WASHINGTON - Parties on both sides of the Richmond Unified School District case said yesterday their next move will be to ask the California Superior Court of Contra Costa County to decide by yearend whether the district's defaulted lease issue was constitutional.
D. Ronald Ryland of Sheppard, Mullin, Richter & Hampton, attorney for the defaulted issue's trustee, U.S. Trust Co. of New York, said he will move in the next couple of weeks for a decision on the constitutional issue, which has been regarded as the central and most far-reaching question in the case.
Attorneys for the state and school district said they also are considering such a move. A hearing on the constitutional question will be set about a month after the motion is filed, making a decision likely by the end of the year, Ryland said.
The state and the school district, in defending the default on the $9.8 million certificates of participation issue last year, contended that the 1988 issue was invalid because it was used to finance operating deficits, creating debt without the approval of voters as required under the state constitution. They also argued that the issue was not valid because it was not authorized by the state's education code.
"We must clear up this issue of validity" before asking the court to enforce any further provisions of the lease contract, Ryland said. The court dealt the trustee a setback a week ago when it summarily dismissed Ryland's first motion to compel payment on the lease issue.
The litigants' vows to quickly move the controversial case forward came as the rating agencies and bond lawyers throughout California grappled with that first, sweeping opinion, which came in a bench ruling.
Judge John F. Van de Poel said he could not force the district to comply with a covenant in its lease contract pledging to budget and appropriate lease payments each year, because the provision had no basis in law. Such covenants are common to most lease financings in California.
The decision, which is still being into written form. throws into question the enforceability of the covenants in a broad array of financings that are not grounded in statute, bond attorneys said.
The litigating attorneys said they have heard from numerous bond lawyers around the state seeking details of the ruling, including some who are writing opinions on lease issues being readied for market. Those who did not attend the court hearing said they will have to see the decision in writing before they can fully sort out its implications.
Like most bond lawyers, Ryland said he believed prior to the decision that such budgetary covenants would be enforced in court and that school districts and other municipalities had ample authority to put them in their lease contracts.
Van de Poel's ruling was the first in California history to throw the covenants in doubt, he said, adding that he is likely to appeal the ruling.
One attorney, who asked to remain anonymous, said that while the ruling may affect municipal lease financings, it should not reach as far as the state's lease issues. In particular, the covenants behind the state's $2 billion of Public Works Board lease revenue bonds are safe because they were authorized by statute, he said.
The ruling also has potentially serious ramifications for the rating agencies, since they have generally relied on the budgetary covenants in giving California lease securities higher ratings than the lease securities higher states where issuers retain the right not to appropriate lease payments.
Standard & Poor's Corp. and Moody's Investors Service in recent days have been consulting with bond attorneys and delving through the lease documents on financings they have to determine whether their budgetary covenants have any statutory basis.
"It looks like most of our documentation on covenants is based on prior case law, not statutory authority," said Steve Nelli, Standard & Poor's vice president. But he said, "We won't take any action until we fully understand the situation. There's still a lot to sift through."
A Moody's spokesman said the agency is "closely monitoring" the situation, but is trying not to be alarmist" and will not comment until it fully analyzes the ruling.
An analyst for a major money market fund specializing in California securities said she found it "encouraging" that the judge is trying to avoid "exploding the bond market" by fashioning a "narrow" opinion based on procedural issues.
Besides being watched by a wary bond community, both sides in the lawsuit have been closely examining Van de Poel's ruling because it gives the first indication of how he views the serious legal questions about lease financings that have been raised in the Richmond case.
Both sides took some comfort from the judge's statements on Friday, and expressed hope they will win in the next, more critical round of the case dealing with the Richmond financing's constitutionality.
Ryland said he had "expected the court to deal with" the validity issue in its first ruling. But instead, the court dismissed the trustee's motion to enforce the lease's budgetary covenant on procedural grounds.
Ryland said he expects "progress" for investors in the second round because of indications the judge gave at last Friday's hearing that he may view the lease contract as valid.
While the judge was careful to say his ruling did not address the underlying issue of the lease's validity, he nevertheless made at least one statement in court that Ryland said sounded favorable: "I can't order [compliance with the budgetary covenant] even though the underlying financing is valid."
But state attorneys, who said they may also move soon for a "summary judgment" on the validity issue, strongly disagreed that the judge was leaning in favor of the lease's validity.
"That's just wishful thinking" on the trustee's part, said Michael Hersher, deputy general counsel of the state education department. "The judge distinctly expressed no opinion on the enforceability of the contract. If he said anything that suggested the contract was enforceable, then he misspoke," he said.
The state believes the judge's first ruling "was actually consistent without our argument about the COPs in general," Hersher said.
"We've been saying you have to treat them like leases. If you start adding on characteristics to these contracts that make them something other than leases," that creates unconstitutional debt, he said.
The budgetary covenant in the Richmond contract that the court refused to uphold "is not a normal contract remedy," he pointed out, and signals that the contracts' authors were trying to make the lease into a binding debt.