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CPS Sets $1.3B ARS Sale

CHICAGO - The Chicago Public Schools system hopes to settle on the terms of a $500 million private placement by the end of the week, launching a three-pronged restructuring of $1.3 billion of auction-rate and insured floating-rate bonds to stem the rise in interest rate costs as a result of the credit crunch and insurer downgrades.

The CPS system would privately place about $500 million of auction-rate securities from a 2003 series and 2007 series with an unnamed bank or broker-dealer, schools' treasurer David Bryant said this week.

"We are almost there and hope to finalize this piece by the end of the week," he said.

It's likely the privately placed bonds would pay a floating rate based on some index, such as the Securities Industry and Financial Markets Association, plus some additional spread.

CPS, which issues its debt through the Chicago Board of Education, would then enter the market in May to refund its remaining $480 million of auction-rate debt that was sold in 2003, 2004, and 2007 using a tax-exempt, fixed-rate structure.

Lehman Brothers was chosen to serve as senior manager and Citi as co-senior manager. Cabrera Capital Markets LLC, SBK-Brooks Investment Corp., and William Blair & Co. are co-managers. A.C. Advisory Inc.'s Adela Cepeda is advising on the transaction and Perkins Coie LLP and Green and Letts are co-bond counsel.

In a third transaction, the board would return to the market in June to refund about $310 million of variable-rate demand bonds issued in 2005 that carry insurance from CIFG Assurance. CIFG is rated A-minus with a negative outlook by Fitch Ratings and Standard & Poor's, and A1 with a stable outlook by Moody's Investors Service.

The Board of Ed intends to keep the variable-rate structure but would drop the insurance. It is currently seeking liquidity for the deal. The rates have in recent weeks shot up to between 4.6% and 7%, although Bryant said he could not recall a failed remarketing. The school district's remarketing agents on the debt include Lehman, Loop Capital Markets LLC, and Morgan Stanley.

No team for the refunding has been selected yet. While CPS has seen rates fluctuate in some of its other series within its roughly $800 million variable-rate demand bond portfolio, the CIFG-backed series is the most troublesome and the only one officials are currently considering restructuring. Financial Security Assurance is the only other insurer that backs portions of the VRDB portfolio. Dexia Groupand Depfa BankPLC are the liquidity providers on the various series of variable-rate bonds.

The district has a total of 14 tranches of auction-rate securities in various series that are auctioned at either seven or 35-day cycles through seven auction agents. All of the ARS were swapped to synthetic fixed rates. The system will unwind the swaps associated with the fixed-rate bonds and pay a termination fee that is not yet final but expected to be "in the millions," Bryant said.

The district pays rates of between 3.7% and 3.8% on the swap contracts and receives 70% of the London Interbank Offered Rate. None are insured and the district is not required to post collateral as part of the swaps' terms.

Over the last two months, Chicago school officials have seen some auctions fail resulting in a 9% interest rate- a cap set by state law.

"They've been all over the board," Bryant said of rates, citing the results of March 20 auctions that showed some tranches capturing a rate as low as 3.5% and others hitting the 9% maximum.

The spike in interest rates has cost the district in the "tens of millions," although Bryant said the final costs won't be fully known until the restructuring is completed. The overall borrowing costs, however, should remain within the anticipated maximum levels as officials left a financial cushion in place when constructing the deals to account for the occasional mismatches in debt service payments and swap payments.

The CPS system has a total of $4.5 billion of outstanding debt that carries underlying ratings of A-plus from Fitch, A1 from Moody's, and a AA-minus from Standard & Poor's.

The system is planning a new-money sale this fall that would include its traditional annual borrowing level of about $250 million plus another $75 million or so as part of the $1 billion schools modernization program announced two years ago by Mayor Richard Daley that leverages tax increment financing to support new school construction.

Amid limited ability to raise revenues, CPS struggles annually to balance its operational budget of about $5 billion and this year is seeking $180 million in additional state funding. The district also in the last few years has been squeezed to fund its long-term capital budget amid a drought in state capital aid.

School officials are pushing for legislative support for a $25 billion capital program proposed by Illinois Gov. Rod Blagojevich. Support is strong among lawmakers, but the governor and General Assembly's chambers have not settled on a funding plan and the mood between the executive and legislative branches remains tense due to lingering bitterness from past sessions.

In other developments, the district last month filed a lawsuit challenging the way the state funds teachers' pensions, arguing it's unconstitutional because the state has failed to meet its obligation to provide more cash for CPS' teachers fund.

The district, which is the only one to manage its own pension fund for teachers, believes the state's system lacks equity because of a higher percentage of funding allocated to the statewide Teachers' Retirement System pension fund.

CPS contends that the state would owe it hundreds of millions of dollars in the coming years if the funding mechanism were equitable and the state lived up to a prior pledge that 20% to 30% of payments for teachers pension funds go to the Chicago fund. The district has seen double-digit increases in its pension payments in recent years.

In fiscal 2007, it appropriated a total of $291 million for teachers, a 23.7% increase over a year earlier. The teachers' pension fund for Chicago Public Schools is currently funded at about a 78% level based on fiscal 2006 figures, with an unfunded liability of $2.7 billion.

Payments to cover the unfunded pension liability ramp up through 2010 under the state mandate being challenged by a lawsuit that requires CPS to bring the funded level to 90% by 2045. The unfunded liability figure includes an unfunded liability of about $420 million owed for retiree health care benefits.

 

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