may 18, 2006
DESCRIPTION
Presentation to IASBO Members – The Truth About Premium Bonds, Debt Limit, and Cost Effective Finance Plans. May 18, 2006. Tammie Beckwith Schallmo UBS Investment Bank Tom Chapman Raymond James & Associates - PowerPoint PPT PresentationTRANSCRIPT
Presentation to IASBO Members –The Truth About Premium Bonds, Debt Limit, and Cost Effective Finance Plans
May 18, 2006
Tammie Beckwith Schallmo UBS Investment Bank
Tom Chapman Raymond James & Associates
Wendy Flaherty First Trust Portfolios, LP
Lynda Given Chapman and Cutler LLP
Todd Krzyskowski JP Morgan Securities Inc.
2
Table of Contents
A. Goals of the Presentation
B. Background and History
C. Types of Debt Structures
D. Market Impact and Cost of Different Structures
E. Managing the Media
Tab
3
Goals of the Presentation
4
Many Different Perspectives
Board of Education
District Administration
(Superintendent and Business
Manager)
Financial Expert and Underwriter
(Capital & Operating
Knowledge)
Citizens Groups and Referendum
Committees
The Media
(Newspaper and TV)
Community Member
Bond Counsel
(e.g. Chapman
and Cutler)
And then, there’s the Investor……
All Bond Structures for Illinois Public Schools Must be Viewed and UnderstoodAll Bond Structures for Illinois Public Schools Must be Viewed and Understood
from Many Different Perspectivesfrom Many Different Perspectives
Debt Structure, Tax Rate Impact, Types of
Bonds Used
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What Will We Accomplish Today?
A Historical Perspective on Bonds and Debt Limits for Illinois Schools
Types of Debt Structures – Developing a Debt Structure that Meets Community Needs
True Costs of Different Debt Structures – Market Impact and Investor Acceptance
Handling Media Coverage and Reaction to Referendum Plan
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Background and History
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Background and History
History of debt limits
1870 Constitution 1970 Constitution Personal Property Tax
Examples Construction Bonds Working Cash Fund Bonds Funding Bonds
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Background and History
How Borrowers Can Address These Limitations
Obtain additional authority from voters
Exploding enrollment 2/3 voter approval
Change limitation by legislation
Issue in series
Staleness Costs
Adjust bond components
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Types of Debt Structures
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Types of Debt Structures
Level Debt Service
Level Tax Rate
Use of Capital Appreciation Bonds (CABs)
Use of Premium Bonds
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Debt Structure Considerations
Growing or stable school district and EAV?
Impact of Tax Cap on total tax rate
Other referenda in the community
Palatability to the taxpayer
Average life of debt versus new facilities
Preventive maintenance needs and/or Capital Improvement Plan
Planning for the Future
Debt Limit availability
Debt Policy
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Debt Service Approach
Level debt is common in Districts where the EAV is stable
Level tax rate typical in Districts with significant growth projected
A level rate/level debt approach is often used (when growth is expected to slow or stop)
Level tax rate usually results in a higher total debt service cost for the district but a lower initial impact on the tax rate
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Capital Improvement Plan
District should maintain multi-year (3-5 years) Capital Improvement Plans for all of its facilities
Enables Districts to prioritize needs, identify Life Safety projects and potentially spread out costs to make projects more affordable
The development of a Capital Improvement Plan (CIP) enables a District to get a handle on any financing needs
Preventive maintenance is a critical component of a Capital Improvement Plan
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Market Impact and Cost of Different Structures
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Confusion
Coupon Rate – The stated interest rate printed on a bond (e.g. 9%) that is payable semi-annually for an outstanding bond
Yield or “Current Yield” – The rate of return on a bond to an investor (or cost to a School District) based on the ratio of the coupon income to the purchase price. For example, a $1,000 par value bond with a coupon of 9% pays $90 annually in coupon income, but if the $1,000 par value bond is bought at $1,700 the current yield (or cost to the School District) is only 5.29%!
Important Notes – Effective costs on different types bonds are best determined by comparing yields not coupon rates. The only time a coupon rate equals the yield on a bond is when the bond is purchased at par (i.e. $1,000). If you don’t CLEARLY distinguish between coupon rate and yield, negative assumptions about financing costs will arise!
Recently, the Media has Very Effectively Confused theRecently, the Media has Very Effectively Confused the
“ “Coupon Rate” on a Bond with its Effective “Yield” or Cost to a School DistrictCoupon Rate” on a Bond with its Effective “Yield” or Cost to a School District
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What Does “Premium” Mean?
