Los Angeles braces for more coronavirus-driven budget cuts

BY SourceMedia | MUNICIPAL | 09/17/20 11:48 AM EDT

Los Angeles Mayor Eric Garcetti asked city managers to construct plans for a ?potential layoff scenario? after revenues came in $87 million below expectations for July and August.

Garcetti?s four-page memo was sent to city managers Sept. 11 after City Administrative Officer Richard Llewellyn released a report showing that revenues had failed to meet expectations.

?While we still navigate many unknowns, one thing is absolutely clear: the pandemic continues to have a devastating effect on city finances,? Garcetti wrote in the memo. ?We have seen the impacts across our books and our budget.?

The mayor?s ?fiscal restraint memo? included 14 recommendations for cuts beyond the proposed layoffs. Among these were to defer previously negotiated salary increases, evaluate opportunities to lease city assets, increase service fees, expedite grant and bond reimbursements and reserve fund loan repayments, and identify construction projects that can be postponed or canceled.

The city?s COVID-19 related financial woes haven?t eroded its ratings, so far, though the agencies have yet to weigh in on the city?s latest proposed steps.

The city?s general obligation ratings are Aa2 from Moody?s Investors Service, AA from S&P Global Ratings, AA from Fitch Ratings and AA-plus from Kroll Bond Rating Agency.

All of the rating agencies cited the city?s ability to successfully manage its finances after the 2008 economic crash as a strength in rating reports in August when the city priced a $266.9 million lease revenue bond refunding. The city came out of that with a half a billion structural deficit that it took years to right.

?The mayor?s ability to repeatedly re-estimate revenues and adjust expenditures throughout fiscal year 2021 is expected to provide critical budgetary flexibility during a period of great revenue and expenditure uncertainty,? Kroll analysts wrote Aug. 4.

Los Angeles has maintained its ratings even as city coffers have taken a body blow with many retail businesses closed, or only open for curbside pickup, since March. The city had a brief short-circuited reopening in July when COVID-19 numbers spiked again. California Gov. Newsom imposed the first stay-at-home order in March 19.

?The COVID-19 crisis has caused significant disruption to Los Angeles? previously vibrant economy,? Kroll analysts wrote.

All rating agencies assign stable outlooks.

Moody?s Investors Service revised its outlook to stable from positive April 17, saying the change ?reflected our view of the city?s likely revenue and reserve trajectory.? It also said that the coronavirus crisis was a key driver in its rating action.

  • Selfie
  • Client communications
  • Coronavirus
  • Practice management
Voices 3 ways sobriety made me a better advisor By Chip Munn 20m ago 2 Min Read
  • Show more sharing options Share Show more sharing options
Close extra sharing options
  • Federal Reserve
  • State and local finance
  • Washington DC
  • Coronavirus
Disagreement on the role of the Fed's Municipal Liquidity Facility By Sarah Wynn 1h ago 5 Min Read
  • Show more sharing options Share Show more sharing options
Close extra sharing options
  • Finance, investment and tax-related legislation
  • Tax credits
  • Payroll taxes
  • Coronavirus
  • Tax breaks
New bill would give tax breaks for training employees not to spread coronavirus By Michael Cohn 2h ago 1 Min Read
  • Show more sharing options Share Show more sharing options
Close extra sharing options

?The ratings reflect our view of the city?s strong local economy, very strong available cash levels, and weak budgetary performance as the city transitions into a lower revenue environment introduced by the pandemic-driven recession,? S&P Global Ratings credit analyst Tim Tung said in a July 29 report.

The city had already declared a fiscal emergency for fiscal year 2020-21 prior to the mayor?s recent memo, asking city departments to implement 18 days of furloughs for 15,000 employees beginning Oct. 11 and approving a buyout program that included an $80,000 incentive.

But Llewellyn?s report said those measures, which he called extraordinary, are not going to be enough.

Budgeted 2020-21 revenue through August is $509.5 million, $86.6 million below the budgeted plan of $596.1 million, with large shortfalls in economically sensitive tax receipts and department reimbursements, Llewellyn wrote.

