Missouri county, bond trustee argue over enforceability of payment pledge
A debate about the legal enforceability of a Missouri county’s pledge to cover shortfalls on a $32 million industrial development bond issue is being waged before a state appellate court.
The lower court erred “by holding the financing agreement imposed only a moral obligation when the county made conditional promises to appropriate and pay that legally enforceable” after a review of county finances, bond trustee UMB Bank NA contends.
“Moral obligation financing is the creation of the municipal finance industry, not the legal system. The phrase moral obligation itself is a misnomer, because the arrangement does not impose any actual payment ‘obligation’ on the county,” Platte County's attorneys argue.
Platte County leaders decided in 2018 not to cover a $765,000 shortfall in tax revenues generated in the Zona Rosa shopping center that had been pledged to repay the 2007 Platte County Industrial Development Authority issue. The county said UMB’s demand that the shortfall be covered and the threat of litigation prompted their decision in November 2018 to file a lawsuit seeking to secure a legal determination that it is not legally required to make up the difference.
A state judge in a May 30 ruling agreed with Platte County that it’s not on the hook to cover gaps in project revenues to repay the remaining $29 million of debt sold through the county’s industrial development authority for the Zona Rosa Shopping Center project.
The county successfully argued that the pledge provided on the bonds was not a promise to pay, despite the trustee’s assertions that the obligation was part of financing agreements. The county’s only obligation stems from a requirement that the auditor submit the request as part of the budget with the decision resting with the county commission to decide on an annual basis.
UMB attorneys failed to convince the lower court judge that the judgment should fall in its favor based on the contractual language in the financing agreement.
“There is no promise or requirement in the financing agreement that the county commission must accept the auditor’s proposed budget and appropriate for a potential payment,” Platte County Circuit Court Judge James Van Amburg ruled on the county’s request for a summary judgment. “Under the terms of financing agreement, Platte County is not liable on the bonds issued by the Development Authority.”
UMB appealed last October to Missouri Court of Appeals for the Western District and both sides filed briefs this spring. A date for oral arguments is not yet set.
The latest salvos in the case were traded in UMB’s reply brief May 19 and in a subsequent response brief county lawyers asked the court on June 15 to allow them to submit. That decision is pending. County lawyers accuse UMB of pursuing a new legal avenue by arguing the county’s obligation under its financing arrangement falls under a category of “non-bond legal obligations” that the trustee contends is legally enforceable.
The trustee argues the financing agreement provides an enforceable mechanism based on contract rules. Its position doesn’t confer the unconstitutional status of a GO pledge because the pledge to make the shortfall is conditional, depending on an annual review of the county’s financial position. A cornerstone of the county’s position is that a firm obligation to pay would give the bonds a general obligation like backing which under state law which would have required voter approval.
“The county made a conditional promise to pay the shortfall of the Zona Rosa Bonds. The financing agreement was carefully drafted to ensure its promise complies with Missouri law. Yet, the county disregards the parties’ intention and conflates its conditional promise with general obligation bonds to insert doubt about enforceability,” the trustee, which is represented by Spencer Fane LLP attorneys Kersten Holzhueter, Scott Goldstein, and Joseph Bednar Jr., wrote in briefs.
The trustee “acknowledges the county’s promises were conditional …necessitating an annual analysis of conditions” including whether the county’s income, revenues, and unencumbered assets for the given year exceed the estimated shortfall.
The arguments to date had focused on the various forms of bonds used in Missouri under a general obligation, revenue, or moral obligation pledge. The moral or special obligation pledge subject to annual appropriation is popular in the state as a means to bypass voter approval required to attach a GO pledge to local government debt.
The trustee is pinning the enforceability of the financing agreement on case law in Mercantile Bank of Illinois, N.A. v. School District of Osceola, a 1992 Missouri Supreme Court ruling that involved the legality of multi-year contracts that included the ability to void the contract if the obligation in one year exceeds the local government’s income and revenue.