““Premium” does not automatically mean the School DistrictPremium” does not automatically mean the School District
is paying a higher financing costis paying a higher financing cost
Par Bond – Coupon rate equals yield and investor pays exactly 100 cents on the dollar for the bond
Discount Bond – Coupon rate is lower than bond yield and investor pays less than 100 cents on the dollar for the bond
Premium Bond – Coupon rate is higher than bond yield and investor pays more than 100 cents on the dollar for the bond
In fact, all three types of bonds could have the same yield or financing cost to the District………………………….
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Calculating the YieldThe Yield (or cost to a School District) on a BondThe Yield (or cost to a School District) on a Bond
is a function of is a function of BothBoth Coupon Rate and Price Coupon Rate and Price
Current Yield =Coupon Rate
Price
5% =$50.00
$1,000
5% =$47.50
$950
5% =$60.00
$1,200
Par BondCoupon = 5%
Discount Bond
Coupon = 4.75%
Premium Bond
Coupon = 6%
Thus if Prices Decrease, Yields Increase and Vice Versa
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Debt Service Comparison
Par Bond Discount Bond Premium BondPar Amount: $5,000,000 $5,135,000 $4,524,000
Proceeds: $5,000,000 $5,000,000 $5,000,000Premium/ (Discount): $0 $135,000 $476,000
Coupon: 5.00% 4.75% 6.00%Yield: 5.00% 5.00% 5.00%
Duration: 10.77 years 10.87 years 10.39 yearsPurchase Price: $100.000 $97.369 $110.499
Date Par Bond Discount Bond Premium Bond6/1/2006 20,833 20,326 22,620 6/1/2007 250,000 243,913 271,440 6/1/2008 250,000 243,913 271,440 6/1/2009 250,000 243,913 271,440 6/1/2010 250,000 243,913 271,440 6/1/2011 250,000 243,913 271,440 6/1/2012 250,000 243,913 271,440 6/1/2013 250,000 243,913 271,440 6/1/2014 250,000 243,913 271,440 6/1/2015 250,000 243,913 271,440 6/1/2016 250,000 243,913 271,440 6/1/2017 250,000 243,913 271,440 6/1/2018 250,000 243,913 271,440 6/1/2019 250,000 243,913 271,440 6/1/2020 250,000 243,913 271,440 6/1/2021 5,250,000 5,378,913 4,795,440
8,770,833 8,814,014 8,618,220
Par, Premium and Discount BondsPar, Premium and Discount Bonds
Interesting to note that a premium bond generating the same amount of proceeds as a discount or par bond actually has lower cumulative debt service!!!
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Capital Appreciation Bonds (CABs)
Zero Coupon or “Capital Appreciation” Bond (CAB) – A Bond that is issued at a deep discount and which bears no stated rate of interest (i.e. 0%), only compounded interest is paid at maturity. Such bonds are bought at a discount price that implies a stated yield (i.e. rate of return) calculated on the basis of the bond being payable at par (or face value) at maturity.
Premium Capital Appreciation Bond (PCAB) – A type of CAB that has a stated yield or accretion rate that is higher than its actual current yield to investors. This difference results in a lower initial stated par amount which preserves debt capacity.
Important Note – A CAB and a PCAB of the same amount and with the same maturity and same yield to maturity cost exactly the same. However, the components of the initial cost (par amount and premium) are different. The primary benefits to a School District from using these bonds is to; (1) raise additional proceeds, (2) preserve debt limit, and (3) help reach tax rate targets.
