New Jersey's recent ban on negotiated underwritings has resulted in an unexpected and dramatic fringe benefit - bond attorneys and financial advisers have begun offering their services to the state at fire-sale prices.
According to a review of recent state bond issues, attorneys and advisers have slashed their prices by more than half, and in many cases by as much as two-thirds, since Gov. Jim Florio's executive order in May requiring the state and its authorities to use competitive bids for most underwritings. Several bond attorneys said their recent bids do not even cover costs, and said they may have to start trimming staffs if the cutthroat pricing climate does not abate soon. They said bids are coming in so low because firms are afraid the state is basing its selections almost entirely on price, and they want to make sure they retain at least a piece of the pie.
But New Jersey officials, who stress that quality is still a key factor in the selection process, are delighted with the windfall, which they say has generated at least $1 million in fee savings over the last four months.
"It is not surprising that people that work in a noncompetitive environment are suddenly finding competition a little difficult," Samuel Crane, the state's treasurer, said this week. I believed when the executive order was signed we were going to save money. I did not expect to see it this dramatic."
In one of the most extreme examples, McCarter & English, a Newark-based bond counsel firm, submitted a winning bid of $27,500 for bond counsel work on an upcoming $200 million deal by the state's Housing and Mortgage Finance Agency. That compares with a fee of $105,000 the agency paid on a $205 million issue in 1989, treasury officials said.
The treasury's review, which has not yet been made public but was released in response to a reporter's question, shows dramatic savings on virtually all of the 40 bond issues totaling $3.5 billion sold since the executive order.
But the taxpayers' gain is likely to be short-lived, according to bond attorneys in the state. In several interviews this week, they said doing the work below cost will eventually lead some firms to either withhold their bids in the future or to move their business out of state. In any event, they said. bids will have to rise.
"Nobody's in this business to lose money," said John L. Kraft, a partner at Lowenstein, Sandler, Kohl, Fisher, & Boylan in Roseland. "Maybe the state doesn't care, but over time qualified firms will not be in a position to continue to do the work."
Kraft said he is also concerned that the state is sacrificing quality and flexibility for the sake of low prices.
John J. Scally, a partner at McCarter & English, said one problem he has with competitive bidding for attorney services is that "from the law firm's perspective, there's no way to predict the certainty of your future business. As a result, firms might have to reassess their department staffing."
Another problem that could lead to staffing cuts is that competitive deals do not include underwriter's counsel, killing another lucrative source of income for bond firms, bond attorneys said.
New Jersey's experience is being studied by issuers elsewhere in the nation as a possible model for similar action, and news of dramatic cost savings could provide an added incentive. Under Florio's order, not only do issuers have to pick underwriters through competitive bids, but they are also required to hire bond counsel and advisory services based on bids.
The process includes a "prequalification" period in which the state attorney general draws up a slate of qualified advisory and bond counsel firms from which issuers can request bids. Crane said that process addresses the concern that unqualified firms will win work simply by submitting the lowest bid.
The treasurer said several criteria other than price, including tax-law experience and personnel, are considered in choosing a firm. But he conceded that on every deal sold since the executive order, the lowest bid has won the work.
The state treasurer is permitted to grant waivers for issuers who need to use negotiated deals for special reasons, and several such waivers have been issued since May.
But so far the treasurer's office said the executive order has had its desired effect. The state, which sold the vast majority of its bond issues on a negotiated basis previously, is now selling almost all competitively. The review shows that just 15% of recent issues were negotiated. compared to roughly 80% prior to the governor's executive order.
Most of the waivers already granted or expected in the coming weeks were awarded to the New Jersey Health Care Facilities Financing Authority, which issues most of the state's tax-exempt hospital bonds. Prior to the executive order, the authority had never issued bonds by competitive bid, in keeping with the national norm.
Hospital bonds often carry lower credit ratings or have special credit factors that require the highly specialized marketing only a negotiated offering provides. Still, the authority is planning to sell four issues competitively totaling $190 million, and expects more to come.