Minnesota readies annual GO sale after clearing deck with budget deal
With a new two-year $48 billion budget in place and its high-grade ratings intact, Minnesota hits the market next week with its annual borrowing to finance capital work.
The state will take competitive bids Aug. 6 on $673 million of general obligation bonds in four tranches: $418 million of GO-backed various purpose bonds, $191 million of GO-backed trunk highway bonds, $36.7 million of GO-backed taxable various purpose bonds, and $28 million of GO-backed various purpose refunding bonds.
The trunk highway bonds benefit from a double-barreled pledge as they are repaid from revenue that flows into the highway fund from a portion of taxes on motor vehicles and motor vehicle fuels. The refunding will achieve about $4.5 million in savings, according to state debt manager Jennifer Hassemer.
Public Resources Advisory Group is advising the state and Kutak Rock LLP is bond counsel. The deal marks the state’s first since the newly-amended Securities and Exchange Commission Rule 15c2-12 took effect early this year requiring more wide-ranging disclosure agreements on material financial events and obligations. The state’s revised language is laid out in Appendix G beginning on page 255 of the offering statement.
Ahead of the sale, Fitch Ratings and S&P Global Markets affirmed their AAA ratings and Moody’s Investors Service affirmed Minnesota at Aa1. All assign stable outlooks.
"Credit factors supporting the ratings include our view of the state's deep and diverse economy, strong financial results and healthy reserves, and moderate debt levels," said S&P analyst Cora Bruemmer.
New money will finance projects in the state’s approved capital budgets known as bonding bills providing funding for educational facilities, parks, pollution control facilities, transportation, natural resources and agricultural enterprises. The borrowing will bring state GOs outstanding to $6.56 billion with another $2.1 billion of remaining authorization.
“Minnesota’s financial health is in good order,” said MMB Budget Commissioner Myron Frans, a holdover in Gov. Tim Walz’s administration from that of predecessor Mark Dayton. “The affirmation of AAA credit ratings from Fitch and Standard & Poor’s …allows us to continue making smart capital investments in Minnesota’s future by reducing our cost of borrowing.”
Minnesota's government is divided, with the Democratic-Farmer-Labor Party controlling the governor's office and House of Representatives following the 2018 election and the Senate, which wasn't up for election in 2018, held by Republicans. The GOP rejected Walz’s plans for a $1 billion bonding package this year so infrastructure will take center stage in next year’s legislative session and Walz is already promoting the state’s top ratings as one reason for a big investment.
“We are proud of the work we did this legislative session to help secure this rating. Now we need to work to pass a robust bonding bill to invest in the future and ensure our economy works for all Minnesotans,” Walz said in a statement. Lawmakers traditionally pass a big package in the year after the operating budget but Walz had pushed for one this year too.
Ultimately the legislature authorized $260 million of debt, in the form of $102 million in general obligation bonds, $60 million in housing infrastructure bonds to be issued by the Housing Finance Agency, and $98 million in state appropriation bonds supporting regional economic development in Duluth.
Minnesota headed into Walz's first budget season with flush coffers. The state’s end-of-February forecast trimmed $500 million off a projected $1.5 billion surplus putting a damper on some of Walz’s proposed increases for education, transportation and his $1.27 billion infrastructure package.
Walz was facing a tough road anyway, given the state’s divided leadership.
The state lost its top ratings and its structural budget imbalance ballooned during past sessions when leadership was divided at the same time the state was dealing with a poor economy. That’s when leaders turned to one-time maneuvers like borrowing, deferring education payments, and reserve use. An income tax hike approved in 2013 when the DFL held power, boosted by a growing economy, led to structural balance and ultimately the return of two triple-A ratings.
Disputes sometimes led to partial government shutdowns when an agreement couldn’t be struck before the start of the fiscal biennium July 1. Two years ago Mark Dayton signed the budget but a dispute over a Senate funding veto prompted the GOP to file a lawsuit.
This year, the GOP rejected Walz’s proposed 20-cent-per-gallon gasoline tax hike for transportation and opposed the size of his bonding bill. The state’s 20-year highway investment plan warns of $18 billion in unfunded needs.
With the session coming to a mandated end and the two sides at loggerheads, Walz and lawmakers brokered a compromise package that was then approved a special session at the end of May.
Walz gave up on the gas tax hike and big infrastructure package, but the GOP agreed to a higher increase in education funding and they indefinitely extended an expiring healthcare tax on services Walz wanted to remain in place. It was, however, trimmed to 1.8% from 2%. The budget included an income tax cut for some in the middle tax brackets.
Reserve levels remain at $2.5 billion: $2.1 billion in the rainy day account, $350 million in a cash flow account, and $98 million in a stadium reserve account. The fiscal 2020-2021 budget is projected to end with a $242 million balance. The budget taps $364 million of the previous year balance to cover a gap in expected revenues to support $48.5 billion in spending, up 3.2% from fiscal 2018-2019.
MMB projects that in the 2022-2023 biennium expense cuts or revenue hikes will be needed to cover a possible $575 million gap and maintain balance, according to S&P. MMB said they've accounted for the projected imbalance with plans to use a portion of the the current biennium's ending balance and the use of up to $490 million in reserves that would instead leave a modest balance. Budget officials also cautioned that 2022-2023 projections are very preliminary. Formal revenue forecasts are released in February and November.
S&P cited flush reserves, structurally balanced budgets, and the passage last year of pension reform measures for its 2018 upgrade to AAA. The state had lost its AAA in 2011.
The reforms reduced annual cost-of-living increases to between 1% and 1.5% depending on the plan from 2%, lowered discount rates to 7.5% from 8% and to 7.5% from 8.5% for the teachers fund and raised annual contributions from both employers and employees.
"The stable outlook on Minnesota reflects our view of the state's strong reserve levels, which are projected to continue through the 2020-2021 biennium and the passage of the pension reform bill in 2018, which has resulted in stronger funded ratios," Bruemmer said.
One weakness of state pension funding remains the use of a statutory funding formula instead of an actuarial based formula. If it should “translate into weaker funded levels, or if the state's commitment to structural balance and reserve replenishment during times of economic expansion weakens, there could be downward pressure on the rating,” S&P warned.
The state’s Moody’s rating remains at one notch below Aaa. It reflects “improved financial management practices that have resulted in replenishment of budget reserves, a positive budget balance and a modest structural imbalance,” the rating agency said.
Moody’s memory runs deep on governance issues due to political feuds. “Sound management tools, though, are somewhat offset by past governance issues that could re-arise, creating political intractability,” analysts wrote.
Moody’s said it expects the state to continue building up reserves to manage through the next economic downturn.
Rating reports also warn of the impact of federal trade policy changes and the trade war in China negatively impacting the state due weaker agricultural product exports but the concern is offset given the “depth and diversity” of the state’s economy, S&P said.
The state’s top rating reflects a “low long-term liability burden and strong control over revenues and spending that, in conjunction with a sophisticated approach to reserve funding” that “leaves the state well positioned to manage through economic cycles while maintaining a high level of financial flexibility,” Fitch said.