“The Program,” MAMU’s toxic financing – Part 3

What happens when your interest-rate “swap” goes sour?

Step 4.) Now the city has the money they need to build their project and they have three years to do it. During that time they pay a fixed interest rate on the balance of the bond as amounts are drawn down to pay the bills. If someone asks what kind of debt this is (another question that will come long after there are pigs in the treetops) they will be told the city has a fixed rate of interest – which is a lie of omission because the fixed interest rate only lasts for three years. Once the project is complete the fixed-rate of interest on the debt is flipped over to a variable rate of interest for the next 27 years or more. MAMU then (figuratively) sends the interest payment on a long detour to the Shop ‘n Swap market where the newly created variable interest rate on their bond issue becomes a “derivative” which will flow through a conga line of agents, money handlers and speculators of dubious purpose and questionable reputation such as Wachovia and Morgan Keegan - both companies are among those prominently mentioned in the IRS and Justice Department criminal investigations.

This new “derivative” they’ve created will be invested in “interest rate swaps” which means one or more “counterparties” match up interest rates and quite literally “swap” them. He gets yours and you get his even if his has a higher rate of interest than yours…that’s why he wanted yours. Each of the more than 13 “funds” will add more handling fees while they use the variable interest rates to “swap” with others in this Three Card Monte game. The Swap auctions which auctioned these interest rates (thus the name “auction-rate securities”) were held every 7, 28, and 35 days. Theoretically, your interest rate could change every 7, 28, 35 days but not every interest rate derivative is traded that often. The point is it can change arbitrarily, often, and without the town knowing their interest rate has been “swapped” and changed from what they thought it was. If MAMU’s “swapper” guesses the interest rates wrong then the city whose interest rate he’s swapping will lose a lot of money but he doesn’t worry. Among all those piles of incomprehensible legal papers we let our Mayor’s sign it says we have to pay THEM for all of OUR money that THEY lose. If we don’t replace what they lose in gambling on Over-the-Counter derivative SWAPS, we will be short on our debt payments and that will hurt our credit so whatever they say we have to pay, we have to pay even if we’re paying someone else’s inflated interest rates.

What the hell is a derivative? At the end of this section are the academic definitions of derivatives and interest rate swaps. Just about anything that has an underlying asset, such as the utility project that the bonds are going to build, can be used to create a derivative as a basis for this kind of gambling. There are even derivatives based on weather data, such as the amount of rain or the number of sunny days in a particular region. Compulsive gamblers bet on things like that and that’s what this market is – a playground for another kind of compulsive high-roller. Think of it this way. A man and his wife buy an expensive house. After closing on the loan his brother-in-law says, “If you will pay me pay me a fee of 1.5% on the declining balance of your loan, I’ll deliver your mortgage payments for you every month on my way to Las Vegas but first I’ll launder your check into chips to play Roulette. If I win at Roulette, I’ll give you some of my winnings, but if I lose you’ll have to replace all the money I lose so I can make your mortgage payment otherwise you’ll default on your loan. Oh yes, whether I win or lose you’ll still have to pay me my 1.5% commission on the declining balance of your mortgage.”

Explained that way it sounds crazy - even illegal. But that’s the way the swap or auction rate market works...or the way it used to work. Duncan Kincheloe, CEO of MPUA, MGCM, MJMEUC/MoPEP and MAMU confirms it on page 4 of his bid cover letter to the City of Rolla. Kincheloe said this about the proposed lease-purchase, derivative SWAP financing plan for Rolla’s $18 million revenue bonds for a utility substation project: “If the fixed rate on the Lease is, say, 2.6% at the time of redemption but the market for SWAP is 3%; the City would receive a payment from the Program. [MAMU is the “Program”] Conversely, if the SWAP market is less than the stated rate on the Lease, then the City would be required to make up the difference [to MAMU]. Conversely, if the SWAP market is less than the stated rate on the Lease, then the City would be required to make up the difference [to MAMU].”

Since the market collapsed in February, investors are now stuck with these “auction-rate securities.” Auction-rate securities started as long-term bonds sold by municipalities that gave borrowers access to money for 20 or more years. But what's different is that they didn’t have a stated interest rate for the 27 year floating-rate term once their three-year fixed rate was up! Somewhere in your loan papers it talks about variable interest rates but it never says what the interest rate is going to be - something that might have been noticed if anyone had bothered to read the loan documents. After they are offered in a periodic auction every 7, 28, 35 or 49 days where investors bid on them and after the interest rate is “swapped” and “reset” to the new swapped rate – then you have an interest rate. Who you “swapped” interest rates with determined what your new interest rate would be. In theory, borrowers could access money for long periods at what were basically short-term interest rates. Investors were told that if they needed their money back in a short period of time they could sell their securities to other investors at an auction and recover their cash. Brokers and underwriters told investors they could get their money back anytime they wanted it because these auction-rate securities were “good as cash.” All these theories quit working in February 2008.

The lynch-pin fell out of the steamroller when the sub-prime mortgage fiasco caused the big insurance companies that had insured the revenue bonds to get their credit ratings downrated. They had high credit ratings because the credit rating companies didn’t really bother to investigate what the insurance companies were insuring (junk mortgage paper), they just had them fill out a few forms and “assurances” and swear that everything in their company was still hunky dory which was less true as time went on but they weren’t going to admit that. What the rating agencies like Fitch Ratings and Moody’s didn’t bother to check was how much bad paper the insurers were also covering in sub-prime mortgages. When the sub-prime mess began to unravel it eventually blew up the insurers along with everyone else in a spectacular cascading credit failure which is still affecting all our lives. The backing of the insurance companies were the only safety net the auction rate securities had so when investors saw that collapsing also they quit bidding in the auction-rate securities (ARS) auctions leaving those who were already invested in ARS’s holding the bag. If nobody is buying ARS’s, you can’t dump yours and get your money back. In the resulting credit vortex billions of dollars belonging to investors were flushed into a huge black hole because of the lies of greedy underwriters, banks and brokers.

For the last eight years the elected officials in the little towns have been “trusting the experts” at MAMU to be the middleman for their utility project funding. Until this summer when questions began to be asked about the MDFB-MAMU bond funding of a utility revenue bond project in Rolla, no one knew that any of these incomprehensible things called “derivatives, swaps” and “auction-rate securities” had anything to do with their MAMU funding. They did not know because they “trusted the experts” so they didn’t read their loan papers which contained references to all these terms and described how they would be used. “Derivatives” and “swaps” and “interest rate reset periods” were never explained to them by MAMU officials or - what would have been much better - by a reputable financial consultant, a disinterested third-party who might have told them the truth about the great risks inherent the derivative markets. When a lawyer from Gilmore & Bell was forced to come to a Rolla council meeting in July to answer questions about Rolla’s proposed MAMU loan, he admitted he didn’t know much about the process or the swaps or the risk and he claimed he knew nothing about the Cayman Island banks that are involved the 2006 MDFB-MAMU bond funding even though Gilmore & Bell was the firm that provided the Opinion of Bond Counsel for that same issue, which they were by then calling “MDFB’s Commercial Paper Lease Revenue Notes.” Strange that Gilmore & Bell were giving their professional assurances (for a fee) for the bonds but they knew nothing about any of this.

And the Cayman Island Connection was….? In the Investment Agreement of Rolla’s 2006 MJMEUC-MAMU financing contract (which the council didn’t see but which their mayor obediently signed) it described how: “Depository” Bayerische Landesbank acting through its Cayman Islands Branch, and UMB Bank, N.A. as trustee, under that Trust Indenture dates as of December 1, 2006 by and among Missouri Development Finance Board (the “Issuer”), the Missouri Association of Municipal Utilities (the “Sponsor”) and the Trustee providing for the issuance of up to $50,000,000 principal amount…” Why was there a Cayman Island Branch of a foreign bank involved in this loan? The documents don’t explain, the Gilmore & Bell lawyer can’t explain and MAMU either can’t or won’t explain. The MDFB-MAMU “Cayman Island Connection” probably explains why the IRS is so interested in busting up these derivative swap swindles. A lot of people down the conga line who were using these bonds were making money for themselves by manipulating our interest rates in the auction-rate securities market but they probably weren’t paying income taxes on their ill-gotten gains. That’s why they were smuggling diamonds out of the country in tubes of toothpaste. Things like that tend to upset the IRS.

The “good as cash” lie. Kincheloe claims, also on page four that, “The Lease-Purchase Agreement provides that the obligations can be redeemed in full, plus accrued interest, at any time. While there is no redemption premium, the redemption is dependent on the market for SWAPS at the time of redemption.” He also confessed, “Consequently, since the future [SWAPS] market is unknown it is impossible to determine the redemption savings/costs at this time.” This lie that they can get their money back “any time” is what Wachovia and other big banks and investment houses are being sued for telling investors. The obligations could not be redeemed “at any time.” People still have billions locked up in that failed market because they couldn’t get their obligations “redeemed at any time.” That’s why the banks are volunteering to pay back at least some of the money for the investors they swindled.

Kincheloe surely knew by July 2008 that the market had collapsed in February 2008, but Kincheloe was still selling investments in this imploded market whose participants were under criminal investigations by the Justice Department! He had to know it was all over the news. If he didn’t know it raises serious questions about his financial expertise, if he did know it raises an even more unsavory question. Rolla’s loan paperwork in June and July included interest rate swaps even while newspapers around the world were daily announcing the market disaster. Kincheloe also must have known that the interest rates some cities were hit with on their derivative swapped interest rates were double digit rates not his tiny 1.6% example.

