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Municipal Bonds 101:Basics of Borrowing for Washington Local GovernmentsWashington Public Treasurers’ AssociationApril 2019 | Chelan, Washington
Thomas ToepferPFM Financial Advisors LLC
Alice OstdiekStradling Yocca Carlson & Rauth PC
Presented by:
Jason RichterOffice of the State Treasurer
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Overview
Basics of Municipal Financing• What is Municipal Financing?• Key Financing Terms and Planning Considerations
• The Financing Team • Methods of Borrowing, Timelines and Process:
‒ State and Federal Government Lending Programs‒ Bank Loans‒ Municipal Bonds
• Post-Issuance Tax Compliance• Post-Issuance Disclosure Obligations
What Is the Process for Borrowing?
What Happens After Closing?
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Part 1: Basics of Municipal Financing
• What is Municipal Financing?‒Types of Debt
‒Legal Issues
• Key Financing Terms
• Planning Considerations
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What is Municipal Financing?• Municipal Debt Obligations
‒ Types, by security/source of repayment: General Obligation Debt Revenue Debt Assessment-Backed Debt (LIDs & ULIDs)
‒ Tax-Exempt vs. Taxable
• May include:‒ Loans (from public or private sources)‒ Municipal Bonds‒ Capital Leases, Lease-Purchase Agreements & Financing Contracts‒ Notes:
Bond/Grant Anticipation Notes (Interim Financings) Tax/Revenue Anticipation Notes (Cash Flow Financings)
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• Par Value:‒ Premium / Discount‒ Issue Price
• Interest Rate:‒ True Interest Cost‒ Yield
• Costs of Issuance
• Structuring:‒ Level Debt Service‒ Wrapped Debt Service
• Refunding Savings
Key Financing Terms
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Planning Considerations• What is the purpose or project to be financed?
‒ Is it appropriate for long-term financing?‒ Is tax-exempt treatment available? Can we live with restrictions on the use of property financed with tax-exempt bonds?
• What is the expected source of repayment?‒ Taxes?‒ Special assessments? (LIDs)‒ Revenues – rates and charges from utility or other enterprise? lease income or other
source of non-tax revenues?
• What are debt limits? How much can we borrow?‒ General Obligation – Statutory and constitutional debt limits‒ Revenue Bonds – Coverage requirements and additional bonds tests
• Is voter approval required?‒ Yes – Unlimited Tax General Obligation Bonds (UTGO) ‒ No – Limited Tax General Obligation Bonds (LTGO or “Councilmanic”); Revenue Bonds;
Assessment Bonds
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Part 2: What is the Process for Borrowing?
• The Financing Team, Timelines and Process
• Methods of Borrowing:‒State and Federal Government Lending Programs
‒Bank Loans
‒ Issuing Municipal Bonds
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• Issuer:‒ Elected Officials‒ Executive/Management Officer ‒ Finance Officer‒ Project Manager or Department(s)
• Financial (Municipal) Advisor
• Attorneys representing Issuer:‒ City Attorney or General Counsel‒ Bond Counsel‒ Disclosure Counsel
• Lender or Underwriter:‒ Lender’s/Underwriter’s Counsel
• Project Consultants (if applicable)
• Trustee or Paying Agent
• Rating Agencies
• For refunding transactions:‒ Refunding trustee or escrow agent‒ Verification agent (CPA)‒ Securities bidding agent
The Issuer and Its Advisors
Other Parties to the Transaction
The Financing Team
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Borrowing Process: Planning Phase• Why do you need to borrow? ‒ Identify and refine project and cost estimates Develop financing needs and cash flow projections; consider impacts on operating costs from project
‒ Identify funding and repayment sources
• Develop Preliminary Debt Plan and Financing Structure‒ Assemble Financing Team‒ Determine financing structure, cash-flow needs, and terms: Security and pledge for repayment of debt; length of term; fixed vs. variable; construction financing
‒ Determine method of sale‒ Develop timeline
• Communication and Decisionmaking Steps‒ Board/Council/Community education‒ Board/Council approval of plan (formal or information)‒ Election, if required
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Borrowing Process: Implementation Phase• Refine Financing Schedule & Assemble Financing Team‒RFP for Underwriter or Bank/Lender, if necessary
• Formal Authorization‒ Bond Ordinance or Resolution (prepared by Bond Counsel)
• For Publicly Offered Bonds:‒ Prepare Official Statement‒Obtain ratings‒Marketing or pre-sale‒ Sale date‒ Prepare closing documents
• Closing Date – Funds delivered!
