City converts all debt to private, risking credit rating, transparency


Robert Smith

Robert Smith


Jeff Turnage

Jeff Turnage


David Armstrong

David Armstrong



Yue Stella Yu



Columbus may lose its credit rating by the end of the month due to delayed disclosure of its Fiscal Year 2019 audit report, according to an Oct. 1 press release from Moody's Investors Service, a rating agency that assesses the city's borrowing credibility each year.


However, just days after that release, a city decision to refinance its only publicly-rated debt as a private bond made Columbus even having a credit rating irrelevant, city officials said.


Dubbed a "cost-saving" measure, the city of Columbus has refinanced its only publicly-offered debt as private placement -- a financial mechanism that typically leads to a lower cost of issuance but requires less disclosure of financial information to its bondholders. The council unanimously voted Oct. 6 to refinance roughly $5 million in debt -- the remaining outstanding amount of a $8.9-million general obligation bond issue from 2010 for street paving -- as private placement to pursue a lower interest rate. The new interest rate will be a fixed 1.98 percent, much lower than the 4-percent interest rate, at which the city currently pays, The Dispatch reported.



The refinancing, city officials said, will save $310,000 in interest payments and $40,000-$50,000 in cost of issuance.


By keeping all its debt bonds privately-placed, Mayor Robert Smith announced last week that the city no longer needs a credit rating -- a measure that informs the public and investors the risk of the city's payback ability.


Smith said in an Oct. 10 statement that is not the reason why the city refinanced its bonds as private placement. Instead, he said, retroactively rating all the city's debts does not make "economic sense." He promised the city will pursue a rating when it returns to the public market.


"If it makes economic sense to secure a rating on future bonds of the city, you can be assured that the city will seek a rating on those bonds," he said.


While city officials say the move will save the city hundreds of thousands of dollars in issuance, interests and rating fees, studies and investment experts say that private placement bonds could lead to reduced transparency under less stringent disclosure requirements, whereas publicly-offered debt offers more investor protection.


It is not uncommon for municipalities to pursue private placement bonds, said Dennis Hunt, head of public finances and vice president of Stephens Capital, Inc., an Arkansas-based investment banking firm. However, it is very "rare" for a municipality to have all its debt privately placed, he said. For example, both the city of Starkville and Lowndes County hold a mix of publicly-offered and privately-placed debts, Starkville's Alderman Sandra Sistrunk and County Administrative Officer Jay Fisher told The Dispatch.


"Of the issuers we deal with, it is extremely rare (to have all its debt privately placed)," Hunt said. "If you looked at all issuers in the United States, it's probably ... less than 5 percent (of the issuers) have exclusively privately placed debt."



Publicly-rated versus privately-placed


When issuing municipal bonds, a city can either issue the debt to investors on the public market -- including individuals and institutional investors such as insurance companies, banks or corporations -- or directly issue them to private investors, who are usually institutional investors with industry knowledge, according to a Stanford University study in 2017.


The city's bond issuance process is the same regardless of whether the bond is publicly-offered or privately placed, City Attorney Jeff Turnage told The Dispatch. A municipal bond dealer, or "underwriter," often reaches out to dozens of potential bond buyers on behalf of the city and takes bids from them, said Lindsey Rea, managing director of investment banking firm Raymond James' Mississippi branch, which served as underwriter for the city's private placement bond issuance.


The underwriter privately determines the lowest and best bid and presents the bid to the city, she said. The council then votes publicly on the issuance, and the information disclosed to the public -- including the interest rate and the principal and interest payment schedule -- is the same as done in public offerings, she said.


However, publicly offered bonds are subject to more stringent rules to disclose financial information to investors, which offers them more protection, according to studies and investment experts.


With publicly-offered bonds, governments are required to disclose to its investors certain financial information, such as the purpose of the issuance, how the debt will be repaid and the financial standing of the issuer, according to the website of Municipal Securities Rulemaking Board (MSRB), an organization that regulates the municipal bond market. They are also required to make "continuing disclosure," which means they have to disclose after the issuance certain operating information, notices about specific events affecting the issuer, the debt or the project the money is used for, according to the website.


The disclosure offers public investors vital protections, said Mark Kim, chief executive officer of MSRB.


"When state or local governments issue bonds publicly, there are important investor protections in place to ensure transparency," Kim told The Dispatch in a statement last week. "(MSRB) operates the free Electronic Municipal Market Access (EMMA) website as the official platform through which state and local governments disclose important information to investors and the market. This information includes annual financial disclosures and periodic disclosures of events that could have a material impact on a state or local government's ability to repay investors."


