Value Delivered:

KNN Public Finance partnered with Swap Financial Group on a series of bond issues for the East Bay Municipal Utility District that combined $550 million in new money and the current and advance refunding of three water revenue and two sewer revenue bonds totaling over $450 million. KNN served as the lead financial advisor, responsible for managing both the analysis and execution of the transactions.
   
Strategic Implementation:

A number of alternative structures were evaluated, including fixed-rate and synthetic fixed-rate structures. As the District's existing portfolio of swaps were all based on LIBOR, a taxable interest rate index, the decision was made early on to focus on either BMA swaps or index bonds. The economics of these latter two approaches would not change if the spread between tax-exempt and taxable interest rates changed, minimizing the District's additional exposure to tax risk. As California auction rate securities (ARS) generally carry a 25 basis point advantage over variable rate demand notes (taking into account the cost of third-party liquidity), the decision was made to issue auction rate securities, to be fixed with a BMA-based swap.

Swap Financial reviewed both the District's own ARS experience as well as the variable rate experience of comparable issuers to develop the appropriate swap index. The percentage rate applied to BMA was customized to best track the actual rate the District was expected to pay on the bonds. This analysis was intended to minimize the risk to the District that the swap would underperform the underlying variable-rate debt, as well as to satisfy tax counsel so the swap would be considered a qualified hedge, allowing the District to use the fixed-rate of the swap as the arbitrage yield in the refunding escrow.

While the District had entered into a number of swaps before our engagement, they did not have a written swap policy. KNN and Swap Financial drafted policies for the District, worked with staff to evaluate the various policy and financial choices embedded in such policies, designed a form of annual reporting, and completed the first series of reports for the District. In addition, the swaps were competitively bid amongst the underwriters on the transaction.
   
Results:

Based on the final numbers, the District achieved $32.8 million in net present value savings or in excess of 7.3% of the refunding bonds. Prior to distribution of the final bid specifications, terms such as counterparty rating and downgrade provisions were negotiated with the proposed counterparties that were more advantageous to the District than prior swaps. The spread between the best and worst bid was approximately 4.7 basis points. The competitive bid resulted in a 1.29 basis point spread over the mid-market rate reported by Bloomberg, after taking into consideration the swap advisory fees. By comparison, the underwriters had proposed in their original responses to the District's RFP a 4 to 5 basis point spread to mid-market for a negotiated swap. We estimate that the competitive process garnered the District approximately $1 million in additional savings.

Managing Director David Brodsly was assisted by KNN's Marian Breitbart and Dan Cox on this transaction.