Financing Tools and Trends

1. Financing Tools and Trends Presented to Government Finance Officers Association of Arizona Summer Training Conference August 6, 2010 By Tom Hocking TLHocking & Associates LLC

2. A Changing Environment What’s IN and What’s OUT IN OUT • $30M – Bank Qualified Financing • $10M – Bank Qualified Financing • Reliance on Bond Covenants & Statutes • GFOA’s Best Practices • Tax-Exempt Bonds • BAB’s • G-23 and MSRB Regulations • Wall Street Reform • Global Recalibration of Ratings • Split Ratings • Institutional Buyers • Retail Buyers • EMMA • NRMSIRs • Oversight and Audit • Annual Reports • Independent Financial Advisors • Advisors/Underwriters • Transparency • “Smoke and Mirrors”

3. Bond Sale Checklist • Development of Financial Management Policy • Projects to be Financed • Types of Bonds to be Issued • Selection of Consultants and Underwriters • Bond Ratings • Method of Bond Sale • Marketing and Bond Sale • Disclosure

4. Development of Financial Management Policy IN OUT “GFOA Best Practices Policies” “Reliance on Bond Covenants and Statutes” • Debt Management Policy: How does Policy address “pay-as-you-go” v. “pay-as-you-use” projects? • Tax Rate Levels • Reserve Fund Levels – Operating and Debt Service • Revenue Coverage Ratios Requirements • Tax/Revenue Forecasting Methodology • Selection of outside Professional Services • Determining bond sale method • Annual Review and Update • Essential to Rating Agencies

5. Projects to be Financed IN OUT “$30 Million-Bank Qualified Financing” “$10 Million-Bank Qualified Financing” • Capital Improvement Program (CIP) • Project Funding Source • Tax v. Revenue Supported • General v. Development related • Revenue Producing Projects • Impact on Taxes/Fees Forecast • On-going operating cost consideration • Project Timing • BQ Eligible Financing • Constant Review and Update of CIP

6. Types of Bonds to be Issued IN OUT Tax-Exempt Bonds New Money/Restructuring Bonds BABs Refunding Bonds • Evolution of BABs & Recovery Zone Bonds • Since inception 1,597 deals totaling $121.9 billion • July - 945 new issues - $27.4 billion - 84 BAB deals - $5.9 billion • Priced off Treasury yields • BAB spreads widened from 170 bps to more than 240 bps since April • Tax-Exempt Bonds • July - 74% of new issues – 669 - 66% of total dollar amount - $18.2 billion - 15% decline from July 2009 • July MMD “AAA” 10-yr yield scale average – 2.63% • Lowest yield in 30 years • Rates are down 59 bps from April high of 3.16% 6

7. Types of Bonds to be Issued, con’t IN OUT BABs – Tax-Exempt Bonds New Money/Restructuring Bonds Taxable Bonds Refunding Bonds • Refunding Bond Considerations • Climate favorable earlier in year • July – declined 15.8% from prior year • Spread between “Muni-to Treasury” widening • Advance refunding escrows less efficient – Negative Arbitrage

8. Selection of Consultants and Underwriters IN OUT Wall Street Reform “GFOA Best Practices” “Regulation and Certification of Advisors” “G-23”, MSRB Regs Unregulated Market • GFOA Best Practices – Sale of Bonds • “Selecting and Managing the Method of Sale” • “Selecting Financial Advisors” • “Selecting Underwriters for Negotiated Bond Sales” • “Pricing Bonds in a Negotiated Sale” • Reforms to MSRB G-23 Rule • Current rule allows a dealer serving as financial advisor to resign and underwrite the bond transaction • SEC Proposal to eliminate G-23 • GFOA recommends independent financial advisor on all bond transactions 8

