PHOENIX – California's Richmond Community Foundation will pursue a new social impact bond vehicle with a $3 million private placement it hopes to close next month.
Officials involved in the deal said the foundation is close to finalizing the terms for nearby San Pablo, Calif.-based Mechanics Bank to purchase the entire $3 million principal. The city of Richmond is conduit issuer for the foundation.
Proceeds will be used to purchase and rehabilitate vacant homes for sale to qualified first-time homebuyers. The debt is backed by the revenue the foundation expects from the home sales.
The community foundation's president and chief executive officer, Jim Becker, said the deal's structure as a sort of "modified revenue bond" makes it unique in the social impact bond space. Social impact bonds are a relatively new type of finance devised to deal with social problems local governments may not be able to address due to budget crunches. Investors are repaid if the program meets its goals.
But while previous SIBs have been basically just loans from investors to municipalities, the Richmond transaction will be bonds with a 0% coupon, Becker said.
"Ours is the first one that is a modified revenue bond," Becker said. "If we can make it work, we plan to issue more, maybe in year two or three."
When the bonds mature in five years, the bank will be paid with profits from the home resales, though terms of the bonds limit the bank's returns to 10% annually, with the upside shared between the bank and the foundation.
John Knox, a lawyer at Orrick Herrington & Sutcliffe who is bond counsel to Richmond, said the bonds as now structured would not have been suitable for a public offering because of the highly speculative nature of the returns.
"It's a very unusual instrument," Knox said.
The city council amended its municipal code in December 2014 to allow the bonds, and Becker said there were originally discussions of doing a public offering that would have offered investors some small coupon.
That plan changed after the bank agreed to do the entire deal as a private placement. The bank gets credit under the Community Reinvestment Act, which encourages financial institutions to meet the credit needs of their communities. Regulators take a bank's CRA performance record into account when considering an institution's application for deposit facilities.
Vacant homes are costing Richmond more than $1 million every year, about $7,000 per home, Becker said. The social impact program aims to both reduce blight, he said, but also to help low-income purchasers achieve homeownership.
Becker said many affordable properties in Richmond are being snatched up by investors trying to take advantage of a frothy Bay Area real estate market, and who also anticipate profits as a new University of California branch campus drives values up in Richmond.
Priority for homes purchased under the program is given to graduates of the local SparkPoint financial education center, Becker said, and hardware giant Home Depot has agreed to provide "preferred pricing" on materials during the rehab process.
Richmond itself has wrestled with significant economic challenges in recent years, and Moody's Investors Service downgraded the city's implied GO rating to junk in August. Knox and city officials felt the downgrade was premature and feel that the city of more than 100,000 is on the upswing.
The five-year plan is to continuously recycle the principal, reinvesting the hoped-for profits into more purchases and flips before finally beginning to pay investors in year five. The foundation will be aiming to achieve 10% returns on each resale, and will maintain the flexibility to market the homes to the general public if qualified low-income buyers do not emerge for a given property.
Becker said he hopes the deal will have repercussions industry-wide. The foundation will be closely tracking the financial performance of the program, he said, with the hope of demonstrating that it could have paid a decent rate of return had the financing terms been different.
"We want to make this marketable," Becker said.
Kiran Jain, chief strategy officer at community investment platform Neighborly, said the deal does offer an intriguing look at what could be possible in the SIB space.
"Tackling blighted housing through social impact bonds, which restores non-performing assets to the City of Richmond's tax rolls for revenue and bonding purposes, is precisely the type of opportunity Neighborly is interested in supporting and scaling for communities," Jain said. "We need to think creatively and holistically, as the city and Richmond Community Foundation have done, to solve vexing community issues with innovative financing solutions."
Becker said he hopes the deal will close Nov. 5, but that it could change.