BILL ANALYSIS
AB 1550
Page 1
Date of Hearing: April 20, 2009
ASSEMBLY COMMITTEE ON BANKING AND FINANCE
Pedro Nava, Chair
AB 1550 (Banking & Finance) - As Amended: April 15, 2009
SUBJECT : Department of Water Resources: refunding bonds.
SUMMARY : Authorizes the Department of Water Resources (DWR) to
refund bonds bearing a variable interest rate with bonds bearing
interest at a fixed interest rate and to refund bonds if a
national recognized rating agency reduces or withdraws, or
proposes to reduce or withdraw, the rating assigned to specified
indebtedness. Specifically, this bill :
1)Specifies that refunding bonds issued by the DWR before
January 1, 2010 are deemed to have been issued and shall not
be included in the aggregate amount.
EXISTING LAW
1)Authorizes DWR to administer contracts entered into before
January 1, 2003 for the purchase of electricity, and to sell
electricity to retail end-use customers and, with certain
exceptions, local publicly own utilities, at not more than the
department's acquisition costs. (Water Code, Section 80130)
2)Requires DWR to recover costs through the issuance of bonds,
in an amount up to $13,423,000,000, to be repaid to
ratepayers. (Water Code, Section 80130)
3)Authorizes DWR to refund bonds and specifies that the
refunding of bonds to obtain a lower interest rate is not
subject to the aggregate amount of bonds authorized to be
issued. (Water Code, Section 80130)
4)Provides for the issuance and sale or exchange of refunding
bonds for the purpose of redeeming, retiring, or purchasing
for retirement, outstanding bonds at or before their maturity,
if the committee determines that refunding is necessary or
advisable in order (a) to effect a favorable reorganization of
the debt structure of the state, or (b) to effect a saving in
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debt service cost to the state, as measured by the present
value of that saving. (Government Code Section, 16780)
5)Allows for the issuance, sale, or exchange of State Public
Works Board lease revenue bonds. (Government Code Section,
15840)
6)Allows for the issuance, sale, or exchange of Department of
Veterans Affairs revenue bonds. (Military and Veterans Code
Section, 1004.1)
FISCAL EFFECT : Unknown.
BACKGROUND :
Due to recent turmoil in the capital markets, DWR has found it
necessary to restructure more than $2 billion of its variable
rate Power Supply Revenue Bonds (the "bonds") to address
investor concerns with bond insurers and/or banks providing
credit enhancement for the bonds. Some of these bonds have been
refinanced as fixed rate bonds and others have been restructured
as variable rate bonds with credit enhancement provided by
stronger banks. Prior to the restructurings, investors were
demanding very high interest rates for some of DWR's affected
bonds - at times in excess of 10%.
As DWR and the State Treasurer's Office (the "STO") have worked
to restructure DWR's debt to lower its cost of borrowing, they
have encountered an obstacle. Due to limitations in the AB1X
bond provisions (Water Code Section 80130), certain of these
debt restructurings have been deemed by the Attorney General's
Office to require the use of remaining unused bond authorization
from the original $13.4 billion of bonds authorized in AB1X.
Under the current statute, the only refundings that don't use
new bond authorization are those that can be shown with
certainty to generate debt service savings over the life of the
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bonds. Since the bonds being restructured are variable rate
bonds and future rates are not known with certainty, it is not
possible to demonstrate conclusively that the transactions meet
this savings test. Because DWR is close to exhausting its
original bond authorization, the consequence of this limitation
is that DWR has not been able to utilize the most common and
flexible restructuring transaction known as a "current
refunding". If DWR had the ability to utilize a current
refunding, the old variable rate bonds could be replaced with
new fixed rate bonds that could be structured to meet specific
investor demands on the day of the sale. Instead, if DWR wants
to avoid using its bond authorization to complete these
restructurings, it is limited to what is known as a "conversion"
of the existing bonds to a new fixed interest rate mode. The
mechanics of a conversion are much more restrictive than a
refunding and the result is that DWR is effectively forced to
try to sell bonds that may not have features that meet investor
requirements and as a consequence under current market
conditions it may not be possible to obtain interest rates with
a conversion comparable to those which could be obtained with a
refunding issue.
For example, DWR and the STO entered the market to convert from
variable rate to fixed rate $523 million of bonds on November
20, 2008. Because investors wanted a bond structure that
required features that could not be fully accommodated with a
conversion, DWR was only able to obtain acceptable interest
rates for $173 million of the $523 million. The underwriter of
the bonds, J.P. Morgan Securities, while not confident that
there were buyers for the bonds at any price, estimated that the
minimum rates that would have been required to place the $350
million balance of bonds using the conversion mechanics would
have been at least .45-.50% higher than what could have been
achieved with a more flexible bond structure and would have
approached 6.00%. This equates to an additional interest cost
of $17.6 million over the 14-year remaining life of the bonds.
In addition, variable rate bonds that cannot be remarketed are
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surrendered by bondholders and are purchased by the banks
providing credit enhancement for the bonds. The $350 million of
bonds DWR was unable to convert to fixed rate are now "bank
bonds". The banks will hold the bonds until DWR can
successfully remarket the bonds in fixed rate mode. While the
bonds are "bank bonds", the interest rate on the bonds will be
set at the prime rate (currently 4.00%) plus 2.00% for a total
of 6.00%. If the bonds had been successfully remarketed, DWR
would only be paying a fixed rate of approximately 5.30%. This
equates to an additional $2.4 million per year in additional
interest. Finally, and perhaps most onerous, if the bonds are
not remarketed within six months, DWR will be required to begin
repaying the principal of the bonds, ahead of their scheduled
amortization. This will increase annual debt service costs in
2009 by more than $90 million and by more than $120 million per
year for the following two years until amortized completely.
AB 1550 will give the STO and DWR additional flexibility in
DWR's debt refinancing efforts. This bill will provide DWR with
the flexibility that already exists in most, if not all of the
State's other bond-related programs. The proposed change to the
Water Code Section 80130 will, in addition to the existing
provision allowing for refundings for interest savings, allow
the Department to refund bonds to restructure bonds bearing a
variable interest rate with bonds bearing interest at a fixed
interest rate or to restructure bonds secured by bond insurance
policies or other credit or liquidity facilities which have
adversely affected the marketability or interest rates on such
bonds.
The sponsor of the bill, California State Treasurer, Bill
Lockyer further states, "AB 1550 would give DWR the flexibility
to refund its bonds in situations such as the current one in
which action is required to avoid having variable rate bonds
converted to very high fixed interest rates or held by credit
banks at high interest rates and with accelerated amortization."
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REGISTERED SUPPORT / OPPOSITION :
Support
California State Treasurer (Sponsor)
Opposition
None on file.
Analysis Prepared by : Kathleen O'Malley / B. & F. / (916)
319-3081