Stop, Drop and Roll

10 December 2008 | Alameda, Alameda Community Development Forum, redevelopment | John Knox White

I had a chance to grab time with someone who knows a lot about bond financing and adamantly dislikes redevelopment. He or she will remain nameless. Following that conversation, I asked if I could try and write up his/her concerns and present them (with appropriate pre-post vetting).

The overall discussion began with my post Clearing the Air on RedevelopmentM, which was acknowledged as factually correct, but was concerned that it might lead one to assume that redevelopment bond are a) risk free (aka free money) or b) somehow backed by the state government. Of course, I said neither thing, I was talking about some specific arguments that have been made about redevelopment bonds, but it’s good to clear up.

The discussion of “what happens if redevelopment bonds go belly up” is an exercise in “what if?” because so far it hasn’t happened, though with the current real estate situation, it probably won’t be long before one does.

So what are the possibilities?

Banckrupty court

A bankruptcy judge will most certainly become involved because there will be bondholders (see AP&T: Lawsuits of) and these will focus on recovering the outstanding bond amount. They will most certainly go after (and receive) the assets of the redevelopment agency (in the case of the BWIP, which includes Park Street and Webster Street, that would currently include the Alameda Theater, Parking Garage and Cineplex) and they would most likely get priority of all future tax increment to recover whatever the outstanding amount is.

It’s important to note that they would already be recovering 75% of the tax increment, as required by law, so if the redevelopment agency were to be forced into default, this would lengthen the amount of time that tax increment was redirected to the bonds and would also cut funding for anything the redevelopment agency was paying for outside of the bond repayments.

City takes over services paid for by the redevelopment agency at the time of bankruptcy

So there’s a possible outcome, if the redevelopment agency was somehow paying for services that were so vital to the redevelopment area, the city could feel that it needed to step in and continue funding those services.

City gets dragged in by a judge and is forced to pay

In lawsuits (see Measure H: lawsuit of), creditors often drag everyone and their brother into the lawsuit in order to collect whatever money is owed. The bondholders could, and I’ll agree, most likely would name the city as a co-debtor. It would then be up to the creditors to show that somehow the city had been financially involved in the dealings of the redevelopment agency. A judge would then decide if the city could be held liable and might decide to force the city to cover some of the obligation. It’s a big if, that’s made more unlikely by bond insurance, which covers defaults on bonds and which Alameda’s redevelopment agency carries.

A good explanation of actual municipal bond defaults (keep in mind that redevelopment bonds are issued by Alameda’s redevelopment agency, in all of the cases on this the city had actually backed the bonds) can be found here. The conclusion:

….there is no clean formula that determines who is accountable and who will bear the financial burden in case of a default. The outcome depends on circumstances and usually involves a litany of lawsuits. If payment is not resumed or covered by bond insurance, investors are, in some cases, able to recover their money through litigation, which can involve the entire range of actors, from the issuer to the bond counsel to the underwriters.

So if redevelopment goes bankrupt and if there’s litigation, then a judge still would have to find that the city held some fiscal responsibility for the agencies bonds. Given that the city is very clear in not using redevelopment money to pay for city expenses, the only possible example I can come up with is Alameda’s Assistant City Manager, who is paid 50% by the city and 50% by the redevelopment agency (he handles the Alameda Point Negotiations with both SunCal and the Navy). However, further investigation leads me to believe this is unlikely to be problematic. The city hires out some staff (beyond the Asst. City Manager) to the ARRA and CIC (the two non-city agency that work on development issues in Alameda). It doesn’t make the case air-tight, but it’s not backing the bonds with General Fund revenue.

And while we’re on caveats, bond insurance is hardly a perfect panacea. Like all insurance, the issuers will do what they can to wriggle out of any claims, it’s what insurers do. But the flip side is also true, which is it works the way it should often (or nobody would buy the stuff).

City’s bond rating is downgraded (causing them to pay higher bond rates)

If the city was found to be liable for some of the defaulted bonds, it could lower their credit rating. In the case of The Cicero Commons Recreation Facilities (a case where the city backed the Development Corps. Bonds, something Alameda hasn’t done), when the Facilities defaulted, the city was found liable as well and both entities bond ratings were lowered:

[T]he Corporation’s rating fell from investment grade to junk status (from Baa2 to Caa1) following three downgrades by the rating agency. The town was downgraded twice and fell to below investment grade rating (from A3 to Ba2).

Of course, there would have to be some liability found before this happened.

The City of Alameda’s ability to issue bonds could be reduced

If Alameda’s redevelopment bonds go into default and the restitution is to capture tax increment from the redevelopment area for a longer period of time than previously allowed, this would not only interfere with the ability of the redevelopment agency to issue new bonds, it would also keep all the assets within the redevelopment area from being able to back City issued bonds, thus reducing the bonding ability of the City of Alameda. Were this to happen at a time when the City of Alameda needed to raise money for bonds, the city would have to dip into its general fund to find the finances.

I am sure there’s more to come. But that’s it for now.

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