ORANGE COUNTY IN BANKRUPTCY : Bond Buyers Up in Arms Over County’s Performance So Far : Crisis: Last-minute payments, lack of a clear plan shake Wall Street’s confidence. Some worry that county secretly plans to wiggle out of obligations.
After receiving court approval on Feb. 1 to pay about $3.7 million due to bond owners before the close of business that day, Orange County immediately cut a check--just barely avoiding default on millions of dollars of outstanding bonds.
Last-minute payments--commonplace events in the 10 weeks since the county’s unprecedented bankruptcy filing--have bond buyers up in arms. The county has yet to fashion a long-term plan to repay its existing $1.2 billion of debt and waits until the last minute to make its regular bond payments, further testing Wall Street’s patience.
Most troubling, say creditors, is that when the county revealed a plan this week for repaying the 186 cities, school districts and agencies that also participated in its failed investment pool, no mention was made about bond repayment. Rumors that the county wants to wiggle out of much of its bond obligations has some of the nation’s largest financial institutions, which own millions of dollars in Orange county bonds, shuddering in their foundations.
“If one of the wealthiest counties in the nation doesn’t have the will to pay its debts . . . we would wonder why we bother with municipal debt and what good is a promise from a county in California?” said John Gambs, chief financial officer with Charles Schwab in San Francisco, which, on behalf of its mutual fund clients, owns $41.5 million worth of Orange County bonds. “It will be a sad way for Orange County to go down,” Gambs said.
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The $1.3-trillion municipal bond market is one of the nation’s largest financial markets. It provides a source of loans for all municipal agencies, from New York City to the Hermosa Beach Parking Authority, to raise money for public needs.
About $163 billion in government IOUs were raised in 1994, making it a record year for sales of new bonds. Unlike in the corporate market, defaults are almost unheard of with municipal bonds, because though companies come and go, cities and counties don’t disappear.
“Default by Orange County is just unthinkable,” said William P. Kovacs, a vice president with Kemper Financial Services, which owns about $200 million worth of controversial taxable notes sold by the county last July. “It would ruin our appetite for municipal bonds from California for quite some time.”
Although Bruce Bennett, the county’s chief bankruptcy attorney, has said repeatedly that an outright refusal to repay bonds would “never ever” be part of any fiscal recovery strategy, bondholders are fearful that the cash-strapped county won’t be able to make good on $1.2 billion in payments that come due this summer. Such fear prompted state Treasurer Matt Fong to jump into the fray Thursday with a stern warning to Orange County that it’s playing “financial Russian roulette,” if it doesn’t calm Wall Street jitters about a possible bond default.
Already, Orange County shook Wall Street’s confidence when it used special cash reserves to make monthly payments on “certificate of participation” lease debt used to construct several major public facilities, including the Juvenile Justice Center in Santa Ana. Although bondholders were paid, use of the reserves constituted a technical default.
That technical default, in turn, raised concerns on Wall Street about the safety of an estimated $7 billion of such debt statewide. Similarly, bondholders were startled when the county alleged in bankruptcy court last month that any rights that owners of $50 million of its tax and revenue bonds had disappeared with the bankruptcy.
Bennett Murphy, an attorney representing Orange County bondholders, is cautioning that such short-term “missteps” could come back to haunt the county when it eventually returns to Wall Street for more loans. He stresses that more than two months after the bankruptcy filing, “we don’t know” the county’s overall debt service plan.
Bond rating officials are also troubled by the county’s lack of advance planning on its bond debt, noting that Orange County comes “to the edge of the cliff each month.”
Even U.S. Bankruptcy Court Judge John E. Ryan is urging the county to speedily craft a plan that outlines its debt service plan: “I think it’s critical for this case to progress satisfactorily.”
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While county bankruptcy attorney Lee Bogdanoff has said repeatedly that the county is not going to default, he acknowledged that the county will be stretched to handle the $1 billion that comes due this summer. “Budgetary constraints are very real, incredibly real, and they’re not getting any better,” he said.