Platte County lawyers Todd P. Graves and Dane C. Martin of Graves Garrett LLC dismiss the trustee’s argument on the non-bond legal obligation, arguing the contention comes too late in the process. They also argue the Mercantile decision is not applicable, contending the trustee is attempting to rewrite the financing agreement in an unconstitutional manner.
They also continue to cite the language in the offering documents that “there can be no assurance that such appropriation” to cover a shortfall and that the county commission “is not legally obligated to do so.”
Mercantile Bank did not authorize some new category of municipal financing based on a traditional promise to pay rather than issuing long-term bonds but instead was limited to how multi-year lease contracts should be legally viewed and fails to overrule case law relied on by the trial court, county lawyers argue in the June 15 brief they are asking the court to allow.
“Ultimately, the trustee’s new argument is yet another attempt to convert third-party revenue bonds into general obligation debt of Platte County. The plain language of the Financing Agreement forecloses that argument,” Platte County argued. “Nonetheless, the trustee’s contrary interpretation of the Financing Agreement, if accepted, would create a multi-year indebtedness that would require taxpayer approval. The trial court was correct to reject the Trustee’s position and its judgment should be affirmed.”
Platte County stresses that it only agreed to provide its moral obligation as a means to assist the bonds by enhancing their credit rating and marketability. “The consequence to Platte County for not appropriating or making a voluntary payment is the possibility of an adverse credit action against Platte County,” county lawyers write.
The trustee’s attorneys fired back against the county's attempt to file a new brief over the introduction of the "non-bond legal obligation" label in its own filing this week opposing the request.
The trustee noted the request to file the new brief misses a 15-day deadline to respond to the trustee’s final brief and so should be denied. The trustee also argues the only new issue introduced in its last filing is the use of a label “non-bond legal obligations" to describe the same arguments the trustee had previously laid out.
“The county conflates using different words with asserting a different argument. Trustee has always asserted that the county could and did enter into legally enforceable obligations that comply” with the state constitution “and it simply provided a label for those obligations (‘non-bond legal obligations’) in the reply brief,” the trustee writes. “The county simply wants the last word on arguments that it already had an opportunity to address in respondent’s brief.”
That consequence was received. Moody’s Investors Service cut the county’s rating — then at Aa2 — to junk in September 2018 after learning of the commissioners’ comments and after the May ruling Moody’s warned in a special report that lease appropriation ratings could be at risk if the market saw a contagion effect. Moody’s rates the county Ba3 with a negative outlook.
The Zona Rosa bonds most recently traded this month at 26 cents on the dollar, down from 50 cents at the start of the year.
UMB reported in a June 5 notice that it made the June 1 debt service interest payment for $724,750 — no principal was due — in full with tax revenue forwarded by the district and a $171,189 draw from the debt service reserve. The reserve currently holds $2.037 million.
The financing agreement that outlined repayment of the bonds issued in 2007 to refund 2003 debt sold to finance parking facilities at the Zona Rosa retail complex in suburban Kansas City required the county to submit in its annual budget a debt service appropriation.
The county warned it could not afford the expense that could reach $40 million to make good on the bonds that mature in 2032.
The situation has cast a pall over Missouri appropriation pledges, a popular structure in a state that imposes strict voter approval rules on GO borrowing.
The Zona Rosa bonds are repaid with a dedicated 1% sales tax in Zona Rosa, but the revenue doesn't fully cover debt service. The annual appropriation will continue to be submitted in the budget but in the near-term the county is not expected to cover shortfalls. The first default on the bonds occurred in December 2018.
S&P Global Ratings stripped the Zona Rosa bonds of their investment grade rating in September 2018 after county commissioners discussed at a public meeting their opposition to making up future shortfalls absent a long-term solution.
Moody’s rates the county, but not the industrial development bonds in question, while S&P rates the bonds but not the county.
Platte County was the ninth local Missouri appropriation bond to become impaired or default in the last decade, Municipal Market Analytics said after the May ruling.