Title
Financing for Construction, Refunding of Certain Outstanding Bonds and Restructuring of Certain Interest Rate Swaps (NB)
Explanation
We have a current need to fund for Costs of Acquisition and Construction for up to the next three years. Our recommendation, in consultation with Public Financial Management (PFM), our Financial Advisor, is to issue up to $135 million of tax-exempt bonds, taxable, or taxable Build America Bonds to fund a portion of these construction costs with fixed-rate debt. Since it is not clear whether the United States Congress will extend the authority to issue Build America Bonds beyond 2010, it may be advantageous to finance a portion of our future capital needs at this time as well.
In 2003, the City issued its Utilities System Revenue Bonds, 2003 Series A (the "2003 Bonds") to finance certain of the Utility's capital projects. Since interest rates are lower now than in 2003 when the 2003 Bonds were issued, we can refinance (refund) these Bonds with new debt and save money for our customers over time.
Also, in 2005 and 2008, the City issued its Utilities System Revenue Bonds, 2005 Series B (Federally Taxable) (the "2005 Bonds") and 2008 Series A (Federally Taxable) (the "2008 Bonds"), respectively, to finance the Deerhaven Environmental Controls (retrofit) project. Because the Deerhaven plant was subject to a Lease-In, Lease-Out (LILO) transaction, the 2005 Bonds and 2008 Bonds were required to be issued as taxable bonds. As such, the 2005 Bonds and 2008 Bonds have a shorter average life than would have been the case if those bonds had been issued as tax-exempt bonds, with larger principal and interest payments coming due through 2021. Subsequent to the issuance of the 2005 Bonds and the 2008 Bonds, the LILO transaction was terminated. As a result, we now have an opportunity to refinance a portion of those Bonds with tax-exempt bonds having a longer average life, similar to the life of the assets that were financed. Our recommendation is to issue tax-exempt bonds to replace this higher cost taxable debt.
For the financings described above, the optimal structure will depend on market conditions existing at the time of execution. At this time, it is not absolutely clear which type of financing structure will be best for us. The American Recovery and Reinvestment Act, passed last year, created a new kind of taxable municipal bond that provides for a 35% interest subsidy paid by the Federal government to the issuer of the taxable municipal bond. The net interest cost, after accounting for the 35% subsidy payment, can be significantly lower than interest rates on traditional tax-exempt bonds, as was the case in September, 2009 when the City issued Build America Bonds for the Utility at a net rate of roughly 3.5%. Since Build America Bonds may be issued for the new money portion of this financing, we recommend that staff and our Financial Advisor continue to monitor the market to select the best structuring alternative.
GRU staff and our Financial Advisor recommend that the transactions referred to above be accomplished through a negotiated sale of those bonds. The use of a negotiated sale will allow us to adapt to changing market conditions and employ either tax-exempt or taxable bonds. A negotiated sale also allows for a more extensive investor education and marketing process. We have been advised by our Financial Advisor that the marketing process afforded by a negotiated sale will allow GRU to take full advantage of our superior credit ratings.
It is recommended that Goldman Sachs serve as Senior Manager. Goldman Sachs has continued to bring significant value to the Utility in the form of solid recommendations for financing opportunities, familiarity with our bond resolution, innovative work concerning future debt structures, and expertise in rating agency criteria and considerations. In addition, upon the advice of our Financial Advisor, we can appoint additional Co-Managers as appropriate, if their addition will enhance the distribution of the bonds.
Since all of the terms of the proposed financing have not yet been determined, the approval of the final terms of the bonds to be issued and the sale thereof is not being sought at this time; rather, Utility staff will seek City Commission approval of those bonds on or about November 2010 (which approval may be in the form of a delegation to the General Manager of the authority to determine, within pre-approved limits, the actual principal amount, interest rates and other terms and provisions of the bonds, similar to what the City Commission has approved for several previous Utility financings).
In 2006, GRU restructured certain interest rate swaps previously entered into with JPMorgan Chase Bank, N.A. and Goldman Sachs Mitsui Marine Derivative Products, L.P. ("GSMMDP") in order to synthetically fix the interest rates on the City's Variable Rate Utilities System Revenue Bonds, 2005 Series C and 2006 Series A. Under the original swaps, GRU received payments at 68% of the 1-month LIBOR rate. As restructured, the swaps were converted to "Constant Maturity Swaps" ("CMS"), pursuant to which GRU receives payments at a percentage of the 10-year LIBOR swap rate minus, in the case of the GSMMDP swap, a spread.
GRU originally restructured the swaps while the yield curve was flat in anticipation that GRU would benefit once the yield curve returned to its historical steepness. Since 2006, the yield curve has steepened significantly and the CMS swaps currently are more valuable than the original swaps would have been had they not been restructured. As a result, GRU can now convert the CMS swaps back to 68% of 1-month LIBOR receipt swaps and capture this positive value in one of three ways: by decreasing the fixed payer swap rate paid by GRU, by receiving an upfront payment, or by receiving the value over a specific time period through a combination of a decreased coupon and an upfront payment; and the value can be realized either through an amendment of the existing CMS swaps or by entering into additional offsetting swaps.
