How Might Next Month’s Elections Affect Municipalities’ Fiscal Futures?

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eBlog, 10/19/16

Good Morning! In this a.m.’s eBlog, we consider the fiscal challenges Detroit Mayor Mike Duggan is encountering which could interrupt the city’s recovery from the nation’s largest-ever municipal bankruptcy, but note the city’s continuing progress towards becoming a national center of innovation;  then we head east to the exceptional challenge and nearing deadline for Atlantic city if it is to have a future versus being taken over by the State of New Jersey; then we fly to the West Coast where next month’s elections will determine the future municipal status of San Bernardino—the nation’s city on the road to exiting the longest municipal bankruptcy in American history, before jogging north to Stockton—where the post-chapter 9 municipality has a difficult mayoral election, but also where voters will decide what kind of municipal governance they want. Finally, we look south to observe the first steps in Puerto Rico under the new PROMESA law to address the U.S. territory’s quasi municipal bankruptcy.

Demolition Derby? Detroit Mayor Mike Duggan this week disclosed the Motor City’s controversial demolition program had been suspended by the U.S. Treasury Department this summer to address “mistakes” and “errors.” The federally funded program, according to Mayor Duggan, had been at a standstill since the middle of August—as the city and Detroit Land Bank Authority met with officials from the U.S. Treasury and the Michigan State Housing and Development Authority to reach agreement on a new set of procedures—procedures accepted by the Treasury at the end of last week, albeit Mayor Duggan declined to cite specific examples of what went wrong, albeit noting: “No amount of error in the rules is tolerable…We’re going to eliminate those mistakes with these new controls.” The contretemps comes as the city’s demolition program has become the focus of a federal criminal investigation, related to issues involving bidding practices and soaring costs. Based upon its approval of the city’s new rules, the Treasury has officially released $42 million allocated for the city’s fourth round of the program, albeit, as Mayor Duggan noted: “They didn’t do it casually,” adding the city’s “land bank did not have sufficient procedures in place to make sure we had proper documentation for all the bills and didn’t have sufficient controls to assure Treasury would not be charged for ineligible expenses.” Among the changes, Michigan State Housing authority employees will now be embedded at the land bank, along with the Detroit Building Authority to provide compliance support, input, and on-site assurance “that all contracts are bid appropriately.” The housing authority will also conduct quality control audits to assure ongoing compliance. In addition, the land bank has established a $5 million escrow fund for any demolition costs not eligible for Hardest Hit funding. Or, as Mayor Duggan put it, he was “very disappointed” by some of the things he learned during the review, but said federal and state officials will disclose those “when they are ready.”

The Treasury last August instructed housing authority officials to suspend disbursement of federal TARP funds to Detroit for blight elimination, including payment of invoices received from the land bank with the state’s second and third funding allocations under the program. Treasury, in addition, asked the housing authority to halt approval of demolition and other blight elimination activities by Detroit or its affiliates. (Detroit has been awarded more than $258 million under the federal program—with which the city has razed more than 10,000 homes early 2014. The new federal allocation is part of $130 million awarded to the Motor City in recent months. Mayor Duggan noted the new rules are in response to concerns over practices as well as Detroit’s volume of demolitions, stating: “It’s a far more intense review, because we are handing far more demolitions…The speed at which we went outstripped the controls that we had in place.”

