The COVID-19 pandemic is putting new pressure on revenue pledges made by a Chicago suburb under the securitization structure that allowed Chicago and several other suburbs to fetch higher ratings.
S&P Global Ratings last week revised its outlook to negative from stable on the city of Berwyn’s BBB general obligation rating and the A-minus rating on the Berwyn Municipal Securitization Corp.’s $80 million of 2019 bonds. S&P took similar action in April on Chicago's GO and securitization ratings.
"The outlook revision reflects our view that there is at least a one-in-three chance of a lower GO bond rating within a time frame of up to two years, given the challenges we expect the city to face both in the near term as the result the COVID-19 pandemic and related social distancing measures and over the medium term as a consequence of the economic fallout from the current recession," said S&P Global Ratings credit analyst Blake Yocom.
The GO rating is one of a trio of factors driving the negative outlook on the securitization bonds, said S&P analyst Scott Nees.
The corporation is an independent, bankruptcy-remote, special-purpose entity allowed under state legislation pursued by Chicago in 2017.
Home rule units of government can establish special issuing entities to issue debt secured by revenues that flow from the state like some sales taxes, shared income tax revenue, motor fuel and others. Under the lockbox structure, the pledged revenues go directly to the corporation, insulating them from a local government’s own fiscal stresses.
The market still imposes penalties on the deals and some market participants dislike the structure, warning it damages GO values.
The GO rating of the sponsoring government is an influencing factor and under priority-lien rating criteria the securitization structure is capped at four notches over the GO. The pledged sales and local shared income tax revenues also pose risks as they “could come under significant pressure amid the pandemic and recession, which could, in turn, pressure debt service coverage,” S&P said.
Growing exposure to the troubled Illinois state government is also factored into the rating.
“We are continuing to monitor revenue-sharing risk from the state and could take a negative action should we see signs of significant delay or loss of shared revenues,” S&P said.
Berwyn pledged to the securitization both sales taxes and income tax revenues the state hands over to local governments through the Local Government Distributive Fund. The state has cut LGDF levels in the past and transfers were delayed when the state went without a budget for two years between 2015 and 2017. It has imposed collection fees for sales taxes.
The state’s fiscal 2021 budget signed by Gov. J.B. Pritzker Wednesday didn’t cut funding but Pritzker has warned of general cuts if federal relief to make up for coronavirus-driven tax losses doesn’t come to fruition.
The city of 56,000, about nine miles west of the Chicago Loop, has liquidity to manage the pandemic crisis in the form of a more than $12 million fund balance that is about 20% of operations and has a $15 million credit line and would work to avoid a credit hit with spending cuts if needed, said finance director Benjamin Daish.
“We think we have sufficient liquidity to weather this issue and will revisit long term financial plan after the crisis passes,” Daish said.
The securitization bonds have two times coverage so half the pledged revenues would have to be lost over the course of the year before triggering repayment concerns, the city said. Collection reporting lags by a few months. The potential for future state cuts in pledged revenues is an unknown. “We are managing what we can control,” Daish said.
S&P rates Chicago’s securitization bonds AA. The city tapped only its sales tax that flows through the state. S&P shifted its outlook on the city’s BBB-plus GO rating and the securitization bonds to negative in April. Chicago can withstand a drop of 45% and maintain 1.5 times coverage. Chicago has sold nearly $2.7 billion under a senior lien between 2017 and 2019 and $1 billion of junior lien debt in January. The city issued the debt to refund bonds at lower costs.
Berwyn sold to Barclays the $80 million in March 2019 with an A series for $16.4 million maturing in 2035 and paying 4.29% with a B series for $63.5 million maturing in 2049 paying 5.73%. Proceeds refinanced existing debt and went to fund pensions. The bonds have traded better than the original prices. Barclays purchased insurance. S&P downgraded Berwyn’s GOs to BBB from BBB-plus last year due to the additional debt load the corporation prepared to issue the bonds.
The Chicago suburb of Bridgeview has sold $47 million of bonds securitizing sales taxes in 2017 and the suburb of Riverdale sold $10 million leveraging its income tax share in 2018.
