Harvey, Illinois, launches GO exchange offer on defaulted debt

Harvey, Illinois, is targeting an August settlement date in its long-planned tender exchange offer on its defaulted general obligation bonds.

The exchange that launched this week would allow investors to shed the bonds' default status, resolve investor litigation, and give the fiscally troubled Chicago suburb more time to repay its debt.

The city posted the exchange offer Tuesday after resolving a series of complicated issues, from a Cook County revenue intercept and use-of-funds-on-hand to efforts to reach all bondholders, which include institutional and retail investors. The deadline to offer bonds for exchange is Aug. 1 and the city aims for a settlement date of Aug. 22.

The proposed exchange — which extends the final maturity date by two decades but offers features like a tax levy with a direct intercept and trust estate — is the cornerstone of the consent agreement the city struck with a group of 2007 bondholders.  

It's billed by Harvey officials as a central step in an effort to restructure various debts with the aim of attracting economic development and bolstering a beleaguered tax base hurt by outmigration, shuttered businesses and an aging population. The city also has weak tax collection rates that pose a drag on its budgets.

"In our view, this benefits everyone so we are hoping for 100% participation from bondholders," said Robert Fioretti, of Fioretti Campbell LLC, which has long represented Harvey in litigation. "It takes the defaulted bonds out of default and ensures payments going forward on a regular schedule."

The restructuring "also elevates Harvey so we can pursue economic development which has been the goal of this mayor," Fioretti said referencing Harvey Mayor Christopher Clark. "Having the bonds in default cast a pall over the city and by taking them out of default it shows there is hope in Harvey."

The tax base has long failed to support the city's debts resulting in litigation from bondholders, pension funds and Chicago over delinquent payments for treated Lake Michigan water. Harvey also has been slapped in the past with Securities and Exchange Commission sanctions.

The city earlier this year approved the ordinance, trust indenture and other documents authorizing the sale of up to $36.5 million of limited tax GO refunding bonds that would serve as an exchange of bonds sold in 2002 and 2007 for a $27.8 million tax-exempt limited tax GO refunding series and a $6.3 million taxable series.

A consent agreement with bondholders who filed a lawsuit to enforce a tax intercept mechanism on their bonds set a June 2022 deadline for a debt restructuring, but it was delayed amid an arduous process. The next status hearing in the case before Cook County Circuit Court Judge Michael T. Mullen is next week.

Under the 2020 settlement agreement with bondholders, until the restructuring is complete, Harvey keeps 90% of pledged tax revenues and bondholders receive 10%. If bondholders agree to the exchange the consent agreement is cancelled.

Loop Capital Markets is serving as the dealer manager for the exchange. Globic Advisors is the exchange agent. Ice Miller LLP is bond counsel and Meristem Advisors LLC is advising Harvey. The dealer's counsel is Ballard Spahr LLP. UMB Bank NA is trustee.

The "city is making this offer available to you in connection with a plan to restructure a portion of its outstanding general obligation bonded debt … the bond are currently in default and have not been making the regularly scheduled payments of principal and interest," the exchange offer notes. "Bonds that are not exchanged pursuant to this offer will continue to be outstanding, defaulted, and ineligible to receive funds attributable to the Series 2023 Bonds."

Under the indenture, bondholders enjoy an identified payment source of a specific and segregated property tax levy with property tax revenues estimated, based upon historical property tax collection information, to provide sufficient funds to cover debt service. Revenues would flow directly to UMB from the Cook County Collector.

The financing structure requires any amount of the Series 2023 property tax revenues exceeding the scheduled payments for a bond year to be used to proportionately mandatorily redeem Series 2023 bonds.

The city proposes to convert the 2002B and 2007A bonds into Series 2023A bonds with a calculated aggregate par value based on 100% of exchanged par and past due accrued interest to the date of issuance of the Series 2023A Bonds.

Outstanding Series 2007B Bonds are proposed to be converted into Series 2023B Bonds with a calculated aggregate par value based on 100% of exchanged par and past due accrued interest to the date of issuance of the Series 2023B Bonds.

The A series offers rates between 4% and 4.5% with a final maturity in 2054. The taxable B series offers a rate of 5% with a final maturity in 2035.

The offering statement covers a long list of risk factors over 10 pages from the city's budgetary deficits and economic struggles to SEC risks. The city's property tax collection rate has ranged between 54.79% and 58.36% from 2017 to 2021.

"The city may not be able to reduce expenses sufficiently to compensate for its deficits or unfavorable revenue variances. The city cannot assess or predict the ultimate effect of these factors on its operations or financial results of its operations or on its ability to make debts service payments on the Series 2023 Bonds," the offering statement warns.

Population declined from 30,000 in the 2000 census to 20,324 as of the 2020 census. "The city cannot fully predict the effect of any future population decline on its finances, including receipt of sales taxes, incomes taxes, and real estate tax collections," the offering statement reads.

"Another enforcement action by the commission would require the time and resources of the city, and may adversely affect the transferability and liquidity of the Series 2023 bonds and their market price," it reads.

Harvey's past fiscal mismanagement led to 2014 SEC sanctions on a 2008 bond sale and the bond and water payment defaults. The SEC renewed its scrutiny and a federal judge in January 2021 ordered Harvey to rehire a consultant and prove the status of management reforms. The city and SEC resolved the latest compliance dispute at the end of January 2022.

In the event of a default, bondholders have the right to appointment of a receiver and holders of at least 25% of principal are needed direct the trustee to pursue other remedies.

The current bonds mature in 2032. A 2002C series for $1 million was defeased under an insurance policy from Assured Guaranty Municipal Corp., which is seeking repayment from Harvey.

The city began laying the groundwork for the transaction over the last two years, filing a series of long overdue audited financial statements and putting out financial updates in the absence of the most current audited results.

The city also filed default notices after years of leaving investors in the dark about its battered financial condition and status of its debts. The city also began making some debt payments while putting an experienced financing team in place. In January, it posted possible exchange terms.

The city filed its annual financial statements for 2016, 2017 and 2018 in March 2021, with the 2019 audit published in April 2021 and the 2020 audit in October 2021. The city in April published its 2021 audit but the 2022 audit is not yet published on EMMA. The city's fiscal year ends April 30.

The 2021 audit underscores the city's deep fiscal scars. The city has an accumulated unassigned deficit of $62 million in its general fund as of April 30, 2021. The city has accumulated unpaid balances due to Chicago for water purchases of more than $29 million.

The city operates on a $31 million general fund budget. In addition to $30 million of GO debt, the city has $3 million of hotel-motel revenue-backed bonds outstanding and remains current on those payments, which mature in 2028.

The city remains in litigation with Chicago over water debts. Chicago is seeking $28 million to bring Harvey into good standing. Harvey contends the number is closer to $14 million.

In 2018, Harvey settled a dispute with its public safety pension funds that sought to garnish tax revenues to make up for overdue contributions. The city has repaid the police fund but the firefighters were owed $14 million as of last summer.