To: Honorable Mayor and Members of Town Council
From: Trish Muller, CPA, Finance Director
Mark Marlowe, P.E., Utilities Director
Title
Ordinance Authorizing the Issuance and Sale of Water and Sewer Enterprise Revenue Refunding Bonds, Series 2016, in an Aggregate Principal Amount Not to Exceed $64,425,000, Payable Solely out of the Net Pledged Revenues to be Derived From the Operation of the Town’s Water and Sewer Enterprise; Providing Other Details Concerning the Bonds, Including, Without Limitation, Covenants and Agreements in Connection Therewith; Providing Other Matters Relating Thereto: and Providing for its Emergency Adoption on Second and Final Reading (Second Reading)
Body
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The Ordinance was approved on first reading on June 14, 2016 with a vote of 6 to 0.
Executive Summary
This memorandum is to update and seek Council’s concurrence on making a change to the Utilities’ Certificates of Participation (COP), a debt instrument for the Water Resources Fund, and present the parameters ordinance for Council approval. The Series 2008 COPs carried an original amount of $74,795,000. The remaining principal balance as of December 31, 2015 is $64,425,000 and matures in 2037. The COPs currently have a variable interest rate, not including letter of credit or remarketing fees, which has been trending well below 1 percent, but which can fluctuate up to a ceiling of 12 percent, plus associated fees. The COPs also have other costs associated with a letter of credit and remarketing fees.
One of the action items in the utilities financial management plan approved in 2015 was to evaluate converting the COPs to fixed interest rate financing vehicles. Another important item from the financial management plan was to identify triggers that would move the Utility to start work on fixing this debt as well as identify the time needed to complete such a transaction. Based on discussions with our financial advisor, the thought is that if the interest rate moves close to the projected and budgeted interest rate of 3.35 percent, then the COPs should be converted into a fixed rate debt vehicle as soon as possible. With the current unrest in the market and the historically low interest rates available, now is a very good time to go forward to fix the interest rate on this debt.
The bond refunding project and associated bond ordinance (Attachment A) for Council’s consideration will only move forward if the following parameters are met:
• The net interest rate will not exceed 3.75%
• The bonds will be sold at no less than 98% of the aggregate principal amount of the bonds
• The aggregate principal amount of the bonds shall not exceed $64,425,000
• The amount of principal of the Bonds maturing shall be more than $5,000,000 annually
• The maximum total repayment cost shall not exceed $92,000,000
• The bonds will not mature later than December 1, 2037
Staff is presenting the refunding project and the related parameters ordinance for Council’s approval.
Discussion
When the COPs were initially issued, water resources fund and water fund revenues were substantially lower than they are today (2008 - $21,800,000 vs. 2015 - $35,600,000). If revenue bonds had been issued at that time, the bond rating due to the debt coverage ratio would have been very poor, resulting in a bad interest rate. Instead, the Utility issued the COP form of debt as it could be issued by using assets like Rueter Hess Reservoir and the Plum Creek Water Purification Facility (PCWPF) as leased assets to allow for the issuance of the debt. The variable interest rate was attractive at the time and has proven to be a better alternative to the likely high interest rate that would have come with revenue bonds.
Since the issuance of the COP’s in 2008, the Town has benefited from historically low interest rates. The total weekly interest rates for practical purposes for the COPs, including all associated fees, have seen a range from 1.2 percent to 9.6 percent. The average total yearly rates have ranged from 1.185 percent to 3.565 percent, as shown in the chart below.
|
Year |
Average Annual COP Interest Rate (Including LOC & Remarketing Fees) |
|
2008 |
3.565% |
|
2009 |
1.495% |
|
2010 |
1.385% |
|
2011 |
1.365% |
|
2012 |
1.335% |
|
2013 |
1.265% |
|
2014 |
1.205% |
|
2015 |
1.185% |
|
2016 YTD |
1.370% 24 Weeks |
In order to account for the potential volatility of the variable interest rate of the COPs, Town staff has used a very conservative interest rate of 3.35 percent in all of the long term modeling for rates and fees. This has been done to ensure that there are adequate financial resources to make debt payments on the COPs as the interest rate fluctuates.
As part of Utilities Financial Management Plan approved by Council in 2015, Town staff has undertaken an evaluation of the existing debt with a focus on the COPs. First Southwest was hired as the Town’s financial advisor for this effort. After several months of work, the team has identified a preferred approach which is to issue fixed rate Water Revenue Bonds for the entire outstanding principal. The options evaluated, including the preferred option (Option 1), are provided as (Attachment B). Issuing water revenue bonds will allow Utilities to fix the interest rate at around 2.7 percent based on current market predictions by our Financial Advisor. This rate will vary depending on market conditions at the time of issuance.
