SAN FRANCISCO — In an attempt to reassure some investors, Stockton, Calif., officials said Thursday that bonds tied to its utilities will be undamaged by the city’s effort to restructure its general fund debts as it tries to avoid bankruptcy.
Officials said in a statement that the city is in compliance with its covenants and has the money to cover its debt service for the bonds tied to utility revenues, such as water and sewer bonds. “Special funds legally cannot and will not be used to resolve the city’s general fund fiscal needs,” the city said in a press release Thursday.
The City Council voted on Feb. 28 to start a confidential mediation process with creditors in a procedure recently created in a California law to help local governments avoid bankruptcy.
The council also voted to delay general fund debt-service payments tied to $327 million of general fund-supported lease revenue and pension obligation bonds issued by the city, its redevelopment agency and its public financing authority until after June 30, the end of the fiscal year.
AB 506 requires a city to either publicly declare a fiscal emergency or to hold “neutral” talks with stakeholders for at least 60 days before filing for Chapter 9. Stockton has declared fiscal emergencies for the last three years, but is also proceeding with the mediation process.
The city’s attempt to restructure its debts has raised investor concerns about whether bonds tied to utility revenues will be protected, partly because of the ongoing Jefferson County, Ala., bankruptcy. Jefferson County is trying to restructure similar utility revenue debt.
“What is interesting here is that Moody’s took down some of the pure revenue bonds. That stems in part from some of the considerations that are ongoing on in Jefferson County,” said John Hallacy, head of municipal bond research at Bank of America Merrill Lynch.
“The bankruptcy code reforms of 1988 were designed at the time to insulate revenue bonds somewhat, but the whole Jefferson situation is calling that into question a little bit,” he said.
Stockton had more than $702 million of bonds outstanding as of June 30, 2010, including city, redevelopment agency, water, sewer, and parking enterprise debt, according to city financial statements.
Moody’s Investors Service recently downgraded Stockton’s sewer revenue bonds, water revenue bonds, and special tax bonds, as analysts cited “the uncertainties that surround the potential bankruptcy.”
The rating agency singled out $55 million of water revenue bonds, cutting them to Ba3 from A3, because it believes the city may have violated a letter of credit agreement with Union Bank when it voted to suspend some bond payments because it would be an admission the city can’t pay its debts.
Union Bank could conceivably tender the bonds under that scenario and demand immediate reimbursement from Stockton, putting “severe and likely unmanageable liquidity pressure on the enterprise and imperil payments on its other, fixed-rate parity obligations,” according to Moody’s.
A Union Bank representative declined to comment.
Stockton officials say they will keep their lips sealed during the negotiations with stakeholders.
“The AB 506 process is a confidential mediation. It will be the responsibility of bondholder representatives, such as the bond insurers and the trustee, to keep their respective parties informed,” said city spokeswoman Connie Cochran.
“Any public information to be released by the city will be through EMMA postings,” she said in the statement.
AB 506 was adopted during the 2011 legislative session, so participants in the mediation process will enter uncharted waters.
Stockton’s vote at the end of last month triggered the start of a process that has never been tested.
The small ski town of Mammoth Lakes is the only other municipality in the state so far to choose the AB 506 procedures to address its financial problems, but it’s no further along than Stockton.
The process involves the city inviting creditors to participate, choosing a mediator acceptable to participants, and then starting the two-month talks, which could begin later this month.
The big question is whether the stakeholders will participate in the voluntary talks.
In terms of bonds, the biggest players in the talks would be the three insurers who back the majority of the debt tied to the city’s general fund.
National Public Finance Guarantee Corp. and Ambac Assurance Corp. declined to comment on whether they would participate.
Assured Guaranty said Stockton’s actions will provide little relief to the city since its general fund-supported debt service is only 6% of its budget.
“In addition, the city’s actions will likely adversely affect the long-term interests of the city and other California municipalities by raising borrowing costs and reducing access to the capital markets,” according to Assured.
The insurer said it is reviewing the mediation statute and has not yet decided whether it will participate.
National Public Finance Guarantee has said it has $224 million of insured exposure to Stockton debt, $89 million of which is backed by its general fund.
Assured Guaranty said it is exposed to the tune of more than $150 million net par. Ambac insures $13 million of the bonds linked to the potential default, according to city documents.
Stockton’s restructuring attempt has resulted in “super downgrades” of its rating by Moody’s to Ba2 and Standard & Poor’s to “selective default.”
The housing bust crushed the Central Valley city of 290,000 residents during the recession, after it awarded generous benefits to employees and financed showcase projects, including a sports arena and baseball stadium.
As of the end of the year, Stockton’s unemployment rate stood at 15.9%, one of the highest in the nation, according to the U.S. Department of Labor.