OACUBO 2018 Impact on the Municipal Bond Market: Tax Reform Act of 2017 and LIBOR Changes. April 26, 2018

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1 OACUBO 2018 Impact on the Municipal Bond Market: Tax Reform Act of 2017 and LIBOR Changes April 26, 2018

Goff specializes in structuring and executing hedging products for tax-exempt entities such as healthcare, higher education and not-for-profit borrowers as well as the power and utilities industry.

2 2018 Panel Adam Goff Adam Goff is a Managing Director in the Derivative Products Group at PNC Capital Markets. For the past 13 years, he has provided interest rate risk management strategies to PNC s corporate and institutional clients. Mr. Goff specializes in structuring and executing hedging products for tax-exempt entities such as healthcare, higher education and not-for-profit borrowers as well as the power and utilities industry. He also works with real estate, general corporate and high net worth borrowers on interest rate hedging projects. His previous roles with PNC include debt capital markets, loan syndications and equity derivatives sales and trading. Prior to joining PNC, Mr. Goff worked with Federated Investors, Inc. in Pittsburgh as a mergers and acquisitions analyst and later as a capital markets research analyst focusing on quantitative investment strategy and product development. Mr. Goff holds an MBA in Finance from Carnegie Mellon University and a Bachelor of Science in Accounting (Summa Cum Laude) from the University of Pittsburgh. Samuel M. Gruer Sam Gruer is a Managing Director at Blue Rose Capital Advisors. He has over 30 years of municipal market experience. Prior to joining Blue Rose, Mr. Gruer co-founded Cityview Capital Solutions, served as Director of derivative structuring at Deutsche Bank, and worked in the municipal departments at JPMorgan Chase, Prudential Securities, Goldman Sachs, and Morgan Stanley. OACUBO 2018 Slide 1

2018 Panel Marc Kamer Marc, a partner in the Columbus, Ohio office, handles a wide variety of project financings for traditional governmental purposes, like water and wastewater projects including

3 2018 Panel Marc Kamer Marc, a partner in the Columbus, Ohio office, handles a wide variety of project financings for traditional governmental purposes, like water and wastewater projects including pooled loan financings, roads and bridges, and tax-exempt financings for 501(c)(3) organizations such as healthcare providers, institutions of higher education and private K-12 schools. His experience also includes authoring legislation relating to finance and construction initiatives and amendments to modernize existing finance and construction programs. He devotes a substantial amount of his time to economic development (tax incentives, tax abatements and tax increment financing), as well as industrial development projects and energy-related transactions. Marc has represented parties on P3 transactions including design-build-finance-operate-maintain agreements and related alternative project delivery/finance models for infrastructure projects. In addition to representing governmental bodies and investment banks, he represents lenders on a variety of financing transactions, many of which are related to project finance the direct purchase of tax-exempt bonds or in connection with credit enhancements and liquidity facilities for issues of tax-exempt bonds. He is Peer Review Rated AV in Martindale-Hubbell. OACUBO 2018 Slide 2

Outfitters (campus store), BG1 Card operations, the Student Union, BGSU Dining and Purchasing.

4 2018 Panel Brad K. Leigh Brad currently serves as BGSU s Executive Director of Business Operations. Brad joined BGSU in May of 2008 and has oversight and responsibility for the University s cash, debt and investments, Business Operations, Risk Management and Environmental Health and Safety, Falcon Outfitters (campus store), BG1 Card operations, the Student Union, BGSU Dining and Purchasing. Prior to BGSU, Brad spent more than sixteen years with the Northeastern Ohio Medical University (NEOMED) serving in a variety of financial and business operation positions. Brad s professional background includes experience working in various auxiliary units, facilities, accounting, and seven years of law enforcement while serving in Army. Brad has an undergraduate degree in Finance and a MBA from Kent State University. Stephen R. Storck Steve is currently working as an independent contractor for The Registry, a firm which placed retired higher education officials in interim positions. His initial assignment is serving as the Interim CBO for Xavier University. Prior to that he served as the Vice President & CFO at Ashland University. He served as Sr. Associate Vice President for Finance and Administration for Kent State University and as CFO for Otterbein University, Heidelberg University, and Lycoming College. His education includes a Ph.D. in Higher Education Administration from Ohio University, an MBA from York College, and a B.S. in Accounting from King s College. Additionally, he is a graduate of the University of Kentucky s College of Business Management Institute and is a Certified Public Accountant. OACUBO 2018 Slide 3

