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HomeMy WebLinkAbout(2013, 05/14) - F-6 - AdoptedDEBT MANAGEMENT POLICY A. PURPOSE F-6 The purpose of this policy is to establish guidelines and parameters for the effective governance, management and administration of City debt. B. BACKGROUND The City is committed to fiscal sustainability by employing long-term financial planning efforts, maintaining appropriate reserves levels and employing prudent practices in governance, management, budget administration and financial reporting. Debt levels and their related annual costs are important long-term obligations that must be managed within available resources. A disciplined thoughtful approach to debt management includes policies that provide guidelines for the City to manage its debt program in-line with those resources. Therefore, the objective of this policy is to provide written guidelines and restrictions concerning the amount and type of debt issued by the City and the ongoing management of the debt portfolio. This debt management policy is intended to improve the quality of decisions, provide justification for the structure of debt issuance, identify policy goals and demonstrate a commitment to long-term financial planning, including a multi-year capital plan. Adherence to a debt management policy signals to rating agencies and the capital markets that a government is well managed and should meet its obligations in a timely manner. C. CONDITIONS AND PURPOSES OF DEBT ISSUANCE 1. Acceptable Conditions for the Use of Debt The City believes that prudent amounts of debt can be an equitable and cost- effective means of financing major infrastructure and capital project needs. of the City. Debt will be considered to finance such projects if: a) It meets the City's goal of distributing the payments for the asset over its useful life so that benefits more closely match costs for both current and future residents. b) It is the most cost-effective funding means available to the City, taking into account cash flow needs and other funding alternatives. 1 F-6 c) It is fiscally prudent and meets the guidelines of this Policy. Any consideration of debt financing shall consider financial alternatives, including pay-as-you-go funding, proceeds derived from development or redevelopment of existing land and capital assets owned by the City, and use of existing or future cash reserves, or combinations thereof. 2. Acceptable Uses of Debt The City will consider financing for the acquisition, substantial refurbishment, replacement or expansion of physical assets, including land improvements. The primary purpose of debt is to finance one of the following: a) Acquisition and or improvement of land, right-of-way or long-term easements. b) Acquisition of a capital asset with a useful life of 3 or more years. c) Construction or reconstruction of a facility. d) Refunding, refinancing, or restructuring debt, subject to refunding objectives and parameters discussed in Section E. e) Although not the primary purpose of the financing effort, project reimbursables that include project planning design, engineering and other preconstruction efforts; project -associated furniture fixtures and equipment; capitalized interest, original issuer's discount, underwriter's discount and other costs of issuance: f) Interim or cash flow financing, such as anticipation notes. g) Refinancing or advance funding of City pension obligations, but only to the extent significant financial benefit is achieved and limited by Section E. 3. Prohibited Uses of Debt Prohibited uses of debt include the following: a) Financing of operating costs except for anticipation notes with a term of less than one year. b) Debt issuance used to address budgetary deficits. c) Debt issued for periods exceeding the useful life of the asset or projects to be financed. 2 F-6 D. USE OF ALTERNATIVE DEBT INSTRUMENTS The City recognizes that there are numerous types of financing structures and funding sources available, each with specific benefits, risks, and costs. All potential funding sources are reviewed by management within the context of the Debt Policy and the overall portfolio to ensure that any financial product or structure is consistent with the City's objectives. Regardless of what financing structure(s) is utilized, due -diligence review must be performed for each transaction, including the quantification of potential risks and benefits, and analysis of the impact on City creditworthiness and debt affordability and capacity. 1. Variable Rate Debt Variable rate debt affords the City the potential to achieve a lower cost debt depending on market conditions. However, the City will seek to limit the use of variable-rate debt due to the potential risks of such instruments. a) Purpose The City shall consider the use of variable rate debt for the purposes of: l i. Reducing the costs of debt issues. ii. Increasing flexibility for accelerating principal repayment and amortization. iii. Enhancing the management of assets and liabilities (matching short- term "priced debt" with the City's short-term investments). iv. Diversifying interest rate exposure. b) Considerations and Limitations on Variable -Rate Debt The City may consider the use of all alternative structures and modes of variable rate debt to the extent permissible under State law and will make determinations among different types of modes of variable-rate debt based on cost, benefit, and risk factors. The Finance Director shall consider the following factors in considering whether to utilize variable rate debt: i. Any variable rate debt should not exceed 20% of total City General Fund supported debt. ii. Any variable rate debt should be fully hedged by expected future Facility Financing Plan reserves or unrestricted General Fund reserve levels. 