Inefficiencies around debt add up quickly

Posted April 13, 2011, at 3:05 p.m.
Joshua Hayward
Joshua Hayward

It’s just a couple of hundred bucks on dinner.

That was the defense line used by the executive director of the Maine Municipal Bond Bank, Robert Lenna, last Friday in a special board meeting where State Treasurer Bruce Poliquin questioned expenses incurred during the closing of a bond issue in New York last fall.

The focus here is not the $8,600 spent on two nights in New York City, including one dinner at Smith and Wollensky (a great steak house, I might add) where they laid out some 2,589 buckaroos. Rather the concern here is the pervasive attitude where public officials or those like Lenna who work for quasi-public entities simply view spending thousands as “a couple of hundred bucks.”

This is what living in a borrowed life style does to us – it defers pain, offers quick highs and dulls the management of the dollar spent.

Point in case, the two nights in New York for two dinners for him and the several employees with him were $1,186 and $2,586 for a total of $3,772. Is that a couple of hundred bucks? Honestly, he is representing Maine municipalities in a state where the median family earns roughly $46,000 per year pretax.

He is facilitating the borrowing process for towns like Machias, my home town, where that kind of money on two dinners is more than a couple of hundred bucks…

In his defense, I am sure he was frustrated to be questioned about spending – something new in the public sector these days.  After four decades of a wild party in the public sector someone woke up and said whoops: we have a $3 trillion municipal bond market (that’s what states and cities owe in public debt), trillions of unfunded state pension and health care liabilities across all states, trillions in  Medicare and Social Security liabilities at the federal level, a $14.5 trillion national debt and so on. You get the picture: these dollars do add up!

The process Poliquin brought to light on Friday was this:

The Maine Municipal Bond Bank (MMBB) currently uses a negotiated sales process and is being asked to consider a competitive sales process. The competitive bond sales process is clearly a lower cost option for the issuer – this is undisputed in 99 percent of studies done and in the historical costs of issued bonds. Yet 80 percent of bonds sold today are through negotiation – hmmm.

The sale of general obligation (GO) and utility revenue bonds should be sold competitively in most cases.

The only time you use negotiated sales is on more complex issues – like TIFs or variable rate bonds or poor credit, unusual size of issue, etc. The rise in complex issues drove the use of the negotiated process – but then this began to overtake the GO and utility revenue  process. Easy margins for Wall Street and big benefits to entities like MMBB.

The only reason Lenna can say “the negotiated process does not increase the cost to Maine municipalities” in this case is because the negotiated deal allows these dinners to be built into the cost!

The combined use of the competitive process and a financial advisor to determine the needs of the issuance would avoid these bloated expenses. I was a junior investment banker in New York in 1996 and saw this first hand.

Let me be clear, underwriters have ZERO incentive to push competitive sales if they can get negotiated deals like Maine has currently.

Competitive vs. negotiated sales of bonds will reduce costs to the issuers by 5 to 75 basis points (in dollars this is $500 to $7,500 per million). It will add up as you see here: the MMBB has $1.4 billion outstanding, which would equate to a potential savings of between $700,000 and $10.5 million. Last year they issued $244 million in bonds – potential savings of between $122,000 and $1.8 million.

Real money to us the people. Money that has to be paid back later.

Joshua Hayward has worked as a financial strategist for 19 years and can be heard Monday mornings at 7 on the George Hale & Ric Tyler Show, 103.9 FM Bangor, 101.3 FM, Augusta. He can be reached at joshua@baldaccigrp.com.

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