Detroit’s auditor general last year had commenced an audit of the city’s demolition activities at the request of Detroit’s City Council in response to growing apprehension with regard to soaring costs and bidding: last April, Detroit Auditor General Mark Lockridge confirmed his office received a federal subpoena after releasing preliminary findings from the months-long audit. Adamo Group, one of the program’s largest contractors, also was served with a subpoena from the Office of the Special Inspector General for the Troubled Asset Relief Program, as was the land bank and Detroit’s Building Authority. Last May, the FBI’s Detroit office confirmed it was also investigating the program, and Detroit’s Office of Inspector General has been conducting a review of its own into an aspect of the program. The city has said it is cooperating fully with all investigations. Nevertheless, this week, Mayor Duggan stated he had seen “no evidence of criminal activity,” but declined to comment on the federal probe. Nevertheless, the fiscal costs are tolling: Detroit has more than $80,000 in legal fees for the investigation—and now faces more. The city came under scrutiny last fall over a pilot program aimed at attracting larger players to rapidly take down larger bundles of homes. At the time, a WJBK-TV report accused city building officials of improperly meeting with contractors in 2014 to set prices for the bulk demolition work before requests for bids were official. The administration has said there was nothing improper about the set-price contract initiative, which was discontinued shortly after it failed to attract national players. Last October, the Michigan State Housing Development Authority reviewed the land bank’s bid selection process related to Hardest Hit funds and did not uncover any significant issues. The agency, which distributes the federal funding once invoices are reviewed, did. however, require changes to “further strengthen their selection of contractors.” Detroit’s demolition costs have soared from an average of about $13,600 per house in 2014 to about $16,400 last year—more than 25 percent. According to the city, those rising prices were tied in part to new environmental safeguards: today, the average residential demolition is $12,575 per house, according to estimates listed on the city’s website. Detroit only stopped its federally funded demolition over the last two months. It has continued doing 25-30 city funded demolitions per week, Mayor Duggan notes.

Innovating an Old City. Matt Simoncini, President and CEO of Southfield, Michigan-based supplier Lear Corp., officially opened its Detroit Innovation Center yesterday, calling it an idea to boost technological transformation for the company and a return to the city in which it was founded: to Mr. Simoncini, the near $10 million investment represents a pivotal moment in Lear’s trajectory as a seating supplier turned advanced automotive technologies developer; yet he also perceives it as a foundation to Detroit’s resurgence, noting: “This city is on the cusp of changing the world: Urbanization, mass transit, that’s all going to come out of this town. While other places, like Silicon Valley, have players in a big pond…We are the pond. Detroit is going to have an amazing role in our future. We’re going to be part of that.” The workers there will focus on next-generation automotive battery charging, seating designs and technology integration and non-automotive projects. He adds: “We’re at a pivot point: So much of the work we do sucks everyone in. If I can get those workers out of the mainstream at Lear (in Southfield) and leverage what the city has to offer, we can send big things up the food chain.” Noting he is working with Wayne State University and the College for Creative Studies to develop curriculum and provide opportunities for those universities’ students, he added: “We (the auto industry) haven’t fully utilized what the city, and its universities, have to offer: These universities are in our backyard. I’m surprised more (companies) haven’t rushed down here to access that talent and help drive innovation.” He also is focused on opening a manufacturing plant in the city: he has discussed creating jobs in the Motor City instead of Mexico if he could attain a new wage tier with the United Auto Workers that pays in the mid-teens per hour with some benefits. A specified pay rate and benefits would need to be negotiated and are subject to moving up or down, according to the company: Lear currently pays $35 per hour, which includes the cost of benefits, at its just-in-time seating plants and upward of $25 per hour at its component plants.  Mr. Simocini notes: “This is my hometown. Of course I want to be part of its success.”  