5 Impacts on the Municipal Bond Market: Tax Reform Act of 2017 and LIBOR Changes Tax Bill Update Limits Tax-Exempt Refinancing Reduction In Corporate Tax Rates Results In Increase Interest Rate for Some Borrowers Overall Impact on Market LIBOR Changes Are Coming! OACUBO 2018 Slide 4

6 Tax Cuts and Jobs Act Provisions and Implications on the Municipal Market OACUBO 2018 Slide 5

7 Tax Bill Eliminated Tax-Exempt Advance Refundings What is a tax-exempt advance refunding? A tax-exempt refinancing transaction (typically high to low refinancing for debt service savings) New bonds are issued. Proceeds of the new bonds are then invested. Invested proceeds pays debt service on outstanding bonds to the call date. On the call date, invested proceeds used to pay-off old bonds. There is a 90-day separation between the issue date of the new bonds and the call date of the old bonds. OACUBO 2018 Slide 6

8 Case Study 1 Xavier University No Advance Refundings Now What? Case Study 1 Xavier University $44,405,000 Outstanding 2010 Bonds Average Interest Cost 4.996% 2010 Bonds not callable until 2020 Current Interest Rates would Permit Xavier University to match the duration (weighted average maturity) and realize significant present value savings But Tax Reform Act of 2017 Eliminates Tax-Exempt Advance Refundings OACUBO 2018 Slide 7

9 Case Study 1 Xavier University (cont d) No Advance Refundings Options? Taxable Rate Advance Refunding Pros and Cons Cinderella Bonds Start out taxable rate and converts to tax-exempt status upon the occurrence of a condition (refunding within 90 days of the call date) Combination of Taxable and Tax-Exempt where the taxexempt rate is used to fund new-money projects instead of equity that would have been used to fund those projects; equity and taxable bonds used for advance refunding OACUBO 2018 Slide 8

10 Post-Tax Reform Refunding Alternatives OACUBO 2018 Slide 9

11 Tax Bill Eliminated Advance Refundings Other Options Generally Available to Borrowers/Issuers Just Wait Negotiate with Bond Investor Sell the Optional Redemption Right OACUBO 2018 Slide 10

12 Tax Bill Eliminated Advance Refundings What About Future Bond Issues? Options Shorter Call Period Make-Whole OACUBO 2018 Slide 11

13 Tax Bill Reduced Corporate Tax Rates Impact on Direct Placement Bonds With Banks Margin Rate Factor or Gross-Up of Interest Rate General lack of mutuality Reissuance? Yield Test -Annual yield change by more than the greater of 25 basis points or 5% of the annual yield of the modified bond OACUBO 2018 Slide 12

Tax Bill Reduced Corporate Tax Rates 2017 Tax Act Reissuance Determination Margin Rate Factor Adjustment For Tax-Exempt Bonds Documents Provide for Change to Interest Rate SHALL occur if Corporate

14 Tax Bill Reduced Corporate Tax Rates 2017 Tax Act Reissuance Determination Margin Rate Factor Adjustment For Tax-Exempt Bonds Documents Provide for Change to Interest Rate SHALL occur if Corporate Tax Rate Changes Effective Upon Notice Documents Provide Bank MAY elect to Change the Interest Rate If Corporate Tax Rate Changes (and Issuer/Borrower Has No Prepayment Right) Documents Provide Change to Interest Rate SHALL occur if Corporate Tax Rate Changes Effective January 1, 2018 Documents Provide Bank MAY elect to Change the Interest Rate If Corporate Tax Rate Changes (and Issuer/Borrower Has Prepayment Right) OACUBO 2018 Slide 13

15 Tax Bill Reduced Corporate Tax Rates Bowling Green State University Direct Bank Placement Balance LT borrowing needs for strategic purposes Replaced Letters of Credit Series 2012, 2014 and 2017A OACUBO 2018 Slide 14 14

16 Tax Bill Reduced Corporate Tax Rates Margin Rate Factor Margin Rate Factor Language if corporate tax rate decreases, the interest rate shall increase by multiplying the interest rate by a fraction: 1 New Corporate Tax Rate 1 Corporate Tax Rate in effect on Issuance Date = = % OACUBO 2018 Slide 15 15

