Skip to main content

The O&M bump: NY official claims arena bond refinancing didn't benefit Prokhorov (it did)



It's a rather astounding footnote to the $493.7 million refinancing last August of bonds for the Barclays Center, which are paid off by the arena operating company, now owned by Mikhail Prokhorov's Brooklyn Sports & Entertainment (BSE).

A New York State official said publicly that refinancing at a lower interest rate didn't benefit Prokhorov, because the savings get put into a separate fund for arena maintenance and capital improvements.

Not quite. That lowers Prokhorov's obligation. Everyone else reported the refinancing as a benefit, as noted in the Bloomberg headline above right, "Barclays Center Refinancing Saves $90 Million for Prokhorov."

After all, according to the arena lease between the state landlord, the Brooklyn Arena Local Development Corporation (BALDC), and tenant Brooklyn Events Center (parent of the arena operating company), the tenant must pay for operations and maintenance (O&M).

Operating & maintenance over the past four years
The decreased debt payments just mean that the arena's required payments in lieu of taxes (PILOTs), which are split between a large debt service payment and a smaller O&M payment, can now supply extra O&M funds.

By raising O&M payments via PILOTs from some $3 million to more than $11 million, that lowers the arena company's responsibility to otherwise pay remaining O&M costs, which totaled between $33.6 and $35.7 million over the arena's first four years, as noted in screenshot at right.

I sent my conclusions in this article to Empire State Development, the state authority overseeing the project and formal owner of the site, asking if they agreed Prokhorov benefited. The response, as detailed below, was to evade that question and to argue that the state also benefits.

The lost opportunity

It strikes me as a lost opportunity. After all, had New York State been more of a public steward, some of those expected savings--some $90 million, over time--might have been diverted to the public interest.

Remember, the original Memorandum of Understanding (MOU) between developer Forest City Ratner and city and state entities regarding the arena said that the arrival of a second professional sports team would mean "additional rent." That didn't happen--and the MOU was non-binding. This was another missed opportunity to use negotiating leverage.

The PILOTs plan

Let's recap: the arena is nominally owned by the state, via the BALDC, to enable tax-exempt bonds, and then leased to an operating company, which, rather than pay the public, makes PILOTs to pay off construction financing.

The PILOTs contain two sub-funds: the main one pays off construction debt; a smaller one is set aside for O&M. The PILOTs total increases slightly each year, so when the refinancing lowered debt-service payments--see 2017 below in the chart I created--that left more cushion for O&M.

Chart by Norman Oder, Atlantic Yards/Pacific Park Report, using bond documents

For example, 2017 PILOTs are about $34 million. Before refinancing, debt service would have been $30.9 million. After refinancing, debt service was lowered to $22.8 million. That potentially means about $8 million more for O&M.

The arena lease states:
Tenant shall pay, as agent of Landlord, certain utility, building systems, insurance and Capital Improvements costs (the "Landlord O&M Costs") that Landlord receives from ESDC from the O&M Fund (or be reimbursed therefrom), with Tenant responsible for any cost exceeding the amount of such costs actually received by Landlord from ESDC with no recourse to any other funds of Landlord.
News and analyst coverage

As Bloomberg reported 8/16/16, in Barclays Center Refinancing Saves $90 Million for Prokhorov, "Charles Mierswa, chief financial officer of the Nets and Barclays Center, said the amount is based on present value savings, or the current worth of a future steam of cash flows."

Ratings agency S&P, in an 8/9/16 statement, said the "proposed refunding results in substantial debt service savings of about $3.4 million, on average, over the debt term," but front-loading means about $6.6 million savings a year for the first ten years, then $1.6 million a year through 2044.

(By my calculation, extrapolating from the charts in the Office Statement issued a week after S&P's statement, the savings appear larger, as shown in the charts.)

Obfuscation by the state

Empire State Development (ESD) Senior VP Marion Phillips III, speaking to the 9/20/16 meeting of the Atlantic Yards Community Development Corporation (AY CDC), which is set up to advise the state authority (at about 1 minute into the video), described it deflectingly:
"The PILOT payments for the bonds do not change. The savings that will come… will actually just go towards the PILOT payments. The excess of that, or what we call the profit, actually goes toward a fund for the maintenance and the upkeep of the Barclays Center. Those funds are maintained at Mellon Bank; they are the trustee of the funds on behalf of BALDC."
No one queried Phillips, who is also President of the AY CDC.