If the members of Rolla’s city government or any of the other small towns that did business through MAMU had read Kincheloe’s bid letter, they wouldn’t have understand a word of it. How could they? Revenue bonds laundered into lease-purchases, with fixed-to-floating-rate interest payments used to create derivatives to be traded in the unregulated interest rate swap market, is not a common topic of the morning coffee klatches in Main Street coffee shops. If our local officials can’t understand it and can’t explain it to their constituents then they shouldn’t get us involved in it. We expect to get ripped off by gypsy roofers and diet pill salesmen but we don’t expect to be lured into scams by our own state government in the form of MDFB and quasi-governmental organizations like MAMU and MJMEUC. A pimp is a pimp is a pimp no matter how many VIP’s are on their board.

Here’s the question the council should have asked Kincheloe at the July Rolla city council meeting.

“Why, if the auctions of these so-called investments imploded in February ’08 and the market shut down, are you and MAMU and MDFB still out hawking these same dirty investments to Rolla and all the other public entities that are in the ’08 bond pool? Exactly what are you guys up to?” But only one member of the Rolla City Council, Donna Hawley, had the nerve to ask any questions. (continued….)

Definitions:

Derivative: In finance, a security whose price is dependent upon or derived from one or more underlying assets. The derivative itself is merely a contract between two or more parties. Its value is determined by fluctuations in the underlying asset. The most common underlying assets include stocks, bonds, commodities, currencies, interest rates and market indexes. Most derivatives are characterized by high leverage. Futures contracts, forward contracts, options and swaps are the most common types of derivatives.

Interest rate swap: A derivative in which one party exchanges a stream of interest payments for another party's stream of cash flows. Interest rate swaps can be used by hedgers to manage their fixed or floating assets and liabilities. They can also be used by speculators to replicate unfunded bond exposures to profit from changes in interest rates. As such, interest rate swaps are very popular and highly liquid instruments. In an interest rate swap, each counterparty agrees to pay either a fixed or floating rate denominated in a particular currency to the other counterparty. The fixed or floating rate is multiplied by a notional principal amount (say, USD 1 million). This notional amount is generally not exchanged between counterparties, but is used only for calculating the size of cash flows to be exchanged. The most common interest rate swap is one where one counterparty A pays a fixed rate (the swap rate) to counterparty B, while receiving a floating rate (usually pegged to a reference rate such as LIBOR).

"The Program," MAMU's toxic financing - Part 2

The MAMU bond laundry… down the rabbit hole.

Roughly, this is how they work the system as tax-free municipal utility revenue bonds are laundered into lease-purchase loans with hidden interest-rate swaps:

Step 1.) MAMU rounds up members who are planning* to do utility capital improvements and who will pay any amount of money to take advantage of MAMU’s magic trick - avoiding the risk of submitting their plans to voters as required in Article VI, Section 27(a) of the Missouri Constitution. MAMU then drives their flock to MDFB, the “conduit issuer,” where they fill out a few skimpy forms to get in on the next MDFB pool bond issue. According to MDFB’s 2007 state audit it’s clear that MDFB is none too particular about how the questions are answered.

(*In some cases they weren’t planning any capital projects they got pushed into it. When they signed their MoPEP contract one of Kincheloe’s great business ideas was that they would all buy diesel generators and become a generator farm and produce their own electricity with the most expensive fuel on the market. Kincheloe loaned them the money to buy the generators through MAMU. The generators are mostly gathering dust now because now Kincheloe doesn’t want to ‘buy’ any of their diesel generated electricity because if he buys it he has to give MoPEP members “MoPEP credits” for producing diesel kilowatts that cost 20-100 times the market rate per kWh. It’s getting hard to tell who is swindling whom here.)

Step 2.) Once the MDFB has a large enough flock of money-hungry sheep in the shearing pen, they issue a single pooled tax-free municipal revenue bond issue to fund all the applicants. Tax-free municipal bonds almost sell themselves, tax-free utility revenue bonds are nearly the same – it’s the tax-free part that makes them so good. They are prized in the market so the interest rates are usually lower than plain revenue bonds. Because they are desirable as an investment and big brokerage houses that do the bond underwriting need tax-free munis to service their biggest clients who always need tax-free investments, the servicing fees are negotiable but the little towns aren’t told that, they don’t know that with their tax-free municipal bonds they have leverage to get the lowest fees. They’re told it will be difficult to unload their bonds so a lot of people will have to be paid a lot of money to process and sell their bonds mostly based on a percentage of the loan. This is just bunk.

No proof that MDFB’s fees are cheaper. In Rolla’s case A.G. Edwards/Wachovia have been the underwriters for at least three MDFB-MAMU pool bonds over a period of the last five to eight years that we know of and we suspect Wachovia has been the chief underwriter in a lot more of MDFB’s financings. It would have been useful if the state auditor had checked to see if the MDFB and MAMU were competitively bidding MDFB’s lucrative bond “servicing” deals for all these pooled bonds as they are required to do but it doesn’t appear that the auditor checked that either. The result is that additional fees hidden in the body of the boilerplate – which can’t be found except by diligent plowing though 60 or 80 pages of legalese (that’s why they call it “due diligence”) - may add up to three or four times more than the commercial service fees would have been had the cities done the bonds on their own. Everyone assumes that the fees charged by the MDFB are less than from a competitively bid commercial company. Everyone assumes this because it’s what MDFB and MAMU tell them. But if the MDFB can’t prove they are providing cheaper fees for these financing issues than the commercial market is charging, and if their loan approval process is so superficial or so politically driven that a recent loan defaulted just months after they approved it, then, do the taxpayers of Missouri really need the Missouri Development Finance Board?

At this point the bonds have been issued, sold and the towns have the bond money they need for their projects. They could have stopped the process right here and do what all public entities used to do and what the well-managed ones still do - take a nice low fixed-rate of interest on their bonds, build their projects and pay back a fixed-rate loan with a steady predictable amount of P&I for the next 20 years, but that’s not what happens at MDFB anymore especially not since the Governor, the Lt. Governor and eight of their political friends hooked up with Duncan Kincheloe and his MAMU “Payday Loan Company.”

Step 3.) Each city’s revenue bonds are now rolled over into so-called “lease-purchase” contracts (a lease-purchase is just a short-term loan pretending to be a yearly renewable lease) between MAMU and each town that had a share of the pool bond funding. Each city is now not only paying the MDFB their proportional share of the bond pool servicing fees but they’re each handing over their bond proceeds to MAMU so MAMU can rent their own bond money back to them as a lease-purchase contract so MAMU can take a fee based on a percentage of the declining balance for the next 30 years! If you’re not already choking - read that again. The cities are paying MAMU an annual fee of 1.5% on the unpaid balance of the bonds for the next three decades to rent their own money from MAMU, another Kincheloe financing middleman. If you still find it hard to believe let’s try it another way. You can tell that by looking at MAMU’s audits that they do not have the cash to make a loan for lunch much less these multi-million dollar lease-purchase loans. So where does MAMU get the multi-millions they “loan” cities for lease purchase loans? The cities give MAMU the millions they just borrowed from MDFB so MAMU can loan or lease-purchase the millions back to them. If it makes your brain hurt, take an aspirin because from here it just gets worse.

If you think that’s just ridiculous you’re right but all swindles look ridiculous when taken apart. Kincheloe’s ‘hook’ is that his member cities are more than willing to pay MAMU 1.5% interest on the unpaid balance of the debt for the next 30 years of this high-risk adjustable interest rate on their bond debt and they’ll play any kind of absurd ring-around-the-rosy because they’re desperate to avoid letting the voters speak their minds in a referendum. Kincheloe has them convinced his “Program” provides them with the legal cover to do this. He can’t prove it of course, he just tells them it will work and they believe him - cult members never question their prophets. Do the cities care how much extra costs and fees they are paying to avoid public accountability? Probably not because their utility rate payers will pay those costs along with all the others so what do they care? If there is anything Duncan Kincheloe is good at it’s setting up straw corporations like MoPEP and MAMU to shuffle paper for the purpose of collecting money from the gullible for the benefit of the conniving.

The “tax-free” bond fingerprint. One of the smoke screens they will try to throw up is that the revenue bonds belong to MDFB not the cities. Wrong. A tax-free municipal bond, is one issued by a municipal, county or state government, whose interest payments are not subject to federal income tax, and sometimes also state or local income tax. There is no doubt that this bond money belongs to the cities, not to MDFB. The bonds describe MDFB as the “conduit issuer” of the bonds not the “owner” of the bonds. The tax-exempt status of the bonds is unique and can only derive from being an issue of the cities and towns that own the bonds no matter what misleading names they call the overarching financial issue such as, “Lease-Revenue Bonds” or “Commercial Paper.” If they’re tax-exempt bonds they are municipal bonds. The minute they ceased being the bonds of some qualified municipality they would cease to be “tax-free.”