By filing for Chapter 9 bankruptcy, Orange County has thrown a longstanding tradition in the California municipal market on its head.
“If they choose to willfully default, it will unsettle not only the markets in California, but the markets nationwide,” said Steve Juarez, executive director of the California Debt Advisory Commission, a state agency, which will discuss the county’s bonds at a Feb. 22 public hearing in Orange County. “Everyone will pay for it,” he said.
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In Sacramento, municipal finance experts testifying this week about the state’s debt and credit rating agreed that Orange County’s fiscal problems could not only affect other counties in California, but possibly worsen the state’s ability to raise cash.
The state plans to sell so-called revenue anticipation notes to Wall Street investors this summer to raise about $4 billion, something it does every year. The cash is needed to meet the state’s operating expenses for the year.
Renee Boicourt, who rates California’s debt for Moody’s Investors Service, told the joint Senate and Assembly oversight committee that the state may have trouble selling those notes in part because of “the potential market disruption associated with Orange County and its pool participants.”
“Stability in the municipal market to help ensure continued access to short-term borrowing is critical to local governments and the state,” he said.
Historically some public entities have defaulted on bonds and were able to sell debt again--but they paid a price. Northern California’s Richmond Unified School District, which defaulted on lease debt about four years ago, decided to change its name to West Contra Costa Unified School District to avoid the Richmond stigma before it could borrow again. The Washington Public Power Supply System, which defaulted on more than $2 billion of bonds--the largest municipal default ever--also was able to sell debt again, but never could it find anyone to invest in the two power plants that went belly up.
In the municipal market, there is an unspoken principle that local governments have a legal and moral obligation to repay debt and keep their good name, because if they don’t, other bond sellers in the market suffer by paying higher borrowing costs or by not finding any buyers for their bonds at all.
That’s why municipal bonds are seen as low-risk, long-term investments by those individuals who like the tax-exempt status of these securities and are willing to sacrifice some yield for added safety.
“The whole premise of California public finance is the good faith and the moral obligation involved,” said Arto Becker, a public finance attorney in Los Angeles.
But recent revelations that county officials, after the Dec. 6 bankruptcy, transferred $73 million out of an interest account earmarked for repaying bondholders into other county accounts has bondholders worried. Also, proposed county workout plans have only addressed deferring bond payments and refinancing county bonds--or avoided the issue altogether. Actual defaults have never been ruled out.
“They are treating Orange County like a corporate bankruptcy, lining up the creditors according to their legal rights,” said Juarez. “But the public finance market doesn’t work that way. This is not a corporation, this is a public finance problem. What they do will have long-term implications for not only for Orange County, but all agencies that sell bonds in California.”
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The county has various kinds of debt outstanding, and most vulnerable, specialists agree, are about $400 million in “certificate of participation” lease debt, payments of which need annual approval by the county. Because this debt needs to be voted on each year by the county, it is really a “budgetary issue,” said Bennett. “We look at it differently,” he said.
Times staff writer Dan Morain in Sacramento contributed to this report.
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On the Debt Horizon
Orange County’s short-term debt, due between June and August, totals $1.2 billion. In addition to miscellaneous taxable notes, the debt includes Tax & Revenue Anticipation Notes (TRANS, sold in anticipation of certain levels of revenue) and Teeter Plan notes, used to fund delinquent property taxes. What is owed when; amounts in millions:
Debt Amount Date due Teeter Plan notes 64.0 June 30 Teeter Plan series 1994-95 111.0 June 30 Taxable notes 600.0 July 10 TRANS 1994-95, series A notes 169.0 July 19 Pooled TRANS series 1994-95 229.7 July 28 TRANS 1994-95, series B 31.0 Aug. 10
Source: Standard & Poor’s Corp.
Researched by JANICE L. JONES / Los Angeles Times
