CHICAGO - Michigan is set to enter the market today with roughly $280 million of general obligation bonds that will include new-money and refunding bonds that will restructure some existing debt, pushing off debt service to free up money in the next budget.
The state originally planned to issue $463 million of GOs, but decided to cut down the issue after its finance team was able to successfully remarket $186 million of variable-rate bonds that were being held by the liquidity provider after failed remarketing cycles.
Merrill Lynch & Co. is the remarketing agent. Officials said they expect to return to market within the next few months to refund the bonds with fixed-rate debt.
The deal comes as Michigan continues to struggle with one of the worst economies in the nation and with recent revenue declines that Gov. Jennifer Granholm has called "breathtaking." Chief among the state's problems is deterioration in the U.S. automobile industry, a fiscal stress that prompted Moody's Investors Service to revise its outlook on the state to negative from stable ahead of the sale.
The state's economy influenced the structure of the bonds set to price today, as the finance team is structuring the deal to postpone some upcoming debt service payments - an increasingly common move among fiscally troubled issuers, according to analysts.
Today's transaction features three series of fixed-rate bonds, including $182.5 million of taxable GOs that mature from 2015 to 2020, $65.2 million of tax-exempt bonds that mature from 2021 to 2025, and $33.7 million of taxable bonds that mature in 2011.
Merrill Lynch is the senior manager and Goldman, Sachs & Co. is co-senior. Robert W. Baird & Co. is financial adviser. Dickinson Wright PLLC and Miller, Canfield, Paddock and Stone PLC are co-bond counsel.
Moody's rates Michigan's GO debt Aa3 with a negative outlook. Standard & Poor's rates it AA-minus with a stable outlook. Fitch Ratings also rates the debt AA-minus, but with a negative outlook.
Proceeds from roughly half of the $280 million will be new money to fund the school loan fund and environmental programs, said Joe Fielek, director of the state's bureau of bond finance.
Another $100 million from the transaction will refinance a swath of variable-rate bonds that have failed to be remarketed and are held by downgraded Depfa Bank PLC. The fixed-rate mode will allow the state to shed its standby bond purchase agreements provided by Depfa, as well as avoid an accelerated five-year amortization period that would kick in May 1 under its liquidity agreements.
Another $33 million will be used to refinance outstanding environmental bonds that were originally sold as taxable debt but have since been used to finance projects that qualify for tax-exempt purposes under the current tax code, according to Fielek.
"There are a lot of components to this deal," he said. "This is not your straightforward, plain-vanilla GO issue."
Officials had planned to price $182 million of school loan refunding bonds last October, but pulled the deal amid the credit crunch that paralyzed the market. Michigan today is entering a market that is the strongest in months, boosted in part by strong investor interest in California's $6.5 billion bond sale last week.
"We're confident that we can get this deal done," said Tom Saxton, the state's deputy treasurer for bond finance. "We pulled the deal last fall because of some uncertainty, and now things seem to be settled."
The state does not expect strong retail interest in the bonds because of the taxable component, Fielek said.
After the transaction, the state will have roughly $186 million in variable-rate debt out of a total portfolio of nearly $1.5 billion.
Like many states, Michigan is struggling with a growing budget deficit amid declining revenues and a diving economy. The debt refinancing will allow the state to achieve some savings as it, like other issuers, decided to structure the bonds by pushing off near-term debt service into the future.
"Like everyone, when we look to restructure, we're taking into account current budget requirements, what the current budget situation looks like," Fielek said. "We are structuring these bonds to fit in with our existing debt service - looking for peaks and valleys and leveling it off to minimize debt service for the next few years."
Of the current offering, $182 million is structured to mature from 2015 through 2020, with debt service peaking in 2019. Another $65 million is set to mature from 2021 through 2025, and the remaining $33.6 million will mature in 2011.
While the practice of restructuring debt to push off upcoming debt service payments is generally frowned upon by credit analysts as a one-time revenue shot, it's becoming more common among issuers and, given the scope of Michigan's problems, will have a relatively small impact on the state's credit, said Moody's analyst Edward Hampton.
"They're certainly not alone in this difficult time in resorting to that measure; we are seeing more of it," he said. "All else being equal, extending maturities and practices of that sort are negative credit factors, but given the state's rating level and economic environment, it's not surprising."
In assigning a negative outlook to the state, Hampton said Moody's was considering more long-term factors. "We're more concerned about the restructuring of the auto industry than we are about the modest restructuring of the state's debt in this transaction," he said.
Michigan has struggled for nearly a decade with declines in the automobile industry - a struggle that analysts note has sharpened its ability to manage downturns - but the sector's current problems mark a key economic shift, according to Moody's. The industry's decline will likely mean a fundamental weakening in the state's economy, analysts warned.
While it's too early to assess the impact of the Obama administration's efforts to restructure two of the three top automakers, Moody's will monitor developments over the next several weeks, Hampton said.
Adding to the state's economic problems is a looming $1.4 billion deficit heading into fiscal 2010. Lawmakers, who are currently crafting a 2010 budget, are battling over how best to cut spending even as revenue continues to drop.
Michigan's revenues have declined by $25 million a week - $200 million over two months - during the first two months of the year, according to reports. That's on top of a $900 million downward revenue revision in January.
Granholm has proposed balancing the budget through a series of spending cuts, $230 million in new revenue, and an influx of federal stimulus funds. Lawmakers are trying to craft a final budget by July 1, though the state's fiscal year officially ends Sept. 30.
Despite the problems, credit analysts consistently praise Michigan officials for strong past management of budget shortfalls, in particular a pair of tax increases implemented in late 2007.
One of those tax hikes, the enactment of a 22% surcharge on the existing Michigan business tax, has sparked controversy since it was first implemented, and lawmakers are currently debating whether to eliminate it. The other increase, which raised the state's personal income tax rate to 4.35% from 3.9%, is currently set to sunset between 2012 and 2015.
Analysts say the state is also strengthened by its relatively low debt burden, prompt response to fiscal problems, and conservative revenue estimates.