Zero Coupon or Capital Appreciation Bonds (CABs) Zero Coupon or Capital Appreciation Bonds (CABs)
Can Also Be Sold with an Implicit “premium” to Raise Additional Can Also Be Sold with an Implicit “premium” to Raise Additional
Bond Proceeds and/or Preserve Debt LimitBond Proceeds and/or Preserve Debt Limit
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CABs Versus Premium CABsCAB Premium CAB
Original Issue Amount: $4,999,433.40 $3,730,147.20Premium at Closing: $0.00 $1,269,286.20Proceeds at Closing: $4,999,433.40 $4,999,433.40
Compounded Interest: $5,530,566.60 $6,799,852.80CAB Maturity Value: $10,530,000.00 $10,530,000.00
Coupon: 0.00% 0.00%Yield: 5.00% 5.00%
Accretion Rate: 5.00% 7.00%Duration: 15.08 years 15.08 years
Date Debt Service Accretion Table Debt Service Accretion Table5/1/2006 2,373.90 1,771.20 6/1/2006 2,383.70 1,781.35
12/1/2006 2,443.30 1,843.70 6/1/2007 2,504.35 1,908.25
12/1/2007 2,566.95 1,975.05 6/1/2008 2,631.15 2,044.15
12/1/2008 2,696.95 2,115.70 6/1/2009 2,764.35 2,189.75
12/1/2009 2,833.45 2,266.40 6/1/2010 2,904.30 2,345.75
12/1/2010 2,976.90 2,427.85 6/1/2011 3,051.35 2,512.80
12/1/2011 3,127.60 2,600.75 6/1/2012 3,205.80 2,691.80
12/1/2012 3,285.95 2,786.00 6/1/2013 3,368.10 2,883.50
12/1/2013 3,452.30 2,984.45 6/1/2014 3,538.60 3,088.90
12/1/2014 3,627.10 3,197.00 6/1/2015 3,717.75 3,308.90
12/1/2015 3,810.70 3,424.70 6/1/2016 3,905.95 3,544.55
12/1/2016 4,003.60 3,668.65 6/1/2017 4,103.70 3,797.05
12/1/2017 4,206.30 3,929.95 6/1/2018 4,311.45 4,067.50
12/1/2018 4,419.25 4,209.85 6/1/2019 4,529.75 4,357.20
12/1/2019 4,642.95 4,509.70 6/1/2020 4,759.05 4,667.55
12/1/2020 4,878.00 4,830.90 6/1/2021 10,530,000.00 5,000.00 10,530,000.00 5,000.00
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Bond Investors
Where Bonds Best Fit Into a Portfolio – Portfolio Swaps
Capital Appreciation and Capital Gains
High Current Income – Retirees or Portfolio Managers
Defensive Couponing Strategies – Recent Strong Preference for Premium Bonds with at least a 5% coupon rate. Portfolio managers were positioning for upturn in interest rates that is currently materializing.
Non-Callability – assurance that a bond cannot be redeemed in advance of its final maturity. Provides more overall yield and capital appreciation stability for a portfolio over a longer period of time.
Investor Purchase Different Types of Municipal Bonds for Various Reasons
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Effective Interest Rates – CIBs Versus CABs
2.00%
2.50%
3.00%
3.50%
4.00%
4.50%
5.00%
5.50%
6.00%
2008 2010 2012 2014 2016 2018 2020 2022 2024 2026 2028
Current Interest Capital AppreciationMaturity Current Interest Capital Appreciation
2008 3.50% 4.00%
2009 3.60% 4.10%
2010 3.70% 4.20%
2011 3.80% 4.30%
2012 3.92% 4.42%
2013 4.05% 4.55%
2014 4.16% 4.66%
2015 4.26% 4.76%
2016 4.35% 4.85%
2017 4.42% 4.92%
2018 4.48% 4.98%
2019 4.53% 5.03%
2020 4.58% 5.08%
2021 4.62% 5.12%
2022 4.66% 5.16%
2023 4.70% 5.20%
2024 4.74% 5.24%
2025 4.78% 5.28%
2026 4.82% 5.32%
2027 4.84% 5.34%
2028 4.86% 5.36%
Yield Curve ComparisonYield Curve Comparison
Effective interest rates (i.e. yields) on Current Interest BondsEffective interest rates (i.e. yields) on Current Interest Bonds
are slightly lower (.50 to.70%) than interest rates (i.e. yields)are slightly lower (.50 to.70%) than interest rates (i.e. yields)
on Zero Coupon Bonds (Capital Appreciation Bonds)on Zero Coupon Bonds (Capital Appreciation Bonds)
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Cost of CABs
PV of PV of Total Debt Total DebtTotal CIB CIB D/S Total CABs CAB D/s Service Tax Rate Service Tax Rate
Maturity Debt Service (D/S) 4.75% Debt Service (D/S) 4.75% on CIBs on CABs
2/1/2008 778,750 711,740 280,000 255,907 0.42 0.242/1/2009 778,750 679,100 415,000 361,896 0.35 0.242/1/2010 917,750 763,611 560,000 465,946 0.33 0.242/1/2011 917,750 728,592 720,000 571,600 0.28 0.242/1/2012 917,750 695,179 795,000 602,198 0.26 0.242/1/2013 1,072,750 775,323 970,000 701,061 0.26 0.242/1/2014 1,265,000 872,342 1,165,000 803,382 0.25 0.242/1/2015 1,482,250 975,281 1,375,000 904,714 0.25 0.242/1/2016 1,537,750 965,398 1,435,000 900,892 0.25 0.242/1/2017 1,609,000 963,804 1,505,000 901,508 0.25 0.242/1/2018 1,675,000 957,326 1,570,000 897,314 0.25 0.242/1/2019 1,745,750 952,005 1,640,000 894,337 0.25 0.242/1/2020 1,815,750 944,769 1,715,000 892,346 0.25 0.242/1/2021 1,894,750 940,662 1,795,000 891,140 0.25 0.242/1/2022 1,977,000 936,484 1,875,000 888,168 0.25 0.242/1/2023 2,057,000 929,694 1,955,000 883,594 0.25 0.242/1/2024 3,239,500 1,396,999 3,140,000 1,354,091 0.25 0.242/1/2025 2,289,000 941,838 3,295,000 1,355,769 0.17 0.242/1/2026 1,189,000 466,793 3,460,000 1,358,371 0.08 0.242/1/2027 1,404,000 525,922 3,635,000 1,361,630 0.09 0.242/1/2028 1,590,750 568,550 3,815,000 1,363,519 0.10 0.24
