BRADENTON, Fla. — The Kentucky State Property and Buildings Commission is selling $315 million of revenue bonds next week, with most of the deal structured as taxable Build America Bonds.
The offering is the fourth brought by the state to take advantage of BABs. The BAB program, enacted as a federal stimulus measure, will expire at the end this year if not extended by Congress.
In its current form it provides a 35% interest subsidy from the federal government.
Proceeds will fund ongoing and new projects across the state authorized as part of the 2005-2010 capital plan by the Legislature.
The bonds are secured by biennial appropriations from Kentucky’s general fund and are being sold under the state’s traditional lease financing program.
Pricing is expected to start Monday with retail orders, during which investors in Kentucky will get priority.
The sale concludes Tuesday with institutional pricing. It is the last appropriation-backed transaction the state has planned this year.
The deal is expected to be structured as $81 million of Series A tax-exempt serial bonds maturing from 2012 through 2018, $10 million of Series B traditional taxable bonds due in 2012, and $224 million of Series C BABs maturing from 2019 through 2030.
The bifurcated structure, typical of deals incorporating BABs, is designed to use tax-exempt bonds where they are more advantageous in early maturities and place the taxable BABs in the middle and long end of the yield curve, said Tom Howard, executive director of Kentucky’s Office of Financial Management.
Howard said there are no concerns about issues that were raised earlier this year over how the Internal Revenue Service would review BAB pricing or potentially offset the subsidy.
“We are hoping that a combination of tax-exempt bonds as well as taxable Build America Bonds will appeal to a wide variety of investors who are looking to diversify their portfolios,” he said.
The bonds are rated AA-minus with a stable outlook by Fitch Ratings and Aa2 with a negative outlook by Moody’s Investors Service.
Fitch also affirmed its AA-minus rating on $6.5 billion of appropriation-backed bonds issued by various Kentucky agencies.
Analysts credited state officials for addressing budget problems in the economic downturn but expressed concern about structural imbalances that may lie ahead when federal stimulus funding is not available.
They noted there has been some improvement in revenue collections this year but the state has large pension and health benefit liabilities.
“Kentucky’s negative outlook reflects a trend of reliance on non-recurring budget-balancing measures, which, in addition to use of federal stimulus funds, include debt restructuring for near-term savings and authorized issuance of debt to cover teacher retiree health-insurance costs,” said a report by Moody’s analyst Maria Coritsidis. “The state has resorted to these measures in the face of significant fiscal stress related to the economic downturn.”
Though pension reforms have been enacted, the Kentucky Employees Retirement System was 48% funded and the Kentucky Teachers’ Retirement System was 64% funded, according to actuarial valuations as of June 30, 2009, Moody’s said. The liability for other post-employment benefits has been estimated at $11 billion.
Fitch said its rating reflected the state’s reduced financial flexibility amid depleted fund balances and revenue shortfalls.
A $1 billion shortfall in fiscal 2010 was offset by stimulus funds and will require “significant budget reductions” in fiscal 2011.
The biennial budget calls for reductions of 3.5% and 4.5% in 2011 and 2012, respectively, plus other operating efficiencies, according to a report by Fitch analyst Karen Krop.
“In fiscal year 2011, the identified operating efficiencies include $24 million in employee furloughs, $35 million in agency budget reductions, $5 million in asset sales, and $67 million from debt restructuring,” she said.
Though Kentucky has suffered like other states in the downturn, Krop said the “slowly improving economy is beginning to have a positive effect on state revenues.”
General fund revenue collections through September were 4.4% higher than the first quarter of fiscal 2009. Sales tax revenues increased 3.4% year-over-year, personal income taxes rose 3.8%, and road fund revenues were up 11.9%.
While the state faces ongoing budget pressure over the fiscal biennium as it seeks to stabilize finances, officials have a history of active financial management that has enabled them to address fiscal instability, according to Coritsidis.
“The commonwealth’s ability to maintain fiscal stability by meeting planned expenditure, revenue, and debt targets over the next fiscal year without additional reliance on one-time resources is a key credit consideration,” she wrote. “As the economic recovery takes hold, it will be important for the commonwealth to find alternatives to non-recurring budgetary solutions and to rebuild reserves.”
Morgan Stanley is the book-runner for next week’s sale.
The syndicate consists of Citi, Bank of America Merrill Lynch, Edward D. Jones & Co., First Kentucky Securities Corp., J.J.B. Hilliard, W.L. Lyons LLC, Morgan Keegan & Co., PNC Capital Markets LLC, Ross, Sinclaire & Associates LLC, Sterne, Agee & Leach Inc., and Stifel Nicolaus & Co.
Kutak Rock LLP is bond counsel. Peck, Shaffer & Williams LLP is underwriters’ counsel.
The last major sale by the State Property and Buildings Commission was $154 million of tax-exempt revenue and refunding bonds on June 30.
The deal sold with serial maturities between 2011 and 2021.
The bonds priced to yield 0.68% with a 2% coupon in 2011, 2.96% with a 4% coupon in 2017, and 3.76% with a 5% coupon in 2021.
They were rated AA-minus by Fitch, Aa2 by Moody’s, and A-plus by Standard & Poor’s.