We recommend that staff and our Financial Advisor continue to monitor and evaluate the available options to restructure the CMS swaps in order to determine the best alternative. If it is determined that the best alternative is to amend the existing CMS swaps, we recommend that the General Manager be authorized to negotiate and enter into such amendments upon such terms and conditions as he determines are necessary or desirable and commercially reasonable, such determination to be confirmed by our Financial Advisor, and subject to the approval of the Office of the City Attorney as to form and legality. Alternatively, if it is determined that the best alternative is to enter into additional swaps, we recommend that the General Manager be authorized (a) with the advice of our Financial Advisor, to select the counterparties for the additional swaps from among those firms with whom the utility currently has outstanding International Swaps and Derivatives Association, Inc. ("ISDA") Master Agreements and (b) to enter into such documents evidencing the additional swaps (including, without limitation, a Confirmation under (and as defined in) the ISDA Master Agreement between the Utility and each selected counterparty) as he determines are necessary or desirable and commercially reasonable, such determination to be confirmed by our Financial Advisor, and subject to approval of the Office of the City Attorney as to form and legality.
In addition, since it may be advantageous to expand the number of potential counterparties, we recommend that the General Manager be authorized to negotiate and enter into an ISDA Master Agreement with Jeffries & Company, Inc. in substantially the form of the ISDA Master Agreements to which the Utility currently is a party, and with such changes thereto as the General Manager shall determine are necessary or desirable and commercially reasonable, such determination to be confirmed by our Financial Advisor, and subject to the approval of the Office of the City Attorney as to form and legality. Jeffries & Company, Inc., with its strong credit rating, would complement the existing competitive pool of major municipal market counterparties.
To the extent that it is determined to be advantageous to enter into additional swaps as described above, we recommend that the City Commission approve the designation of any such additional swap as a "Qualified Hedging Contract" within the meaning of the Utilities Bond Resolution, and authorize the securing of such swap under the Utilities Bond Resolution.
The Clerk of the Commission, the General Manager or other Authorized Officers of the City may be required to take certain other actions and hire certain other professionals to proceed with these transactions. Therefore, we recommend that these officials be authorized to take such other actions as may be necessary or desirable to proceed with the transactions in accordance with this City Commission authorization.
Recommendation
The City Commission: 1) Authorize the issuance of up to $135 million par amount of fixed-rate new money bonds for payment of Costs of Acquisition and Construction (capital projects); 2) Authorize the refunding of Utilities System Revenue Bonds, 2003 Series A, 2005 Series B (Federally Taxable) and 2008 Series A (Federally Taxable) through the issuance of fixed-rate tax-exempt bonds; 3) Approve the selection of Goldman Sachs as Senior Manager for the bonds referenced in 1 and 2 above and authorize the appointment of additional Co-Managers if, upon the advice of Public Financial Management (PFM), our Financial Advisor, doing so would enhance the distribution of the bonds; 4) Authorize the restructuring of certain outstanding fixed payer CMS interest rate swaps with JPMorgan Chase Bank, N.A. and Goldman Sachs Mitsui Marine Derivative Products, L.P., either through the amendment of the existing swaps or through the entry into one or more additional swaps, in order to convert the payments to be received by the Utility under portions of those swaps back to the original 68% of 1-month LIBOR formulation; 5) Authorize staff to negotiate and enter into an ISDA Master Agreement with Jeffries & Company, Inc. in order to provide an additional potential swap counterparty to ensure GRU's ability to receive competitive market-based economics; 6) Authorize the utility to work with its Financial Advisor to select one or more counterparties to provide any additional swaps as described in 4 above; 7) Approve the designation of any such additional swap as a "Qualified Hedging Contract" within the meaning of the City's Amended and Restated Utilities System Revenue Bond Resolution ("Utilities Bond Resolution"), and authorize the securing of such swap under the Utilities Bond Resolution; and 8) Authorize the Clerk of the Commission, the General Manager and other Authorized Officers of the City (as defined in the Utilities Bond Resolution) to execute such documents as may be necessary to proceed with the transactions authorized in 1-7 above (including such documents as are necessary or appropriate to evidence the amendment of the existing CMS swaps or the entry into additional swaps), subject to approval of the Office of the City Attorney as to form and legality, and to take such other actions as may be necessary or advisable to proceed with these transactions in accordance with this City Commission authorization.
Fiscal Note
Issuing new money debt at historically low rates, refunding existing debt and restructuring the CMS swaps as described above will help manage future debt service costs, as well as allow GRU to lock-in debt service costs that are well below those we have utilized for our long-term financial projections.
Drafter
Prepared by Jennifer L. Hunt, Utilities Chief Financial Officer
Reviewed by Raymond O. Manasco, Jr., Utilities Attorney
Submitted by Robert E. Hunzinger, General Manager