Pennsylvania’s final 2010 bond deal, a $1 billion new-money transaction that includes taxable Build America Bonds, is on hold as elected officials seek additional information before approving the borrowing.
Officials planned to price the transaction via competitive bid on Nov. 10, but were unable to take it to market because Treasurer Rob McCord and auditor general Jack Wagner did not sign off on it.
McCord’s office has asked the Office of the Budget, which executes Pennsylvania’s bond and note deals, for more details on the types of infrastructure projects that would receive the bond proceeds. In addition, Christopher Craig, chief counsel for McCord, questioned whether Governor-elect Tom Corbett should review the borrowing plan.
“Wouldn’t it be appropriate to involve the next administration in this decision?” Craig said.
Corbett, a Republican, will take office Jan. 18. Pennsylvania could miss out on the BAB program which is set to expire at the end of 2010 unless Congress extends it.
A spokesman for Corbett did not respond to phone calls and e-mails requesting a comment.
With BABs, issuers grab a lower cost of borrowing as they receive a 35% federal subsidy on the interest costs. Typically, issuers save by selling BABs on the long end of the yield curve, rather than using the taxable securities for shorter maturities.
“The BABs have been advantageous,” said Rick Dreher, director of the state bureau of revenue, cash flow, and debt. “They’ve allowed us to lower our marginal cost of borrowing. In the last two bond issues we did, we received the lowest rates ever, at least since 1968, on our bond issues because of the use of BABs. So they certainly have been beneficial to municipal issuers like the commonwealth.”
Gary Tuma, spokesman for Gov. Edward Rendell, said the governor is confident that the borrowing issue will be resolved before the end of the year.
“He thinks that it’s important that we get in in time to take advantage of [the BAB program],” Tuma said.
Pennsylvania sold $900 million of tax-exempt bonds and BABs on Jan. 13 with a true interest cost of 3.13%, Dreher said. On May 19, it issued $1 billion of tax-exempts and BABs for a TIC of 3.33%.
If the pending sale does move forward using BABs, the state would price in December, a month in which many issuers are expected to bring billions of the taxable instruments to market in a last attempt to utilize the federal subsidy. Though Dreher had hoped to price the $1 billion bond sale in November to beat the anticipated BAB rush, he is confident Pennsylvania could also price well in December.
“I would hope from an investor’s perspective, the strength of the commonwealth’s credit would continue to hold,” he said. “We still are a large, double-A credit issuer, we’re a frequent issuer, people know our paper, know our credit. I would hope if we would come to market and have a sizeable portion of BAB components, we would still receive favorable bids.”
According to Craig, the administration can legally issue bonds with approval from either the treasurer or the auditor general. The practice has been for both offices to sign off before the bonds go to market.
A spokesman for the attorney general did not respond to requests for comment. Craig and Dreher said that like the treasurer’s office, Wagner sent the administration letters seeking additional information on the use of the bond proceeds.
Craig stressed that the Treasury Department is not passing judgement on the bond transaction or the size of the borrowing. Because voters chose a Republican to succeed Rendell — a Democrat who will be termed out in January — and because the GOP gained control of the state’s House, the Treasury Department believes that bond proceeds should be used for “necessary and core government functions,” he said.
Republicans retained control of the state Senate. Both McCall and Wagner are Democrats.
“We want to be very circumspect about our role as an issuing authority,” Craig said. “And we would like to know the identity for the particular projects for which this bond issuance are to fund, the purpose of them, their priority, whether or not this is the appropriate amount of money, whether or not this is the appropriate amount of time in which to issue it, and whether or not there is a consensus of support for the incurrence of this kind of debt.”
The state has about $9 billion of outstanding general obligation debt.
Dreher said that his team is working on answering all of the questions raised by the two departments and will provide whatever information they need “to get comfortable with this bond issue.”
Pennsylvania typically sells debt at the end of a calendar year and has previously issued bonds during a gubernatorial transition. One reason for this schedule is to allow a new governor to work on a budget proposal, due in March, without having to simultaneously structure a bond transaction. Craig noted that previous sales priced during the transition between administrations were smaller.
Dreher said that while the commonwealth sold a smaller amount of debt — about $500 million — just days before Rendell took office in January 2003, its capital needs have increased.
“A $1 billion [bond sale] today, that may be marginally higher, maybe that’s worth $600 million in 2003,” Dreher said. “We had a $20 billion budget in 2002, now we have a $30 billion budget. There’s some natural growth over an eight-year period.”
Dreher went on to say that the $1 billion bond sale will finance infrastructure developments that have already been approved and for which construction has begun.
“The point is that these [bond proceeds] are funding ongoing capital projects,” he said. “They are not new projects that are being decided to be funded at the last minute of an administration. These are projects that … have been under contract with these various state agencies for one to two years as they work their way through the construction process.”
In addition, certain programs within the state’s capital facilities fund will run out of funds in January or February. The public improvement program, which finances state prisons, state parks, mental health facilities, and office building upgrades, will run out of funds in January. It is to get $400 million from the $1 billion sale.
Dreher said that three new state prisons in German Township, Graterford, and Benner Township will need funds in January in order for the state to meet its payments with contractors. The facilities are currently under construction.
“These are construction contracts that we as the state signed with our contractors and vendors,” Dreher said. “And there are penalty provisions in those contracts that if we don’t remit payment within a certain number of days after receipt of the invoice, we incur a penalty and interest. In addition to the economic disturbance of having to shut projects down, we may actually incur penalty and interest costs.”
Craig said the entire capital facilities fund will have roughly $300 million left when Corbett takes office.
“We think that’s sufficient to at least get through the first month of the next administration,” he said.
While that is a small amount for Pennsylvania to have on tap for capital needs, Craig said obtaining approval from the treasurer and the auditor general, in addition to the governor, is an important step.
“I understand the apocalyptic scenario that they describe, but understand that there is this process that requires three independent officeholders to sign off on this, and that’s not an accident,” he said.
