Capital Appreciation Bonds (CABs): Do They Have a Legitimate Role in Municipal & School Finance

1. Capital Appreciation Bonds (CABs):Do They Have a Legitimate Rolein Municipal & School Finance September 25, 2012 Capitol Public Finance Group· 1900 Point West Way, Ste. 273 · T (916) 641 2734 · capitolpfg.com

2. Introductions

3. Presentation Overview

5. Why Borrow? • Spread Cost Over Many Budget Years • Based on useful life of project • Project of benefit to many years worth of students/citizens/taxpayers • Revenues Received Over Time • Conserve Cash/Cash Management • Minimize Construction and Other Cost Increases

6. What Does a Borrowing Pay For? Land Acquisition Building Acquisition Facility or Infrastructure Construction Facility or Infrastructure Renovation, Upgrade or Expansion Capital Vehicles & Equipment Purchase

7. Traditional Types of Long-Term Debt:Voter/Landowner Approved Debt

8. Traditional Types of Long-Term Debt:Non-Voter Approved Debt

9. Interest Payment Methods on Bonds

11. Recent Headlines Have BroughtCABs into the Spotlight “Where Borrowing $105 Million Will Cost $1 Billion” “Some Sacramento Area School Bonds Have Long-Term Pricey Payments” “Treasurer Calls for Bill to Restrict Pricey School Bonds”

12. General Obligation Bonds (GO Bonds) • Voter approved, long-term debt • Authorized under one of two voter approval methods • Traditional 2/3 • Prop. 39 – 55% • Available only to schools • Approval method determines rules by which bonds can be issued and proceeds can be spent • Bond proceeds can only be spent on projects explicitly identified at the time the bond measure was approved

13. Issuing GO Bonds • Taxpayers authorize an amount of total bonds to be issued • Issued in series over time • Amount of issuance limited by legal bonding capacity • Prop. 39 created additional limitations:

14. Understanding GO BondIssuance Constraints • Bond debt is repaid by ad valorem taxes levied on all taxable property within a district’s boundaries • Tax rates a function of annual bond debt service and total assessed value in the district

16. School District XYZ’s Used CABs toIssue Additional BondsWhen Otherwise Could Not Have • Had authorization for $15.2 million of bonds • Issued $8 million of bonds • During a time when assessed value was rapidly increasing • Assessed value began to decline and additional bonds were needed • Had already reached the maximum Prop. 39 tax rate for the entire term of the bonds already issued • Issued an additional $5 million of bonds using CABs

17. Assessed Value in Many CA Communities

22. Comments on this OverallGO Bond Structure • CABs used to enable the school district to issue bonds that it otherwise would not have been able to issue under Prop. 39 • Don’t know what the communication to their governing board and community was • Don’t know what their project needs were • Were they already under contract? • Was it for a necessary facility? • Did they communicate to the community and decided this was the best decision? • The answers to these questions informs us as to whether a responsible decision was made.

24. School District QRS Issued CABs toMaximize Bond Proceedsto Fund Necessary Projects • Small elementary school district with total assessed value of $700 million • Prop. 39 tax rate cap of $30/$100,000 of a.v. limits amount that can be issued • All schools at capacity and need to construct new facility costing $20 million • State funds 40%, or $8 million (50% matching program rarely provides 50% of actual school cost) • Developers fund 30%, or $6 million • Used CABs to increase debt service annually to correspond to projected increases in a.v.

27. Comments on this OverallGO Bond Structure • CABs used to enable the school district to fund the construction of a necessary school • Without CABs, this district would not have been able to obtain enough money • Even with the expensive cost of the CABs over 40 years, a conscious decision was made to issue the bonds in this manner

29. School District ABC Issued CABsto Maximize Tax Rates • Large unified school district issues CABs as part of overall bond plan • Limits term to 25 years • CABs only a small part of the district’s overall debt portfolio • Over $350 million of bonds, $26 million were CABs • Layered on top of CIBs to level out debt service when combined with other bonds issued

31. Comments on this OverallGO Bond Structure • CABs were issued to level out overall debt service • Did not rely on estimated increases in assessed value • Overall debt repayment ratio less than 2:1 • Shorter term, 25 year, CABs

32. Other Uses of CABs • Not only used in conjunction with GO Bonds • COPs or revenue bonds • Often to defer repayment to match a specific revenue source • Developer fees, CFD taxes, future capital contributions, etc. • Federal Government issues them • Savings bonds • Have become prevalent for school GO Bonds because of the limitations of Prop. 39

34. CABs Can Be Issued Responsibly • Communication and education is essential • Cost information • Risks/benefits • alternatives • Need to consider the overall goals of the agency • Enable projects to be constructed today to avoid construction cost escalation • Spread project costs over several budget years • Consider inflation

35. Often Costly CABs Are IssuedWithout Proper Education • Many board/community members do not understand the costs • Don’t know the right questions to ask • Industry professionals can encourage an issuance to profit from the financing • Aggressive assessed value growth projections can compound the problem and cost.

36. Questions?