The excuse, that this unnecessarily expensive, tortuous system of laundering utility revenue bonds into 30-year lease-purchase contracts (which conveniently gives MAMU decades of 1.5% income for doing minimal paperwork) voids the constitutional requirement for a referendum vote because the bonds have been laundered into lease-revenue contracts, won’t hold up to a legal challenge. Lease-purchase contracts and “commercial paper” by themselves cannot be tax-free. Only municipal bonds can be tax-free and these are tax-free municipal bonds. Neither new name on the cover page can cover up the fact that the original funding underlying the lease-purchase contract is still in tax-free municipal utility bonds no matter how many laundries they run them through or how many alias’ they give them. No matter what cosmetics they use to try to disguise the original tax-free municipal bonds they began as and they remain, tax-free municipal bonds issued to each city. The proof is that each of these so-called “Commercial Paper” or “Lease Revenue Notes” contains “Opinion of Bond Counsel” letters and the documents repeatedly refer to the underlying tax-free muni bonds that are being exploited to leverage debt to gamble in the interest-rate swap market.

Kincheloe’s loophole has a loophole. In the MAMU bid to Rolla on May 16, 2008, Kincheloe describes this shell game of laundering bonds into lease-purchase contracts and he explains that it is done to avoid the constitutional requirement for a referendum vote of approval by the folks at home. “The program does not require lease-purchase participants to fund a Debt Service Reserve and no voter referendum is required.” Even if anyone told the several city council’s that they were paying double fees and might soon pay even more in swap penalties to use the “Kincheloe loophole” they wouldn’t care. They are obviously willing to spend any amount of the public’s money to keep the public from voting on what they want to do and quite likely spoiling their plans to do it. If a citizen happened to ask why they weren’t taking a referendum vote first as prescribed in Article VI, Section 27(a) of the Missouri Constitution (such a question would be asked right after pigs fly) they can tell the home town folks that it’s just a lease-purchase contract with MAMU not really a utility revenue bond issue which must have a referendum vote. There’s only one thing wrong with Kincheloe’s bond laundry…the revenue bonds had already been issued to the cities by MDFB before the bond proceeds were handed over to MAMU to be camouflaged as lease-purchase contracts. Before MDFB put their names in the bond pool they should have received a certificate of the results of the referendum vote in each pool city that was held by the folks back home. Oops! Why were the Lt. Governor and the eight FOG’s (Friends Of the Governor) willing to overlook this critical piece of paper – the Certificate of Election Results – proof that there had been a home town referendum BEFORE the MDFB issued the bond proceeds in the city’s name and sent the bonds on to the MAMU lease-purchase laundry? Why were they so eager to help generate cash so MAMU and Wachovia could invest in the auction-rate securities market?

If any city had asked to see the full scope of the loan paperwork (which they never do because they don’t know there is anything else but the few papers they’re being force fed) and if they had read every page of it (which they wouldn’t, reading being another thing that will only happen after pigs fly) they would have discovered, as we did, that the interest payments from the bonds, d.b.a. the lease-purchase contract, were being sent on to other financial agents each of whom would charge the city another percentage for using their money in a financial contrivance they knew nothing about. The ‘other’ financial agents also charge fees. At one point in the latest Rolla-MAMU contract there are no less than 13 different “funds” that will be set up with a different beneficiary attached to each fund and none of the beneficiaries were the City of Rolla. Blissful in their ignorance, the Rolla City council think they are getting a fixed rate of interest that will not exceed 5% (the fixed rate only lasts three years, then it coverts to a floating rate) and they think they’ve gotten a real cheap deal on the fees by going through MDFB-MAMU for their money. Why do they think that? Because Kincheloe said so and so did Dan Watkins, the guy who runs their utility department. Dan said it was a good deal and they “trust the experts.” After all who would know more about complex Wall Street financing deals than a guy who can climb a utility pole?

Why we must vote on utility revenue bonds but not other types of revenue bonds. The state limits every public entity to a certain percentage of debt - a percentage based on the total assessed real estate valuation of the district - that’s their “debt ceiling.” But the state only counts General Obligation bonds – the ones people vote on and pay off on their property taxes – in that debt ceiling calculation. Revenue bonds are exempt from that debt limit total so that’s why cities like to use revenue bonds instead of GO bonds. Revenue bond debt is kind of off-the-radar, almost secret debt. However, one type of revenue bond debt is different – it’s revenue bonds for utility projects. The courts decided this because revenue bonds for utility projects are repaid by the utility users in their utility rates and fees so they work almost the same as G.O. bonds – repayment is a direct financial obligation of the voters in both G.O. bonds and utility revenue bonds. If the majority of citizens vote for a utility revenue bond to build a new sewer system their sewer user rates will go up by whatever amount necessary and for whatever number of years necessary to pay off the utility revenue bonds. That’s okay because voters agreed, when they went to the polls to vote on the bond issue, to pay the increased fees as stated on the ballot – they knew what the deal was going in. However, if, by use of the alleged loophole claimed by the MDFB-MAMU “bond laundry,” the city can pile up unlimited amounts of utility revenue bond debts that the public will be forced to pay off in their utility rates but which, because of this MAMU trickery, they never get to vote on, then any irresponsible bunch of elected and official fools can abuse this loophole repeatedly and run up a crushing burden of debt that the town and residents cannot survive.

In the unlikely event that the ‘MAMU loophole’ were challenged and upheld by the court then citizens would forever be denied their constitutional right to vote on revenue bonds for utility issues i.e. taxation without representation. The people would be helpless to stop reckless officials from ruining their community’s financial condition. Such a court decision would also put utility rate increases beyond reach of the Hancock Amendment. Voiding two constitutional amendments at one blow by use of his ‘revenue bond laundry’ is beyond even Duncan Kincheloe’s powers. In the entire legal history of Missouri the record of decisions issued by the Missouri Supreme Court and the several Missouri Appellate courts says that if they were asked the question today, “Can a utility revenue bond issue be disguised as a lease-purchase contract to avoid compliance with Art. VI, Sec. 27(a)?” their answer would be a firm “no” because it has never been their habit to take a cavalier attitude toward the financial fortunes and security of the communities of this state and the constitutional rights of its people. (continued….)

“The Program,” MAMU’s toxic financing– Part 1

Editor’s note: For the next few blogs we will change the subject to explain another of the “products” offered by Kincheloe & Co. - financing your capital projects through MAMU, the lobbying and financing arm of the MPUA consortium. The tax-free municipal revenue bond loans MAMU has arranged for member cities since 1999 are now the topic of headline stories about the collapse of the auction-rate securities market. Most Missouri cities that have had capital financing set up through MDFB and MAMU over the last eight years aren’t aware that they are part of this growing financial scandal or what effect it may have on their debt repayment and/or their utility costs. Here’s how it happened:

How the Missouri Development Finance Board and MAMU pimped Missouri towns into the interest-rate swap market.

On July 17, 2008, Missouri Secretary of State Robin Carnahan and the securities representatives of ten other states swooped down on Wachovia’s offices in St. Louis in a “this-was-not-a-raid” to collect documents Wachovia had been tardy in handing over to the SOS. The inquiry was in regard to Wachovia’s lending practices and their involvement in certain toxic financing mechanisms that go by several names, “derivatives swap market” a.k.a. “auction-rate securities” a.k.a. “GIC’s or Guaranteed Investment Contracts,” which actually aren’t guaranteed at all. They go by several names because this isn't a regulated market so there is no standardized glossary of terms for these Nigerian-like investment vehicles. Bloomberg.com has been covering the auction-rate melt-down since 2005, before it began to melt-down but now that everyone is covering the scandal, reporters and editorial writers often use different terms for the same thing. “Interest rate swapping” is what they do with the interest money produced by a revenue bond. “Auction-rate securities” are what the scammers sell to investors. They’re two sides of the same coin.

Carnahan said she was responding to the complaint of 70 Missouri citizens who complained that they were ripped off by Wachovia’s sales of auction-rate securities and other illegal securities practices. What Secretary Carnahan doesn’t appear to know is that one of the Typhoid Mary’s of this toxic loan scam has been generating auction rate securities right under her nose and doing it – not just one rich investor at a time but – but in large job lots on the backs of Missouri towns. These loans were done for the unwary towns that borrowed money through the Missouri Development Finance Board (MDFB) in collaboration with the Missouri Association of Municipal Utilities. (MAMU is the lobbying and finance arm of MPUA, MJMEUC-MoPEP and MCGM) MDFB and MAMU have been using the interest rates generated from MDFB-MAMU utility revenue bonds to invest in the derivative swap market - probably without the knowledge of the little towns they were exploiting.

So Secretary Carnahan actually has - not 70 victims of this lending scam - but thousands. All the rate payers in all the little towns who will have, or already have had, their utility rates raised to repay the high interest rates of derivative swaps gone wrong. The “auction-rate securities” victims in these small towns probably read the story in the paper and said, “Tisk-tisk, what bad things those city people get up to,” without having a clue that their own city officials have borrowed money through MDFB-MAMU and they have had their interest rates traded in the very same “auction-rate securities market.” They were the scam victims they were reading about.

MAMU brags they have funded as many as 40 loan projects for a total of $155,000,000, in loans that may all have started out as tax-free revenue bonds for public entities but then, behind the backs of the people in the city council’s that approved the loans, the interest money was funneled into the auction-rate securities swindle. The MDFB brags that they have funded a total of 187 projects for a total principal debt outstanding of $2.1 billion. How many of those 187 loans were revenue bond loans of the kind that were laundered into MAMU lease-purchase loans which were secretly redirected into the poisonous interest rate swap market.