32,155,000 17,691,411 37,115,000 18,609,382
Present Value Benefit of CIBs: (917,970)
A District cannot issue $18 million of Interest Bearing Bonds in 2006 because of Debt Limit Constraints.
Current Interest Bonds would result in District exceeding its 24-cent tax rate target Capital Appreciation Bond Yields are Assumed to be .50% Higher than Conventional Current
Interest Bond Yields.
The Additional Cost of Using Capital Appreciation Bonds Can Be Measured by Comparing CAB Debt Service to Conventional Current
Interest Bond Debt Service and Reviewing the Present Value Difference
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Communicating Debt Policy with the Public
Managing the Media
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Recent Headlines
Broken BondsBig Money, unspoken practices: The costly word of school
loans
On February 5, 2006 the Daily Herald ran the first of a series of articles uncovering Illinois school district borrowing.
“A typical home loan will cost you twice what you borrowed when it’s paid off with interest.”
“School districts get better interest rates – 30% lower.”
“However, in an analysis of 206 Illinois suburban school district loans, taxpayers pay MORE than what a typical homeowner would pay on their own loan.
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Ouch!
Are 206 Illinois schools taking advantage of the innocent taxpayers?
“Cash bonuses” – are school administrators getting some type of kickback at taxpayers’ expense?
“Backloading” – is this something out of a Sopranos episode?
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What Can We Learn?
There is mounting concern over how Illinois school districts are managed. A lack of trust.
School districts are on obvious target – instead of libraries, park districts, or municipalities?
The facts were pulled out of context and manipulated in a negative way.
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Why is This Happening?
“No comment!”
Assumptions that reporters understand school district funding issues
Constant transition
Lack of early and effective communication
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What Can We Do Going Forward?
Be Proactive Rather Than Reactive
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What Can We Do Going Forward?
The first step to being proactive is toRESPOND
Respond when other districts will not. Regularly saying “no comment” or being “unavailable” is ineffective and potentially damaging because:— Media regards itself as the public’s eyes and ears
— They will continue to do a story WITHOUT your input
— They will gather “information” from anyone that offers it
Assume nothing
Understand and accept the media’s role— Take leadership, control and responsibility
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Fostering Relationships
Why do districts need to foster a positive relationship with the media?
To develop and maintain credibility for the Board of Education and your administration
To educate and influence taxpayers to support you at the polls when additional funding is needed
To inform and involve your community with the ever-changing educational process
To improve the community’s understanding of district goals, initiatives, programs and operations
To promote community pride in student, team and district accomplishments and honors
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Key Messages
You need key messages…and to know how to use them
Develop and articulate key messages Remember 3 + 3 3 key messages, plus 3 facts to support each
Use powerful facts to stay on message
News = people + actions + local interest
News is immediate, timely, right now
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Successful Media Relations Strategies
Be the primary, trusted source for information
Be prepared by brainstorming the “must answer” questions you expect to be asked
Be creative and pitch story ideas to them instead of just waiting for their call
Respond, respond, respond!
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Communicating Debt Policy with the Public
Q & A