “And apparently no ability to fulfill.”

The noteholders also claim the city concealed material information in its steam contracts that allowed customers to terminate the agreements. They say the warnings included in the “risk factors” section of the offering statement don’t let the city and utility off the hook.

Menasha officials have an offer from WPPI — a regional wholesale supplier of power to 51 members, including the city — to purchase Menasha Utilities’ distribution assets for $18.2 million. The city would then lease back the assets in a 20-year deal.

Funds from the sale would repay bondholders and resolve other pending arbitration and regulatory claims against the plant. Under the proposal, bondholders would have to release their claim and the city would have to defease its utility debt.

In an attempt to reach an agreement that could facilitate the asset sale, lawyers for the noteholders and city officials met last month in Chicago, but were unable reach an accord. They planned to meet again this month but have not set a date, according to Michael Wukmer of Ice Miller LLP, which is representing the bondholders.

The lawsuit is being led by American Bank, Lafayette Life Insurance Co., and Mercy Ridge Inc.

The steam plant debt has strained city finances and hurt Menasha’s near-term ability to access the tax-exempt debt market as it has lost its investment-grade GO ratings.

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