Auction rate securities are essentially long-term debt products, like revenue bonds whose variable or ‘floating’ interest rate is reset every 7, 28 or 35 days at an auction between banks and other derivate speculators. An interest-rate swap is exactly that. Two parties, called “counterparties” actually swap interest rates. If the market changes and you happen to be holding the wrong interest rate – you’re screwed and the other guy makes money. When the auction-rate credit market seized up and imploded in February it created a cascading credit failure that has reached international proportions. The crash of the auctions left clients high and dry with no way to redeem their investments in ARS’s that they were originally told were "cash equivalents." It wasn't that the ARS's were worthless it was just that when the auctions that determined their value vanished, without the auctions to measure their value they became….worthless.

These transactions were all done in the OTC or over-the-counter market, the “gray market” in Wall Street's back alleys where the flashlights of the Securities and Exchange Commission regulations do not reach,so there was no recourse through the SEC until in 2005 when the Justice Department and the IRS started investigating and came up with plenty of criminal activity. It has taken four years but the criminal trials are now beginning which is why the big banks and investment firms are suddenly willing to make reparations for the money IRS and Justice says they swindled out of their clients. In one case a broker was caught at customs with diamonds hidden in toothpaste tubes. He was transporting his clients’ ill-gotten gains to the safety of their Swiss bank accounts and Cayman Island deposit boxes.

These so-called ‘investment instruments’ or derivatives were hawked to investors as “just like cash” investments. The only thing that is “just like cash” is cash. Now that the auction-rate securities market has collapsed investors have been left with what some estimate is $330,000,000,000 (that’s billions) in losses. To shut up the rich investors and big hedge fund managers who were calling for government regulation and threatening lawsuits, several banks and investment firms, Morgan Stanley, JP Morgan Chase, Citigroup, Merrill Lynch and now Wachovia, are trying to work out refund deals for some, not all, of the investors they “allegedly” deceived. The big squeaking wheels are going to get the grease but what about the little towns in Missouri that MDFB and MAMU have ripped off with the same investments in the same market for the last eight years? The raid on Wachovia on July 17 by Secretary of State Robin Carnahan was, she said, for the 70 investors who complained to her. Wachovia has now offered to make good for her 70 investors and others but Wachovia also used many, if not all, of the MDFB-MAMU generated revenue bond loans that they underwrote to gamble with in the same auction-rate market. Who is going to be our squeaking wheel to get back our grease? They’re making noises about shutting off the payouts next year. Anyone who isn’t in the queue will be flat out of luck unless they hire a lawyer and sue.

Why a state agency is involved in this investment rip-off. The MDFB story started in 1982 when the state decided it would speed up economic development, and thus increase the taxes they could collect, if they made it easier for Missouri towns, cities, counties, school districts etc. to go into debt for economic development and utility infrastructure projects. After going through several legislative remakes and names, in 1993 the state ended up with the Missouri Development Finance Board (MDFB) as “a body corporate and politic.” RSMo100.250-297 and 100.700-100.850. The MDFB's mission was to assist businesses and public entities obtain financing through the issuance of conduit revenue bonds, direct loans, and issuance of tax credits.

The MDFB could do several kinds of things but one of their main activities was to pool the small and large revenue bonds of public entities and process them together which, they claimed, would reduce the administrative costs and fees associated with issuing bonds through the usual commercial bond agents and underwriters. This encouraged small towns to consider going into more revenue bond debt because all they had to do was fill out a few overly-simple forms and the MDFB would make money appear. Hot damn, it was easier than printing money! Doing business through MDFB and MAMU also had this very attractive bait. They were told by MAMU Ex. Director, Duncan Kincheloe, that by laundering their MDFB utility revenue bond into a MAMU lease-purchase they could take advantage of an alleged loophole in the law (Article VI, Section 27(a)) which Kincheloe claimed (but did not have to prove) would keep local government from having to submit the utility bond issue to their voters in a referendum. Laundering the bond issue into a lease-purchase would also, he claimed, (but he has also has never had to prove this) eliminate the need for a bond reserve fund. With no local referendum the voters would be forced to pay the debt off in their utility bills whether they wanted the project or not. Hoorah! From the point of view of local politicians it was better than finding the freaking fountain of youth.

The MDFB is governed and controlled by a group of political VIP’s. Lt. Governor Kinder (R) and eight of the sitting governor’s best friends serve for staggered four year terms. Three state department directors, all the Governors appointees, are voting members. These 12 very VIP’s were supposed to oversee staff and carry out the statutory mandate. Currently the members are: Lieutenant Governor Peter D. Kinder, Chairman,

• Mr. John D. Starr, Vice Chairman
• Mr. Larry D. Neff, Secretary
• Mr. Nelson C. Grumney, Jr., Treasurer
• Mr. Richard J. Wilson
• Mr. L. B. Eckelkamp, Jr.
• Ms. Danette D. Proctor
• Mr. John E. Mehner
• Mr. S. Lee Kling
• Mr. Gregory A. Steinhoff, Director, Department of Economic Development
• Mr. Don Steen, Director, Department of Agriculture
• Mr. Doyle Childers, Director, Department of Natural Resources

The MDFB did not just deal in small potato loans for small towns. When Mel Carnahan, father of the current Secretary of State, was Governor he had to call an emergency special session of the Missouri General Assembly (costing taxpayers millions) just to pass one small amendment to a statute to avoid default of Branson’s massive revenue bonds which were processed by MDFB. A loan default by Branson’s government would have damaged the state’s credit rating and that could not be allowed. Despite the disclaimer on all revenue bonds that they are not a debt of the state, city, county etc….they are. A loan default can ruin the credit rating of a state, city, county or school board for decades. The disclaimer that “this revenue bond is not a debt of the issuer,” is just a legal fiction to keep revenue bond debts from being counted into the municipality’s constitutionally restricted debt.

In 2007, the MDFB got a special state audit which unfortunately did little more than skim the surface of what MDFB is doing. State Auditor Susan Montee (D) gave the MDFB a few hand smackings over alleged political favoritism in deciding the new DREAM awards (what a surprise) and criticized them for taking advantage of their travel compensation. Members of the board serve without compensation but are “reimbursed for their reasonable and necessary expenses incurred in the performance of their duties.” The board thought it was ‘reasonable and necessary’ to spend $101,000 during the last three years for chartered air services to taxi members to board meetings because, as they explained to the auditor, they’re too important to waste their time driving to Jefferson City for board meetings.

In regard to MDFB’s revenue bond lending practices, State Auditor Montee pointed out the following in the 2007 audit: “During fiscal years 2006 and 2005, the MDFB recorded bad debt expense of $3,498,074 and $9,448,681, respectively. These expenses were primarily related to three loans totaling $17.8 million. For one of these loans, the MDFB began recognizing bad debt expense the year after the loan was made.” The first bad loan was for a fish museum in Springfield for $2.5 million. The terms were 0% interest for 3 years and 3% for 10 years. The second bad loan was for $2.5 million to a developer of a historic building in St. Louis. He got 0% interest for 40 years and still defaulted! The third was $12.8 million to a developer to restore the Old Post Office in St. Louis. He only had to pay 1% for 40 years but defaulted within one year! MDFB responded to the auditor that their “loan approval process is comparable to that used by commercial banks in the state.” We sincerely hope not.

Unfortunately the auditor did not dig more deeply into their involvement in derivatives and the swap market, i.e. the same auction rate securities that were the target of Secretary of State Carnahan’s July 17, 2008, “not-a-raid” of Wachovia in St. Louis with the securities representatives of ten other states. The audit merely recommended the MDFB reevaluate its loan approval process. Good advice since their loan application process consists largely of having the applicant fill out a form only a little more taxing than getting a Kroger check cashing card. They also had to swear allegiance to the state and claim that their project will create jobs so the Governor who appointed them could take credit for the new jobs they created. Nothing in the application form or on the MDFB web site alerts the applicants to the derivative swap investment risks they are assuming in entering into MDFB’s “Public Entity Loan Program.” There is nothing about the risks inherent in derivatives or interest rate swaps on their web site or in any of their loan documents. This is not the “full disclosure” required by either the federal or state investment laws.

For the first years after they were organized MDFB probably issued only plain vanilla revenue bonds because that was the only kind there were back then - nothing fancy - just safe, fixed-rate, tax-free municipal revenue bonds. Because they were highly prized tax-free munis the market ate them up and the public entities who were financing their local projects with ordinary fixed-rate revenue bonds knew every year of their 20-year loan terms exactly what they had to pay in principal and interest – there were no surprises. Sometime in the 90’s the MDFB seems to have gotten bored with safe, fixed-rate financing and decided to play with the new exotic stuff. Those were the days of the “Go-Go” market on Wall Street. Wet-behind-the-ears MBA’s, the new “financial engineers” of Wall Street, were coming up with all kinds of fancy financial tools - not all of them exactly legal. Some of this investment activity like the derivative swap auctions was in off-the-books type of investing in an underground financial market that wasn’t regulated or monitored by the Securities and Exchange Commission. It was the era of overnight riches on Wall Street and the computer bubble was getting bigger by the minute. The smart new financial engineers claimed the old market rule – “what goes up must come down” - no longer applied to their cool new world. Everyone wanted to jump on their Get Rich Super Train. Enter the slick ‘new’ financing plan cooked up by the MDFB and MAMU called “The Program.”

