DALLAS - When it comes to regulating special district debt, Texas is second to none.
But nowhere in the state's thick rulebook is a requirement that special districts hire trustees for their bond sales - a common practice in most parts of the country.
Texas bond professionals say the strong track record of the special districts in servicing their debt clearly shows that special district bondholders do not need the extra protection a bond trustee might provide, not to mention the added cost to the issuer.
The professionals say the use of a less costly paying agent suits the districts just fine. With a default rate of less than 1%, the districts and the bond professionals who advise them see no reason to pay for unnecessary protection.
Texas bond dealers note that of an estimated $5.347 billion of special district debt outstanding, barely $50 million of that is in default. Further, not a single investor has lost a penny of principal.
"With those few defaults, in my opinion," the use of a trustee Is not warranted at this time." said Marvin Moreland, president of Masterson Moreland Sauer Whisman Inc. in Houston, a long-time adviser to water utility districts. "It's never been that common to have a trustee for much of anything in Texas."
For municipal issues, there is no national or state requirement that a bond trustee be used. Wall Street rating agencies do not require one. At the Texas Water Commission, which regulates the special districts, officials said no concern over the current system has ever been raised.
"The system we have has worked very well." said Tom Cassell, vice president at Juran & Moody Inc. in Houston and a district adviser.
In Texas, whether it is a utility district or a city general obligation bond, bond executives say that a paying agent rather than a trustee is almost always used for tax-backed debt.
A paying agent is a third party appointed by the issuer to make principal and interest payments to investors. A bond trustee also does that, but a trustee has a fiduciary responsibility to bondholders to enforce the terms of the bond indenture. Often, too, the trustee will invest unspent proceeds.
A trustee also costs more than a paying agent. For instance, on a $10 million book-entry GO issue, a paying agent will charge a fee of roughly $200 per year. A trustee may charge 10 times that or more.
Paying the extra money, even in Texas, is worth it, some bond professionals say.
You get quite a bit more for that," said John Rupley, senior vice president at Ameritrust Texas N.A. in Dallas, which provides both paying agent and trustee services. "You have somebody who is watching the hen house. "
Rupley and other trustees point out that a trustee can take an active role in representing the interest of bondholders if an issue defaults. That includes the payment of legal costs and other bills.
Richard Lehmann, president and founder of Bond Investors Association, a Miami Lakes, Fla.-based group that monitors defaults, said the value of a trustee is often obvious only when an issue runs into trouble.
"When bondholders are not paid, they have to use their own resources because they don't have a trustee who may have money in reserve." Lehmann said. "There is no oversight and no cushion for them."
In Colorado, trustees were hired by issuers of hundreds of millions of dollars in tax-free special district bonds that defaulted, but it is far from clear what added protection bondholders got for the money.
A good example is one of Colorado's most contentious defaults involving the Castle Pines North Metro District.
With the district spending nearly $1 million on its own legal bills, bond trustee Central Bank Denver went to court and after nearly a two-week trial won a ruling to force property owners to live up to the unlimited tax pledge behind the nearly $40 million of bonds.
Notwithstanding the victory in court, district officials concede it is no more certain today that investors will recoup their investment.
The point is not lost on bond lawyer Joe Allen, a partner at Vinson & Elkins in Houston.
Allen notes that by the time a deal that has gone bad gets into bankruptcy court, bondholders are legally represented on the creditors committee. Allen, a leading expert on municipal utility district bonds, asks rhetorically. "Can you name one instance of where having a trustee has made a difference in what bondholders were paid?"
Rupley of Ameritrust concedes that he cannot. He cites the default of a Northwest Dallas County Flood Control District bond issue in the 1980s, when a mixed-use project stalled in a real estate downturn that bankrupted the original developer and lenders.
Ultimately, the bondholders recovered all of their principal, but settled for lower interest rates with the guarantee that they would share the fruits of any strong recovery by the district. Ameritrust was paying agent for the district's bond, and Rupley concedes: "I don't believe a trustee could have saved the deal or done anything differently."
Besides, veterans of the Texas market note that the state's bond industry has a long tradition of taking an aggressive role in curing its own problems, including defaults.
"In Texas, there has always been a very strong institutional bias to do the right thing, and to not have the industry suffer as a result of these defaults." said Allen of Vinson & Elkins.