Five years ago Gilroy Unified School District needed immediate cash and trustees approved borrowing $2.4 million through Capital Appreciation Bonds to get it. Now GUSD will pay $28.2 million for that privilege, due and payable by 2032.
GUSD is one of the hundreds of districts across the state that weathered chronic underfunding from the state by borrowing millions through CABs, and although a relatively small percentage of GUSD's bond portfolio includes CABs – 4.7 percent – the tax-deferred interest continues to grow and the payoff will equal nearly 12 times the loan amount.
School districts receive money from CABs quickly, but the downside is that they have deferred, compounding, tax-free interest and a longer payback period.
GUSD Assistant Superintendent Rebecca Wright confirms GUSD's use of CABs.
“Of the district's $49.9 million portfolio, the District issued $2.4 million in Capital Appreciation Bonds,” Wright said. “The interest cost on the CAB portion is $28.2 million.”
As for repayment, Wright explained that though repayment is over a longer period, there is a “tax cap” for the amount charged to taxpayers.
“GUSD's $2.4 million in CABs will mature in years 2029 through 2032 and the payments have a tax cap of $60 per $100,000 to be paid by taxpayers every year until 2032 when they will be paid off.”
The District's CABs were sold by G.K. Baum Company. The fee was $25,868. These bonds cannot be paid off early because they are the “non-callable” type of CABs. Callable CABs have an even higher repayment rate, according to Wright.
Wright, who was not with GUSD at the time the 2008 board approved the use of CABs, also explained that the money from the CABs was specifically used for “ongoing facilities projects”, upgrades and renovations promised to the taxpayers; and the majority of the money was used for the construction of Christopher High School to relieve the imminent overcrowding of Gilroy High School.
Christopher High School Principal John Perales confirms that “the school (CHS) now enrolls 1,656 students, and expected enrollment for the 2013-2014 school year is approximately 1,700-1,800 students. When the school opened three years ago, that number was just 650.”
“As voters were told during the 2008 bond election, the bond is structured so that repayment of all the Current Interest Bonds (CIBs) and CABs can be made with the revenue generated by the projected tax rate of $60 per $100,000,” Wright said. “At the time of the 2008 bond election, GUSD taxpayers were still paying the $72 per $100,000 of AV Measure J tax. In order to avoid taxing property owners twice, the District sold CABs to fund a Capitalized Interest Fund which then paid the debt service on the Series A bonds during the time the Measure J tax rate was still in effect. Once the Measure J tax rate expired, the County began levying the Measure P bond tax rate in 2011 to make the Series A bond debt service payments starting in 2011-12.”
The Measure P question for voters on the Nov. 4, 2008 ballot read: “MEASURE P: For construction of Christopher High School, construct and modernize aging classroom, libraries, fire safety and security systems and school buildings for safe, secure and improved learning environments, upgrade electrical, heating, ventilation, roofing, plumbing, and technology systems and computer equipment, shall Gilroy Unified School District issue $150 million in bonds at legal interest rates, with mandatory audits, independent citizens' oversight, no funds for administrative salaries, and bond tax rates estimated to be lower than the combined existing tax rate?"
Lynn Paquin is the executive vice-president of G.K. Baum Company and was part of the 2008-2009 discussions with the board about the possible bond structuring scenarios.
“In June of 2008, the GUSD board held discussions about various bond structuring options. By February of 2009 the market had changed dramatically and discussions resumed focusing on reducing the overall borrowing cost, but there were no specific discussions about CABs.”
“After passage of Measure P, the additional discussion led to an improved structure – fewer CABS, term was shortened from 40 years to 24 years, projected total principal and interest payments for Series A was reduced from the projected $156 million (back in June) to the amount of bonds being sold in February of $112 million.” Wright said.
Write added, “At the time, the political discussion for the board focused on keeping the promise not to double tax taxpayers. They were still paying the measure J $70.50 per $100,000, and the board was determined not to add $60 more which would have made it $130.50 per $100,000 for the three years it took Measure J to expire and Measure P to begin. The board discussions were public, and had someone from the public said ‘we need to discuss alternatives’ we would have.”