• For Direct Placement (Loan):‒ Select Bank‒Negotiate terms‒ Prepare closing documents
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Considerations for Refundings• Amount of Net Present Value (NPV) savings‒ In total dollars (i.e. $500,000 NPV savings)‒ As % of par (i.e. 7% of refunded par)
• Amount of annual savings
• Costs/effort compared to potential savings
• Amount of negative arbitrage in refunding escrow
• What if you wait?‒ Assuming current market rates‒ Assuming market rate increases
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Financing Methods• Common Methods of Borrowing‒State and Federal Lending Programs LOCAL Program State Loan Programs (PWTF, SRF) Federal Loan Programs (USDA)
‒Publicly Offered Bonds Negotiated vs. Competitive
‒Loans Bank financing / Private placement
‒Leasing
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Financing Methods - ConsiderationsNo one size fits all when it comes to borrowing
Size • How much do you need?Timing • When do you need the money?Term • What repayment term do you prefer?Security/Repayment • How will you pay for it?
• What revenues are you planning to use? (Taxes? Utility (or enterprise) revenues?)
• Is there any other reserve, guaranty or credit enhancement?Tax Exemption • Is the purpose/project financeable on a tax-exempt basis?
(Consult bond counsel early)• Will the borrowing be eligible to be designated as “Bank
Qualified”?
Other needs/terms • Do you need flexibility to call (prepay)?• What is your ability to accept interest rate risk?• Other concerns
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Financing Methods: LOCAL Program• Available to entities with the ability to issue general obligation debt
and levy property taxes‒ Pools with State agencies to achieve economies of scale and reduce interest costs‒ Minimum borrowing threshold of $10,000‒ Term is based on the useful life of the property being financed
• Requires OST credit approval‒ Funds are generally available three times
per year, in February, June and October‒ OST manages technical aspects
(administration, tax compliance, continuing disclosure, and refunding opportunities
‒ Website: www.tre.wa.govDebt Management – LOCAL Program
Type of Equipment/Real EstateNumber of
Leases since 1999
Commercial Vehicles -- Buses, Fire Trucks 308Vehicles -- Cars & Trucks 121Real Estate Buildings/Land 92Energy Updates & HVAC 92
Road/Warehouse Vehicles -- Tractors, Forklifts 46
Other 40Machinery 28Computers & Peripherals 16Communication Systems 15Office Equipment & Furniture 13Boats, Aircraft, Recreational Equipment 8
Portable Buildings -- Modular classrooms, yurts 7
Total 786
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• Typically best option for:‒ Under ~$10 Million‒ Shorter term (~10 yrs)‒ Flexible prepayment options‒ “Story” borrowings‒ Quick turnaround
• Do not require:‒ Official Statement‒ Continuing Disclosure *But may trigger event filings
‒ Rating Agencies
Financing Methods: Bank Loans• Direct Loan or
Direct Purchase‒Permanent financing (“Bond”) Typically 5-10 yrs
‒ Interim financing (Note) Typically 3-5 yrs
• Line of Credit‒ Typically for interim financing‒ Typically variable rate, tied to
a market index
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Financing Methods: Municipal Bonds• Public Bond Offering‒Competitive Sale Issuer sets terms in Preliminary Official Statement (Financial Advisor input) Offers bonds for bid to underwriters (via electronic bidding platform)Awards bonds to underwriter offering the lowest true interest cost (TIC)
Considerations: Issuer controls terms - works great for “plain vanilla” dealStrong, easily understood credit, relatively stable market
‒Negotiated Sale Terms developed in conjunction w/ Financial Advisor and Underwriter Considerations:More complex deals or “story bonds” where investors need to understand the creditComplex bond structure, volatile market
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Financing Methods Discussion• What factors affect interest rates?‒ Underlying Credit Quality Fiscal strength/health of enterprise Demographics & general economic factors (often out of your control) Ratings
‒ Tax Exemption and “Bank Qualification”‒Does method of sale affect interest rates?
• Types of ratings‒ Types of ratings‒ Revenue vs. GO ratings LTGO vs. UTGO in Washington
‒ “Issuer” ratings‒ “Underlying” ratings‒ “Insured” or “enhanced” ratings
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• Key Concepts:‒Preliminary OS & Final OS
‒The Issuer’s Documents
‒Subject the Issuer and the Officials responsible to certain SEC regulations:
Anti-fraud provisionsSection 17(a) (1933 Act)Section 10(b) (1934 Act)
• Legal Standard‒Anti-fraud Rule 10b-5: Unlawful to “…make any
untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading…”
Municipal Bond DisclosureSecurities Law
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Municipal Bond Disclosure• The Official Statement is the Issuer’s Document‒Who prepares the Official Statement? Issuer determines who prepares this document, but the Issuer is ultimately
responsible for its accuracy and completeness:
Use of “Disclosure Counsel” strongly encouraged by SEC
This role may be filled by Bond Counsel or by a second law firm engaged by Issuer
‒Whatever you do . . . . Do not let local boosters write the official statement.
Do develop internal procedures for fact-checking the information and spotting omissions of material information in the official statement.
