Questionable Practices in the World of Bonds, or Are They? Session ID: FIN34 Session Title: Questionable Practices in the World of Bonds, or Are They? Room: 104C Day: Saturday, April 6th, 2013 Time: 3:15 – 4:15 p.m. These materials have been prepared by a CASBO Associate Member. They have not been reviewed by State CASBO 2013 CASBO ANNUAL & SCHOOL BUSINESS EXPO for approval, so therefore areCONFERENCE not an official statement of CASBO.
Panel Participants • David B. Olson Managing Director KNN Public Finance
[email protected]
• Dr. Luis Ibarra Ed.D. Associate Superintendent of Business Services Oceanside Unified School District
[email protected]
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Outline of Presentation • Big Picture Issues • Capital Appreciation Bonds • Oceanside USD’s Story
• Moving Forward • Other Questionable and/or Controversial Practices • Appendix A: Questions You Should Be Asking • Appendix B: Other Questionable and/or Controversial Practices
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Big Picture Issues
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Timeline • September 2012: Voice of San Diego article. • October 2012: Lockyer speech at the Bond Buyer Conference. • January 2013: Hueso introduces legislation. • Ongoing barrage of negative discussions and stories.
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Impact • What are these stories implying? • What do you want the public to think about you? • What policies and practices would you like to be able to describe to a critic?
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Your Job • Adequate facilities for students. • Facilities that meet community standards. • Good stewards on taxpayer monies. • To always be learning.
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Key Elements in the Process • Understanding of core issues. • Identification and open discussions of challenges as they emerge. • Consideration of both alternatives and alternative perspectives. • Never lose sight of original goals and objectives.
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Capital Appreciation Bonds
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How They Work • Type of bond that does not pay regular interest (interest accumulates until maturity). • Typically used in conjunction with other bonds or in context of a broader program to provide an overall debt service obligation that escalates over time. • Interest rate is typically higher (and sometimes much higher) than on traditional current interest bonds.
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Why Did They Become So Common? • Post-Proposition 39 construction boom. • Industry practice that assessed values would perpetually increase. • Economic collapse of 2008. • Existing programs structured with too little flexibility. • Under-appreciation (by schools and their advisors) of the uniqueness of the economic situation and of the resulting divergence of perspectives. 2013 CASBO ANNUAL CONFERENCE & SCHOOL BUSINESS EXPO
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What Makes for an Explosive Story? • Financings with an identifiable project and a high payback ratio. • Financings with a relatively long-term (particularly if the asset being funded has a shorter useful life). • Financings that diverge in substantive ways from original financing plans approved by voters. • Situations where the financing team ignores high profile thirdparty advice. • Situations where the case can be made that the advice of consultants was driven by financial incentives. • Situations where school district decision-makers claim to have been poorly informed. 2013 CASBO ANNUAL CONFERENCE & SCHOOL BUSINESS EXPO
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Oceanside USD’s Story
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Oceanside USD • Community of 129,500 in North San Diego County. • 21,009 students and 23 schools. • Facility issues in the late 1990s.
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Oceanside USD’s Program • Acknowledged need for a series of bond measures. • 2000 Proposition H and 2008 Proposition G. • Approach to facilities improvements. • Successes and community support.
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Emerging Challenges • Economic collapse coincided with election success. • From the beginning: a “constrained” program. • Open and ongoing dialogue. • Decisions to gradually slow the program. • Discussions of long-term solutions.
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What Oceanside USD is Glad to Be Able to Say • Tax rates remained at target levels. • We made adjustments to the program from the beginning. • We built in flexibility (and call features). • We had an open process (that included both supporters and critics). • We began discussing alternatives early on.
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Moving Forward
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Things Sometimes Ignored in the Stories • CABs have been effectively used by California school districts for more than twenty years. • Current taxpayers are rarely if ever let off the hook entirely. • CABs are typically used to smooth annual payments and rarely create spikes in future repayment obligations. • Many school districts issued CABs in conjunction with larger current interest bond components (and sometimes QSCBs). • Program-wide repayment ratios remain below 4 to 1 for almost all school district bond programs.
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Questions to Consider • Did school districts become too comfortable in relying on future tax base growth in designing bond programs? • To what extent should future tax base growth be used to increase capacity for prospective future debt versus paying for past issues? • Should bond programs funding long overdue facilities improvements be structured differently than bond programs funding necessary maintenance and modernization? • How and when should a school district consider de-leveraging a bond program?
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Proposed Legislation • AB 182 (Buchanan and Hueso). • Input from Treasurer Bill Lockyer and county treasurer organizations.
• Key provisions: – – – –
Reduce maximum term from 40 years to 25 years. Limit the repayment ratio for individual transactions to 4 to 1. Reduce the maximum nominal interest rate from 12% to 8%. Requires call provisions on any bond maturing in more than ten years.
• Expected outcome. 2013 CASBO ANNUAL CONFERENCE & SCHOOL BUSINESS EXPO
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Other Questionable and/or Controversial Practices
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Other Questionable and/or Controversial Practices • Aggressive AV Assumption • Forty-Year Bonds
• Negotiated Sales • Costs of Issuance • Campaign Contributions • Free Campaigns
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Other Questionable and/or Controversial Practices • Pre-Packaged Teams • Solar Financings
• Technology Bonds • JPA Structures • Underwriter Funded Costs of Issuance • Creative Uses of Bond Premium
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Best Practices
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Bond Program Management • Make sure that original bond program is reasonable, flexible, and well-communicated to all stakeholders. • Review bond program regularly and discuss any potential need for adjustments in a timely manner. • Solicit input from independent third-parties (including your county treasurer) when appropriate.
• Don’t ignore your critics.
