Pennsylvania's Commonwealth Financing Authority will issue $400 million of debt Wednesday, including $335.6 million of taxable Build America Bonds, for water and sewer projects throughout the state.

Securing the bonds are annual service payments that the Department of Community and Economic Development will make to the authority to cover debt-service costs. The payments from the DCED are subject to annual appropriation by the legislature.

This will be the first bond sale to help finance the state's new H20 grant program, which offers municipalities and local governments funds for dam rehabilitations, flood control projects, and water and sewer system upgrades. Lawmakers enacted the H20 grant program in July 2008. It has total bonding capacity of $800 million.

Morgan Stanley will price the bonds on Wednesday after holding a retail order period either today or tomorrow. Public Financial Management Inc. is the outside financial adviser. Bond counsel is Saul Ewing LLP.

Standard & Poor's and Fitch Ratings assign AA-minus ratings to the transaction, both with stable outlooks. Moody's Investors Service rates the bond deal A1 with a negative outlook. The authority has about $791 million of similarly secured debt outstanding, according to Moody's.

The transaction includes tax-exempt Series 2009C bonds for $64.3 million and taxable Series 2009D BABs for $335.6 million.

The tax-exempt Series 2009C bonds offer serial maturities from 2013 to 2019. Of the BABs, $59.9 million will mature in 2024 and another $275.6 million will mature in 2039, according to the preliminary official statement.

The authority wanted to include both tax-exempt debt and BABs in order to achieve the lowest cost of borrowing at both the short end of the curve and the long end, according to Scott Dunkelberger, CFA's executive director and director of the DCED's center for business financing.

"Our understanding from the market is the [BABs] really make sense on the longer maturities and tax-exempt bonds more on the earlier maturities," Dunkelberger said. "And so that's the way we structured it to create the lowest amount of debt service."

By using the taxable BABs and receiving the 35% federal subsidy on interest costs for such bonds, the authority estimates it could generate a net present-value savings of about $33 million over the life of the debt.

The bonds are considered state appropriation debt, as the DCED will include principal and interest costs on the Series 2009C and Series 2009D bonds when requesting allocations each year from Pennsylvania's general fund.

"There's a service agreement — the commonwealth is pledging to make appropriations available to pay the debt service on the bonds," Dunkelberger said.

"It's a service agreement between the DCED and the CFA and basically the department is pledging to request the appropriations necessary to service the debt. And that's been our credit for the authority's five previous bond issues."

Pennsylvania has a history of late fiscal budgets. While Gov. Edward Rendell signed a fiscal 2010 budget on Oct. 9 — more then three months after the start of the fiscal year — roughly $200 million of that spending plan relies upon a table games bill that legislators have yet to pass.

To address the state's most immediate obligations, including general obligation and state appropriation debt service, Rendell signed an $11 billion "bridge budget" in early August to meet such costs.

In addition, there is no debt service reserve fund on the Series 2009C and Series 2009D bonds, but principal and interest payments are not due until six months after the start of each fiscal year on July 1.

"While there is no debt service reserve fund, potential late budget risk is mitigated by bond payment dates of Dec. 1 and June 1," according to a Moody's report. "Additionally, the commonwealth has the legal ability to include the necessary debt service payments in a temporary or supplemental budget."

Some of the larger approved H20 capital projects include $9 million each for Pocono Township and for the Sharon Sanitary Authority for sewer and water treatment improvements.

The Bedford Township Municipal Authority will also receive $9 million for a water and sewer extension project. Columbia County will gain $6 million for flood control and the Pennsylvania Fish and Boat Commission will receive nearly $10 million for four different dam renovation projects.

One year ago, the state released its Sustainable Infrastructure Task Force Report, which calculated unfunded water and sewer infrastructure needs throughout Pennsylvania at $36.5 billion over the next 20 years. Along with the H20 grant program, the Pennsylvania Infrastructure Investment Authority offers cities, towns, and local authorities low-interest loans for water infrastructure needs via bond financing.

"We're a little more than scratching the surface of the need — nonetheless, we're taking care of some of the most critical needs that we have right now with the $800 million," Dunkelberger said.

He added that many local public authorities will need to implement higher rates that help support their systems.

"Folks are going to need to change the way they do things to maintain their systems," Dunkelberger said. "That's part of the long-term solutions."

The CFA sold $100 million of bonds on April 30 for alternative energy projects throughout the state.

The sale was split evenly between tax-exempt bonds — insured by Assured Guaranty — and uninsured taxable debt. BABs were not used. With the energy bonds, the DCED will also make payments to the CFA each year to cover debt service costs on the bonds.

Pricing on the tax-exempt Series 2009B bonds ranged from a 4.48% yield on a 4.25% coupon in 2024 to a 5.1% yield on a 5% coupon in 2031.

Dunkelberger anticipates another H20 bond issue by June 30, with the size of that deal depending upon cash-flow needs. The authority has approved projects totaling $550 million out of the $800 million funding capacity.

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