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Municipal Bond Disclosure• Key Takeaways for Issuers:‒Review entire document for accuracy and
completeness:
Ensure the “right” people read it and provide input
Provide these people with training!
Develop internal signoff procedures
Review by Council/Mayor‒ Be certain you are personally comfortable attesting
that the OS is:
Accurate and complete
No omissions of any information necessary to make the statements in the document not misleading
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Part 3: What Happens After Closing?
• Post-Issuance Tax Compliance• Post-Issuance Disclosure Obligations
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• Issuer Takeaways:‒ Monitor private use of the bond-financed
asset for entire life of the bonds
Educate primary users, other gatekeepers
Examples: leases, sales of property
Note! Nonprofits and federal agencies are “private” users
‒ Make timely arbitrage and rebate calculations Do you need a rebate consultant?
‒Retain records!!! Use of proceeds, investment of proceeds, use of
bond-financed property
For life of bonds (including refunding bonds), plus three (six) years
Post-Issuance Tax Compliance• Key Concepts:‒ Private Business Use
Private payments?
Private loan financing?
‒ Arbitrage & Rebate
Five-year calculations
‒ Record Retention
What to keep?
How long?
‒ If questions, call bond counsel
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• Continuing Disclosure Agreements (CDAs) require filings on the MSRB’s Electronic Municipal Market Access (EMMA) website:
• Annual financial information – Annual financial statements and audits (when available)
• Notice of certain listed events – Must be filed within 10 business days of when the event occurs.
• If you are unfamiliar with your current CDA(s), consult your Bond Counsel or Disclosure Counsel.
Continuing Disclosure Compliance
http://emma.msrb.org/ Continuing Disclosure Agreements entered into after February 27, 2019require two new additional listed events:• NEW Event #15 – (“if material”)
‒ Incurrence of new “financial obligation”
‒ Agreement to covenants, amendments, etc. in existing “financial obligation”
• NEW Event # 16 – (“reflecting financial difficulties”)‒ Default, termination event,
acceleration, etc.
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• Adopt written procedures or policies to ensure compliance‒ Post-Issuance Tax Compliance Track spending and investment of bond proceeds
Set up systems to alert Bond Counsel about:
Any proposals to sell, lease or change the use of bond-financed facilities
Any proposals for management contracts (golf courses, parking garages, sewage treatment, etc.)
Respond quickly to audit letters or questionnaires from the IRS, but consult Bond Counsel first!
‒ Post-Issuance Disclosure Compliance Ongoing Disclosure
Staff training – ensure staff responsible for filing understand what they are doing
• Implement internal procedures for compliance with new Events #15 and 16, if applicable
Monitor and create reminder/tickler systems
Post-Issuance Compliance
Questions?
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Appendix
Types of DebtFinancing Team Market Update
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Types of DebtType of Debt Market Considerations Issuer Considerations Typical UsesGeneral Obligation
• Tax-backed - generally most secure
• Straightforward credit considerations
• Payable from taxes• Typically lowest cost• Usually simpler process• Uses legal “debt capacity”
• Projects that benefit general public or provide general public benefits
Local Improvement District Obligation
• Secured by assessments against property being assessed
• Includes ability to foreclose lien on property
• Guaranty Fund pledge can enhance credit
• Payable from assessments• Generally highest cost• Most complex process• All (or portion) of costs can be
passed on to property owners• Does not use legal debt capacity
• LID projects • Include both general
public benefit andprivate or “special” benefit
Revenue Obligation
• Secured by revenue stream• Utility/enterprise revenues• Other non-tax revenue stream
• May include complex covenants and investor protections
• Historically seen as less secure than tax-backed, but this perception has shifted
• Market-based capacity for borrowing (coverage)
• Secured by non-tax revenues• Rates, user fees & charges,
or lease revenues• Does not use legal debt capacity• Ability to borrow based on cash
flow and market-based capacity (coverage)
• May require covenants that restrict the issuer in certain ways
• Rate covenants• Limitations on Disposition• Additional Bonds Test• Debt Service Reserves
• Utilities• Revenue-producing
projects/enterprises • Grant or other non-
tax income
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The Financing Team• Bond Counsel‒Prepares documentation (ordinance/resolution, agreements, contracts,
certificates, etc.) and delivers legal opinion re: enforceability and federal tax matters:State Law
Federal Tax Law
Federal Securities Law
‒May also serve as Disclosure Counsel
• Disclosure Counsel ‒Prepares Official Statement and advises on federal securities laws
‒Delivers “negative assurances” letter
Federal Tax Law
Federal Securities Law
State Law
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The Financing Team• Financial (Municipal) Advisor‒Must be registered with the SEC and MSRB
Must pass qualification exams, pay registration fees, federal financial disclosures Owes a fiduciary duty to Issuer and federal securities law liabilities
• Bond Underwriter‒Purchases “all but not less than all” of the bonds for
resale to investors Has no fiduciary duty to Issuer – owes duties to investors Must provide certain written disclosures (G-17 Letter)
‒Cannot be a “municipal advisor” and an “underwriter” in the same transaction May provide “advice” on structuring only: If engaged to serve as underwriter for a specific transaction If responding to a Request for Proposals If relying on an IRMA Exemption
“[Issuers should understand that] they
are the seller, the underwriter is the
buyer, and like any other sales
transaction, the buyer is not representing the
seller.”
