A growing number of local governements are considering not making lease payments on their outstanding certificates of participation, a trend that is shaking confidence in lease securities and "could lead to a rising number of rating downgrades," Standard & Poor's Corp. warns in today's issues of Credit Week.
In particular, possible defaults on outstanding certificates issues that have been openly considered in recent months in Brevard County, Fla,m and Florence County, S.C. -- if they materialize -- would send "shock waves" through the municipal insurance industry and the certificates market nationwide, writes vice preisdent Sally Rutherford, the agency's leading lease analyst.
Brevard's board of commissioners is scheduled to meet tomorrow to decide whether to go through with an earlier decision by the board to schedule a referendum in March on abandoning a county office building lease which provides payments of the county's $23.9 million certificates issue.
The highly unusual move to put the lease default proposal before voters was motivated in part by problems with the newly constructed building.
In addition, just a few months ago, the Florence County legislative board also discussed not appropriating payments on its 1990 law enforcement project certificates when the size of the project was questioned after the design and funding stages, Ms. Rutherford noted.
"Although an appropriation is in place for this year, the discussions-... raise doubts aobut the city's long-term commitment to the project," she wrote.
Both counties' certificates issues are insured and rated AAA because of the insurance. But Ms. Rutherford pointed out tha tuninsured lease certificates holders are also affected by the trend, since Klamath Falls, Ore., choose to default on an uninsured, unrated lease issue in February.
While lease defaults have occurred sporadically before, the credit agency said the alrming new trend tems from conditions common to local governments throughout the country right now.
Many small issuers have only ventured into the leasing market in the last five or six years. Often, the projects financed by these issuers are just coming into use, and the certificates are no longer being paid from capitalized interest.
"Governments are beginning to test their ability to make lease payments from operating revenues. For many borrowers (and investors) the timing of such a test could not be worse," Ms. Rutherford wrote.
Lease payments included in the operating budget are coming under greater scrutiny in many jurisdictions as they enter into their second or third year of tight budgets and regional economic stress.
These difficult budget conditions, as well as a project's failure to meet expectations, or a "change in political representations" can all lead a municipality to question whether it should continue making lease payments, Ms. Rutherford said.
The credit agency said it nevertheless expects most small and large issuers to continue honoring their lease obligations, if only out of fear of being downgraded or losing use of the facility being leased.
In its CreditWeek article, the agency served notice that "any discussions by a government lessee's policymakers to discontinue appropriations for an unenhanced and rated lease-backed revenue bond or COP could diminish the credit quality of the issue. Serious discussions could lead to a CreditWatch action or downgrade to a specualtive-grade rating."
The article also said, "Failure to appropriate on one else, moreover, might lead to a rating downgrade on other lease obligations. And ratings on other forms of the issuer's tax-backed debt might be affected, as could the issuer's GO rating."
