The Enron blow-up in 2001 provided lessons to be wary of off-balance-sheet debts. Today, City of Chicago provides some eerie similarities.
Chicago has accumulated rapidly growing debt, including bank loans and bonded debt, as well as obligations in other places. For many years, some of the largest debts (pension and health care benefits for retired employees) were left off the city’s balance sheet. That has changed in recent years as governmental accounting standards have finally required them to be included.
But the City of Chicago does not include a few interesting things on its financial statements. These include the Chicago Public Schools (CPS), the Chicago Housing Authority, the Chicago Transit Authority, and the Chicago Park District.
CPS paints its own dire financial picture, but Chicago does not blend the large negative financial position for CPS in the city’s own balance sheet.
How does it justify this? Chicago’s latest annual financial report notes “The financial reporting entity consists of the City and its component units, which are legally separate organizations for which the City is financially accountable. … The City’s officials are responsible for appointing a voting majority of the members of the boards of other organizations, but the City’s accountability for these organizations does not extend beyond making appointments and no financial accountability or fiscal dependency exists between the City and these organizations.”
Back in the late 1990s, Enron was providing a seemingly smashing success story. Enron’s stock price ballooned from about $10 per share in the early 1990s to a high of $90, before crashing to Earth (and $0) in 2001. Enron’s reported financials were masking a complex Ponzi scheme, one that relied on deceptive reporting to keep a spigot of fresh money coming in the door—until it didn’t.
The complex deals in Enron’s tool chest were in an area called “structured finance.” A respected textbook on the subject by Frank Fabozzi, Henry Davis and Moorad Choudhry called out some of Enron’s practices by saying “Liabilities that truly have no recourse to a company’s shareholders can justly be treated as off-balance-sheet. Enron appears to have violated this principle …”
In 2003, Bethany McLean and Peter Elkind told the Enron story in a best-selling book (which turned into a successful movie) titled “The Smartest Guys in the Room.” Summarizing some of the skullduggery, the authors stated “All the structured-finance deals Fastow and his team cooked up were meant to accomplish a fairly simple set of goals: keep fresh debt off the books, camouflage existing debt, book earnings, or create operating cash flow. At their absolute essence, the deals were intended to allow Enron to borrow money – billions upon billions of dollars that it needed to keep itself going – while disguising the true extent of its indebtedness.”
Granted, Enron was a pretty unique case, and Chicago is joined by other cities in not consolidating public school systems in its own books. And Chicago funding includes a significant slice of tax money, which arrives not exactly freely but through a rule of law (and force). But the similarities are a little disturbing.
In this light, consider the City of Chicago’s current and ongoing claim that “no financial accountability or fiscal dependency exists between the City and these organizations” – including the Chicago Public Schools.
The following quotes are lifted directly from the latest proposed budget for the Chicago Public Schools. Do you think any fiscal dependency exists?
- “The FY2019 budget also includes nearly $1 billion in capital spending — the largest single-year investment since the Mayor of the City of Chicago became accountable for the performance of CPS.”
- “CPS has received more than $1.3 billion in TIF funds for capital investments in schools throughout the city over the past decade.”
- “On top of capital expenditures on schools, Mayor Emanuel is also committed to declaring a surplus of TIF funds each year.”
- “ … “All other local” revenue includes the pension payment made by the City of Chicago on behalf of CPS employees to the Municipal Employees’ Annuity and Benefit Fund of Chicago (MEABF), and is estimated to be $52 million in FY2019. It is recorded as revenue as required by the Governmental Accounting Standards Board (GASB).”
- “FY2019 local contributions to capital projects are expected to be $32.5 million. This includes $18 million in TIF-related project reimbursements and $14.5 million from other local funding sources.”
- “Other Federal Grants …include competitive grants for other specific purposes. Below is a brief description of major grants under this category … CPS Head Start programs are funded through the City of Chicago. CPS anticipates receiving $36 million for the FY2019 Head Start program to serve all eligible enrolled students.”
- “The Law Department provides legal services to the Chicago Board of Education, schools, and the departments and divisions of the Chicago Public Schools. … MAJOR ACCOMPLISHMENTS … Drafted, negotiated, and/or provided advice concerning more than 1,000 contract matters, including: (a) a $1 million grant agreement from the City of Chicago Department of Family Support and Services to assist CPS in curricula development, instructional support, and computer science toolkits to help high schools develop implementation plans for the new Computer Science graduation requirement …”
- “Debt Management … CPS funds its Capital Improvement Program largely through the issuance of bonds. … As of June 30, 2018, the Board of Education has approximately $8.2 billion of outstanding long-term debt and $600 million of outstanding short-term debt. … CPS issues bonds backed by the full faith and credit of the Board, otherwise known as General Obligation (GO) Bonds. These GO bonds are paid for from all legally available revenues of the Board. … The first revenue source that is supporting CPS bonds is one of the following: EBF, Personal Property Replacement Taxes (PPRT), revenues derived from intergovernmental agreements with the City of Chicago, property taxes, and federal interest subsidies. The majority of CPS bonds are backed by EBF. … Additionally, $113 million in debt service will be paid by revenue resulting from Intergovernmental Agreements with the City of Chicago.”
- “By law, the City of Chicago has been contributing to the Municipal Employees’ Annuity and Benefit Fund of Chicago on behalf of the Board’s educational support personnel (ESP).”
- “Inter-government Agreement (1997 IGA) with City of Chicago - October 1, 1997: … The 1997 IGA represents a unique financing arrangement between the city of Chicago and the Chicago Public Schools to pay for the construction of new schools, school building additions, and renovation of existing schools and equipment. Per the agreement, the city will help the Board to finance its Capital Improvement Program by providing it with funds to be used to pay debt service on bonds issued by the Board for such purpose. The amount to be provided by the city will be derived from the proceeds of ad valorem taxes levied in future years by the city on all taxable property.”