3 F-6 (7 iii. Whether interest cost and market conditions (including the shape of the yield curves and relative value considerations) are unfavorable for issuing fixed rate debt. iv. The likelihood of projected debt service savings when comparing the cost of fixed rate bonds. V. Costs, implementation and administration are quantified and considered. vi. Cost and availability of liquidity facilities (lines of credit necessary for variable rate debt obligations and commercial paper in the event that the bonds are not successfully remarketed) are quantified and considered. vii. Ability to convert debt to another mode (daily, monthly, fixed) or redeem at par at any time is permitted. viii. The findings of a thorough risk management assessment. c) Risk Management Any issuance of variable rate debt shall require a rigorous risk assessment, including, but not limited to factors discussed in this section. Variable rate debt subjects the City to additional financial risks (relative to fixed rate bonds), ( i including interest rate risk, tax risk, and certain risks related to providing liquidity for certain types of variable rate debt. The City will properly manage the risks as follows: i. Interest Rate Risk and Tax Risk - The risk that market interest rates increase on variable-rate debt because of market conditions, changes in taxation of municipal bond interest, or reductions in tax rates. Mitigation - Limit total variable rate exposure per the defined limits and match the variable rate liabilities with short term assets. ii. Liquidity/Remarketing Risk - The risk that holders of variable rate bonds exercise their "put" option, tender their bonds, and the bonds cannot be remarketed requiring the bond liquidity facility provider to repurchase the bonds. This will result in the City paying a higher rate of interest to the facility provider and the potential rapid amortization of the repurchased bonds. Mitigation - Limit total direct variable-rate exposure. Seek liquidity facilities which allow for longer (5-10 years) amortization of any draws on the facility. Secure credit support 4 F-6 facilities that result in bond ratings of the highest short-term ratings and long-term ratings not less than AA. If the City's bonds are downgraded below these levels as a result of the facility provider's ratings, a replacement provider shall be sought. iii. Liquidity/Rollover Risk - The risk that arises due to the shorter term of most liquidity provider agreements (1-5 years) relative to the longer- term amortization schedule of the City's variable-rate bonds. In particular, (1) the City may incur higher renewal fees when renewal agreements are negotiated and (2) the liquidity bank market constricts such that it is difficult to secure third party liquidity at any interest rate. Mitigation - Negotiate longer terms on provider contracts to minimize the number of rollovers 2. Derivatives The use of certain derivative products to hedge variable rate debt, such as interest rate swaps, may be considered to the extent the City has such debt outstanding or under consideration. The City will exercise extreme caution in the use of derivative instruments for hedging purposes, and will consider their utilization only when sufficient understanding of the products and sufficient expertise for their appropriate use has been developed. A comprehensive derivative policy will be adopted by the City prior to any utilization of such instruments. E. REFUNDING GUIDELINES The Finance Director shall monitor at least annually all outstanding City debt obligations for potential refinancing opportunities. The City will consider refinancing of outstanding debt to achieve annual savings. Absent a compelling economic reason or financial benefit to the City, any refinancing should not result in any increase to the weighted average life of the refinanced debt. The City will generally seek to achieve debt service savings which, on a net present value basis, are at least 3% of the debt being refinanced. The net present value assessment shall factor in all costs, including issuance, escrow, and foregone interest earnings of any contributed funds on hand. Any potential refinancing shall additionally consider whether an alternative refinancing opportunity with higher savings is reasonably expected in the future. 5 F-6 r Any potential refinancing executed more than 90 days in advance of the outstanding debt optional call date shall require a higher savings threshold. Consideration of this method of refinancing shall place greater emphasis on determining whether an alternative refinancing opportunity with higher savings is reasonably expected in the future. F. MARKET COMMUNICATION, ADMINISTRATION, AND REPORTING 1. Rating Agency Relations and Annual or Ongoing Surveillance - The Finance Director shall be responsible for maintaining the City's relationships with Standard & Poor's Ratings Services, Fitch Ratings and Moody's Investor's Service. The City is committed to maintaining its existing rating levels. In addition to general communication, the Finance Director shall: a) Ensure the rating agencies are provided updated financial information of the City as it becomes publically available. b) Communicate with credit analysts at each agency at least once each year, or as may be requested by the agencies. c) Prior to each proposed new debt issuance, schedule meetings or conference calls with agency analysts and provide a thorough update on the City's financial position, including the impacts of the proposed debt issuance. 