The Edge of the Boardwalk. Chris Filiciello, Atlantic City Mayor Don Guardian’s chief of staff this week confirmed that the city did not submit a revised budget to the state, as Mayor Guardian warned in a letter that a tax increase would be “devastating” for Atlantic City, which he said increased taxes by 50 percent over 2013 and 2014. With the debt clock from the state ticking, Atlantic City is now nearly two weeks past its deadline in violation of its $73 million state loan; the next deadline is just over two weeks away—by which time the city must submit a five-year fiscal stability plan. It appears the Mayor believes his five-year budget will save roughly $73 million by 2021, in no small part related to the sale of its municipal airport, Bader Field, and its water authority for $110 million. In addition, the City Council is slated to vote on new labor agreements between the city and its seven worker unions, as well as consider privatizing payroll services. Under Mayor Guardian’s proposed five-year fiscal recovery plan, the city projects $72.9 million in savings from 2017 through 2021 (Atlantic City has annual budget deficits of about $100 million before state aid.). In his statement, Mayor Guardian listed 26 items on which Atlantic City has or intends to cut costs and raise revenues, including 400 fewer full-time workers since 2013, a recent shared-services deal with Atlantic County, bidding out city services, and land sales worth $7.1 million. In addition, Atlantic City has offered early retirement buyouts to 165 senior workers. The plan anticipates saving $7.4 million next year; $12.7 million in 2018; $17 million in 2019; $17.3 million in 2020; and $18.5 million in 2021, according to Mayor Guardian’s statement. The city currently has a fortnight in which to submit its plan to the state—the rejection of which would result in a five-year state takeover. The Mayor described the plan as one which “will include increasing revenue, reducing costs, maximizing redirected funds from casinos, receiving state aid, restructuring of debt payments, early retirement incentives, realizing the value of City owned properties and the MUA, and much more, all while maintaining Atlantic City’s sovereign right to local self-governance.” Nevertheless, how the plan will fare in City Council remains uncertain: the Council has pulled or voted down measures to dissolve the authority five times amid pressure from residents to keep the authority independent. (The Council must approve the sale at two meetings. The sale is also subject to state approval.) In addition, the Council will vote on seven memorandums of understanding with its police, fire, white-collar, blue-collar, electrical, and supervisory employees—with, according to Mayor Guardian, the city renegotiating contracts to include multiple years with no wage increases, restructured pay scales, health care cuts, and reduced overtime and paid-leave costs.

Getting Back to Fiscal Recovery. San Bernardino, the California municipality seeking to become the first U.S. municipality to overhaul its political structure while in chapter 9 municipal bankruptcy, and asking its voters next month to approve a new charter that strips the Mayor and city council of day-to-day operational control, has completed all of its required audits for the first time in six years, with the City Council having this week filed its FY2015 final audit, marking the first time since 2010 the city has all of its legally required audits. The FY2016 audit is due by March 31, 2017, a deadline the city will meet, according to Finance Director Brent Mason—albeit the audits were “qualified”—denoting the auditors were unable to find enough evidence the financial statements were accurate in four of 10 areas, leading Councilman Henry Nickel to note: “This is a job well done, but now I think the next step is implementing some corrective actions to get back to where we need to be.” Part of the challenge for the city stems from the 2012 state-mandated dissolution of the city’s redevelopment agency, requiring a significant expansion of the audit, or, as Mr. Mason notes: “They’re not small-ticket issues to get our hands around, but they’re all doable.” One of the qualified opinion concerns was with regard to the liability for compensated absences, such as vacation and sick time, which San Bernardino has proposed adjusting as part of its bankruptcy exit plan—a plan which appears to have the qualified approval of U.S. Bankruptcy Judge Meredith Jury.

Taking Stock in Stockton. Just four years ago, then Mayoral candidate Anthony Silva rode the city’s misery to an easy upset victory over incumbent Mayor Ann Johnston: the city was insolvent, in chapter 9 municipal bankruptcy, and besieged by violent crime. Now, as he ends his four-year term and faces re-election, Mayor Silva is himself confronting not just serious personal charges, but also serious crime. Unsurprisingly, he is being challenged by City Councilman Michael Tubbs, who believes the city’s mayor should be an “ambassador” for the city: he vows, if elected, that he will use the “bully pulpit” to showcase Stockton’s assets, like University of the Pacific, the Delta, the city’s proximity to the Bay Area, and its inexpensive real estate. He says Stockton is well-positioned to attract companies looking to expand in California; he also says he will maintain an open line of communication with the media to ensure awareness of the city’s accomplishments. Councilman Tubbs is seeking to become Stockton’s first black mayor and its youngest mayor. Unsurprisingly, the Mayor who was in charge when the city emerged from municipal bankruptcy, Mayor Silva, wants to be the city’s first two-term mayor since Gary Podesto left office at the end of 2004.

