LOS ANGELES Eight redevelopment agencies in California recently obtained bard-to-come-by bond insurance and triple-A ratings using a new pooled financing techtoque, and similar deals are expected to follow.
The issuer of the $43.7 million Series A and B pooled financing was the Association of Bay Area Govemmenks. an Oakland-based joint powers authority.
Because the transaction used an innovative open indenture the authority will be able to expand the pool in September when it issues Series C and D senior-subordinate bonds on behalf of redevelopment agencies in Oceanside and Pomona.
The eight participants in the financing are are the first redevelopment agencies in the state to use the structure, which splits a bond issue between senior and subordinate-lien series to create a structure strong enough to attract bond insurance.
The agencies are among a growing number of California issuers that are taking advantage of cost-of-funds savings resulting from the use of the senior-subordinate bond structure.
However, the redevelopment agencies are believed to be the only issuers to use an open indenture in connection with this type of transaction, members of the authority's finance team said.
In the transaction, which was priced June 9 and closed June 29, the authority issued two series of nonparity California redevelopment pool revenue bonds -- a Series A senior lien totaling $32.4 million and an $11.3 million of Series B bonds, which are subordinate to the senior series' lien on revenues.
The structure requires that bond payments be made first to holders of the senior bonds and then to holders of the subordinated, or junior, bonds. The senior-subordinate structure enhanced the creditworthiness of the senior portion, which received bond insurance from Capital Guaranty Insurance Co. The municipal guarantor's involvement allowed ratings of AAA by Standard & Poor's Corp. and Aaa by Moody's Investors Service on the Series A bonds. The Series B bonds, with the subordinate lien, were sold unrated.
Proceeds were used by the authority to purchase tax allocation bonds issued by redevelopment agencies in eight cities scattered throughout the state: Coachella, Commerce, Corcoran, Hercules, Highland, Lindsay, Riverside, and Santa Paula. Notes and bonds from 10 project areas were refunded, and $8.06 million of new money for capital projects was generated.
The blended interest rate -- also known as the true interest cost -- was 6.48%, said Scott C. Sollers, a partner and manager of the public finance department for San Francisco-based Stone & Youngberg, senior managing underwriter for the issue.
For the eight participating redevelopment agencies, the overall cost of funds was equivalent to single-A credits that were priced at the same time as the financing, Sollers said.
The cost of funds for the longermaturing Series B bonds was 135 basis points higher than the cost of funds for the longer-maturing Series A senior bonds, Sollers said.
"The credit for the underlying redevelopment agency bonds, some of which were not investment grade, was enhanced by coverage provided by the subordinate, or junior debt service," said Edward G. Schilling, a Stone & Youngberg partner and lead banker on the financing. "The result of that [enhancement] is a credit that could be insured by Capital Guaranty as triple-A."
This is the first senior-subordinate pooled deal that the San Francisco-based insurer has insured, said Nick Boyle, a Capital Guaranty vice president. The structure has been used a handful of times in the last year, usually by California issuers in connection with landsecured financings involving special assessment districts and Mello-Roos issues.
The pooling allows issuers to obtain lower interest rates and more favorable terms than would be available if they issued the obligations by themselves.
The senior-subordinate pooled bond structure is permitted under the state's Marks-Roos Local Bond Pooling Act of 1985.
Marks-Roos financings have occasionally provoked controversy. The California Debt Advisory Commission is expected to issue a report by yearend that might call for revisions in the Marks-Roos statutes.
The transaction "is an excellent example of how [Marks-Roos] can be used to provide extraordinary benefits to a number of agencies in a manner that is completely consistent with the letter and spirit of state law," Sollets said.
The open indenture marks a departure from the customary practice of using closed indentures with senior-subordinate pooled financings, Sollers said.
"The real beauty of this program is the open indenture," Sollers said. "This allows other borrowers to be added to [the pool] over time that are acceptable to the insurer."
By contrast, pools that have closed indentures are formed for one-time issuances, with proceeds dedicated solely to participants in the pool.
The open indenture means that the authority "will be able to purchase additional [redevelopment agency] loans in the future and add them to the existing pool so the credit will become more diverse," Schilling said.
Next month's financings on behalf of the Pomona and Oceanside redevelopment agencies will be followed by "Series E and F," probably later this year, Schilling said. The number of agency participants and market timing has not been determined.
The pool is most likely to be of interest to redevelopment agencies that cannot qualify for bond insurance on their own under business terms that are acceptable to the agency, Sollers said.
The state's 375 redevelopment agencies operate a total of 650 project areas that are eligible to receive tax increment revenues. A total of $8.21 billion of tax allocation bonds have been sold in California since 1985, and more than $7 billion is outstanding.
"If an issuer can get the triple-A rating on their own, they don't need" the pool, Sollers said.
Using a hypothetical example, Sollers said: "We tell the issuer, if you refund bonds on your own, you will pay the nonrated cost of funds, say 7%. If you could get insurance, you'd only pay 6.30%.
"In a pool, we're going to insure three-quarters of our debt, and that makes the blended cost roughly 6.50%," Sollers said. "So, the issuer is 50 basis points better off going into this program."
"The California redevelopment pool provides a uniquely costeffective method for California redevelopment agencies to refund outstanding high-coupon debt or to raise new money," Schilling said.
Besides Stone & Youngberg and Capital Guaranty, financing team members that structured the deal included bond counsel Jones Hall Hill & White and underwriter's counsel Nossaman, Guthner, Knox & Elliott. A San Francisco firm that specializes in city and redevelopment financings, Kitahata & Co., was credit consultant to the authority.
"The California redevelopment pool is a case study in the benefits of pooling weaker individual credits into a stronger pooled structure," said Gary R. Kitahata, a principal in the firm that bears his name.
A redevelopment agency's "individual project area may be perceived as weak because it is small in size or relies heavily on a few taxpayers to generate tax increment," said Daft Barzel, the authority's financial services manager. "By aggregating these [individual] credits into a larger pool, concentration is mitigated."
"No bond insurer would probably consider insuring any of these borrowers separately," Kitahata said.
A statewide pool provides economic and geographic diversity that insulates against potential events of default, Barzel said.
A model for the authority's financing was a refunding in July 1993 by the California Statewide Communities Development Authority, Schilling said. The development authority used the senior-subordinate pool structure to refund 34 state safe water drinking act loans totaling $22.2 million. The loans, issued by the state's department of water resources, had interest rates averaging 8.1%.
Unlike the deal by the Bay Area authority, the 1993 transaction did not receive bond insurance. Standard & Poor's assigned an A-minus rating to the $14.2 million of the senior bonds, Series A, while $8 million of the Series B subordinate bonds was not rated. Stone & Youngberg was the sole underwriting manager of the issue.
