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Structured Finance Likely Savior for Municipals
Asset Securitization Report--SourceMedia (September 7, 2009)

Nora Colomer

Some U.S. states and cities have reportedly considered securitizations as a possible funding solution for budget shortfalls.

For instance, the state of California is looking to borrow from cities and use securitization as a means to cover the funding shortage that the state anticipates will be a result of the Proposition 1A arrangement.

Proposition 1A, which is an amendment to the California Constitution, would limit the state legislature's authority over local revenues.

A market analyst said that it would be the first time a state pulls off a structure of the like. "From our understanding, the state of California is looking to borrow money from local governments, and a securitization would provide a way for the local governments to recoup the cash today so that the local government wouldn't be out of pocket," he said.

Local agencies would be required to loan up to 8% of their property tax revenues to the state in exchange for a promise to repay by 2013. The impact of California's new state budget would mean that local governments could face $10 million in borrowed property tax to the state, $6.4 million in ongoing program cuts and a projected $1 million in road funding.

The Proposition 1A securitization program would provide local agencies and special districts an opportunity to exchange their anticipated state receivables for cash. The state pays for the borrowing interest incurred and the costs of issuance required for each agency to participate.

It is intended that local agencies participating in the securitization program will receive 100% of their respective Proposition 1A receivables (although final results may depend upon bond market conditions). The securitization funding's timing has not yet been finalized pending certain cleanup amendments to the enabling legislation, but the current securitization target is November 2009.

"California conducted a similar securitization program in 2005 when the state borrowed vehicle license fee revenue from cities and counties, but under the VLF financing program local agencies were required to cover the costs of issuance and pay interest costs," explained California Communities, which is issuing the securitization on behalf of the state, in a statement on the proposal. "As a result, local agencies received only about $.93 on the dollar from their loans to the state."

The market analyst was keen to point out that the phrase securitization often has a different connotation than the typical municipal debt structure. "These are often more like asset sales to the private sector, and local governments rarely have the intention to tranche the debt," said the analyst. "The closest thing to securitization that we have seen in this space is what California proposes to structure, but even then the proposal seems pretty straightforward."

Nonetheless, in the current market the idea of securitization has become more prevalent in the discussion of ways to fund the budgetary deficit that many states and cities face.

Monroe County in the city of Rochester, New York, for example, recently made headlines with its proposal to partially make up its budget gap by selling payment-in-lieu-of-taxes (PILOT) agreements. The county was looking to securitize the PILOT agreements over seven years. According to market reports, when the county announced the agreement, which would bet the county a lump sum in the 2009 budget, it said that it anticipated there would be an active marketplace for the agreements and that the county would have no problem securitizing them.

Monroe has since decided not to pursue its securitization because federal stimulus money has helped make up the revenue shortfall for its budget.

Detroit is another city also looking at the securitization market as a way to make up for its budget gap. The fiscal 2010 budget, proposed by administration headed by the city's prior mayor Ken Cochrel, reflects the elimination of the accumulated deficit by generating a lump sum of $275 million via the securitization of a number of city assets, including the Detroit-Windsor Tunnel, a city-owned public lighting system, as well as parking meters.

After a preliminary review of the proposed securitization, Irvin Corley Jr., director in the fiscal analysis division of the city council, believes that the deals could be reasonably accepted and that investors feel that the dedicated revenue streams associated with these assets are sound.

However, the current management believes that realizing this level of funding from securitizations is unrealistic.

Jared Pomranky, a real estate investor from Urban Detroit Wholesalers, said that, at the moment, investors haven't heard a lot about the asset securitization by cities.

"I have a pretty good insight into the Detroit economy and where it's headed, and I would say these investments all come down to the return and the amount of leverage on these city assets," Pomranky said. "The Detroit-Windsor Tunnel is an asset that should be considered excellent for securitization, as Detroit is the single largest trade corridor with another country. This isn't going to change anytime soon."

Pomranky added that downtown Detroit has gone through a renaissance with multiple new construction and rehabilitation projects as well as new stadiums like Comerica Park and Ford Field and a rumored rebuild of Joe Louis Arena in that vicinity. "More businesses are moving downtown like Quicken Loans, so I see the outlook for downtown Detroit being growth," he said. "That takes your other city asset of parking meters as being a very viable investment security."

However, Pomranky said he had mixed feelings about the securitization. "I think the securitization of city assets should be used only for temporary budget shortfalls for a couple of years where there is a clear path and plan to a reduction in expenses and increase in revenues," he said. "I haven't heard anything like this with Detroit. If we leverage all of our assets to meet budget shortfalls for a couple of years without addressing the real issues of too many programs and expenses for the revenue of a city with a severely reduced population, we are just perpetuating the issue."

He added that the hard decisions need to be made now instead of postponing them for the future administrations to handle. "If this was part of a clear plan that reduced expenses and increased revenue, I would support it," Pomranky said.

(c) 2009 Asset Securitization Report and SourceMedia, Inc. All Rights Reserved.
http://www.structuredfinancenews.com
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