Rollover Approval Staves Off Default for Orange County : Bankruptcy: Investors holding $800 million in notes vote to extend the due date for a year, but there’s no plan for repaying the debts. Other creditors protest deal.
Convinced they had no other choice, Wall Street investors Friday voted overwhelmingly to extend the repayment dates on $800 million in Orange County notes due this month and next, enabling the bankrupt county to avoid a dreaded default on its debt--at least for a year.
The extension forestalled the chaos such a default might have caused in the municipal finance market and staved off threatened intervention from Sacramento, but actually resolves nothing, since the county still has no known source of revenue with which to repay the debts when they become due in June of next year.
“This just postpones things,” said Christopher (Kit) Taylor, executive director of the Municipal Securities Rule Making Board, which monitors the $1.3-trillion market of municipal debt.
“They’ve still got to come up with $800 million by next year. Where are they going to get it from?” Taylor asked. “There’s a sense of denial here, of ‘Oh, we’ll deal with this tomorrow.’ Who knows what tomorrow will bring?”
The debt-extension agreement was immediately challenged Friday by other county creditors, with attorneys for county vendors and local governments that lost money in the ill-fated Orange County Investment Pool filing last-minute court appeals to the debt rollover, which had been approved by U.S. Bankruptcy Judge John E. Ryan.
Patrick C. Shea, lead attorney for the pool participants, asked for a stay to block the rollover pending his appeal, which Ryan will consider at a hearing Monday at 11 a.m.
After months of often contentious talks--first with the county, then among themselves, and finally, this week, with representatives of Gov. Pete Wilson’s office--several noteholders said they decided to accept the rollover chiefly because of signals from the state that it would not allow the county to repudiate the debt once it was extended.
Moreover, they saw no alternative.
“It was about as voluntary as the federal income tax,” said Stephen Ward, chief investment officer of the San Francisco brokerage firm Charles Schwab & Co., which owns $41 million in notes and had been the most outspoken critic of the rollover plan. Ultimately, however, Ward’s firm voted for it.
“This is a truce, a holiday cease-fire. We have to see what the county’s Plan B is,” Ward said.
“Did these noteholders have any choice? They were up against the wall,” said Robert Gore, a municipal bond trader with Crowell Weeden & Co. in Los Angeles, who added that there remains “a lot of skepticism about whether the county will pay them next year.”
In all, noteholders owning 98.7% of the outstanding debt sent ballots to a New York bank Friday approving the agreement, which gives them an extra 0.95 percentage points of annual interest and a promise that the county will not seek to renege on the deal by invoking a provision of the California Constitution that prohibits one year’s debts from being paid with another year’s revenue.
Because the extension won the support of the holders of more than 90% of the debt being rolled over, the debt postponement will apply to all of the investors.
“The decision to roll over is a gesture by the noteholders to give the county the breathing room it needs to get back on track,” said Jean Morris, a lawyer for the Boston Safe Deposit and Trust Co., which owns $25 million of notes. “They’ve asked for more time and we’re giving it to them. . . . We are hopeful they are going to do what they promised.”
The added time was all the more critical in the wake of the defeat two weeks ago of Measure R, a ballot proposal that would have raised the sales tax in Orange County by one-half of a percentage point--from 7.75% to 8.25%--and given county government an estimated $130 million a year to begin bailing itself out of its $1.7-billion bankruptcy.
Market insiders said that investors had little choice but to accept the extension since the alternative was holding defaulted notes, but still expressed dismay at the precedent being set.
“I just think the municipal bond industry is helping to bail these guys out,” said Zane B. Mann, publisher of the California Municipal Bond Advisor newsletter. “These [Orange County] supervisors are as adept at getting away with murder as the Menendez brothers. It seems like every time something comes up, they get out of it.”
County officials celebrated the success of the rollover, a key element of their recovery plan since filing for bankruptcy protection Dec. 6.
But they acknowledged that the good news brings only time, not money.
“It takes some of the urgency out of the situation, and hopefully the county can come up with a program to get the bondholders paid and get the problem behind us,” said County Chief Executive Officer William J. Popejoy. “It gives the county a year--but a year goes quickly, so we have to put together a plan to get the money paid. It’s still an obligation of the county to pay its bills.”
Board of Supervisors Chairman Gaddi H. Vasquez said the rollover gives the county “a great window of opportunity to continue to work toward an ultimate resolution of this financial crisis.”
Lawyers representing the investors emphasized that the rollover is a temporary Band-Aid, and promised to immediately begin pressuring the county for a repayment plan.
“The agreement was nothing more than a tool in the toolbox--it isn’t a solution,” said Robert J. Moore, lead attorney for the county’s creditors.
“It doesn’t get anybody paid,” added Bennett J. Murphy, the attorney for the bondholders subcommittee. “What it does mean is that the process is going to be less chaotic than if there was a free-fall default, but the problem is just as great as it was before.”
The agencies that issue ratings on municipal debt blasted the rollover, with one promising to downgrade the county’s credit to its lowest level Monday, when the first batch of notes were originally due.
“Unless there is a miracle they will go to D for default on Monday,” said Richard Larkin, managing director with Standard & Poor’s Corp. “I don’t think the county has felt the full brunt of what they have done yet, but I think they will. They will have a tough time borrowing [from Wall Street] again.”