17 Tax Bill Reduced Corporate Tax Rates Sample Language from Indenture In the event of a change in the Corporate Tax Rate (as hereinafter defined) during any period where interest is accruing on a tax-exempt basis causes a reduction in the tax equivalent yield on the Bond, the interest payable on the Bond would be increased to compensate for such change in the effective yield to a rate calculated by multiplying the bond interest rate by the ratio equal to (1 minus A) divided by (1 minus B), where A equals the Corporate Tax Rate in effect as of the date of the corporate tax rate adjustment as announced by the IRS and B equals the Corporate Tax Rate in effect on the date of the original issuance of the Bond. The Corporate Tax Rate means the highest marginal statutory rate of federal income tax imposed on corporations and applicable to the Purchaser (expressed as a decimal). OACUBO 2018 Slide 16 16

18 Case Study 2-Bowling Green State University Margin Rate Factor Case Study BGSU issued Series 2017A, $35M, fixed rate 1.60% If adjusted, our new fixed rate would be 1.945%, a 21% increase and we would pay an additional 120K in interest each year for the 4 year term Example: a 3.5% rate becomes 4.25% Example: 5% becomes 6.07% OACUBO 2018 Slide 17 17

19 Case Study 2 BGSU (continues) Margin Rate Factor Mitigate Impacts BGSU language was quite vague We tried to maintain original covenants in our negotiations with banks Banks are willing to consider the relationship Current refunding is an option Where is the language generally found Indenture, BPA, Continuing Covenants and Bond Form Negotiate the terms OACUBO 2018 Slide 18 18

20 Municipal Issues Pre-and Post-Tax Reform Number of Issues Total Par Amount Source: Bloomberg MSRC data as of April 2 nd, OACUBO 2018 Slide 19

21 Federally Tax-Exempt Municipal Issues Preand Post-Tax Reform Number of Issues Total Par Amount Source: Bloomberg MSRC data as of April 2 nd, OACUBO 2018 Slide 20

22 Municipal Private Placements Pre-and Post- Tax Reform Source: Bloomberg MSRC data as of April 2 nd, OACUBO 2018 Slide 21

23 LIBOR Changes LIBOR London Interbank Offered Rate Measures wholesale interbank lending rates Primary use: Borrowing Rate Use in Derivatives and other financial instruments Resets in London every day U.S. Dollars, Euros, Pounds, Yen, Swiss Franc Overnight, 1-week, 1,2,3,6-month, 1-year OACUBO 2018 Slide 22

24 LIBOR Changes July 2017, the regulator of LIBOR indices, announced a plan to phase out LIBOR by the end of Why is LIBOR Phasing Out? Markets supporting LIBOR are no longer representative of current conditions. Example, one currency-tenor in 2016 only had 15 observable transactions in Scandals? OACUBO 2018 Slide 23

25 LIBOR Changes SOFR was selected as the best LIBOR alternative. Reflects the cost of borrowing cash overnight secured by U.S. government debt Fully transaction-based Robust underlying market The Fed began publishing the SOFR rate on 4/3/18 The CME will start trading SOFR futures on 5/7/18 OACUBO 2018 Slide 24

26 LIBOR Changes The composition of SOFR differs from that of LIBOR, and it will not work to simply to substitute LIBOR with SOFR Loan documentation generally provides that if LIBOR is no longer available, the interest rate will be based on the Prime Rate or some other rate that generally runs higher than LIBOR. Derivatives documentation does not provide for a fallback rate if LIBOR ceases. OACUBO 2018 Slide 25

27 LIBOR Changes Most expect a slow transition to SOFR (?) over the next several years no big bang. Broad, general fallback provisions may be added in meantime ISDA is working on amendments to the 2006 ISDA definitions and a new protocol to facilitate amendments OACUBO 2018 Slide 26

Recent History 2013 International Organization of Securities Commissions Financial Stability Oversight Council 2014 Financial Stability Board 2017

Recent History 2013 International Organization of Securities Commissions Financial Stability Oversight Council 2014 Financial Stability Board 2017 Reference Rates 2013 Recent History International Organization of Securities Commissions published a set of principles for financial benchmarks stating that benchmark rates should be: Anchored in observable