As we have noted, however, Mayor Silva’s tenure has, especially this election year, been marked by controversy, most recently a revelation that a gun stolen from him was used in the unsolved killing of a 13-year-old boy—followed almost immediately by allegations that he secretly made an audio recording of a strip poker game involving naked teenagers and provided alcohol to minors—even as he was serving concurrently as Mayor and CEO of the Boys & Girls Clubs of Stockton. But Councilmember Tubbs is confronting his own high-profile controversy: two years ago he was arrested by the California Highway Patrol for driving under the influence; he publicly apologized within days and pleaded no contest to the charges two months later.

A key issue for this post-bankruptcy city’s future could be governance: Mayor Silva has long claimed that Stockton residents would be better served by a governance system that provides more power to the mayor; he has previously advocated working to put a “strong mayor” ballot initiative before voters; he has never followed through, however. Unsurprisingly, Councilmember Tubbs disagrees, stating: “Stockton is incredibly blessed that we don’t have a strong mayor city…If you had a strong mayor city, your police chief would be gone…a lot of your staff would be gone. And the city would be run not with any thought, but be run based on the whims and feelings and ego of one central figure, which is incredibly dangerous.” These are not their only differences which the voters will have to consider: a key difference is Mayor Silva’s statement of nearly a year ago:  “The government of Stockton does not work…If you’re frustrated by why things haven’t changed, every day of my life is the same. Everything I’ve done, I’ve done without their help.” The election promises to be close: last June, Councilman Tubbs prevailed in the eight-candidate primary with 33.4 percent of the vote; Mayor Silva finished second with 26.4 percent.

Federal Oversight Governance in Puerto Rico. The Puerto Rico Oversight Board directed six of the U.S. Territory’s public entities to develop and present fiscal plans: the Puerto Rico Aqueduct and Sewer Authority, Puerto Rico Electric Power Authority, Government Development Bank for Puerto Rico, Puerto Rico Highways and Transportation Authority, Public Corporation for Supervision and Insurance of Cooperatives (COSSEC), and the University of Puerto Rico, having voted unanimously to tack on additional oversight responsibilities for itself to include some 24 island public entities—all as part of an emerging effort by the federal oversight board to create a ten-year plan. The Board’s Executive Director, Javier Quintana noted: “PREPA is beginning the process of preparing the fiscal plan as required by the Oversight Board: According to PROMESA, the fiscal plan should span at least 5 years. Because the Oversight Board has not yet set a deadline, PREPA does not know when it will be required to be completed.” In addition, the board barred all governmental covered entities from carrying out what it termed “out of the ordinary” financial transactions without prior board approval, including debt transactions or municipal bond sales. Board Chairman José Carrión, in the wake of Gov. Alejandro García Padilla’s presentation of Puerto Rico’s fiscal plan to the PROMESA board, the board would “confer with him about the central government and instrumentality plans…Then the board will seek public comment and consult with the government about the schedule for bringing their plans to eventual approval and certification,” in the wake of which the board will give the Governor a schedule for the process of submission, approval, and certification of the fiscal plans. The Puerto Rico Oversight Board also directed the Puerto Rico Aqueduct and Sewer Authority, Puerto Rico Electric Power Authority, Government Development Bank for Puerto Rico, Puerto Rico Highways and Transportation Authority, Public Corporation for Supervision and Insurance of Cooperatives (COSSEC)—six of Puerto Rico’s twenty-four public entities, and the University of Puerto Rico to put together plans—albeit without any explanation of why that specific six. Under the newly signed Congressional PROMESA law, the fiscal plan should span at least 5 years. Finally, the board ordered all of its covered entities to not carry out what it termed “out of the ordinary” financial transactions without prior board approval, including debt transactions or bond sales.

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