With private placement bonds, however, issuers often also do not have to go through an as stringent disclosure process -- such as continuing disclosure -- because the debt is generally sold to only one or two investors who are "sophisticated" institutions such as banks, Hunt said. The cost of issuance is therefore lower than what the issuer would pay on publicly-offered bonds, he said.


"The mere fact that you don't have to do ... disclosure, which is a requirement under most public offerings, that is eliminated." Hunt said.


Municipalities usually find private bonds "attractive" because of "fewer disclosure requirements and issuance costs," according to the Stanford University study, but that can also bring about transparency concerns.


"Reduced disclosure requirements are of particular concern, because information about a municipality's debt affects its creditworthiness as determined by ratings agencies and potential and current investors," the study states.


Another study published by Moody's in 2014 identified a growing number of municipalities' use of private placement bonds over the years. The trend and the lack of timely disclosure that followed are alarming, the study states.


"(I)ssuers have not provided consistent disclosure of the details of private financings," the study says. "Even in cases in which a private financing does not include provisions that increase risks to other creditors, absence of disclosure undermines proper risk assessment."


In response to the concerns voiced by local residents on social media, Turnage told The Dispatch Oct. 9 he does not have any concern regarding the city's financial transparency or loss of its credit rating.


"The public will still have our audit report. They can review that," he said. "I'm not too worried about that."


State law requires municipalities to submit their audit reports to the state auditor's office within the calendar year following the end of each fiscal year. Yet, the city's audit reports for FY 2018 and 2019 have suffered delays, and findings from the 2018 audit resulted in former Chief Financial Officer Milton Rawle being charged with embezzling $290,000 in city funds.



Credit rating


The city's decision to refinance the bonds also came days after Moody's threatened to withdraw the city's credit rating for insufficient information. The rating agency relies on the city's audited financial information each year to reassess the rating, Moody's spokesperson David Jacobson told The Dispatch. Columbus officials have not disclosed the city's Fiscal Year 2019 audit report to the agency, he said, and failure to submit it by the end of October will lose the city its credit rating.


"If it does not give us this data by the end of the month, we are going to have to withdraw the rating because we don't have data that we need to properly see if the rating is correct," Jacobson said.


Credit rating agencies, such as Moody's, regularly assign ratings to municipal debt issuers like Columbus. The ratings help current and potential bondholders in the public market determine the risk level of the city's repayment ability. Downgrades in the rating could affect the city's borrowing capacity as well as interest rates, Jacobson said.


Moody's rates cities' credit risk level on tiers Aaa, Aa, A, Baa, Ba, B, Caa, Ca, and C. Each category has three levels. Due to a plunge in its general fund balance and mounting debt, Moody's downgraded Columbus' rating from A1, the highest rating in the "upper-medium low risk" category, to A3 in 2018. That is three notches lower than the median rating for a city in the United States, which is Aa3, Jacobson said.


Chief Operations Officer David Armstrong told The Dispatch the disclosure process is delayed due to various reports the city needs to file during the COVID-19 pandemic. Turnage told The Dispatch Oct. 9 the FY 2019 audit report was under review by the State Auditor's Office.


It is not uncommon for a rating agency to withdraw credit ratings for municipal issuers and restore the ratings when they disclose the audited finances, Hunt said.


"Oftentimes, the city simply will wait until they get their audit," he said. "They will turn in the audit to the rating agency and then the rating agency restores the rating for that particular municipality."


Municipalities without a credit rating are usually faced with higher interest rates, Hunt said. But compared to debt issuers, bondholders are more likely harmed by the removed rating, because an unrated debt is hard to trade if they are trying to sell the bonds, he said. If the withdrawal is a recurring problem, he said potential bondholders on the public market will also likely be less incentivized in the long run to invest in debts issued by the municipality without knowing the risk.


"If bondholders realize that this is a recurring situation," he said, "then their willingness to buy bonds from that issuer in the future is probably impacted."


Smith said Oct. 10 he was confident the city's credit rating would not have dropped if the city hadn't switched to privately-placed bonds.


"The city had no reason to believe that the 2010 Bonds were going to be downgraded," he said. "... There is no need to retroactively rate any of the city's bonds as that would not benefit the city in any way."



Yue Stella Yu is the local government reporter for The Dispatch. Reach her at 662-328-2424 (ext 106) or follow her on Twitter @StellaYu_Mizzou



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