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
dolson@knninc.com
• Dr. Luis Ibarra Ed.D.
Associate Superintendent of Business Services
Oceanside Unified School District
luis.ibarra@oside.us
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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.
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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.
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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.
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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.
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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
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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.
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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?
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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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