Missouri cities, school boards, counties etc. are forbidden by law to invest in derivatives. (RSMo 30.950) Anyone who wasn’t illiterate or two years old in 1994 knew that dabbling in derivatives was how Orange County California (one of the richest of Republican bastions) lost $1.6 billion of their Republican taxes because their fool of a comptroller thought he could beat the house. No one with an ounce of common sense would touch derivatives after that widely publicized fiasco and certainly not for investments of public money. After the Orange County disaster, most states, including Missouri in 1997, hastily passed laws forbidding any public entity to invest in derivative land mines just in case anyone was stupid enough to try it. The MDFB and MAMU were either too dumb to grasp the obvious danger in playing with derivatives or perhaps they deluded themselves into thinking they were too smart to get caught.

Missouri law requires that every political subdivision adopt a formal investment policy. If a town has not adopted their own investment policy reflecting these and other rules, the Missouri Secretary of the Treasury’s “Investment Guidelines for Missouri Political Subdivisions” automatically becomes their default investment policy. The city’s “Investment Guidelines” must contain: (1) A commitment to the principles of safety, liquidity and yield, in that order, when managing public funds. The policy must specifically contain, (2) A prohibition on the purchase of derivative securities, either directly or through a repurchase agreement; (3) A prohibition on the use of leveraging whether through a reverse repurchase agreement or otherwise; (4) A prohibition on the use of public funds for speculation; (5) A requirement that on a regular basis the investments of the political subdivision shall be revalued to reflect prevailing market prices; (6) A requirement that investments which are downgraded below the minimum acceptable rating levels shall be reviewed for possible sale within a reasonable time period; and (7) A requirement that the current status and performance of the investments of the political subdivision be reported regularly to the governing body of the political subdivision. In one fell swoop MDFB and MAMU managed to violate all seven of the principles of the state’s investment policy for municipalities. (cont.....)

The cure for the MoPEP Mistake

The MoPEP mistake reveals serious flaws in Missouri’s power distribution system that must be corrected. There was a reason - but not a good one - why municipally-owned utilities have been exempt from PSC oversight regulation – the reason was politics. To our local politicians, who don’t have the skills to manage a budget or the stomach to face the voters to justify the fee increases they claim they need, the municipally-owned system with its ability to (theoretically) add a nearly unlimited local mark-up to the wholesale power cost is a sweet little money-maker. Local utility rates and revenues can and have been manipulated to provide the extra revenues city hall needed to cover up budget deficits and use for less savory but equally illegal purposes. Power costs and rates had been low and fairly stable for decades so few citizens noticed what their government was doing to them. In the 80’s, after the Hancock Amendment was passed, cities were prohibited from raising most local service fees without consent of the voters. Politicians would rather milk a mouse than ask voters to approve fee increases for trash collection or street work because such tax increase campaigns raise issues of mismanagement and political practices that politicians prefer not to stir up. With their other revenue generators cut off by Hancock, this covert source of money that could be raised under the guise of covering increased wholesale rates was a godsend. Finding more money to buy more things is what keeps politicians in office.

This covert system of taxation without representation worked so well for Marceline Missouri that over 60% of their city budget comes from their utility “profits.” Imagine the panic in Marceline’s city hall if the Hermann class action lawsuit prevails and the court confirms what the Missouri Auditor has said for years and what they also told Hermann in a 2003 petition audit: “Rates for utility services should be set to cover the costs of producing and delivering services (including administrative costs), repaying bonds, and repairing and replacing infrastructure. These utility services should not generate profits to fund other services provided by the city. The existing utility rate structures have allowed the city to, in effect, levy additional taxes without a vote of the citizens.” The City of Hermann ignored the state auditor and their reward was that in 2006 some of their frustrated citizens filed a class action suit against them.

The State Auditor said the same thing to Springfield in a 2007 petition audit: “Rates for utility services should be set to cover the costs of producing and delivering services, and utility services should not generate profits to fund (through subsidization) other services provided by the city or other utility departments or provide the opportunity for CU to spend monies unnecessarily.” In 1998 the auditor said the same thing to Rolla but Rolla’s city council didn’t pay attention either. Their reward is that Rolla citizens petitioned for another state audit this time with special emphasis on their utility’s illegal practices. That audit should be done this fall.

Missouri’s unmonitored, unregulated, widely corrupted home-owned utility systems have long provided fertile ground for political abuses and many have taken full advantage of it. Kincheloe saw the weakness in these corrupt and inifficent systems and he exploited them by getting a first lien on all of our electric revenues to use as collateral for his investments in coal-fired plants. Ironically it was his exploitation and the cascade of fee increases he triggered in 2006 with his $1.2 billion in investments that focused more than one local spotlight on their utility fees; the MoPEP “wholesale” price, the size of the local markup and how that markup was being used for things other than providing power. Citizens in many of the 32 towns began to learn how they’ve been ‘had’ for decades even before MoPEP’s “economies of scale” jacked their wholesale and retail rates up by 45% or more.

Memphis Missouri has had a MoPEP contract since 2001. In a 2006 Memphis Democrat article the people of Memphis were very unhappy with the price increases they were getting from this gee-whiz MoPEP middleman who told them when they signed up that he was going to give them cheap electricity through “economies of scale.” The article in the Memphis Democrat said, “Since 2001 when the city established its current rate schedule for electricity, Memphis has experienced a 71-percent increase in the wholesale cost of power. According to an independent report from the city’s engineering firm of Barnes, Henry, Meisenheimer & Gende, Inc., the city went from paying $700,000 to buy power to $1.2 million in 2006.” It has baffled many of us how anyone could believe that “economies of scale” will result from adding MoPEP’s middleman markup and their “unlimited direct costs” to the wholesale price of what was your former electric supplier’s direct-to-you wholesale cost, but most of the MoPEP Kool-aid drinkers have missed the illogic in this “economies of scale” system. Duncan Kincheloe came to the Memphis meeting in an attempt to defend MoPEP’s outrageous rate increases but he just made the same lame excuses he's still making today. "It's not my fault' it's because of federal deregulation."

This is our tipping point. The world of energy is undergoing a vast and permanent change. The ‘old power’ system, that has had us trapped in a network of power lines and burning fossil fuels as our primary source of energy, is coming to an end much faster than anyone predicted. Someday our great, great grandchildren will laugh at the idea that we paid hundreds of dollars a month for power. Over the next decades, rapid changes and innovations in energy will help us reduce our oil gluttony and change forever the way we do everything. T. Boone Pickens, fossil fuel billionaire, got fed up waiting for leadership from the Washington political vacuum so he launched a personal initiative primarily in wind and solar power. T. Boone is no slouch when it comes to guessing futures in power – in fact, when and where he invests his money makes the market in power futures.

But Duncan Kincheloe - a slave to his own dirty coal investments – has us trapped in the old fossil fuel power system and he tells us to resign ourselves to paying the horrific “stable” high prices he will eventually charge us to pay off the China/India-inflated construction costs of the newest plants he has foolishly invested in. These late-to-the-table, belching coal-fired dinosaurs MoPEP has invested in will eventually be replaced by diverse, renewable and less lethal forms of power generation. If we allow ourselves to be trapped by MoPEP’s tired ideas and narrow thinking, our rural towns will not be able to take advantage of the new power sources and innovations that will significantly increase the appeal of living and working in rural America. We will not be able to offer businesses the lower cost of energy they will look for in the new economy. Who do we want to take our lead from, Duncan Kincheloe or T. Boone Pickens?

Rockport Missouri is already getting 124% of their power from the giant windmill farm in northwestern Missouri. Greensburg Kansas was devastated by a tornado in May 2007. The Greensburg City Council passed a resolution on May 19, 2008, that “all city building projects will be built to LEED Platinum level standards.” Think about that. They’re not just going to rebuild their town they’re going to do it to Platinum standards! Greensburg owned their own utility too but they are rebuilding ‘green’ with 100% renewables and a lot of wind and solar power in large and small scale applications. They aren’t doing this thing halfway. They set the highest standards for their rebuilding and as a result they have had millions of dollars worth of national publicity, have been featured in a TV special and will continue to be a spotlight community for the nation. If they can do this from a tornado stripped and devastated town, we should be able to do it from where we are. The Greensburg mayor said, “This makes us the first city in the United States to do this and it shows the world "how green we are." What more could you ask for to become an economic development magnet and market your town as having the highest quality and the lowest cost of living of any town in America? Greensburg is the Platinum standard we should be studying but first we have to get our of our MoPEP trap.

The Guardian newspaper in the U. K. reports that the European Union is planning to build solar thermal collectors in the Sahara to power all of the EU. At least they have a plan; all we have is T. Boone Pickens. Despite the lack of political will in Washington the public will not be denied and people, towns, schools and corporations are going ahead with conversions to wind and solar on their own at a phenomenal rate. The Highway Patrol Troop I Headquarters in Rolla has just put up a windmill. It won’t supply all their power needs but it’s a smart beginning. Columbia Missouri’s voters have mandated that their city government bid only power companies that get a certain percentage of their power from renewable sources. If other communities follow that trend, that type of pressure will give suppliers incentive to take a different road in investing and developing new power sources. The only countries still building coal-fired plants are the underdeveloped countries of China and India. Since their largely coal-fired smog has embarrassed them and fouled the Olympic Games, even China is beginning to rethink their carbon power policies but not Kincheloe - he just keeps buying stock in coal-fired power.

