Bonds

Transit systems around the country have experienced a sputtering recovery from COVID-19, but the state of two large California agencies underscores how much the funding structure they had in place before the pandemic affects their fiscal recovery.

Before the pandemic, the San Francisco Bay Area Rapid Transit System, which runs 131 miles of rail service touching five counties, relied on strong performance at the farebox to fund service. With ridership still down substantially, it faces a looming fiscal crisis when federal COVID relief funds run out.

To the south, the Los Angeles County Metropolitan Transportation Authority, which carried more than a million people every weekday before the pandemic on its trains and buses, always had a low farebox recovery, meaning its pandemic challenges have been more operational than financial.

There is no question the pandemic took a toll on transit ridership, driving work-from-home or hybrid arrangements for office workers, and pushing other riders into private cars amid fears of contagion and public safety on board.

Moody’s Investors Service revised its outlook on mass transit to negative in November, citing a looming $70 billion federal aid cliff, soft ridership recovery, inflation-induced wage pressures and uncertain tax revenue conditions in 2023. S&P Global Ratings in January also assigned a negative outlook.

Moody’s predicted that slower tax revenue growth would create budget gaps in 2023 forcing transit systems to exhaust their remaining federal stimulus aid faster than planned, and accelerating the deadline to identify structural budget solutions.

In an interview Wednesday, three Moody’s analysts said that scenario appears to be playing out.

“A lot of entities have already drawn down a substantial amount of federal aid.” said Sunny Zhu, a Moody’s assistant vice president and analyst.

The likelihood of Moody’s revising its negative outlook in the near term is “dim,” Zhu said.

“If you look at it on a monthly basis, ridership has been somewhat flat. Ridership in March will probably be similar to what it was in December. The recovery rate has slowed down, and Moody’s is projecting an economic slowdown for the U.S., even though recent reports have talked about job growth,” Zhu said.

Don’t expect to see a lot of downgrades or rating actions taken as a result of the negative outlook, analysts from both S&P and Moody’s said.

“It’s more the case we feel certain transit issuers like BART, which is on negative outlook now because of its high reliance on the farebox, is experiencing much slower recovery ridership levels, and that puts pressure on the ratings,” said Joe Pezzimenti, an S&P director/lead analyst.

S&P assigned the negative outlook to BART’s GO bonds, rated AA, in September. It actually lifted the outlook on BART’s AA-plus sales tax revenue bonds to stable from negative in 2021.

Entities more dependent on fares are more impacted than those dependent on sales or property taxes, analysts said.

The New York Metropolitan Transportation Authority, like BART, is more dependent on farebox revenues, and its transportation revenue bonds are rated BBB-plus, said Scott Schad, an S&P analyst.

San Francisco continues to be an outlier across the nation with the lowest percentage of workers returning to downtown offices, said Pamela Herhold, BART’s assistant general manager for performance and budget.

The system recorded 3,344,059 passengers in January — 36% of pre-pandemic levels. The drop off is bigger on weekdays, when BART is at 34% of pre-pandemic levels, compared to 45% on Saturdays and 61% on Sundays.

Something that was once a bragging point for BART — having one of the highest farebox recovery ratios in the country — has become a liability post-pandemic, because the lack of riders means a lack of revenue. Farebox recovery ratio is the percentage of the annual operations and maintenance budget (not including capital costs like building the systems) that is paid for by people using the service.

Pre-pandemic BART received over two-thirds of revenues from farebox and parking fees, Herhold said.

“We are looking to flip that, particularly since San Francisco has been slow to recover,” Herhold said. “We were an outlier among most transit agencies across the U.S. That model worked well for us for a number of years. We are looking to shift it to 30% of revenues from fares versus the 70% it was pre-pandemic.”

BART doesn’t project farebox revenue to hit 49% until fiscal 2025, according to a presentation prepared for a Thursday BART board meeting. As a result it is staring at annual deficits of $300 million a year after federal funds are spent down in January 2025.

“Right now, we are putting all of our efforts into maintaining service levels,” Herhold said. “We are looking at ways we can reduce expenses without affecting service. Service cuts for us would be the very last thing on the table. With a large fixed rail system, it’s hard to really save on expenses by cutting services.”

BART has a dedicated 0.375% sales tax that has been performing well, Herhold said.

She said BART is in discussions with the Metropolitan Transportation Commission, the regional planning agency, about funding measures.

“BART also has the option of putting something on the ballot,” she said. “Everything is on the table, but nothing has been decided yet.”

The Los Angeles County Metropolitan Transportation Authority saw ridership plunge to 400,000 riders a day at the height of the pandemic, and only recently restored its bus service back to 100% of what it was post-pandemic, said Nalini Ahuja, LA Metro’s chief financial officer.

“Ridership has returned to about 72% of what it was pre-pandemic on the bus and rail lines,” Ahuja said.

But LA Metro has four different sales tax measures that provide the majority of its revenue, Ahuja said. The farebox provided 15% of revenue pre-pandemic, and has nearly recovered to that level, she said, but “we aren’t so dependent on it for operating revenues, so maybe we are slightly better off.”

For almost two years after the pandemic started, Metro didn’t even collect fares on its buses.

LA Metro also serves more riders with its bus lines rather than through rail, Ahuja said, and it primarily serves low income workers and essential workers who are more transit dependent.

“BART is a commuter rail, so they are more affected by people telecommuting,” Anelli-Michelle Navarro, LA Metro’s senior executive officer in finance.

LA Metro’s leaders have been focusing on customer service efforts like improving cleanliness and ramping up its ambassador service to increase safety to increase ridership. It also has increased the number of workers doing outreach with homeless people.

BART is doing the same.

“We have added more trains on Sundays, and increased the number of trains on event days, like when the Golden State Warriors [San Francisco’s professional basketball team] had a victory parade. That caused a big spike in ridership,” said Alicia Trost, BART’s chief communications officer.

“We want people to know they can expect better than normal service during events to get them out of their cars,” Trost said.

Like LA Metro, it has also increased its ambassador security system to increase safety. The ambassadors are unarmed, but can contact police officers if needed, Trost said.

Tom Kozlik, head of municipal research and analytics at Hilltop Securities, said in an interview that “mass transit is not too big to fail, because it’s not necessarily systemic in the way the financial system is, or was; but it’s too important to fail.”

What Kozlik said he means is since elected leaders and residents consider mass transit important, funding would come from other government sources, or through higher taxes or fees.

“When I say it’s too important to fail, it’s because I think they will come to a political or operational compromise to be able to fund transit,” he said.

The decline in ridership started before the pandemic, Kozlik noted.

“The numbers have fallen off a cliff, but ridership started dropping in 2014 and 2015,” he said.

He thinks there will be a continuing shift away from mass transit being supported by fares toward other sources of revenue.

“I can’t tell you what the optimal break down is between fares and fees; it’s different across the country,” he said.

Mass transit systems will need to increase the services offered and make them more customer service-oriented to woo back riders, Kozlik said.

“This will not be Harry Potter waving his wand,” he said. “There will be a lot of negotiation and headline risk where budgets are concerned on an annual basis, even as we get two or three years out. I don’t think they will snap their fingers and see balanced budgets in years 2024, 2025 or 2026.”

Moody’s doesn’t anticipate any defaults because most mass transit operators have high double-A ratings because they are funded by state and local governments, Zhu said.

“Even before the pandemic, we were expecting government would provide more and more subsidy of some kind,” said Nicholas Samuel, a Moody’s senior vice president. “These are essential services supporting a significant part of the population, including providing transportation for public safety workers. They are intended to be a service that requires subsidy, and we expect over time more government subsidy will be provided to them.”

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