A week earlier, at the 9/13/16 Atlantic Yards/Pacific Park Community Update/Quality of Life meeting, Phillips called it the refinancing a "very common sense approach to make a good business decision."

Queried how the refinancing helped Prokhorov, he said, "Actually it doesn't, because the bonds are repaid by PILOTs. Whatever excess there is from lowering the interest rate goes into a reserve account, held at Mellon Bank, a trustee appointed by ESD, that money goes into reserve to pay for maintenance of the building."

"It doesn't benefit Prokhorov in any way?" he was asked again.

"Not to my knowledge," he responded. (I audiotaped the meeting.)

The PILOTs fund and its disbursements


According to the 2009 and 2016 Offering Statements (aka prospectus) for potential bond purchasers, the PILOTs fund contains two sub-funds: one for debt service and another for “O&M. See chart at right, and click to enlarge.

The debt service part is funded first. Only when there's enough of a cushion to leave 10%--more than $3 million this past year--in the PILOTs fund can the overage go to the O&M fund.

So, if the overall PILOTs remain the same, a smaller amount of debt service leaves more money for operations and maintenance.

For the first four years of arena operations, an average of less than $3 million a year went into the O&M fund. That should increase considerably.

A new cushion

Below, the annotated chart from the recent Official Statement describes how the O&M Fund was funded, and how it is expected to be funded going forward. The vertical purple bar shows how O&M reimbursement leaps after refinancing, from some $3 million to more than $11.3 million, as also described on the bar chart above.


Again, refinancing at a lower interest rate means lowered interest payments. So there's more room for payments into the O&M Fund.

How much into O&M?

Both the 2009 and the 2016 Official Statements are silent on how much should go into the O&M Fund, presumably because it fluctuates, and surely also because it's not the main source of funding for such functions. As noted above, the tenant is responsible for additional costs.

Further, as noted in the screenshot at right and reproduced below, the lease requires the arena to be maintained "in a first-class manner" by the operating company:
The Arena Lease Agreement requires ArenaCo to comply with customary covenants relating to the operation and maintenance of the Arena, including a covenant to maintain the Arena in a first-class manner (subject to ordinary wear and tear and obsolescence) and in compliance with the applicable League Rules. In addition, the Issuer has agreed to make funds available to ArenaCo for certain operating costs and expenses of the Arena from the... O&M Fund... established under the PILOT Assignment... ArenaCo is obligated to pay all maintenance, repair and operating expenses for the Arena. Provided that no Event of Default is continuing under the Arena Lease Agreement, ArenaCo is entitled to receive from the Issuer certain funds that the Issuer receives from ESD which ESD has received from the O&M Fund pursuant to the PILOT Assignment. These funds may be used by ArenaCo, as agent for the Issuer, to pay certain Arena operations and maintenance expenses, such as costs of heating, ventilation and air conditioning, utility and energy systems (including costs of gas and electricity), the costs of Builder's Risk and Property Insurance and capital improvements to the Arena.
(Emphases added)

The obligation is that of ArenaCo. If they get sufficient O&M funds, they can use them. That's why it's considered cash flow, in the chart above, that benefits the arena operator.

So it seems clear that the refinancing, by lowering the annual cost of interest, left more money for the O&M Fund, and thus freed ArenaCo from using its own funds for operations and maintenance.

Querying ESD

"So my conclusion, backed up by these documents, is that indeed the refinancing benefited Prokhorov significantly," I wrote in a query to ESD, asking for confirmation or disagreement. The response:
On August 8, 2016, the Brooklyn Arena Local Development Corporation (BALDC) approved the refinancing of bonds for the arena. There was and is no change to tenant’s obligation to make “Payments In Lieu of Taxes” (PILOT), and there was and is no change to tenant’s obligation to fully fund both arena bond debt service and arena operation and maintenance. Tenant is required to make regular deposits into accounts dedicated to fund both obligations. Any savings resulting from decreased debt service remain dedicated solely to operation and maintenance of the arena (or, at the option of BALDC, long term arena capital improvements). These operation and maintenance funds cannot be released without ESD review and consent, and ultimately benefit ESD as owner and landlord of the arena.
But ESD as fig-leaf owner and landlord doesn't collect any revenues. The savings from decreased debt service leaves more money for O&M and thus less of a burden on Prokhorov. Note that the ESD response did not address a benefit to Prokhorov.