We either need to sell off our small town antique utility systems to the large commercial power suppliers - at which time we can legitimately charge them annual “franchise” fees for public access and the revenues can legitimately be spent as part of the general fund revenues - or we must demand our legislator’s pass new laws to put our local utility rate-setters under PSC regulation and stop them from illegally raising utility rates in violation of the Hancock Law to use as patronage payments and to cover up city budget mismanagement. Our local politicians have proven they can’t be trusted to run our city-owned utility departments fairly and ethically so it’s time to take their pork toys away and make them balance our budgets the old fashioned way – by living within their means…and ours. From now to November it’s prime political season. We must nail all the people running for state offices about the MoPEP situation and demand to know what they’re going to do for us. Which candidates are with the electric rate payers and which are with the MoPEP gang?

For a decade or two power demands will continue to be supplied in large part by the old technology but as new tech power takes over, as we learn to conserve and as we switch to more energy efficient mechanics, demand for ‘old economy’ power will decline. As their formerly captive customers fall away, the coal-fired dinosaurs will have to raise kilowatt prices ever higher to repay the billions in revenue bond debt it cost to build these belated generation plants that have capital costs many times higher than the older coal plants. The more they raise their prices the more affordable and desirable home solar, wind, biogas and geothermal alternatives become and the less willing communities will be to use coal sources. Detroit became fat and complacent because they dominated the market until they thought they were the auto market. “What was good for General Motors was good for America” they said. They believed they would dominate the world market forever. Now they can’t give away their gas-guzzling SUV’s.

We don’t want our well-loved small towns to become SUV’s in the coming Prius world.

MoPEP's new "adder" fee will "never be noticed by members in their bills."

You wouldn’t think it from the millions they’re raking in every month ($135 million in MoPEP sales in ‘07) but MoPEP has a cash flow problem. In March, Duncan Kincheloe was informed by MJMEUC-MoPEP’s financial advisor, Sandra McDonald of McDonald Partners, Inc., Alamo, California, that they needed to have more in reserves and she said they should do it, “…ideally prior to MJMEUC’s next financings.” Their next financings? That’s unwelcome news. When were they planning to tell their sharecropper cities about “their next financings?”

McDonald recommended they build unrestricted reserves of at least 60 to 90 days operating cash (i.e. $16-$24 million). She pointed out that MoPEP’s ‘A’ to ‘A-’ credit ratings were weak and “MJMEUC’s bond ratings are largely a reflection of the financial condition of those communities that participate in MJMEUC projects. Standard & Poor’s notes that the rating on joint action agencies with take-or-pay contracts (the hell-or-high water contracts such as MJMEUC’s which strengthen overall ratings) rely more heavily on the credit quality of the participants.” They rely on the city's credit quality? That’s a laugh. The MoPEP sharecroppers haven’t had any “credit quality” since they signed their MoPEP contracts and depleted their reserves trying to pay MoPEP’s second-hand, double marked-up electric bills which include the Massa’s bills for “…all of MJMEUC-MoPEP’s Direct costs without limitation.”

McDonald continued, “Adequate liquidity at the participant/member level is particularly important for MJMEUC/MoPEP since the organization has below average liquidity and relies heavily on monthly true-ups. Ideally, MJMEUC’s members will maintain 90-120 days of cash on hand at their own systems and limit general fund transfers to a specified percentage of annual revenues (typically less than 5% for ‘A’ category systems). Higher levels of liquidity are typically maintained at the member level since local rate action may require several council meetings.” The members maintain “higher levels of liquidity” and “maintain 90-120 days cash on hand in our towns?” Since when? Some of our struggling little communities haven’t been “liquid” since the ‘93 flood. This must be one of the fairy tales they tell the rating agencies. Ms. McDonald seems to think Kincheloe can wave his magic wand and all his sharecroppers will jump to raise their rates to accommodate his extravagant spending habits. Ms. McDonald needs to get out of her California office and spend a little time in Missouri where one of the MoPEP cities threw their mayor out on his ear, several others petitioned the state for audits and one has filed a lawsuit – all over their suddenly inflated MoPEP rates. If she thinks we will meekly allow our rates to be raised every time Kincheloe goes shopping for another Billion or two of stock in antique technology, the woman has inhaled too much smog.

So, on April 3, Kincheloe and the MoPEP guys began to discuss how they could increase their reserves. The first suggestion was that they add 1.00¢ or more per MWh to everyone’s bill, an “adder” they called it. That would rake in up to $2.5 million. Staff member John Grotzinger, right on cue, suggested putting 100% of the energy sales margin into reserves. (Now here comes typical MoPEP thinking) “This is not a large amount, and would not be noticed by members in their bills,” Grotzinger explained. Kyle Gibbs (Marshall) asked if the adder could be made simpler such as a fixed rate. Michael O’Gara (Fredericktown) said “the more complicated the billing is, the more difficult it is to explain to customers and governing boards.” If Gibbs and O’Gara explain these MoPEP intrigues to their home town governing boards they must be among the very few who do.

Finally they agreed to do what Kincheloe had planned for them to do before the meeting began. They will, 1.) Dump the excess of the off-system energy sales into the pot. 2. Contribute some short-term savings when the Nebraska City 2 plant goes on-line in May 2009. The differential between the price of the NC2 MW of $31/MWh compared to MoPEP’s current average base load expense in the mid-$50 range is about $24. In other words, if the sharecroppers don’t immediately benefit from the $24 differential between the high MoPEP rate and the cheaper NC2 rate so MoPEP can sock a few million more in the MoPEP kitty….well, who’s to know? The really good one was, 3.) Add a monthly charge designed to generate approximately $1.25 million during the rest of 2008 “(with the understanding that the adder would need to be adjusted upward in 2009 to progress toward appropriate reserve levels and keep pace with operational growth).” To jack an extra $1.25 million out of the member cities over the next eight months they will just add about 65¢ per MWh to the bills and next year it will go to $1.00 or maybe more. So the upshot to all this is that the member cities have to pay to compensate for MJMEUC-MoPEP’s credit weakness that management didn’t anticipate and prepare for before they began this equity investment club disguised as an electrical wholesaler.

Typically in business, cash reserves are accumulated from exercising restraint and not spending all your annual revenue (it’s called “savings”). Cash to build reserves are taken out of profits after they’re earned instead of rewarding yourself by spending those profits on say…a million dollar building and all the trimmings. In other words reserves are taken out of earnings not out of billings. That’s how it’s done in successful businesses but given his record you would never accuse Kincheloe of being a crackerjack businessman. MJMEUC is building its reserves with the Whack-a-Mole method. Every time those furry little suckers try to come up for air, they smack them down with another unlimited fee. After all, it will “not be noticed by members in their bills.”

A Very "Peculiar" Case - how a citizens protest in a peculiar little town nailed the MoPEP Machine

Ed. note: I think there’s a rule that blog entries should be short but I blew through that rule with my first entry. This entry is very long because it explains the nut of the MoPEP Machine and what's wrong with it. There’s just no short way to explain that…sorry. But if you’ve gotten hooked on this story of bureaucratic skullduggery, of bankers, crooks and criminals it’s worth slogging through the whole thing because this isn’t the end of this tale…not by a long shot. We’ve recently turned over another rock and guess who was under it…

Now that you know from the earliest blogs how the MoPEP system came about and what is actually in the contract, the next question everyone asks is how can a rip-off like this be legal? Over a period of just a few years MJMEUC and their lobbyists had gotten the Missouri Constitution Art. VI, Section 27 changed…no small task. The 2002 constitutional amendment eliminated oversight of the Missouri Public Service Commission from all future activities of any “joint commission” and the old constitutional requirement that joint commissions such as MJMEUC would have to submit “public utility projects to a vote of the electors” was also gone - with it went the people’s first line of defense. Then MJMEUC spent hundreds of thousands of dollars lobbying the Missouri General Assembly and by 2004 our own representatives and senators had obligingly passed for them the enabling statutory authority in RSMo 393.700-.770 which contained all the details as to how they would set up the MoPEP contract to put the squeeze on any small member community with its own utility that fell for the line that this “joint commission” would provide cheaper power because of Kincheloe’s “economies of scale.” In just a few years the few constitutional and statutory protections our naïve small towns had were stripped away and we were completely at the mercy of Kincheloe’s MoPEP Machine. The decks were clear for the MoPEP machine to roll in and chew up 32 little towns. They had dismantled the law, redesigned it to suit their purposes and they had it all wrapped up…or did they?

On December 19, 2006, as Kincheloe was in a frenzy of signing mega-million dollar contracts to acquire ownership in coal-fired power plants, a case was just ending in the Missouri Supreme Court titled, STOPAQUILA.ORG, et al., Appellants v. City of Peculiar, Missouri, Respondent. The battle had started two years before on December 7, 2004 when the City of Peculiar’s Board of Aldermen in Cass County Missouri voted 4-2 to issue $140 million in 30-year revenue bonds to finance a power plant project which they would then lease to Aquila, a commercial power company. The legal points at issue in that case raise compelling constitutional questions about the methods MJMEUC/MoPEP has used to issue revenue bonds to leverage the purchase of shares in power plants without the knowledge or consent of the elected officials or the voters and utility customers in 32 small towns who would wind up paying for MJMEUC’s rash investments. Peculiar citizens formed STOPAQUILA.org and filed suit contending they should have been allowed to have a voter referendum on the bonds instead of just a vote of the Peculiar aldermen.

