New jail and public works facility financing clear as mud 2 decks

COPs, BABs and a lot of confusion

After so many questions and public challenges over how the Gunnison Board of County Commissioners and administration plan to pay for an $8.7 million jail and a $6 million Public Works facility, the public got an answer recently—kind of.

In a jargon-filled explanation of the financing plan to this point, investment banker Troy Bernberg of Stifel Nicolaus sent visible shivers through some critics in the crowd with terms like “lease re-lease,” “make whole call provisions” and “appropriation clause.”
Betty Eberhardt, a former member of the committee circulating a petition seeking to recall the elections of all three county commissioners, said after the meeting, “They’re talking about leasing the property to a bank and then leasing it back…? It sounds like they’re up to something funny.”
Bernberg, along with County Manager Matthew Birnie and Finance Director Linda Neinheuser are considering a Certificate of Participation (COP) as a way of managing the money required to complete two projects the size of the detention center and Public Works facility. On the surface it sounds like a pretty odd arrangement.
“This is a form of a lease purchase agreement,” Bernberg explained. “The county owns the property [where construction will take place] and they will lease it to a third party, known as a trust bank, that is only there for purposes of getting this transaction done. And then the trust bank leases it back to the county [with the improvements].”
All through the process, the county gets to maintain ownership of the property.
Then, Bernberg explained, each year when the county goes through its budgeting process Neinheuser would include a line-item for payment to the trust bank: the lease is automatically renewed for the year and the term of the lease will end when the payments are complete.
 If Eberhardt hadn’t been made nervous by the county’s potential arrangement with a trust bank, she was definitely worried about the possibility that the county could run out of money, which seems common enough in the current economy, and default on the payment. That, she reasoned, would lead to a loss of control of a vital county institution.
Bernberg, who was hired by the county last December, doesn’t think that would happen, or he wouldn’t have helped in pushing the county down the COP path. Instead, he said, he “applauds the county’s financial policy” and believes the administration has a “good history of running the county extremely well.”
If the county didn’t appropriate the payment for a year, there is a rainy day fund set up the day the contracts are signed that would help cover one payment, but then the money would be gone. Details about how the trust bank would handle a default would have to be hammered out in the COP.
Money that the county has already set aside for each project—$1.3 million in capital improvement funds and additional $550,000 from the Public Works budgets over the last two years—will be enough cash in hand to cover the rainy day fund.
County manager Matthew Birnie said, “We’ve set aside money that’s far in excess of what’s required already, so it’s not going to be an issue.”
Through the “appropriation clause” in the COP, the county’s financial obligation to make the payment ends each fiscal year, meaning it’s not technically a multi-fiscal year financial obligation and is not considered debt under the Tax Payer Bill of Rights, or TABOR.
That means the county won’t have to go through taxpayers to take on the added debt to pay for the projects. Instead, they’ll use the .5 percent sales tax that was approved by voters for capital improvements in 1979 to pay down the debt.
Birnie said, “Even with a 50 percent reduction in sales tax we would still be able to make payments.”
Attorney Dee Wisor of Sherman and Howard, who is counseling the county on its transactions, said lease purchase financing has been a valid financing tool since late 1970s and the state Supreme Court has agreed that the arrangement doesn’t constitute a debt.
Until the board accepts the COP as the mechanism for handling the transaction, Bernberg said, the plan is only preliminary. But the theoretical next step after securing the Certificate of Participation is finding investors to participate in a bond sale.
“A Certificate of Participation actually represents a portion of interest and a right to receive revenues derived from the lease agreement,” Bernberg told the commissioners. “Instead of just doing a lease agreement from one party, we’re certificating so that we can sell the participation to more investors than there might be with a traditional municipal bond.”
But before the county can approach investors, with the help of Stifel Nicolaus as underwriter, they will have to get the blessing of a rating agency like Moody’s or Standard & Poor’s. The better the county’s rating, the better the interest rate on its bond payments.
The highest rating the county could get would be a AAA and the lowest is a BBB. “I’m going to be a little bit more conservative with my guess for you guys, but I’m going to guess an A,” Bernberg said. “We’ll always be shooting for something higher.”
With a little cash, a bond rating and COP in hand, the county would then have to go looking for investors for what would probably be 20-year tax-exempt municipal bonds.
Bernberg also said he had included in his proposal to the commissioners a way to save the county more than $475,000 over the life of the debt, and add another layer of complexity to the deal.
By going with what is called a blended issuance, using a COP and Build America Bonds through the American Recovery and Reinvestment Act of 2009 (ARRA), Bernberg said the county can time the issuances to see the tax advantages of both.
He said COPs are sold as premiere obligations and the county will pay annual principal and semi-annual interest just like traditional municipal bonds. The bonds are tax-exempt on a federal and state basis.
Under ARRA, the Build America Bonds (BABs) authorization allowed municipalities and counties to issue taxable debt, but receive a 35 percent tax subsidy, in cash, from the federal government for interest paid.
In order to take advantage of the BABs, the county would have o include a call provision in the COP that will allow them to refinance the debt, which Bernberg said typically comes 10 years into the bond payments if interest rates justify it.
BABs, however, cannot be refinanced most of the time. If the county were to use BABs to finance the entire project, “You essentially take away that flexibility to call your debt,” he said, “so you can have the benefit of BABs but also have the flexibility of the call provision.”
Birnie pointed out that for the county to save money on the blended issuance, they would have to make the switch from a COP to BABs at just the right time. “Part of the analysis of risk there is, ‘What’s the life of the lower cost of financing during the duration of this…?’”
Bernberg said he had looked at the data and tried to forecast when the BABs would provide the county with the lowest cost of bonding, which he called the “crossover point.”
“Right now that cross-over point is about five years out,” he said. “Your first five maturities will be traditional tax-exempt debt. But then in 2016, based on the numbers we ran yesterday, our analysis shows BAB provide better borrowing costs than traditional tax exempt debt.”
Assuming the cost of the projects to be just over $12 million, Bernberg says the cost difference to the county of a blended issuance, as opposed to only a COP, is significant.
“The difference between the two repayment figures shows that the blended issuance with BABs saves the county $771,997 in total repayment cost,” Bernberg said.
But Stifel Nicolaus will continue to do the analysis until the contracts are signed as early as July or August, which is when the county has said it might need the money to get started on the projects.
Despite its complexity, Bernberg thinks he is structuring the best deal for the county after “stepping back and asking ‘What’s the most appropriate form of finance for this project?’” Eberhardt hopes he’s right.
And the county plans to take action soon on Bernberg’s proposal as Amendment 61—which would bar local governments from taking on debt without voter approval—is set to be on the ballot and could hamper the county effort to finance the projects.