O'Keefe in the News

Still early for oil-related muni bankruptcies, but pain may be ahead

Still early for oil-related muni bankruptcies, but pain may be ahead

June 16, 2016

As published by Caitlin Devitt, debtwire.com

It’s still early for distressed oil-dependent municipalities to consider restructuring or bankruptcy, but the double-digit drop in sales tax revenue afflicting some cities could foreshadow bigger pain next fiscal year, according to municipal restructuring experts.“It’s just too early, but [one is] right to be looking at it,” said one prominent municipal bankruptcy attorney. “Municipalities are always a lagging indicator. You might be seeing problems at the municipal level next budget year; that’s when I would expect to see it.”

Municipalities dependent on the energy sector in Texas are suffering steep declines in sales tax revenue, widely considered to be one of the earliest revenue sources to be affected by downturns. In the Lone Star State, the sales tax collected dropped 7.1% in May compared to a year-ago period, according to a recent release from Texas Comptroller Glenn Hegar, who blamed the decline on drops in collections from oil- and gas-related sectors.

The impact on property tax revenue and valuation will become clearer next year, said John Knox, a partner at Orrick, Herrington & Sutcliffe LLP.

“Sales tax is definitely faster to hit, and those effects can happen fairly quickly,” said Knox. “By the time that oil price declines find their way onto the property tax rolls it could be a couple of years.”

Knox, who is a member of Orrick’s Municipal Fiscal Distress Task Force, said the firm gets “calls all the time” from issuers and their consultants wanting to talk about the options for dealing with municipal distress. But he hasn’t heard much yet on the oil front, he said.

The City of Odessa, near the Texas Permian Basin oil field, has seen its sales tax revenue drop by 22% so far this fiscal year compared to the same period last year.

The decline sparked a downgrade from Moody’s Investors Service on 21 April. The ratings agency dropped the city’s limited-tax general obligation bonds to Aa3 from Aa2 and assigned a negative outlook, warning that weak sales tax performance could challenge the city’s ability to balance operations over time.

“We understand where our city is located and maybewe would definitely like to and we attempt to diversify as much as we can in our sales tax realm,” said Konrad Hildebrandt, assistant city manager over administration. “But that being said, we’re still tied to the oil and gas industry, that’s who we are.”

So far, property taxes, which make up 28% of the city’s general fund, have stayed “surprisingly stable,” Hildebrandt said.

“We’re down 9% in building permits, but we’re still issuing them,” he said. “We still have a growth in appraised value but …. Looking at fiscal year 2017 we’re probably going to budget for the status quo.” The city’s fiscal year begins 1 October.

Patrick O’Keefe, CEO of Michigan-based consulting firm O’Keefe, which specializes in restructuring, agreed it’s still early for widespread fallout and added that some cities can take a beating before being driven to the point of filing for Chapter 9.

“To the extent that tax revenues get impacted by the collapse in oil and gas, that would cause some hemorrhaging on the municipal level, but it usually takes a long time,” he said. “The housing industry in Houston fell apart in the early 1980s,” he added. “It took them 20 years to recover, but Houston never filed.”

Many cities in oil country face more challenges, such as larger unfunded retirement obligations, now than they did in the 1980s, warned the bankruptcy attorney.

“The municipalities were in much better shape back in the 80s, now there are some that have dug themselves quite a hole,” the attorney said. “They’re going to start running out of runway pretty soon.”