The deadly wildfire that left the town of Paradise, California, in ruins may become a test case for the municipal bond market.
“The situation casts doubt on whether the local government can meet over $3.5 million in annual payments to pension obligation bondholders, CalPERS and retiree healthcare plan participants,” wrote Marc Joffe, a policy analyst with the Reason Foundation.
The town of 27,000 found itself in the path of the Camp Fire, a fast-moving inferno that started Thursday morning and engulfed Paradise within hours.
An estimated 80% to 90% of the town has burned, said Scott McLean, a spokesman for the California Department of Forestry and Fire Protection, the lead agency fighting the fire.
As of Tuesday morning, officials said 42 people were confirmed dead with many more residents unaccounted for. CalFire reported that at least 6,522 residences and 260 commercial buildings were destroyed.
In the wake of the fire, S&P Global Ratings placed both the Paradise Unified School District and the Paradise Irrigation District on CreditWatch with negative implications.
"Since the Paradise Irrigation District primarily serves the town of Paradise, we anticipate this will have a significant effect on the district's ability to provide water service and meet its obligations," wrote S&P analyst John Schulz. "Based on the size and magnitude of the fire in relation to the district, and if the area is as severely damaged as preliminary reports suggest, it could pressure the rating into non-investment grade territory." About $3.1 million of debt is outstanding, according to S&P.
The irrigation district's water revenue bonds and certificates of participation are rated A.
S&P assigns its A issuer credit rating to the Paradise Unified School District, though it doesn't rate any specific bonds.
“The CreditWatch placement reflects our view of the uncertainty regarding the potential destruction of large portions of the town of Paradise as the result of a wild fire,” wrote S&P analyst Dan Kaplan. “While the full extent of the damage is currently unknown, we believe that significant portion of the district’s housing stock was destroyed, potentially affecting student enrollment and the state funding that students generate.”
The California Teachers Association said the Camp Fire destroyed at least five of the nine schools in Paradise and that many educators lost their homes. Paradise USD had an estimated 3,165 students in fiscal 2017.
On Nov. 6, voters in the Paradise school district passed a $61 million general obligation bond measure. The devastation throughout the community and its tax base will complicate any plans to use the authorization.
With both retirement liabilities and the incidence of catastrophic wildfires increasing, Paradise may become an important test case for bondholders and retirees, Joffe said.
“The key questions include how quickly the town’s tax base will rebound, whether the state will explicitly or implicitly bail out the city and its creditors and if the conflagration will force reforms, especially to Paradise’s retiree health benefits,” Joffe said.
Paradise has large pension and other post-employment benefit obligations that may now be difficult to service, Joffe said.
The town has scheduled debt service payments of over $1 million annually through 2029 on capital appreciation pension obligation bonds.
The Paradise obligations are part of a pooled bond series issued by the California Statewide Communities Development Authority. The 2007 Series A-2 bonds are also being serviced by the cities of Palm Springs and Port Hueneme, but Paradise accounts for almost half of the pooled debt in the series, Joffe said.
Even before the fire, Series A-2 carried a junk underlying B1 rating from Moody's Investors Service.
The bonds are insured by Ambac.
“Because the bonds are not cross-collateralized, i.e. municipalities in the pool are not responsible for covering each other’s defaults, ratings must be based on credit assessments of the financially weakest municipality in the pool,” he said.
As of June 30 2017, Paradise had $37.5 million in notes, bonds, capital leases, other post-employment benefits, California Public Employees' Retirement System pension liability, and compensated absences, according to its most recent comprehensive annual financial report. That debt includes more than $10.7 million of bonds payable and accreted interest,
The successor agency to the Paradise Redevelopment Agency issued $1.475 million in unrated subordinate tax allocation refunding bonds in 2016. The widespread property destruction will raise questions about the ability to service that debt with incremental property tax revenue from the 694-acre project area.
The town has been working for the past several years to close a structural deficit and had been making headway, according to its fiscal 2018-19 budget documents. Voters on Nov. 6 passed Measure V, extending a half-cent sales tax first approved in 2014.
Michael Coleman, principal fiscal policy advisor for the California League of Cities,
At the other end of California, firefighters are battling the massive Hill and Woolsey blazes in Los Angeles and Ventura counties.
More than 5,000 firefighters are working to extinguish fires burning across the state, according to the governor’s office.
California has been hit with a string of devastating, deadly wildfires in recent years, but rating impacts were muted because previous fires destroyed only small portions of particular local governments' service areas.
That may be different this time, S&P said in a commentary Wednesday.
"Our review of California Department of Forestry and Fire Protection (Cal Fire) maps suggests that the damage to built-up areas has been extensive, particularly for the Camp Fire," according to the commentary by primary credit analyst Chris Morgan.
S&P identified 26 California local governments with $3.5 billion in debt potentially affected by the fires, including the two Paradise entities it has placed on CreditWatch.
With states of emergency declared last week in Los Angeles, Ventura and Butte counties, California
"We’re putting everything we’ve got into the fight against these fires and this request ensures communities on the front lines get additional federal aid," said Brown, who spoke at a Sunday press briefing along with leaders of the governor’s Office of Emergency Services, CalFire, California National Guard and the California Highway Patrol.