The bonds in the STOPAQUILA v. Peculiar case were utility revenue bonds but the city had a contract with Aquila to lay off all the repayment and other liability (like lawsuits from states in the stack shadow for fouling their air) on Aquila so the Peculiar aldermen argued that only their own 6 votes were necessary because the people of Peculiar would have no liability. This is the way the deal was structured as stated in the final case summary (emphasis added.): “Peculiar and Aquila drafted an "Economic Development Agreement" that, if approved, would dictate the terms of the project's construction, financing, maintenance and operation. Under the Agreement: (1) Peculiar would issue $140 million in 30-year revenue bonds to finance the project; (2) Aquila would convey title to the land and facilities to Peculiar along with $700,000 in exchange for the bonds, thereby making Aquila the bondholder; (3) Peculiar would lease the land and facilities back to Aquila during the term of the bonds and use the revenue from the lease to retire the bonds; (4) Aquila would retain any revenue from the sale of electricity generated by the power plant; and (5) Aquila would have an option to purchase the power plant for $1,000 upon retirement of the bonds.” As provided in the contract between the parties, at all times, Aquila would be solely responsible for customer billings, construction, operation, insurance, and maintenance of the facilities. This was the tipping point in the case. The Agreement also provided that Aquila would be free from tax liability for the duration of the lease, but it would make payments in lieu of taxes ("PILOTs") to Cass County, the school district the library and all taxing districts during the term of the lease.

Constitutional Amendment VI, Section 27 was the section at issue in the STOPAQUILA v. Peculiar case. It has two almost identical subsections (a) and (b) that were approved by voters in a statewide referendum in 1978, and the differences between the two were critical. Section 27(a), said that “a vote of a majority of the qualified electors” of a county, city, town or village could issue bonds for “the purpose of paying all or part of the cost of purchasing, constructing, extending or improving any of the following: (1) revenue producing water, gas or electric light works, heating or power plants; or (2) airports to be owned exclusively by the county, city or incorporated town or village the cost of operation and maintenance and the principal and interest of the bonds to be payable solely from the revenues derived by the county, city or incorporated town or village from the operation of the utility or airport. However, Section 27(b) said that “a majority vote of the governing body thereof,” could issue negotiable interest bearing revenue bonds, for such utility plants if they were “to be leased or otherwise disposed of pursuant to law to private persons or corporations. The cost of operation and maintenance and the principal and interest of the bonds shall be payable solely from the revenues derived by the county, city, or incorporated town or village from “the lease or other disposal of the facility.”

[Revenue bonds issued for public utilities are different from non-utility revenue bonds which, for instance might finance construction of a building for an industry that would pay back the revenue bonds out of the earnings of the company, because the only source of revenue to pay back utility revenue bonds are the ratepayer-voters. Non-utility revenue bonds are repaid by ‘rental’ payments by the commercial company that benefited from the bond not by the voters. The last sewer treatment plant or water tower renovations in your town may have been paid for with a voter-approved revenue bond. If so, your sewer or water fees probably were increased for a certain number of years to repay those utility revenue bonds.]

The court’s decision in STOPAQUILA turned on one question…if things went wrong who would be left holding the bag? Who would have to pay the bills, repay the debt and defend any lawsuits? The Missouri Supreme Court in STOPAQUILA declared that if the liability for the revenue bond issues fell upon the taxpayers the revenue bonds had to be approved by the voters. However if, by use of a lease-back or contract, all liability for repayment of the revenue bonds and for operation of the plant was assumed by the commercial company or other third party then the utility revenue bonds could be issued by only a vote of the city or county government.

So what does that have to do with MJMEUC and the MoPEP contracts? In STOPAQUILA v. Peculiar the Supreme Court clarified Sections 27 (a) and (b) and explained who had to vote on utility revenue bonds before they can be issued and why. Depending on how the deal was structured it was either the city council or the voters but the court did not say that a council vote on a so-called MoPEP commodities power contract was an acceptable method of approving utility revenue bonds. “Art. VI, Section 27 says specifically that the ‘somebody’ with the authority to vote must either be member of a “county, city, town or village” it says nothing about the vote to issue $1.2 Billion in utility revenue bonds being taken by a “body corporate and politic” like MJMEUC.

There are certain special and exclusive powers given by the state constitution to cities and one of those powers is the authority to incur debt. Such votes can only be taken by council members in an open meeting or by the people in a referendum election – that power cannot be delegated to some ‘representative’ to an association (Pearson v. City of Washington) In this case, STOPAQUILA v. Peculiar, the court decided that the group that gets to take that vote is the one burdened with the liability. MJMEUC took the votes but the MoPEP members got the liability. MJMEUC-MoPEP isn’t going to be the one on the firing line if Kincheloe’s investments go bad.

Through ignorance and the MJMEUC-MoPEP contract our elected officials had pledged their member cities as the collateral that guaranteed payment of the debt thus burdening us with the liability therefore there should have been a referendum vote in each town on each stock purchase. Kincheloe will without doubt defend this exploitation by saying that when he redesigned Chapter 393 of the Missouri Statutes to further his investment plans, he made sure MJMEUC was - not a municipality with the power to tax and with the protection of sovereign immunity – but a “body politic and corporate”(RSMo 393.720) and as such it has the power to issue revenue bonds (393.725) therefore, the revenue bonds were MJMEUC’s, the investment contracts were theirs and the actions were the actions of the MJMEUC board members. That’s just crap. The MJMEUC board members who made these decisions are selected from the MoPEP member representatives from each of our 32 towns. MoPEP is described in the contract as “a “project of MJMEUC,” it is not a separate organization. While it’s technically correct that MJMEUC can issue its own revenue bonds with only a vote of the MJMEUC board it’s also a fact that no one would ever buy MJMEUC’s revenue bonds if Kincheloe hadn’t been able to offer investors the substantial assets of the 32 MoPEP contract towns as collateral which guaranteed repayment of the bonds.

MJMEUC is a middleman’s middleman - their only asset is their contracts and their promises to milk the MoPEP towns by use of the contracts which give them a first lien on all the utility revenues of each of the 32 MoPEP towns. That giveaway was bad enough but that’s not all he used us for. In the Fitch Rating’s announcement of giving an “A-” rating for the Plum Point power plant the rating company based their “A-” ratings of MJMEUC’s bonds on the fact that Kincheloe and MJMEUC pledged the MoPEP towns to ante-up additional collateral of the most extreme and punishing type - the “take or pay” and “step-up” clauses promised in those contracts. In the contracts and bond rating reports for the Plum Point stocks ($330 million) the Nebraska City 2 investment ($79 million) and Prairie State ($564 million) it says MJMEUC’s “Credit strengths” included: “Unconditional, take-or-pay power purchase agreements with the unit power purchasers that include a step-up provision to 200% of each participant's original allocation; Unconditional, take-or pay power purchase agreement with MoPEP #1, which requires an unconditional step-up among the 32 MoPEP #1 participants to support the entity's Prairie State allocation.”

The only asset MJMEUC has to offer as collateral for the bridge loans and revenue bonds they used to invest in $1.2 Billion in stocks is you, the local utility rate payer who must pay your bloated MoPEP bill every month or get your lights, a/c and hot water cut off. Without secretly binding their customer/members to the most dangerous and punishing conditions for repayment of their bonds, MJMEUC could not have gotten that rating on this or any other revenue bonds. It’s no wonder that they’ve never offered anything close to full disclosure of risk to their collateral cows.

If we’re very lucky revenue from the plants will be sufficient to pay off the revenue bonds but there were millions in pre and post construction and “other” costs that the MoPEP ‘stockholders’ have unwittingly agreed to pay through their monthly MoPEP electric bills which are disguised as “Direct Costs.” If all doesn’t go well bondholders will sue MJMEUC to force payment of MJMEUC’s revenue bond debts. To satisfy those judgments, MJMEUC will just reach out and siphon off as much as they want from the annual utility revenues of their 32 member towns and write the checks. This will deprive the 32 towns of sufficient cash to buy their power, operate their local utility departments and in some cases - where they are using the utility as a cash cow to provide a large percentage of their city budget, they will be short on a lot of the cash they need to run their city services, but that’s not Kincheloe’s concern is it?

Who was the guiltiest? The MoPEP contracts that touched off Kincheloe’s frenzy of investments in coal-fired power plants gave neither the elected officials nor the citizens of the 32 contracting towns the opportunity to vote on each of these massive multi-million dollar construction projects. When they signed their MoPEP contract few, if any, of the 32 communities knew about the secret MJMEUC plan to issue revenue bonds or knew that their local “representative” when he was a member of the MJMEUC board was going to be voting on these massive equity investments. They also didn’t know that they were giving away a first lien on their annual utility revenues as collateral for these loans. They didn’t know that in case of default of any one of the coal-fired plants 32 small towns would be drained of their utility revenues for 40 years to repay the revenue bonds and any other cost overruns incurred by mismanagement of MJMEUC and the individual plant managers. They didn’t know any of these things because the board of MJMEUC deliberately withheld all this information and their investment plans from the 32 city governments as each signed the MoPEP contracts. Were the elected officials guilty of not reading the contracts carefully? Were they guilty of not getting a second opinion on the contracts, for not exercising diligence and asking pointed questions before making this commitment? Were they guilty of being too lazy or too frightened to read a thick contract with all those big words? Yes they were guilty of all that but the greater fault was MJMEUC’s. They knew what their secret investment plans were and what the risks were in these investments. It would not have furthered their investment goals if their patsies had fully comprehended what they were being enticed to sign with a lot of scare tactics, false promises, lies about deregulation and promises of cheaper power through “economies of scale.”

