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Lawsuit outlines role borough says McNees, Susquehanna Group played in Suez lease

By Dan Miller

danmiller@pressandjournal.com

717-944-4628
Posted 6/13/18

The lawsuit Middletown borough filed against its former solicitor and former financial advisor traces the roles that it contends McNees Wallace & Nurick and Susquehanna Group Advisors Inc. played …

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Lawsuit outlines role borough says McNees, Susquehanna Group played in Suez lease

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The lawsuit Middletown borough filed against its former solicitor and former financial advisor traces the roles that it contends McNees Wallace & Nurick and Susquehanna Group Advisors Inc. played in the borough considering a lease of its water and sewer systems in the first place.

According to the lawsuit, Middletown in 2013 facing a $3.3 million general fund deficit was accepted into the Early Intervention Plan program that assists financially struggling Pennsylvania municipalities through the Department of Community and Economic Development.

The borough received grants through the EIP, part of which the borough used to hire Susquehanna Group to prepare a plan for how to get Middletown out of its financial hole.

Among the 55 recommendations in the plan Susquehanna Group drew up that council adopted in 2013 was to explore “the potential sale or lease of the borough’s water and sewer assets.”

The lawsuit says that recommendation was at “the suggestion” of McNees, which council had appointed as the borough solicitor in January 2012.

The lawsuit notes that McNees had represented Lehigh County Authority in negotiations that led to an agreement signed in 2013 by which the Lehigh authority would operate the water and wastewater systems of the city of Allentown.

The Allentown agreement ended up serving as the model that was used in drawing up the lease agreement between Middletown and the joint venture and Suez.

In addition to suggesting that Susquehanna include the recommendation in its plan submitted to council, the lawsuit says that McNees was also “actively marketing” similar deals to Pennsylvania municipalities following the firm’s involvement in the Allentown transaction.

McNees also encouraged then-council member Ben Kapenstein, a financial consultant first elected to council in November 2013, “to advocate the sale or lease of the water and sewer system,” according to the lawsuit.

At council’s March 3, 2014 meeting, Kapenstein proposed the borough “explore” the value of its water and sewer assets, and determine if interest exists for a long-term lease of those assets, according to the lawsuit.

Later in the same meeting, council approved a motion from Kapenstein authorizing McNees and Susquehanna Group to develop a proposal inviting entities to consider a long-term lease of the borough’s water and sewer facilities, according to the lawsuit.

Kapenstein’s motion also included formation of a special committee to explore the option of leasing the water and sewer assets, consisting of Kapenstein, then-Council President Chris McNamara, and authority Chairman John L. Patten.

The comments of Patten during that meeting, as reported by the Press & Journal in its March 5, 2014 edition, seem especially prescient today, considering what has unfolded regarding the lease.

“In the Allentown case, they’ve lost control of their assets for the next 50 years,” Patten is quoted telling council. “You may call it a lease, but the people who hold that lease control that authority. That includes rates.”

“As you go through this process, make sure you fully understand what you’re doing when you lease the authority,” Patten continued. “You lose control of that asset for whatever period of time the lease is.”

Nevertheless, Patten and the authority on Sept. 29, 2014, voted 5-1 to enter into the lease with the joint venture, with the lone dissenter being A.B. Shafaye.

Kapenstein and the rest of council voted 7-2 for the lease, with members Anne Einhorn and Tom Handley voting no.

Einhorn, who is no longer on council after deciding against running for re-election in 2017, at the time said that council had settled for “a short-term solution” with long-term consequences, and that she believed most of her constituents were opposed to the lease.

Handley, who resigned from council in December 2014, contended that the lease amounted to a “virtual sale” of the water and sewer systems, and set a precedent by which the borough could look to divest itself of other assets, such as the electric system.

Kapenstein would go on to praise the lease deal as making the borough debt-free overnight, citing the $43 million upfront payment that wiped out the town’s pension deficit and its remaining debt to pay off the new wastewater treatment plant.

Kapenstein became borough council president in 2016, after voters rejected McNamara in his bid for re-election in 2015. Kapenstein served as president until he resigned the position for personal reasons in March 2017. He remained on council and was replaced as president by Damon Suglia, who remains council president today.

Kapenstein resigned from council on May 1, again citing personal reasons. He told the Press & Journal his resignation had “nothing at all to do” with the borough’s dispute with the joint venture and Suez regarding the lease.

On May 22, Kapenstein testified in a hearing before federal court Chief Judge Christopher C. Conner that up until a water sales shortfall led Suez to impose an 11.5 percent surcharge on borough residents, he considered the lease to be his “proudest accomplishment” while serving on council.

Kapenstein said during the hearing that he never would have advocated for the lease had he known it would lead to a “double digit” increase in Middletown water and sewer bills in 2018.

Regarding Susquehanna Group Advisors and its role in the lease negotiations, the lawsuit alleges that Susquehanna failed to “consider and understand the financial consequences of all material terms of the lease agreement, including the water sales shortfall provision,” and that Susquehanna failed to “adequately and accurately explain” these financial consequences to the borough.

Susquehanna furthermore “incorrectly” represented to the borough that rates would not go up without council approval before 2019, and failed to “properly analyze” that the shortfall as written would create an “automatic deficit” for the borough.

The suit notes that Susquehanna received “a significant contingent fee upon closing of the lease agreement,” although the lawsuit does not identify how much.

However, Mark Morgan of Susquehanna Group Advisors is quoted in minutes of the Sept. 29, 2014 meeting saying that Susquehanna would receive 1 percent — $430,000 — of the $43 million up-front payment if council and the authority approved the deal.

He said Susquehanna would receive no payment if the deal did not go through.

Former borough Solicitor Adam Santucci — asked during the meeting by former borough Councilor Rachelle Reid how much McNees Wallace & Nurick was making from the lease transaction — according to the minutes responded by estimating that the firm’s fees would be $400,000 to $600,000. 

However, Santucci also said he would not know a precise figure for how much the firm would make from its role in the lease deal until the transaction closed.

An actual figure for how much McNees Wallace & Nurick made from its role in the lease transaction has not been made public by the borough.