Moody’s Investors Service, which already has the county’s short-term credit at default ratings, said the county’s long-term bonds will probably plunge in ratings next week as well.
“This rollover sends a message to the market and sets a precedent that will hurt Orange County’s ability to borrow in the future,” said Mary Francoeur of Moody’s. “The door to the market keeps closing a little bit every day with the county’s actions.”
Bruce Bennett, the county’s bankruptcy attorney, brushed off the criticism.
“To the best of my recollection, both Moody’s and S & P rated Orange County indebtedness at [their highest] double-A level through November of 1994,” he said Friday. “Their conclusion that the rollover transaction constitutes a default is about as reliable.”
The deal approved Friday calls for the issuance of $800 million in extension notes that mature June 30, 1996, and replace $600 million in taxable notes due Monday and $200 million in tax-exempt debt due later this summer. Noteholders are due to receive about 75% of their old interest rates throughout the coming year, and are promised repayment of the principal next June.
The remainder of their interest, plus a premium of 95 cents for every $100 invested, is to be paid when the county emerges from bankruptcy.
Bennett estimates that the rollover will cost the county about $29 million extra--about $2.6 million this fiscal year, plus $26 million later.
Friday’s vote ends, at least temporarily, weeks of increasingly bitter wrangling that saw representatives of the nation’s largest mutual funds crisscrossing the country for hastily arranged meetings.
At gatherings in San Francisco, New York and Chicago, the firms plotted ways of forcing the county to repay the $800 million owed to hundreds of thousands of investors who own Orange County bonds through their mutual funds.
In a flurry of faxes and in twice-weekly conference calls, a dozen attorneys argued arcane points of municipal finance law.
“This has been exhausting and stressful. We had bickering among ourselves. But the stakes were too high,” said a noteholder, and “nobody really lost it and stomped out of the room.”
Plans to extend the debt were going smoothly until mid-May, when the county reportedly backed out of a tentative agreement to pay out $430 million in accrued reserves to the holders of the $600-million note issue.
On May 16, at a law office in San Francisco’s Embarcadero Center, angry money managers from New York and Chicago spent four hours plotting the best way to get their money back.
“We were all so isolated up to that point. No one wanted to go public with the fact they owned Orange County bonds,” said one major noteholder, who still would not allow his name to be used. “We’re talking mutual funds here. We have public relations concerns.”
Finally, on June 12, after a weekend of frantic lawyering, a group of noteholders filed a court objection to the rollover, saying it was discriminatory and too far-reaching. Judge Ryan ultimately agreed with the objection, forcing major changes before approving the agreement June 27.
In deciding which way to vote, major noteholders visited with state officials, including state Treasurer Matt Fong, and warned they would boycott even State of California bonds if Orange County sought to invalidate its debt. State Finance Director Russell Gould took part in one conference call among noteholders Wednesday, soothing their concerns that the county might repudiate its debts later.
“We did not get formal assurances from Gould, but we do believe the state has taken repudiation off the table,” said Schwab’s Ward. “The state wants to preserve the integrity of the California municipal bond market, and that made for a much more reasonable dialogue.”
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(BEGIN TEXT OF INFOBOX / INFOGRAPHIC)
Investors Approve Rollover
Investors voted to extend the maturities on $800 million in short-term debt coming due this summer to help bankrupt Orange County avoid a default. Here is a look at some key facts about the agreement:
The Deal
Maturity dates extended until June 30, 1996
Noteholders receive about 75% of current interest rate monthly throughout the next year, then receive principal June 30, 1996.
When county emerges from bankruptcy, investors receive remaining interest plus 0.95% premium.
County waives right to declare the debt invalid.
County retains right to declare $600-million note illegal as part of lawsuit against underwriter, Merrill Lynch & Co.
County, taxable-noteholders and Merrill Lynch agree rollover does not affect future litigation.
The Debt
Nearly all of the investors supported rolling over the county’s $800 million debt, which has three segments. Amounts in millions, percent supporting rollover in bold and with an asterisk (*)
$600: Taxable notes issued for money to invest in investment pool run by then-Treasurer Robert L. Citron; originally due July 10, 1995. *100%
$169: Series A Tax and Revenue Anticipation Notes (TRANs), tax-exempt paper issued to coverexpenses while awaiting incoming property taxes; originally due July 19, 1995. *94%
$31: Series B TRANs; originally due Aug. 10, 1995. *98%
The Investors
Notes are owned by about 800 different parties, but more than 90% belong to 20 institutional investors. Three-fourths of the debt is taxable notes, and about 90% of that is owned by just nine investors. Taxable-noteholders and their holdings in millions:
Kemper Financial Services Inc.: $198
Federal National Mortgage Assn. (Fannie Mae): $90
Wells Fargo Bank: $65
Merrill Lynch & Co.: $64
Charles Schwab & Co.: $41
Lehman Bros.: $40
Boston Safe & Deposit Trust Co.: $25
Chase Manhattan Bank: $4
Bankers Trust Co.: $2
The Cost
An extra year of interest on the notes, plus the bonus interest promised by the rollover, totals nearly $29 million.
Sources: Orange County, individual investors, court documents; Researched by DEBORA VRANA and JODI WILGOREN / Los Angeles Times
