Last week, I appeared on Channel 3’s Ralston Report with fellow Councilman Bob Coffin. He had some new information – the City was planning to borrow $50-million to give to our designated stadium developer with “revenue bonds” rather than “general obligation bonds.”
Fortunately, local government finance expert Guy Hobbs volunteers lots of his time for youth soccer programs, and has done so for many years. The City is proposing that we hurt those programs by taking some of our annual parks funding and using it to pay for the stadium, so Guy has been agreeing to offer to educate me as we go.
I already knew the basics – a GO Bond is “backed” by the full faith and credit of the city. If, for some reason, it could not be paid back, the City would be required by law to lay people off in order to free money up to make payments. A Revenue Bond is backed by a specific source of revenue, rather than all sources of revenue, and our full faith and credit.
But Guy is a master of the subtleties. So I asked him what the difference was. Here is his response:
Prior to discussing the significance of the City using revenue bonds versus general obligation revenue bonds, I thought it might be helpful to summarize the public contributions to the funding of this stadium initiative. From what we understand, the City is proposing to provide the following:
Land market value?
On and off-site work $30 million
Parking garage $20 million
Rent pre-payment $25 million
As is shown, this “privately financed” stadium is being supported by public funds in excess of $75 million (plus the land value). It appears that one of the give-backs to the developer is in the area of the on and off-site commitment from the City (which was previously identified as a $14 million cost, and is now being estimated by City staff as a $30 million cost). Additionally, the emergence of the parking garage as a project element came about only as a consequence of the stadium and, thus, is directly linked to the stadium. City staff will have some additional work to do to qualify the rent pre-payment as an appropriate use of bond funds. It is not an appropriate use as described.
It should also be added that the source of funding that the City will have to bond – whether GO or revenue bonds are issued – is the City’s C-Tax revenue. As has been mentioned a number of times, the room tax collection commission revenues cannot be pledged as security for the bonds. Even if these funds are used as a source of repayment, it is the City’s C-Tax revenues that will be at risk should the room tax revenues become unavailable. Thus it should be made clear that the risk is to general City revenues, not the room tax revenues.
With regard to the suggestion that the City may be contemplating issuing revenue bonds in place of GO revenue bonds, it must be presumed that this is being done to avoid having to take the issue before the Debt Management Commission (DMC). Since this (Revenu Bonding) is a financially disadvantageous move, avoiding other protocols that might result in a negative outcome for the proponents is all that can explain the logic. It should be made very clear that there is a significant cost associated with issuing revenue bonds to simply skirt DMC approval. This cost difference to the public will be estimated below.
Three areas of dis-economies come to mind.
First, revenue bonds do not carry the same credit quality as GO bonds and, thus, will require a higher interest rate and cost to taxpayers.
Second, revenue bonds generally require the funding of a debt service reserve fund (DSRF) – typically one year of principal and interest. In this case, one year of principal and interest is estimated to be $3 million (as this is the control variable in structuring the debt).
Third, revenue bonds also require coverage of a likely 1.5 times. This means that the City would actually only be able to commit $2 million of the $3 million in C-Tax revenues to direct debt service.
When taken together, this means that the City would be willing to pay a higher rate of interest to ultimately receive less bond proceeds for the parks and stadium projects. From a pure financial standpoint, this would be terribly unwise. The difference in bond proceeds between a 30-year GO revenue issue secured by $3 million per year in C-Tax, and a 30-year revenue bond also secured by $3 million in C-Tax (with the DSRF and coverage at 1.5X) represents the cost of avoiding the DMC and the added cost (in terms of lost value) to the taxpayers. The project fund deposit for the GO issue would be close to $50 million (we have assumed current rates at the City’s credit plus 100 basis points), which includes a premium structure. If the same revenue were pledged without the GO and assuming the funding of the DSRF and 1.5x coverage, the project fund deposit would be under $31 million. Of course, the extra revenue, once coverage is achieved, can be used for other purposes. If the coverage were discounted, the project fund yield would be $46.3 million (reflecting the cost of funding the DSRF). In any regard, this clearly shows that with a revenue bond approach, the cost of capital increases and the bond monies available for projects declines significantly. Again, issuing revenue bonds to avoid DMC is a very costly proposition.
It would be very interesting if someone attempted to describe the removal of the GO backing as a way of reducing City risk, since the C-Tax revenues are general fund revenues. General tax revenues would, under this scheme, still be at risk.