More profit to Prokhorov 

Let's look again at that chart. Note that Net Cash Flow--or ultimate profit to arena operators--is calculated by subtracting PILOTs from net revenue, then adding the O&M reimbursement. For example, in the 2016-17 operating year, arena net revenue is $46 million, calculated by subtracting operating expenses from operating revenue.

That sum is then reduced by $34.026 million in PILOTs. Does that then leave only $11.975 million in net cash flow? No. Add the $11.265 million in O&M reimbursements and the total is $23.24 million, as shown in the chart.

The purple vertical bar shows the difference in O&M after refinancing

As footnote 2 states, the O&M reimbursement represents "the difference between PILOTs and aggregate net debt service, which will be used to pay Landlord O&M expenses under the Arena Lease."

Note: in 2015-16 and earlier, the Net Cash Flow should have been adjusted downward, in my calculation, by payment of interest on a loan advanced by Prokhorov. (Arena managers said that shouldn't be counted.) I last year calculated a $9 million loss in 2014-15, after factoring in a $13.8 million loan payment. I have since corrected and updated that: the nearly $3 million in O&M reimbursement, as well as the differential reports regarding the total PILOTs, suggests the loss was instead $5-$6 million. That Prokhorov loan no longer exists.

Declining debt service

Compare, in the charts below, from 2009 and 2016, the difference between the estimated debt service (a component of the PILOTs), and the PILOTs. I've color-coded similar years.
Estimated PILOTs and debt service as of 2009
As shown, in 2017, with some $34 million in PILOTs (green), debt service drops from $30.9 million to $22.8 million. In 2020, with $36.2 million in PILOTs (mustard), debt service declines from $32.9 million to $24.8 million. In 2025, with $40.3 million in PILOTs (red), debt service drops from $36.6 million to $28.5 million. That leaves more money within the PILOTs for O&M costs.
Estimated PILOTs and debt service as of 2016
A significant gap, especially in the early years of the refinancing, becomes visible, as further shown in the chart I showed above and reproduce below. Again, that leaves more for O&M, and saves Prokhorov from paying for it.

Interestingly enough, those savings are front-loaded, and the gap closes somewhat by 2026. As shown, by 2030, PILOTs are $45 million, with debt service reduced from $40.9 million to $37.5 million.



Comments

Popular posts from this blog

Forest City acknowledges unspecified delays in Pacific Park, cites $300 million "impairment" in project value; what about affordable housing pledge?

Updated Monday Nov. 7 am: Note follow-up coverage of stock price drop and investor conference call and pending questions.

Pacific Park Brooklyn is seriously delayed, Forest City Realty Trust said yesterday in a news release, which further acknowledged that the project has caused a $300 million impairment, or write-down of the asset, as the expected revenues no longer exceed the carrying cost.

The Cleveland-based developer, parent of Brooklyn-based Forest City Ratner, which is a 30% investor in Pacific Park along with 70% partner/overseer Greenland USA, blamed the "significant impairment" on an oversupply of market-rate apartments, the uncertain fate of the 421-a tax break, and a continued increase in construction costs.

While the delay essentially confirms the obvious, given that two major buildings have not launched despite plans to do so, it raises significant questions about the future of the project, including:
if market-rate construction is delayed, will the affordable h…

Revising official figures, new report reveals Nets averaged just 11,622 home fans last season, Islanders drew 11,200 (and have option to leave in 2018)

The Brooklyn Nets drew an average of only 11,622 fans per home game in their most recent (and lousy) season, more than 23% below the announced official attendance figure, and little more than 65% of the Barclays Center's capacity.

The New York Islanders also drew some 19.4% below announced attendance, or 11,200 fans per home game.

The surprising numbers were disclosed in a consultant's report attached to the Preliminary Official Statement for the refinancing of some $462 million in tax-exempt bonds for the Barclays Center (plus another $20 million in taxable bonds). The refinancing should lower costs to Mikhail Prokhorov, owner of the arena operating company, by and average of $3.4 million a year through 2044 in paying off arena construction.