9. Selection of Consultants and Underwriters, con’t. IN OUT Wall Street Reform “GFOA Best Practices” “Regulation and Certification of Advisors” “G-23”, MSRB Regs Unregulated Market • Wall Street Reforms Affecting Municipal Bonds • Increases the Size and Authority of MSRB • Majority of members must be public and independent • To assist SEC in examinations and enforcement • Authorizes fines on dealers and advisors that fail to submit documents • Increases Authority of SEC in Municipal Market • Creates office to administer rules for rating agencies • Increases staff to administer rules for dealer and advisor practices 8

10. Selection of Consultants and Underwriters, con’t. IN OUT Wall Street Reform “GFOA Best Practices” “Regulation and Certification of Advisors” “G-23”, MSRB Regs Unregulated Market • Financial Advisors and Broker-Dealers • Requires non-broker dealer financial advisors, GIC brokers, placement agents to register with SEC • Subjects municipal advisors to fiduciary duty rule, including exams and professional standards • Requires new regulations to improve transparency, efficiency, fairness and liquidity of municipal trading • Requires new regulations for dealers engaged in swaps and derivatives; establishes a dealer code of conduct and restricts local governments investments in derivatives products 8

11. Bond Ratings IN OUT “Rating Recalibration” “Underlying Ratings” “Split Ratings” “Bond Insurance” • Global Rating Scale – History of the Process • S&P Rating Policy • Moody’s and Fitch Recalibration Ratings • Rating Changes Moody’s Fitch G.O., W/S Rev - “Aa3” – up 1 notch “A+” or higher – up one notch ”A3” – up 2 notches “A” to “BBB-” – up 2 notches “Baa3” – up 3 notches Special Tax - Baa1” – up one notch “AA+ to “BBB” – up 1 notch

12. Bond Ratings, con’t IN OUT “Rating Recalibration” “Underlying Ratings” “Split Ratings” “Bond Insurance” Cross-over Bond Buyers Greater investor universe would increase demand for municipal bonds and thus lower interest rates. Recalibration attempts to rate corporate and municipal bonds on the same scale, therefore, buyers can compare similarly rated bonds. Rating Consistency and Stability Issuers may benefit from longer term rating stability and have more time to address short-term budget or financial issues. Rating system now adopts longer term view of credit qualities and likelihood of default. • Recalibration Effect on Municipal Market EffectWhat it MeansIssuer Impact 11

13. Bond Ratings, con’t IN OUT “Rating Recalibration” “Underlying Ratings” “Split Ratings” “Bond Insurance” Bond Insurance Higher ratings make it harder to justify bond insurance. Bond insurers leverage to dictate terms and price may diminish. In addition to other credit issues facing the bond insurance industry, recalibration has caused decline in number of issues insured.  • Effect of Municipal Market EffectWhat it MeansIssuer Impact 12

14. Method of Bond Sale IN OUT “Independent Financial Advisor” “Adviser/Underwriter” • Selecting Competitive v. Negotiated Bond Sale • Recent changes to State Law • Types of Projects to be Financed • Type of Bonds to be Sold • Timing of Sale • Bond Ratings • New Money v. Refunding/Restructuring • What is the best method? 12

15. Competitive v. Negotiated Bond Sales Competitive Negotiated • Bonds are investment grade • Low investment grade or non-rated • Lack of credit enhancement or prohibitive costs • “Vanilla” type debt/bond structure • General Obligation Bonds • “Story” bond structure • Excise Tax Revenue Bonds • New or unpredictable revenue stream • Strong and predictable revenue stream • Target market bonds to certain segment (i.e. local retail) • High Debt Service Coverage • Variable rate structure • Stable Market • Volatile Market 

16. Marketing and Bond Sale IN OUT “Pricing Transparency” “Retail Orders” “Split Coupon Maturities” “Repricing” “Institutional Sales” “Fixed Coupon” • Competitive Sale Efficiency • Electronic bidding – ParityTM • Review “Winning Bidder” submittal • Negotiated Sale Characteristics • Time consuming process • Gather data of comparable bond sales