Martha Haines, Former Chief of Municipal Securities Division, SEC
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Market Update - AAA MMD Position Since Inception
AAA MMD Rate Position(June 1, 1981, Inception to March 11, 2019)
Summary of March 11, 2019 vs. Historical (since Inception) MMD RatesStatistic 1-Year 2-Year 3-Year 4-Year 5-Year 7-Year 10-Year 15-Year 20-Year 25-Year 30-YearMarch 11, 2019 1.57% 1.58% 1.59% 1.61% 1.67% 1.82% 2.06% 2.44% 2.72% 2.84% 2.89%Historical Average 3.01% 3.33% 3.57% 3.77% 3.96% 4.30% 4.70% 5.19% 5.45% 5.58% 5.61%Spread to Average -1.44% -1.75% -1.98% -2.16% -2.29% -2.48% -2.64% -2.75% -2.73% -2.74% -2.72%Minimum 0.11% 0.25% 0.36% 0.44% 0.62% 0.89% 1.29% 1.57% 1.80% 1.88% 1.93%Maximum 9.65% 9.85% 10.05% 10.30% 10.65% 11.05% 11.50% 12.40% 12.70% 12.80% 12.90%% of Time Lower 31.67% 27.82% 24.63% 22.56% 19.72% 13.51% 9.04% 7.47% 7.54% 6.66% 6.24%
Source: Thomson Reuters
0.00%
2.00%
4.00%
6.00%
8.00%
10.00%
12.00%
14.00%Current Average MMD Range
• Current tax-exempt interest rates are still below historical averages
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Market Update - Recent AAA MMD Yield Curve MovementAAA MMD Yield Curve Movement
Maturity ∆ Since 03/05/2018
∆ Since 07/19/2018
1-Year 0.11% 0.14%2-Year 0.00% 0.02%3-Year -0.11% -0.11%4-Year -0.25% -0.20%5-Year -0.34% -0.24%6-Year -0.35% -0.28%7-Year -0.39% -0.32%8-Year -0.43% -0.36%9-Year -0.47% -0.36%
10-Year -0.45% -0.33%11-Year -0.40% -0.28%12-Year -0.36% -0.23%13-Year -0.34% -0.21%14-Year -0.33% -0.19%15-Year -0.34% -0.20%16-Year -0.33% -0.18%17-Year -0.31% -0.16%18-Year -0.28% -0.13%19-Year -0.26% -0.11%20-Year -0.23% -0.08%21-Year -0.21% -0.06%22-Year -0.20% -0.04%23-Year -0.19% -0.03%24-Year -0.18% -0.02%25-Year -0.18% -0.02%26-Year -0.18% -0.02%27-Year -0.18% -0.02%28-Year -0.18% -0.02%29-Year -0.18% -0.02%30-Year -0.18% -0.02%
Source: Thomson Reuters
0.00%
0.50%
1.00%
1.50%
2.00%
2.50%
3.00%
3.50%Current (03/11/2019) Last Year (03/12/2018) Past Year Low (07/19/2018)
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Market Update - U.S. Treasury & AAA MMD Rate MovementAAA MMD Rate Movement
(1-Year History)U.S. Treasury Rate Movement
(1-Year History)
Source: Thomson Reuters
0.00%
0.50%
1.00%
1.50%
2.00%
2.50%
3.00%
3.50%
4.00%
UST 1-Year UST 5-YearUST 10-Year UST 30-Year
0.00%
0.50%
1.00%
1.50%
2.00%
2.50%
3.00%
3.50%
AAA MMD 1-Year AAA MMD 5-YearAAA MMD 10-Year AAA MMD 30-Year
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Market Update - Municipal Market Supply & Demand• Municipal bond issuance was up 29.89% in February (year-over-year) and is up 21.43% year-to-date through the end of February.
Municipal Fund Flows (Demand)Overall Municipal Market Volume (Supply)
Source: Bond Buyer, Investment Company Institute
$0 Bn
$5 Bn
$10 Bn
$15 Bn
$20 Bn
$25 Bn
$30 Bn
$35 Bn
$40 Bn2018 2019
($20) Bn
($15) Bn
($10) Bn
($5) Bn
$ Bn
$5 Bn
$10 Bn
$15 Bn
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