Based on current trends, and even if economic activity returns to some level of normalcy in 2021, ?we estimate that revenue in the current fiscal year could fall short of budgeted levels by as much as $200 million to $400 million,? Llewellyn wrote. ?This estimate assumes social-distancing restrictions continue to be relaxed through the end of 2020 and do not include revised assumptions for the economic recovery after these restrictions end.?

The 2020-21 budget of $6.69 billion in general fund revenue was based on assumptions derived in April that were based on projections that the original Safer at Home order would end in May and the economy would recover quickly under the stable financial system and increased government reserves developed after the Great Recession, Llewellyn wrote.

The city?s fiscal year 2021 budget?s four-year forecast had already projected annual budget gaps as high as $228 million through fiscal year 2024.

The reserve fund balance had already been tapped when Kroll penned its report Aug. 4, reducing it below the financial policy target of 5% of budgeted reserves in order to close fiscal year 2020.

The city drew out $206.4 million from reserves to balance the $10.5 billion fiscal year 2021 budget approved June 1. The reserve fund, made up of the emergency reserve account and the contingency reserve account, will begin fiscal year 2021 with a balance of $242.7 million or 3.63% of estimated fiscal year 2021 general fund revenues, Kroll wrote.

?This will mark the first time in eight years that the reserve fund amount will be funded in an amount less than the city?s financial policy requirement of 5% of general fund revenues,? Kroll wrote.

The city charter prohibits drawing the emergency reserve to a level below 2.75% without a City Council finding of urgent economic necessity, according to Kroll. Upon such finding, borrowings from the reserve fund must first fund set-aside payments related to the city?s outstanding tax and revenue anticipation notes. The city issued $1.76 billion Series 2020 tax and revenue anticipation notes on July 7. The TRANs mature on June 24, 2021.

The subsequent rise in COVID-19 cases during the initial stages of reopening the local economy raises concerns about the potential for a longer and more drawn-out recovery than previously assumed, which would likely result in more severe budgetary pressure in the current and subsequent fiscal years with revenues underperforming the forecast in the city?s four-year budget outlook, Tung wrote.

?While Los Angeles is the second-largest city in the U.S. after New York and one of the largest economic engines in the country, it is not immune to recessionary pressures, as demonstrated by a spike in countywide unemployment rates to more than 20% and significant revenue reductions since the county implemented 'safer-at-home' requirements designed to reduce the transmission rate of the novel coronavirus,? Tung wrote.

The unemployment rate in Los Angeles was 17.7% in July compared to 4.4% a year earlier, according to Beacon Economics.

California?s total statewide nonfarm employment in the state expanded by 140,400 positions in July, according to an analysis released jointly by Beacon Economics and the University of California, Riverside School of Business Center for Economic Forecasting and Development.

?The addition of over 140,000 jobs in July is certainly a positive sign,? said Taner Osman, research manager at Beacon Economics and the UCR Center. ?But to place this figure in context, if we continue to add jobs at the same rate as in July, it will take until July 2021 to return the state?s labor market to the position it was in February 2020.?

Year-over-year employment growth in California now stands at negative 9.4%, one of the largest annual declines on record, trumped only by figures from earlier this year, Osman said. The state has continued to perform slightly worse than the nation, where nonfarm employment declined by 7.5% over the same period. In July, there were over 1.6 million fewer people employed in California than in July 2019, he said.

In general the bond market is volatile, and fixed income securities carry interest rate risk. (As interest rates rise, bond prices usually fall, and vice versa. This effect is usually more pronounced for longer-term securities.) Fixed income securities also carry inflation risk and credit and default risks for both issuers and counterparties. Unlike individual bonds, most bond funds do not have a maturity date, so avoiding losses caused by price volatility by holding them until maturity is not possible.

Lower-quality debt securities generally offer higher yields, but also involve greater risk of default or price changes due to potential changes in the credit quality of the issuer. Any fixed income security sold or redeemed prior to maturity may be subject to loss.

Before investing, consider the funds' investment objectives, risks, charges, and expenses. Contact Fidelity for a prospectus or, if available, a summary prospectus containing this information. Read it carefully.

fir_news_article