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Small Kentucky School District Refunds BABs Due to Subsidy Cut

BRADENTON, Fla. – Build America Bonds helped issuers of all sizes save on financing projects, but sequestration could squeeze the budgets of those that dedicated the subsidy to debt service like Kentucky’s McCracken County School District.

The district, which sold BABs in 2010 to finance a new high school to consolidate three facilities more than 50 years old, is believed to be the first in the Bluegrass State to unwind its deal because of the 8.7% cut in the 35% interest subsidy the government originally promised to pay.

In a competitive sale Tuesday, the McCracken County School District Finance Corp. will take advantage of its extraordinary redemption provision and refund its taxable BABs with $55.63 million of tax-exempt bonds.

The deal is expected to be structured with serial payments on Dec. 1 each year between 2013 and 2030. The refunding is expected to achieve about $3.6 million in savings or 5% of refunded par.

Moody’s Investors Service assigned an Aa2 enhanced rating to the bonds based on security provided by the Kentucky School District Enhancement Program, which can intercept state funds headed for McCracken to pay debt service.

The district’s first subsidy payment to be docked by 8.7% was slated to occur June 1 because of federal budget cuts.

The payment reduction triggered the district’s ability to redeem the bonds, according to the district’s financial advisor Hilliard Lyons, whose bankers recommended including the call provision in the BAB deal.

“Clearly they made the right decision,” said Alex Rorke, senior managing director of Hilliard’s municipal securities group.

Bond documents for the BABs authorized redemption at any time at 100% of the principal amount plus accrued interest to the redemption date if “the federal government should not make the subsidy payment equal to 35% of the amount of interest paid on such bonds.”

The district expects to come out ahead in the refunding because interest rates are so low. It also is an opportunity to exit the BAB program and eliminate the risk of future federal action, officials said.

“From the very outset, it’s [Hilliard’s] guidance that put us in this position” to refund the BABs, said McCracken County School Superintendent Nancy Waldrop. “The federal sequestration affects the school district in many ways but to know we have the option to recoup some of that loss is amazing.”

Johnna DeJarnett, assistant superintendent and director of finance, said the district appreciated the BAB program authorized by the American Recovery and Reinvestment Act, or ARRA, which allowed it to issue taxable bonds and receive a subsidy for interest payments.

“Being able to sell Build America Bonds rather than normal tax-exempt municipal bonds was extremely helpful in funding this construction project,” she said, adding that she believed it saved about $5 million over the life of the bonds. “Any areas where we can save money lets us provide more opportunities for kids in other ways.”

The full subsidy amount represented 14.6% of debt service on the bonds.

Making up for the 8.7% cut in the subsidy would have affected the school budget going forward since the district was obligated to pay 100% of the debt service, said DeJarnett.

McCracken County encompasses about 251 square miles of western Kentucky about 215 miles southwest of Louisville. The county has a population of 65,549.

The consolidated high school being built with BAB funds in the county seat of Paducah opens Aug. 9 with a projected enrollment of 1,850 students.

“We’re so happy that things have turned out this way, and hope the bond sale turns out the way we expect,” DeJarnett said. “When we first learned about the reduction in the subsidy, it seemed like such bad news, and now it turns out positive for our district.”

After passage of the American Recovery and Reinvestment Act, nearly $188 billion of taxable BABs were issued in 2009 and 2010 giving issuers the opportunity to receive a 35% subsidy on interest payments. Some issuers did not pledge the subsidy toward debt payment.

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