A two-notch upgrade that puts Wayne County, Michigan more firmly on an investment grade footing is cited as an example of how state intervention can work positively for a fiscally stressed local government.
S&P Global Ratings on Friday raised the county’s rating to BBB-plus from BBB-minus. The outlook is positive. The rating agency had previously raised the rating to BBB-minus from BB-plus in April, based on a methodology change.
“The two-notch upgrade reflects our view of the county's continued maintenance of structurally balanced operations, and that it is well positioned to be able to maintain structural balance even as operating and fixed costs are set to grow in the near term,” S&P said.
With a $52 million structural deficit and rising retirement costs, the county entered a consent agreement with the state in 2015 that paved the way for a fiscal restructuring. The county exited the consent agreement in 2016.
The county has since posted three consecutive budget surpluses and cut $1 billion from its post-retirement health liability, $100 million in operating expenses annually and developed a more-than $100 million rainy day fund.
“The upgrade is more of a reflection of where we have been for the last couple of years, and our vision for the future” Wayne County Chief Financial Officer Henry Dachowitz said.
The state has seen mixed reviews for its various interventions with distressed local governments. In Flint, the actions of emergency managers that led to a water contamination crisis drove complaints about the powers entrusted to emergency managers and calls for change.
Detroit, Wayne County's largest city, claims progress during its state intervention. The state relinquished control of the city’s finances on April 30, three years after Detroit's Chapter 9 exit in December 2014. The city now has the power to enter into contracts and enact city budgets without seeking state approval.
“Detroit went the route of emergency management and bankruptcy and the county took an alternative approach with the more locally initiated consent agreement process which instilled a similar type of confidence,” said Jeffrey Aronoff, a principal in the public law group of the law firm of Miller Canfield. Aronoff represents Wayne County.
Aronoff said that it is clear that the practices that have resulted from the consent agreement are showing positive returns for the county.
“I think there are a lot of similarities between Detroit and Wayne County – both used their windows of assistance effectively, whether it was the oversight panel in Detroit’s case, or the consent agreement for Wayne County,” said Tom Schuette, co-head of investment research and strategy at Gurtin Municipal Bond Management. “I think the upgrades are a reflection of the county stabilizing what was a clearly distressed financial position – they stopped the bleeding and have started the process of building a cushion for the next downturn.”
Dachowitz said the upgrade marks a milestone in the county's efforts to move on from its failed jail project.
In 2010, the county issued $200 million of bonds, secured by its limited-tax GO backing, for a new jail on Gratiot Avenue in downtown Detroit. The county halted construction of the jail in 2013 after having spent $157 million.
It has since scrapped plans for completing the jail at the Gratiot site and entered into an agreement with Rock Ventures, the vehicle for Quicken Loans Founder Dan Gilbert’s numerous Detroit real estate ventures.
The proposed complex about three miles north of downtown includes a 2,280-bed jail, sheriff and prosecutor staff and administrative offices, at least 25 courtrooms, and a 160-bed juvenile detention facility. It could be completed by summer 2022 with a groundbreaking this October, officials say.
That plan calls for the county to use $50 million of the remaining bond proceeds from the unfinished jail project for the $533 million new criminal justice center project. The county plans to fund the remaining $380 million share in the overall costs with mix of new bonds and general fund revenue.
The project was approved by the Wayne County Commission by a vote of 14-to-1 Thursday. The vote came the day after the Wayne County Building Authority also approved the deal.
The county said that with commission and building authority approval secured, work on the project is set to start later this fall and anticipates a sooner timeline for demolition work on the unfinished Gratiot jail.
“The county sees the jail resolution as being one of the last steps in its recovery process and transition to a new operating environment,” S&P said. “In our view, resolution of the project and assumption of the related debt will play an ongoing role in the county's potential upward rating trajectory.”
The county is planning to price $315 million of bonds for the jail project in July. The bonds will ultimately be secured by the state and will carry the state’s AA rating.
“For this project using distributable state aid should allow us to get a higher rating and that is why we are structuring it this way,” Dachowitz said.
Aronoff said that while the state revenue sharing intercept is still the source of the greatest security for bond holders, it isn’t the only determinant for how the market reacts to these bonds.
“The market can only be encouraged by an increase in the underlying rating for the county even though that may not be the primary driver for how those bonds price and of course it helps in long term financing plan as well,” Aronoff said.
S&P warned that the county’s rating remains constrained by a weak management score.
“The management score is limited by the county's still-recent structural imbalance, and to a lesser extent, by the significantly underfunded pension plan that has the potential to quickly increase fixed costs,” S&P said.
Schuette said that absent a broad based economic and demographic resurgence, Wayne County will carry some speculative-grade risks for the foreseeable future.
“This may be as good as it gets for the county – they are feeling the impacts of the spending realignments post 2015, but they have very little revenue flexibility, are still losing population, have nearly unlimited pent up service and infrastructure demands, and will still have to grapple with an underfunded pension plan,” Schuette said. “We continue to avoid the county and believe high-quality investors should be weary of wading into this name right now expecting a smooth ride in coming years.”
Fitch Ratings rates the county’s GOs BBB-minus and Moody's Investors Service rates them Ba1. Dachowitz said the county is expecting Moody's to release a bond rating assessment in upcoming weeks.