The question is often asked, “How could all 32 city governments have failed to read and understand what they were getting us into? How could they fall for Kincheloe’s “economies of scale” cliché? No doubt the MoPEP contract was offered to all 58 MJMEUC member cities. No doubt the other 26 read the contract with the care elected officials are supposed to give to such things but seeing what a trap it was those 26 towns wisely refused to join the MJMEUC investment club. What were left were the 32 that didn’t read it who run their towns by the “we-have-to-trust-the-experts” cop-out. In short, the 32 city governments who joined MoPEP are winners of “The Darwin Awards of the Decade” for being the dumbest towns on MJMEUC’s membership roster. The long-term effect of having such ‘leaders’ is something the voters in those towns should give serious thought to.

The MoPEP contract that each of the cities signed contained only veiled references to what management planned to do once they collected enough MoPEP contracts to reach the amount of collateral they needed for the revenue bond issues to make the power plant investments. On page 2 of the MoPEP contract it says in Recital 13: “Pool Members desire that MJMEUC pursue ownership interests in electric generation and other facilities and resources…..the Parties recognize that MJMEUC should be expected to pledge its revenues under the agreement as security for the payment of MJMEUC’s bonds.” We “desired” that they “pursue ownership interests in electric generation?” We “recognized that MJMEUC should be “expected” to pledge its revenues under the agreement as security?” We didn’t have the first blooming clue that we expected all that. MJMEUC’s “revenues” referred to are the monthly ‘electricity’ payments from their MoPEP contracts. Recital 13 of the MoPEP contract isn’t what anyone would call a forthright statement which would have gone something like this: “Within a year we intend to load up on about $1.185 BILLION in debt to buy stock in some very high-risk coal-fired plants and if anything goes wrong we will exercise our first lien on all your electric revenues to pay off this and any other debts MJMEUC has and we will do all this at our pleasure and without consultation with you and without prior notice.” But, however ignorant their votes may have been at the time and however secretive MJMEUC may have been about the enormous debt they planned to dump on the MoPEP rate-payers, each of the 32 town council’s and aldermen did in fact vote to enter into their MoPEP contracts…so, didn’t that vote give MJMEUC/MoPEP the authority to drag us into billions in equity investments in the same type of plants that were being cancelled all over the country?

No, fortunately, the law has other means of protecting us from the venal acts of stupid people who abuse the power of their offices and default in their official responsibilities. That one misguided vote on the Amended MoPEP contract that they thought was just a power supply contract didn’t make legitimate or legal the cascade of subsequent actions by MJMEUC/MoPEP for three reasons and these are only a few ways of questioning this contract.

1.) Legislative bodies may not delegate their powers as the MoPEP contract forces them to do. In Pearson v. City of Washington, the Court stated that municipal corporations owe their origins to, and derive their powers and rights wholly from the state, and “where the Legislature has authorized a municipality to exercise a power and prescribed the manner of its exercise, the right to exercise the power given in any other manner is necessarily denied.” In another case, Anderson v. City of Olivette they said, “Any reasonable doubt as to whether a power has been delegated to such a municipality is resolved in favor of nondelegation.” Appointing an employee to attend meetings in Columbia and, as a member of the MoPEP, MJMEUC or MAMU boards make decisions and take votes on debts and other obligations that only city governments are authorized by law to make is the kind of thing that “is necessarily denied” whether the method was agreed to in a prior contract or not. If mere contract terms could be used to void or get around the laws designed to protect the public from sly manipulations then we would be a “nation of contracts” not a “nation of laws.”

2.) Missouri law, (RSMo 30.950) does not permit towns to make equity investments, i.e. investments in stocks such as these stock shares of ownership in these power plants. They also don’t allow towns to take their revenues and bet on the ponies, which is essentially what Kincheloe and the MJMEUC/MoPEP boards are doing. The MoPEP contract treats the debt for the shares of stock as “proportional shares,” or a liability of each member city and a debt that the city is still responsible for paying off even if they give their 5-year notice to terminate their MoPEP contract. Even the very safe and conservative investments state law allows cities to make with public funds such as Certificates of Deposit, must comply with a formal “Investment Policy” passed by each governing body which must follow the “Model Policy” designed by the Missouri State Treasurer. It’s doubtful that any of the 32 has such an investment policy of their own therefore by default they must follow the state policies which do not allow equity investments such as the MJMEUC stock purchases.

3.) The veiled references in the MoPEP contract to ’desires’ and intentions to "pursue ownership interests in electric generation and other facilities and resources" will not pass the “full disclosure” test when a court looks at MJMEUC’s lack of disclosure in these investments. In Missouri we’ve had laws and statewide referendums struck down by the courts for the lack of a comma or a clarifying word that might change the meaning of the question and which therefore might mislead voters. The ‘hints’ in the MoPEP contract will be judged by the same rigorous standard.

The voters and utility ratepayers in 32 towns not only didn’t know at the time their elected officials voted on the contract what they were getting involved in, but to this day most of them still don’t know why their local utility bills jumped by 45% - 71% or more after their elected officials voted on what they thought - and what they were told - was just a simple contract to buy cheaper power from MJMEUC/MoPEP because of their “economies of scale.” The contract was grossly misrepresented as a commodities contract when it was really a compact to join an illegal investment club so MJMEUC could use public revenues as collateral to enable their investments in high-risk equities. The fact that 32 cities are trapped in it now is the fault of their lazy public officials who failed to read the contract and conduct their own due diligence, but the greater fault was that of MJMEUC’s board and CEO Duncan Kincheloe, who made no effort to inform the city’s government of the high risk involved in pledging huge sums of their future electric revenues to buy stocks in these unproven power plants. The investment aspect of this MoPEP scheme was deliberately concealed from the elected officials and the people in each town. How hard would it have been for Kincheloe to send a letter or make an appearance before the city at a public meeting and tell them that within two years they intended to have $1.2 Billion in revenue bond debts leveraged to invest in illegal equities in an industry already in trouble which would cause their local utility rates to double and that each MoPEP member would be responsible for the next four decades for their “proportional share” of the debt for a dying technology which is now so high-risk that banks won’t finance coal-fired plants? It wouldn’t have been hard for him to do it but it’s easy to see why he didn’t do it.

Unless they’ve been reading this blog, to this day most of the elected officials and electric rate payers in the 32 MoPEP towns still do not know a thing about these MoPEP investment contracts and the massive liability they’ve been suckered into. Owensville, Hermann, Fredericktown and a few other towns do know and are trying to do something about it. The City of Rolla knows but doesn’t want to admit anything is wrong. There are a lot of people like that – the kind who’d rather go down with the ship than admit they screwed up.

You’re wondering how this could happen if it’s not legal for all these different reasons? As I’ve said before when someone does something illegal God doesn’t send a thunderbolt to fry their little brains…mores the pity. We’re supposed to take care of ourselves, not sit and wait for the government that we usually scorn to come make it all better like mommy did. We are the watchdogs of our own fate and our own communities. The only way we can disengage from The MoPEP Machine to preserve our assets, our revenues and our credit ratings, is to complain to the state, the IRS, reporters and especially to the members of the Missouri General Assembly who enabled this system that’s draining our small towns. If none of that works then we will just have to drag their sorry asses into court until we pry their fat greedy fingers off our money and our assets.

We could also just reverse the process they used to take away our protection by adding it back on. With the addition of ten little words to Article VI, Sec. 27, our legislators, who so far have done a miserable job of looking after the interests of their constituents, could cure this problem by offering a change to the Art VI, Sec. 27 amendment. The 10 words are: “Nothing in this section shall affect the ability of the public service commission to regulate investor-owned utilities…and such joint board or commissions formed under this section.” Mo. Public Service Commission oversight would stop all these shenanigans dead in their tracks.

In Chapter 393 it would only be necessary to make a small change in the wording of the section that allows MJMEUC to use their member’s utility revenues as collateral. Just deleting the last half of the sentence in RSMo 393.725. 1., would keep their hands off our electric revenues and they couldn’t use us as their collateral cows. “Bonds issued pursuant to sections 393.700 to 393.770 by a commission shall be payable, as to the principal and interest, solely from the net revenues derived from the operation of any one or more of the projects financed by the commission, after providing for the costs of operation and maintenance of the project or projects, or from any other funds made available to the commission from sources other than from proceeds of taxation.”

It took many years for federal regulators to believe that the biggest energy company in the world was nothing but greedy lying executives and greedy lying energy traders and the biggest accounting firm in the world was covering up for them. It may take years to get people to wake up about MJMEUC, MoPEP and MAMU but that’s only one end of our problem. The other end is that we keep electing good ole’ boys to local offices whose only qualification for local office is that they’ve never offended anyone by having an opinion based on fact and they've never done anything as dangerous as read a book.