According to official figures, the Brooklyn Nets attendance averaged 17,187 in the debut season, 2012-13, 17,251 in 2013-14, 17,037 in 2014-15, and 15,125 in the most recent season, 2015-16. For hoops, the arena holds 17,732.

But official…

Is Barclays Center dumping the Islanders, or are they renegotiating? Evidence varies (bond doc, cash receipts); NHL attendance biggest variable

The Internet has been abuzz since Bloomberg's Scott Soshnick reported 1/30/17, using an overly conclusory headline, that Brooklyn’s Barclays Center Is Dumping the Islanders.

That would end an unusual arrangement in which the arena agrees to pay the team a fixed sum (minus certain expenses), in exchange for keeping tickets, suite, and sponsorship revenue.

The arena would earn more without the hockey team, according to Bloomberg, which cited “a financial projection shared with potential investors showed the Islanders won’t contribute any revenue after the 2018-19 season--a clear signal that the team won’t play there, the people said."

That "signal," however, is hardly definitive, as are the media leaks about a prospective new arena in Queens, as shown in the screenshot below from Newsday. Both sides are surely pushing for advantage, if not bluffing.

Consider: the arena and the Islanders can't even formally begin their opt-out talks until after this season. The disc…

Skanska says it "expected to assemble a properly designed modular building, not engage in an iterative R&D experiment"

On 12/10/16, I noted that FastCo.Design's Prefab's Moment of Reckoning article dialed back the gush on the 461 Dean modular tower compared to the publication's previous coverage.

Still, I noted that the article relied on developer Forest City Ratner and architect SHoP to put the best possible spin on what was clearly a failure. From the article: At the project's outset, it took the factory (managed by Skanska at the time) two to three weeks to build a module. By the end, under FCRC's management, the builders cut that down to six days. "The project took a little longer than expected and cost a little bit more than expected because we started the project with the wrong contractor," [Forest City's Adam] Greene says.Skanska jabs back
Well, Forest City's estranged partner Skanska later weighed in--not sure whether they weren't asked or just missed a deadline--and their article was updated 12/13/16. Here's Skanska's statement, which shows th…

Not just logistics: bypassing Brooklyn for DNC 2016 also saved on optics (role of Russian oligarch, Shanghai government)

Surely the logistical challenges of holding a national presidential nominating convention in Brooklyn were the main (and stated) reasons for the Democratic National Committee's choice of Philadelphia.

And, as I wrote in NY Slant, the huge security cordon in Philadelphia would have been impossible in Brooklyn.

But consider also the optics. As I wrote in my 1/21/15 op-ed in the Times arguing that the choice of Brooklyn was a bad idea:
The arena also raises ethically sticky questions for the Democrats. While the Barclays Center is owned primarily by Forest City Ratner, 45 percent of it is owned by the Russian billionaire Mikhail D. Prokhorov (who also owns 80 percent of the Brooklyn Nets). Mr. Prokhorov has a necessarily cordial relationship with Russia’s president, Vladimir V. Putin — though he has been critical of Mr. Putin in the past, last year, at the Russian president’s request, he tried to transfer ownership of the Nets to one of his Moscow-based companies. An oligarch-owned a…

Former ESDC CEO Lago returns to NYC to head City Planning Commission

Carl Weisbrod, Mayor Bill de Blasio's City Planning Commission Chairman and Director of the Department of City Planning, is resigning,

And he's being replaced by Marisa Lago, currently a federal official, but who Atlantic Yards-ologists remember as the short-term Empire State Development Corporation CEO who, in an impolitic but candid 2009 statement, acknowledged that the project would take "decades."

Still, Lago not long after that played the good soldier at a May 2009 Senate oversight hearing, justifying changes in the project but claiming the public benefits remained the same.

By returning to City Planning, Lago will join former ESDC General Counsel Anita Laremont, who after retiring from the state (and taking a pension) got the job with the city.

Back at planning

Lago, a lawyer, in 1983 began work as an aide to City Planning Chairman Herb Sturz, and later served as the General Counsel to the president of the NYC Economic Development Corporation, Weisbrod himself.