Municipal Bonds

Bond Debacle Sinks Jefferson County


The stench that started rising from the sewers of Jefferson County, Ala., earlier this decade has grown all the more foul. Last month former Birmingham Mayor and former County Commission President Larry Langford was convicted for taking kickbacks related to the refinancing of county bonds that were issued to fund reconstruction of the county's antiquated sewer system. And on Nov. 4, J.P. Morgan Securities (JPM) agreed to a settlement with the Securities & Exchange Commission regarding the bank's alleged involvement in a "pay-for-play" scheme that helped Morgan secure the rights to some of Jefferson County's sewer bond offerings. While Morgan admitted no wrongdoing, it has agreed to pay the financially strapped county $50 million and drop a $647 million claim for termination fees. Bettye Fine Collins, the current president of the County Commission, which has been weighing whether to declare bankruptcy in the face of the mounting sewer bond debt, declared the J.P. Morgan settlement "significant" in a press release but issued no further comment. But bankruptcy experts aren't convinced. "It has a nice splash in the media," says Jeffrey Cohen, a partner at Washington law firm Patton Boggs who has served as an adviser to some of Jefferson County's creditors. "But it really has very little effect." The roughly $700 million windfall puts only a minor dent in the more than $3 billion in bond debt the county owes. Jefferson got mired in debt because it relied on complex interest rate swaps to protect sewer bond issues against a jump in interest rates. When the economy turned sour last year, the swaps backfired, and chaos ensued. The state so far has refused to throw the county a lifeline. That leaves just two options: declaring bankruptcy or renegotiating the debt with creditors. If Jefferson's finances can't be put right, county residents may see things they public services they take for granted—such as road maintenance and water—deteriorate rapidly. In order to avoid cuts in the budget that would affect living standards, Cohen recommends declaring bankruptcy immediately. "The county would be much better off filing bankruptcy, proposing a plan for all of its debts, and providing the investment community with some certainty," says Cohen. "[Further delay] could eat into the [county's ability] to provide services to its citizens, which is why governments exist." Setting a Precedent?Others aren't so sure bankruptcy is the most prudent decision for the much-maligned county. If it were to file for Chapter 9, Jefferson County might find temporary relief, but its future would be dismal, says municipal bankruptcy attorney Jim Spiotto, since it would face enormous difficulty securing funding to finance new initiatives. "No municipality of any size wants to file Chapter 9 because of the stigma," he says. "You want to work through these so you have continued access to the municipal market. The biggest problem people face after a Chapter 9 is what is life like thereafter." � Bankruptcy or not, municipal bond analysts say Jefferson County will have trouble for several years raising any funds through bond issues. Although experts are quick to note that the bond market is forgiving, and investors tend to have short memories, the magnitude of the debacle in Jefferson won't soon slip the minds of the muni-bond investment community. In order to overcome potential bondholders' leeriness, the county will have to be willing to pay higher interest rates or find other means to fund county initiatives. "At some point they will be able to get market access back," says Matt Fabian, a managing director at Municipal Market Advisors in Concord, Mass. "But it's just going to be much more expensive for them. Jefferson County is the scariest situation in the market today." � Fabian worries that Jefferson County's method of solving its problem could set a precedent for other bond issuers. While investors are prepared to risk default on riskier bonds, such as land speculation district bonds in Florida that default frequently, Jefferson County's sewer bonds are considered to be "safe sector credits" that yield a steady and supposedly worry-free return. Should Jefferson County declare bankruptcy or make an arrangement where bondholders get cents on the dollar, analysts fret that other municipalities facing similar problems—though likely on a lesser scale—would follow suit and either declare bankruptcy or make arrangements with creditors that would yield skimpy payments. "How Jefferson County got into its situation is unique," says Fabian. "But how it gets out could set an example for other issuers to follow, and that's the fear for investors."
Brian_burnsed
Burnsed is an editorial assistant for BusinessWeek based in Washington.

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