LOS ANGELES -- The recently signed bill to regulate California school districts’ issuance of bonds is a credit positive for the districts, according to a report released Thursday by Fitch Ratings.
Assembly Bill 182 imposes stricter structuring and disclosure requirements on capital appreciation bonds issued by California school districts.
“Fitch Ratings views the bill as a credit positive overall and believes it will mitigate that negative effects of CABs on districts’ debt profiles and reduce the volume of the future CAB issuances,” Fitch analysts said. “However, the bill could lead to additional budgetary pressures for some districts with pressing capital needs.”
AB 182 was introduced after media attention brought to light situations where capital appreciation bonds had been issued with repayment schedules that have greater than a 10-to-1 ratio of interest payments to principal — sometimes as high as a 20-to-1 ratio.
CABs pay a compounded interest rate and principal upon maturity, instead of through regular payments over time. They allow school districts to finance construction projects and defer debt-service payments in the short-term, avoiding property tax increases. But the districts incur higher costs in the long run.
The bill, which was signed by Gov. Jerry Brown on Wednesday, allows for the continued issuance of CABs, but requires the total debt payments to principal to not exceed a ratio of 4-to-1.
It also requires the maturity date to be capped at 25 years, down from 40 years. Fitch said the stricter maturity cap mitigates concerns about CABs’ tendency to slow amortization and tie up tax rate flexibility.
The bill also requires CABs to include call provisions, which many did not have before.
Non-callable CABs could potentially constrain future debt capacity, locking in higher interest rates than current interest bonds. Analysts said that while the call provision mitigates these concerns, it could likely raise interest costs.
Lastly, the bill requires tougher disclosure requirements. Governing boards must be provided with additional information regarding the issuance of CABs and for current interest, including disclosure of the terms and costs of CABs, how they compare to other bond deals, the debt service ratio, and the reason why CABs are recommended.
Boards will have to first discuss the issuance of CABs at an informational meeting, then vote on the issuance at a second meeting.
“Fitch believes these requirements will shed more light on the cost of CABs and the tax base growth assumptions that underlie them,” the report said.
Fitch said the bill will make it tougher for school districts that have experienced diminished recent actuarial valuation growth losses to issue general obligation bonds for capital needs, and some may resort to lease-backed debt or pay-as-you-go capital spending.
“Unlike GO bonds which are paid by a dedicated and unlimited property tax, lease and cash capital financing would pressure operations by crowding out districts’ programmatic resources,” analysts said.