17. Marketing and Bond Sale, con’t IN OUT “Pricing Transparency” “Retail Orders” “Split Coupon Maturities” “Repricing” “Institutional Sales” “Fixed Coupon” • Develop Bond Sale Marketing Plan • Retail investor demand increasing for tax-exempt bonds • Taxable BABs more popular with institutional investors • On the Sale Date… • Order Period – Price transparency • Priority to Retail Orders • Split Coupon Maturities • Post Sale Analysis 16

18. Comparison of Types of Bond Sales Is there an interest rate difference between Competitive and Negotiated Sales? • Survey of Recent Arizona Bond Sales • Survey Methodology & Limitations • Period of Bond Sales • Survey Sample • Survey Limitations & Characteristics • Survey Measurements • Interest Rate Comparability 17

19. Indices Used to Measure Market Interest Rates • Bond Buyers Index (“BBI”) • Published weekly by The Bond Buyer • 11-Bond Index • 20-Bond Index • Revenue Index 20

21. Indices Used to Measure Market Interest Rates • Municipal Market Data (“MMD”) • Published Daily • Based on G.O. Bond Scale • Breakdown by Bond Rating • Used as a Benchmark for Pricing by Underwriters

23. Summary of Survey Sample Non-Bank Bank QualifiedQualifiedTotal No. of Issues 13 9 22 Competitive Sales 3 2 5 Negotiated Sales 10 7 17 With F.A. 6 0 6 Without F.A. 4 7 11 Ratings AAA 3 0 Insured 4 6 AA 6 2 A 0 1

24. Survey Results Bond Issue Interest Rates Compared to MMD Interest Rates OVERALL RESULTS • Competitive Sales v. Negotiated Sales • All Sales - Competitive Sales interest rates were approximately 20 basis points lower than Negotiated Sales interest rates • Competitive – 31 bps higher than MMD scale rates (5) • Negotiated – 49 bps higher than MMS scale rates (17) • Non-Bank Qualified - Competitive Sales interest approximately 30 basis points lower than Negotiated Sales interest rates • Competitive – 14 bps higher than MMD scale (3) • Negotiated – 45 bps higher than MMD scale (10) • Bank-Qualified – No significant difference • Competitive – 57 bps higher than MMD scale (2) • Negotiated – 55 bps higher than MMD scale (7)

25. Survey Results Bond Issue Interest Rates Compared to MMD Interest Rates OVERALL RESULTS • Negotiated Sales with and without Financial Advisor • Non-Bank Qualified – Interest Rates were approximately 13 bps lower without F.A. than with F.A • With F.A. – 50 bps higher than MMD scale (6) • Without F.A. – 37 bps higher than MMD scale (4) • Bank Qualified – No issues with F.A. • Without F.A. – 55 bps higher than MMD scale (7)

26. Survey Results Factors that May Affect Results Ratings Range within Each Category Type of Bonds – Non G.O. Bonds Affect of Underwriting Spread on Pricing Weighted Average Maturity of Bonds 24

27. Survey Results What the Study does not Include Analysis of Underwriting Costs Spread v. Discount Analysis of Underwriter’s Discount for Negotiated Bonds with and without Financial Advisor Analysis of Costs of Issuance between Competitive and Negotiated Bond Sales Analysis of effects of Weighted Average Maturities on Spread Difference to Index

28. Disclosure IN OUT “EMMA” “SEC/MSRB” Frequent Disclosure “NRMSIRS” “MSRB” Annual Reports • EMMA Process • Continuing Disclosure Undertaking • Material Events List • Emerging SEC/MSRB Role in Disclosure • Greater authority over Municipal Market • New regulations to impose disclosure • “Scenario testing” for Swaps & VRDN’s • Quarterly disclosures • Greater transparency • Audit and Enforcement • SEC stepping up enforcement efforts • BAB’s Audits

29. Conclusions It’s a New Era in Public Finance Greater Regulation and Oversight on Issuers and Participants More Frequent Disclosure Stress Test Analysis Merging with Corporate Debt and Disclosure Regulations Greater Transparency in Pricing

30. Questions?