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Consider Financing Alternatives • Start with clearly stated policy objectives. • Ask your consultants to identify choices that are embedded in the proposed plan of finance. • Ask consultants to describe one or more alternatives to the proposed plan of finance. • Build plenty of time for staff and community input. • Conduct a post-mortem at the conclusion of the financing process. 2013 CASBO ANNUAL CONFERENCE & SCHOOL BUSINESS EXPO
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Appendix A: Questions You Should Be Asking
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Questions You Should Be Asking • Basic Questions 1. 2. 3. 4.
Financing Team Bond Sizing and Issuance Timing Bond Repayment Term and Structure Payback Ratio
• Questions on Assumptions (AV/Program Needs) • Questions on Future Flexibility
• Questions on Refunding Bond Issuances • Questions on Interim Financings 2013 CASBO ANNUAL CONFERENCE & SCHOOL BUSINESS EXPO
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Basic Questions (1) • Financing Team Members: – Who are the financing team members and what are their roles? – How were the financing team members selected? • Financing team members can include bond and disclosure counsels, underwriters, financial advisors, paying and escrow agents, and rating agencies.
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Basic Questions (2) • Sizing: – Why are we borrowing the proposed amount? • Project needs • Bond program constraints
• Timing: – Why are we issuing bonds now? • Project schedule • Market environment
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Basic Questions (3) • Repayment Term and Structure: – How long will it take to completely repay these bonds? – When will we start paying interest on these bonds? – When will we start paying principal on these bonds? • School districts may issue bonds with repayment terms of up to 25 years under the education code and currently up to 40 years under the government code. • Bonds that defer interest payment until maturity are called capital appreciation bonds, or “CABs”, which have higher interest expense relative to current interest bonds.
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Basic Questions (4) • Payback Ratio: – How much are we borrowing? – What is the total future repayment? • For a typical municipal current interest bond issuance with a 4% escalation in debt service obligations, the payback ratio is about 2.9 to 1. • Bond issuances featured in news articles have payback rations of 10 to 1 (and higher in some cases). • County officials have highlighted school district issuances with high payback rations.
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Questions on Assumptions • What are the tax rate targets in connection with the bond program and how were they determined? • What are our tax rates projected to be over time and based on what assumptions?
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Questions on Flexibility • Can we refinance or refund these bonds in the future? • Are there any additional costs associated with the flexibility to refinance or refund these bonds? – Optional call features on bonds allow the school district the flexibility to restructure or refinance the bonds in the future.
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Questions on Refundings • Is this a current or advance refunding? – Refunding bonds that occur more than 90 days prior to the call date are considered an “advance” refunding and are restricted from being advance refunding again.
• How much in savings is being generated by the refunding? – The industry standard is to pursue refundings with at least 3% in savings (as a percentage of refunded par amount) net of upfront financing costs. A higher savings threshold can be established by the Board.
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Questions on Interim Financings • Why are we pursuing an interim financing? • What are the alternatives to the proposed interim financing? • How will this interim financing be repaid? • What needs to happen in order for us to pay off this interim financing? • If these events do not occur, what are our options?
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Appendix B: Other Questionable and/or Controversial Practices
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Aggressive AV Assumptions • Advantages of creating a rosy scenario. • Consequences of being wrong. • How to decide. – Who decides? – Understanding impact of Prop 13; – Over-reaction can go in both directions.
• Consider de-linking tax base growth and escalation of debt service. 2013 CASBO ANNUAL CONFERENCE & SCHOOL BUSINESS EXPO
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Forty-Year Bonds • Matching repayment to useful life. • Dangerous when used in combination with escalating debt service. • 2009 change in the law. • Prospective changes: AB 182.
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Negotiated Sales • Negotiated and competitive sales. • What are the concerns? – Interest rate concerns. – Concerns about underwriting spread. – Other concerns.
• Can an FA and/or the County Treasurer help?
• Dodd-Frank changes.
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Costs of Issuance • Value to having a team that understands your program. • How much are we talking about? • Factors that influence price. • CDIAC database - what do others pay on similar transactions? • Legal and reporting requirements.
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Campaign Contributions • What do campaigns cost? • What are the critics concerned about? • Do disclosure rules solve the problem? • Competitive selection processes, limiting donations, and other solutions.
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Free Campaigns • How does it work? • Are people still doing it? • Where do you draw the line? • Questions regarding fundamental election fairness, pay-to-play, and appropriate use of public funds.
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Pre-Packaged Teams • Value of efficiency and simplicity. • Loss of independent voices. • The concept of co-marketing. • To what extent are these conflicts of interest inevitable?
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Solar Financings • California school districts are good candidates for solar. • Solar financings can never guarantee savings over business as usual costs (which are inevitably unknown). • Temptation to prioritize shift from operational cost (general fund funded) to capital cost (bond funded). • Be careful about useful life issues. • Is there an advantage to phasing? 2013 CASBO ANNUAL CONFERENCE & SCHOOL BUSINESS EXPO
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Technology Bonds • iPads for every student. • What does the law say? • Be VERY careful about useful life issues. • Are technology endowments the answer? • What about parcel tax revenues?
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JPA Structures • Flexibility of JPA law. • Uses and abuses over time (cash-out refunding, double-your-money QSCBs, authorization to authorization cost shifting). • Discuss with independent third-parties. • Costs and benefits of court validation.
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Underwriter Funded Costs of Issuance • The history – par or better bids and bidder’s option insurance. • The next phase – underwriter funded costs of issuance. • California State Attorney General letter. • Bond counsel opinion. • Underwriter reaction.
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Creative Uses of Bond Premium • Original issue premium – a bond concept. • Purchase premium – a well-defined figure with a (relatively) well-defined use. • What happens with the money in between the two? • Grey-area uses of received bond premium.
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