DPS Says No to Former Governor of Federal Reserve

February 1, 2011

DPS Says No to Former Governor of Federal Reserve

By Christopher Scott

On Sunday night, two members of the Denver Public Schools Board of Education met to determine a path forward for receiving independent financial counsel related to $750 million in debt issued in 2008. (For more information about the 2008 transaction, see the New York Times story printed on August 5, 2010.).

During the Sunday meeting, school board members decided to reject a proposal from noted financial advisers Saber Partners. Saber has the reputation as the go-to firm for consulting and counsel in the world of derivatives, swaps, and other exotic forms of finance, especially in the world of government finance.

At DPS’ disposal would have been Saber’s principals Joseph Fichera, recognized globally for his expertise in complex Wall Street transactions and Brian Maher, the former Treasurer of ExxonMobile. Saber’s team also included Alan Blinder, former Vice Chair of the Federal Reserve Board and Bill Clinton’s Council of Economic Advisers, who is well know at virtually every level of federal, state, and local government

But DPS said no to these resources.

Current Board of Education Treasure Mary Seawell and Former Treasurer Bruce Hoyt said their first choice of an independent financial adviser was Fiscal Strategies Group, lead by David Paul, who is currently providing DPS assistance with restructuring $750 million debt taken on in 2008. While discussing their preference for FSG and Paul, Seawell said that she needs “someone to help the board come together.”

“Fundamentally, asking a professional services firm to both structure a financial transaction and then perform an independent evaluation of that same transaction places that firm in a clear conflict of interest,” said Nicolas Weiser, a parent of two students in DPS who attended the Sunday public meeting. Weiser has worked with the DPS board to craft the RFP seeking financial counsel.

To date, the 2008 PCOPs have cost Denver taxpayers at least $115 million in interest and fees. DPS entered into the debt in 2008 to finance the District’s unfunded liability associated with its pension using a tool called Pension Certificates of Participation, or PCOPs. PCOPs are used to allow government entities to issue debt without voter approval. Under the PCOPs agreement, DPS sold 14 schools, including East High School, to a leasing corporation and then agreed to lease back those schools to pay the debt over the course of 30 years.

DPS now faces having to pay back the $750 million debt on April 24th. To avoid this, DPS must restructure the 2008 transaction or find a new financier to hold the debt should the 2008 PCOPs fail at auction. According to Fiscal Strategies Group’s David Paul’s own analysis contained in his firm’s proposal –

Bank credit facilities to replace Dexia [the Belgian based financier contracted to hold DPS’ debt] are now scarce and more expensive. Due to the credit problems of monoline insurance companies, banks are not currently writing liquidity only agreements. Therefore, DPS has had ongoing discussions with banks to determine interest in replacing Dexia with bank letters of credit. …However, due to the legal requirements of state law that limit the funds available to fund COP annual debt service, swap payment and bank reimbursement costs to the maximum amount of “reasonable rent” on the underlying leased assets, DPS cannot offer a letter of credit bank the normal 3-5 year term-out provision banks require. By way of reference, there is no acceleration in the bank agreement with Dexia, which is obligated to hold the PCOPs to maturity in the event that PCOPs are put back to Dexia and not reoffered to the market.

Not addressed by refinance solution described above, however, is the fact that the DPS will also face unwinding the interest rate swaps entered into in 2008 in an attempt to game the market. According to the District’s 2010 financial report, it will cost approximately $160 million to exit the swaps.

Currently, DPS is considering a combination of converting a portion of the variable rate debt to fixed rate debt. DPS would then seek bank letters of credit to cover the variable rate debt to avoid having to pay that debt off in the near term. According to FSG, this would result in an all-in interest cost in the 8.00% range given current market conditions. Such a strategy would likely raise DPS’ annual payment to service the debt from approximately $40 million per year to $72 million.

As an alternative to paying back all of the debt, DPS could default on the 2008 loans, thereby turning over the 14 schools used as collateral associated with the 2008 transaction to its creditors. Default, however, would have an enormously negative impact on the school District’s credit rating, perhaps triggering defaults on DPS’ capital bonds. This would, in turn, further harm DPS’ credit rating, setting off bankruptcy proceedings for DPS.

When asked about this possibility, Board Treasurer Seawell would not comment.

In the end, Board members agreed on a compromise, Magis Advisors, the third firm to apply.