California tollway targets $100 million of savings with taxable refunding
An Orange County, California, toll highway agency that has experienced an up-and-down ride since its introduction to the bond market in 1993 will price $892 million in taxable refunding revenue bonds bolstered by a rating upgrade and outlook revision.
Goldman Sachs is bookrunner on the Foothill/Eastern Transportation Corridor Agency deal, slated to price Tuesday. PFM is municipal advisor. Stradling Yocca Carlson & Rauth is bond counsel.
Fitch Ratings upgraded Foothill/Eastern’s $198 million of junior lien toll revenue bonds to BBB-minus from BB-plus ahead of the deal, bringing all the agency's bonds into investment-grade territory.
Fitch also upgraded $1.4 billion in senior toll revenue bonds to BBB from BBB-minus and assigned its BBB rating to the bonds pricing next week, which are senior lien.
“The senior lien debt had been at investment grade since 2017, because of the numerous upgrades through the years,” said Amy Potter, chief financial officer for the Foothill/Eastern TCA and its sister agency, the San Joaquin Hills Transportation Corridor Agency.
The two agencies are legally and financially distinct but share staff and a marketing identity as The Toll Roads of Orange County.
S&P Global Ratings revised its outlook to positive from stable on Foothill/Eastern's A-minus rated senior lien bonds ahead of the deal. Moody's Investors Service affirmed its Baa2 rating and stable outlook for the senior lien.
“We have been on a trend of constant upgrades since 2013,” Potter said. “What I am seeing in the reports from the ratings agencies is that they are recognizing our restructuring in 2013, and that the numbers and the coverage look good."
Fitch analysts cited "improved financial metrics resulting from the upcoming refunding, as well as increased clarity on sources of funds for the agency’s capital plan, which is now expected to be cash-funded,” analysts wrote. It also “reflects the board’s recent adoption of a 2% annual rate hike policy, which Fitch views as a prudent move that reduces uncertainty about future rate hikes while also providing the board the ability to modify rates at its discretion if required.”
Both the Foothill/Eastern and San Joaquin Hills agencies struggled for years after opening as traffic failed to meet projections.
Foothill/Eastern has fought for years to build a southward extension that now appears to be a strong possibility. In 2016, it entered a settlement agreement with the environmental coalition and the state to restart the process of developing the extension.
“We agreed not to pursue an alignment that would go through state park land on the north side of Interstate 5,” Potter said. “That opened up the process again to study alternatives to congestion on I-5. We started with the public as opposed to the technical people.”
They developed 10 different alternatives, some of which would result in a separate agency, the Orange County Transportation Authority, or Caltrans developing some of the proposals.
Foothill/Eastern's 36 miles of toll roads in northeast Orange County connect the suburban communities of Riverside County and eastern Orange County to business districts to the southwest.
The ratings began to recover following a $2.2 billion restructuring of its debt in 2013, Potter said.
The debt restructurings, which required an extension of the agencies' tolling authority to stretch out bond maturities, resulted in long-range financial plans that were more realistic. The San Joaquin Hills TCA, which operates the State Route 73 tollway on the west side of the county, restructured $1.4 billion of debt in 2014.
Those deals required the California Department of Transportation to extend the agencies' tolling authority by 13 years to 2053. Caltrans signed the agreement in October 2013.
The pair of restructurings culminated years of efforts to get a handle on the toll roads' finances and avert a potential default, including a plan to merge the sister agencies using a $3.9 billion bond deal that fell apart in 2004 amid opposition from prominent Orange County politicians.
Next week's deal is one of many this year that will use federally taxable municipal bonds to achieve interest rate savings by refunding bonds that can't be advance refunded because of the 2017 tax reform bill.
BofA Merrill Lynch Global Research analysts said in a November report they are expecting taxable municipal bond issuance to reach or exceed $60 billion this year and total $105 billion by the end of 2020. Taxable municipals were 14% of 2019’s year-to-date issuance total as of October 30, compared to 8% as this point in 2018, according to BofAML.
If the market plays out as expected by BofAML next year, one quarter of issuance will be taxable, the highest since the 35% taxable share in 2010 when the Build America Bond program, which allowed issuers to sell taxable bonds and receive federal subsidies, elevated total taxable issuance to $152 billion. Congress did not renew the BAB program after 2010.
The bonds will refund part of the $2.3 billion issued in 2013 by Foothill/Eastern to restructure its debt.
“Of that, about $1.3 billion of the seniors are callable in 2024, so I targeted the latest maturities — the 2053s and 2049s are the ones we are refunding,” Potter said.
The refunding is expected to result in an estimated present value savings of $100 million or more than 13%. The bonds include a 10-year par call option to maintain the ability to refund again in the future.
The agency will put up to $75 million in cash into the deal to enhance the savings and help pay down its $2.5 billion in debt, Potter said.
The deal is garnering interest from existing holders of the bonds and domestic and international investors who invest in taxable paper and don’t participate in the muni market, said Robert Rich, a managing director with PFM, the advisor on the deal.
The interest spectrum ranges from investors like PIMCO, located in Orange County, which is familiar with the toll roads and understands the credit, to international investors who are familiar with the roads because of the proximity to Disneyland and can get an overview of the credit from the online presentation, Rich said.
“It was non-recourse toll road financing,” Rich said. “It captured investor interest, because they had never seen anything like that or of that large size for both F/ETCA and San Joaquin."
The toll roads resulted from an effort to speed highway construction using tolls instead of waiting for money from already constrained state and local transportation taxes to become available.
“The last we looked there were close to 70 holders of the bonds,” and the concentration of bondholders has remained the same even as the ratings fell and then gained ground again, Rich said.
The agency was already seeing a lift from the upgrades over the years when it remarketed $120 million in current interest bonds in July, Potter said.
“We got 3.5% on those 34-year bonds,” Potter said. “The improved ratings have really contributed to what we have been able to achieve.”
The bonds being refunded next week were 6% bonds, which she said was a combination of the longer maturities and the tollway's credit at the time. The interest rates presented to the board ahead of a vote to move forward on the sale in early November were a super conservative 4.2%, Potter said.
“We don’t want to give too much away to the market,” Potter said.
Assured Guaranty has agreed to provide insurance for the entire deal, providing flexibility to use Assured where insurance will add to investor diversity, Rich said.
It’s not unusual to add insurance between the introduction of the preliminary offering documents and pricing, Rich said.
“We have it as a diversity tool to give investors a structure that differentiates itself, to generate more demand,” he said.