Town staff has evaluated the potential impact to rates and fees of moving from the current COP debt instrument to fixed rate revenue bonds. The results of this evaluation indicate that needed rate increases throughout the time period out until 2055 would be lower going from an annual average need of 3.5 percent to 2.7 percent assuming an interest rate of 2.7 percent on the bonds.
The benefits of reissuing the COPs as Water and Sewer Revenue Bonds include:
• Fixing the interest rate at a level that is certainly one of the lowest in recent history. A fixed rate will protect the Town against future increases in the variable rate as currently structured. The current rate can go as high as 12%.
• This will allow the Town to use a lower interest rate in the Utility rates and fees modeling which will have a beneficial effect on future rates and fees.
• Reissuing the debt as revenue bonds will allow us to release the $1,600,000 in fund balance reserves for variable interest rates. This reserve can be used to fund other capital projects rather than be tied up for potential interest rate fluctuations.
• The $4,600,000 held in debt service reserves restricted under the current COP covenants will be released and utilized to pay down the outstanding principal.
• The savings achieved with the low interest rates to date will be locked in.
The bond refunding project and associated bond ordinance for Council’s consideration will only move forward if the following parameters are met:
• The net interest rate will not exceed 3.75%
• The bonds will be sold at no less than 98%of the aggregate principal amount of the bonds
• The aggregate principal amount of the bonds shall not exceed $64,425,000
• The amount of principal of the Bonds maturing shall be more than $5,000,000 annually
• The maximum total repayment cost shall not exceed $92,000,000
• The bonds will not mature later than December 1, 2037
The process for proceeding with this refunding involves working with the Town’s financial advisors and bond counsel to develop the financing documents for the refunding bonds as well as the preparation of a preliminary and final official statement, which acts as the offering document for the sale of the bonds. Town Council will have to approve the issuance of the refunding bonds by adoption of a bond ordinance, which requires two readings. The staff plans to request an emergency adoption on Second reading, in order to issue the bonds with the interest rates currently available.
Should any circumstance arise that is contrary to the parameters noted in the ordinance, or we are unable to complete the refunding with an interest rate lower than the existing refunded bonds, we would wait until all parameters are met and such savings could be reached. In the event the parameters are not met or such savings are not reached, the Town would not be liable for any expense associated with the proposed transaction.
The proposed issuance of Water and Sewer Revenue Bonds to refund the COP’s has been presented to the Utilities Commission. The Commission recommends Council proceeds with the refunding bonds.
Budget Impact
The estimated fees in 2016 to issue the revenue bonds include $150,000 for cost of issuance and an Underwriter’s Discount of about $260,000 for a total cost of around $410,000. The funding for these costs will come from bond proceeds.
The annual payment in debt service costs would actually go up by about $50,000 in 2016 and 2017 due to the shorter life of the revenue bonds, as opposed to the COPs in 2037. Over the life of the debt, however, our rate payers would see approximately $17,000,000 less over currently budgeted amounts which translates to less pressure to increase rates and fees. Actual savings, of course, would be dependent on the actual variable interest rate of the COPs, which can go as high as 12%. There is the possibility that the interest rate on the COPs could stay low, in which case we would be giving up some savings. The revenue bonds would be paid off four years early in 2033 as opposed to the COPs, which are scheduled to end in 2037. The savings of around $17,000,000 could be realized assuming the COP interest rate was at 3.35 percent, which is the number we use for budget purposes.
A future budget amendment will be necessary to accommodate the accounting transaction associated with this request.
Staff Recommendation
Staff recommends that Town Council approve the Ordinance as written.
Proposed Motion
“I move to Approve An Ordinance Authorizing the Issuance and Sale of Water and Sewer Enterprise Revenue Refunding Bonds, Series 2016, in an Aggregate Principal Amount Not to Exceed $64,425,000, Payable Solely out of the Net Pledged Revenues to be Derived From the Operation of the Town’s Water and Sewer Enterprise; Providing Other Details Concerning the Bonds, Including, Without Limitation, Covenants and Agreements in Connection Therewith; Providing other Matters Relating Thereto: and Providing for its Emergency Adoption on Second and Final Reading”
Attachments
Attachment A: Ordinance
Attachment B: Preliminary Debt Refunding Analysis
Attachment C: Timeline