CHICAGO — The Indiana Finance Authority plans to be in the market this week with the first tax-exempt refunding for the state revolving fund program — a triple-A rated, $287 million issue that will shift the loan program’s backing to a reserve fund structure that the state hopes will be easier to manage.
The IFA plans to conduct a negotiated bond sale with Citigroup Global Markets Inc. as the book-runner. The deal marks a first for Citigroup after it was selected for the lead slot over Bear, Stearns & Co. and UBS Financial Services Inc.
Bear Stearns had been lead manager on the Indiana SRF issues in the past five or more years. It will act as a co-manager on the deal with City Securities Corp. The state also chose a new financial adviser, Lamont Financial Services Corp., when it completed its requests for proposal process earlier in the year. Ice Miller acted as bond counsel on the issue.
The deal will be priced for retail today and institutional buyers tomorrow.
The deal has many firsts, but may face some tough market conditions. The authority is reviewing the maturities that it hopes to refund from bonds issued between 1997 and 2002, said Jim McGoff, executive director of the SRF loan programs.
“Depending on how the market looks, there might be a small new-money piece for our drinking water loans,” he said.
The state had originally planned to refund about $500 million of debt, according to McGoff.
“We’ve definitely lost some [refunding opportunities] over the last month or so,” he said. “As long as we’re still seeing savings, we’re still going forward.”
The team is reviewing the issues maturity by maturity for which coupons will bring in the most savings, said Debbie Schnedler of Lamont. The state has a threshold of 3% savings, with this deal expected to save between $12 million and $14 million.
The triple-A rating should boost investor interest, one source familiar with the deal said. In addition, a relatively short maturity schedule of about 23 years should be attractive.
The two agencies that rate the SRF program, Standard & Poor’s and Fitch Ratings, affirmed their AAA ratings for the bonds. The proceeds from the sale will be used to refund outstanding debt that is issued to provide loans to local municipalities for water and sewer capital projects. The largest borrower in the program is the Indianapolis Local Public Improvement Bond Bank, with about 17% of the portfolio, Fitch analyst Adrienne Booker wrote in a credit report.
According to Booker, the AAA rating is based in part on the strong reserves— about $601 million, or 43% of the program’s outstanding bonds. The SRF program also uses a cross-collateralization feature that allows the water and sewer programs to tap into each other’s reserves. The Finance Authority has $1.4 billion of outstanding parity bonds.The sale marks the first SRF deal issued through the IFA after state legislation, advocated by Gov. Mitch Daniels, designated that agency as the issuer for several state entities. The Indiana Bond Bank had administered the program before this year.
The Department of Environmental Management, which McGoff now directs, will continue to provide technical assistance for the program. But the IFA assumed the outstanding liabilities and assets of the program when it became the issuer in May.
With this sale, Indiana will institute the use of a reserve-fund model, replacing the previous invested-funds balance model, Schnedler said. Under the previous model, all of the funds that were earned on state investments were available to repay bonds in the program on a parity basis. Now the reserve fund will be sized specifically so that those earnings cover the debt service should the program need to tap reserves.
In addition, the reserve fund will be subject to yield restrictions, while the separate equity fund will not, McGoff said. With the previous model, the program sometimes had an excess of funds, which could cause a “hefty rebate” on the proceeds, he said.
The new system will make the accounting and tax compliance less complicated, according to Schnedler. “Restructuring will permit them easier management of their reserves and their program accounting,” she said.
The state first contemplated the shift in 2004 when it sought bondholder consent for the restructuring, McGoff said. The consent stipulated that the rating would not be affected by the change, he said. The state met the consent and rating requirements.
“With this issue, we will obtain the 51% [of bondholder consent] needed to institute these changes,” McGoff said. “And the rating will be confirmed.”
The state had refunded outstanding bonds for the program twice before this, but those deals were taxable in order to lessen the program’s exposure to negative arbitrage.
“It was the only way that they could keep their investments in place and maintain the savings without having to rebate them,” Schnedler said. “This is their first tax-exempt refunding in the program.”
The new model will allow the state to use shorter-term debt and more easily tailor its investments to repayment of the outstanding bonds, she said.
Indiana also will shift its options for investing the funds with this issue, McGoff said. The program had been restricted to investing funds in triple-A rated instruments.
“Triple-A guaranteed investment contracts are hard to find these days,” he said.
Now the program can invest in double A-minus or better rated instruments and maintain its triple-A rating, McGoff said.