When asked specifically if the 2008 board understood the longterm and high repayment for the CABs, Lynn did not answer directly, but reiterated that the focus was on “keeping the campaign promise of not double taxing the taxpayers” and Wright added “we know more about them (CABs) now than they (the 2008 board) did then.”
Write also added, “And consider the time we were in, the market and the economy made it so the board felt like asking taxpayers to pay $130.50 per $100,000 would not be an option.”
All but one of the 2008 Gilroy Unified School District board members voted to approve issuing Capital Appreciation Bonds
Trustee Mark Good voted no to using CABs because, according to the Feb. 5 2009 Board Meeting minutes, Good questioned various incomplete sections of the contract.
The minutes also reflected that Deputy Superintendant Palacios explained that the completion of those blanks in those sections would depend on the bond market and would be completed at the time of sale. The motion was made by Francisco Dominguez and seconded by Fred Tovar.
The 2008 GUSD board that voted for the CABs were Javier Aguirre, Denise Apuzzo, Rhoda Bress, Tom Bundros, Francisco Dominguez and Fred Tovar.
State Superintendant of Public Instruction Tom Torlakson and State Treasurer Bill Lockyer issued a letter to school districts across California on Jan. 17 encouraging districts to impose a moratorium on issuing CABs. This letter was then forwarded to the GUSD board for review, according to Wright. In the letter, Torlakson and Lockyer wrote, “In too many cases, CAB deals have forced taxpayers to pay more than 10 times the principal to retire the bonds. Also, the transactions have been structured with 40-year terms that delay interest and principal payments for decades, resulting in huge balloon payments and burdens on future taxpayers that cannot be justified. We believe your district and every other district in the state should impose a moratorium on issuing CABs. The moratorium should remain in effect until the Governor and Legislature decide on reforms in the current legislative session.”
GUSD subsequently began looking for a financial advising firm to “make sure the board stays informed on all future decisions,” said Wright.
At their Jan. 24 meeting, the GUSD board publically interviewed the final two of 10 candidates to become the district’s pricing consultant and/or financial advising firm. The final two candidates were Dale Scott & Company and Isom Advisors. After hearing presentations from both firms, the board voted to go with Isom Advisors pending reference checks. If the references do not come back positive, the board agreed to go with Dale Scott & Company instead. Both Dale Scott & Company and Isom Advisors have extensive experience providing school districts with financial guidance.
“We want to make sure now and in the future that we are fully informed about the district’s financial decisions,” said Wright. “We want to do everything we can to make sure we are always saving as much of the tax payers money as possible.
The Torlakson/Lockyer letter also says that, "Too frequently, board members and the public have not been fully informed about the costs and risks associated with CABs.”
“In some cases," the letter continues, "board members have reported they were not even aware they approved the sale of CABs.
G.K. Baum Company acts as GUSD’s underwriting firm and makes financial transactions for the district for a fee. Wright suggested that by also hiring a neutral financial advising firm they can make sure there is “another set of eyes looking over each of our financial decisions.”
Controversy surrounding CABs dates back decades and applies to school districts across the nation. In the 1990s, the state of Michigan banned these types of bonds entirely. Though Lockyer is clearly opposed to the risky CABs, he is not willing to follow Michigan's lead. Instead, he supports a series of reforms such as capping the repayments of debt for school districts to a maximum of four times the amount borrowed.
Lockyer insists CABs are an unsustainable method of acquiring funding to maintain the quality of education infrastructure. Lockyer has been outspoken about the downsides of CABs, comparing them to the same financial vehicles that caused the nation's housing bubble and subsequent debt crisis.
“They are terrible deals,” Lockyer said. “The school boards and staffs that approved of these bonds should be voted out of office and fired.”
Gilroy registered investment advisor Ron Pray of Ron G. Pray Co. echoed Torlakson and Lockyer's concerns. “CABs are a creative way to try and finance things in the public sector and they have not been used much until fairly recently,” Pray said. “I think it is right on – they (CABs) are the ultimate in kicking the can down the road.”