BRADENTON, Fla. - Jefferson County, Ala., officials said in a new disclosure notice late last week that they might not be able to resolve financial problems afflicting $3.2 billion in outstanding sewer revenue warrants.

The disclosure comes as the former executive director of the Municipal Securities Rulemaking Board, Christopher Taylor, told the Bond Buyer Friday that the county's problems reflect its aggressive use of auction-rate debt and swaps.

The enterprise sewer system, highly leveraged with mostly variable- and auction-rate debt, as well as swaps, has suffered from underlying credit rating downgrades, fall-out from bond insurer downgrades, and turmoil in the floating-rate markets. The result has been significantly higher interest rates for the securities.

The problems were discussed in a nine-page material event notice that was circulated late Thursday.

"The county is working with its advisors to identify and analyze all feasible means to address the current difficult situation. However, as of the date of this notice, the county can provide no assurance that net revenues from the sewer system will be sufficient to permit the county to continue to meet its debt service obligations at the current elevated levels or to provide other means of resolving the current situation," the notice said.

The county had experienced eight failed auctions involving $869.5 million of auction rate securities - out of about $2.2 billion outstanding - as of last Wednesday.

A major blow last week was the downgrade of the sewer warrants to Baa3 from A3 by Moody's Investors Service, triggering the potential termination of 13 swaps.

According to the swap agreements, a downgrade of the underlying ratings below BBB by Standard & Poor'sor below Baa2 by Moody's constitutes an "additional termination event." Standard & Poor's on Feb. 25 lowered its underlying rating to BBB from A.

To avoid termination of the swaps, Jefferson County must post collateral or insurance in the amount of approximately $184 million by March 7, which was the amount necessary to terminate the swaps as of Feb. 27.

"As of the date of this notice, the county can offer no assurances that it can obtain the required insurance or post the necessary eligible collateral to avoid an additional termination event under the swap agreements," the disclosure said.

Counterparties with the county are Bank of AmericaNA, Bear Stearns Capital MarketsInc., JPMorgan Chase Bank, and Lehman Brothers Special FinancingInc. on swaps covering a notional amount of $5.4 billion.

As of Jan. 31, the county's swap portfolio had a negative mark-to-market value of $341.3 million, which underscores interest rate mismatches brought about by the market's disruption.

Rating downgrades for bond insurers Financial Guaranty InsuranceCo. and XL Capital AssuranceInc. also have caused the county to default on liquidity facilities supporting its variable-rate demand warrants. XL Capital insures $737 million and FGIC insures $110 million. As of last Wednesday, no liquidity providers said they intended to terminate the liquidity facilities.

In response to the liquidity problem, the disclosure said the county "can provide no assurance that net revenues from the sewer system will be sufficient to permit the county to meet the interest rate and amortization requirements of the liquidity facilities."

County officials have not publicly said what measures are being examined to deal with the crisis, although they are working on a comprehensive disclosure package.

Balch & Bingham LLP, the county's disclosure counsel, has advised officials not to make comments and to address the crisis only through disclosure notices. Its first disclosure, a seven-page notice that did not mention potential difficulties meeting obligations, was filed on Feb. 20.

"Jefferson County's financial structure and situation really reflects and is the result of all of the ills in the industry, everything that has been a problem," Taylor said.

Taylor said that the county dealt with very aggressive bankers who pushed it into doing swaps and then other firms who insisted on redoing the swaps. The county also did a lot of auction rate securities and its muni practices have raised questions about political contributions and consultants among regulators, he said.

"I was talking about Jefferson County and their derivatives long before I left the MSRB. The only question is why it took so long for others to fail to see the reality," Taylor said.

Lynn Hume contributed to this story.

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