2. Council and Finance Committee Communication - The Finance Director should report feedback from rating agencies, when and if available, regarding the City's financial strengths and weaknesses and recommendations for addressing any weaknesses as they pertain to maintaining the City's existing credit ratings. 3. Continuing Disclosure Compliance - The City shall remain in compliance with Security and Exchange Commission Rule 15c2-12 by filing its annual financial statements and other financial and operating data for the benefit of its bondholders within 270 days of the close of the fiscal year, or as required in any such agreement for any debt issue. The City shall maintain a log or file evidencing that all continuing disclosure filings have been made promptly. 4. Debt Issue Record -Keeping - A copy of all debt -related records shall be retained at the City's offices. At minimum, these records shall include all official statements, bond legal documents/ transcripts, resolutions, trustee statements, leases, and title reports for each City financing (to the extent available). 5. Arbitrage Rebate - The use of bond proceeds and their investments must be monitored to ensure compliance with all Internal Revenue Code Arbitrage Rebate Requirements. The Finance Director shall ensure that all bond proceeds 6 F-6 and investments are tracked in a manner which facilitates accurate calculation; and, if a rebate payment is due, such payment is made in a timely manner. G. CREDIT RATINGS The City will consider published ratings agency guidelines regarding best financial practices and guidelines for structuring its capital funding and debt strategies to maintain the highest possible credit ratings consistent with its current operating and capital needs. H. LEGAL DEBT LIMIT Newport Beach Charter section 1109 indicates that the City shall not incur an indebtedness evidenced by general obligation bonds which shall in the aggregate exceed the sum of fifteen percent (15%) of the total assessed valuation, for purposes of City taxation, of all the real and personal property within the City. While this limit defines the absolute maximum legal debt limit for the City, it is not an effective indicator of the City's affordable debt capacity. I. AFFORDABILITY Prior to the issuance of debt to finance a project, the City will carefully consider the overall long-term affordability of the proposed debt issuance. The City shall not assume more debt without conducting an objective analysis of the City's ability to assume and support additional debt service payments. The City will consider its long- term revenue and expenditure trends, the impact on operational flexibility and the overall debt burden on the tax payers. The evaluation process shall include a review of generally accepted measures of affordability and will strive to achieve and or maintain debt levels consistent with its current operating and capital needs. The Finance Director shall review benchmarking results of other California cities of comparable size with the City's Finance Committee prior to any significant project financing. 1. General Fund -Supported Debt - General Fund Supported Debt generally include Certificates of Participation (COPs) and Lease Revenue Bonds (LRBs) which are lease obligations that are secured by an installment sale or by a lease- back arrangement between the City and another public entity. The general operating revenues of the City are pledged to pay the lease payments, which are, in turn, used to pay debt service on the bonds or Certificates of Participation. 7 F-6 These obligations do not constitute indebtedness under the state constitutional debt limitation and, therefore, are not subject to voter approval. Payments to be made under valid leases are payable only in the year in which use and occupancy of the leased property is available, and lease payments may not be accelerated. Lease financing requires the fair market rental value of the leased property to be equal to or greater than the required debt service or lease payment schedule. The lessee (City) is obligated to place in its Annual Budget the rental payments that are due and payable during each fiscal year the lessee has use of the leased property. The City should strive to maintain its net General Fund -backed debt service at or less than 8% of available annually budgeted revenue. This ratio is defined as the City's annual debt service requirements on Certificates of Participation and Lease Revenue Bonds compared to total General Fund Revenues net of interfund transfers. This ratio, which pertains to only general fund backed debt, is often referred to as "lease burden." 2. Revenue Bonds - Long-term obligations payable solely from specific pledged sources, in general, are not subject to a debt limitation. Examples of such long- C- } term obligations include those which achieve the financing or refinancing of projects provided by the issuance of debt instruments that are payable from restricted revenues or user fees (Enterprise Revenues) and revenues generated from a project. In determining the affordability of proposed revenue bonds, the City will perform an analysis comparing projected annual net revenues (exclusive of depreciation which is a non-cash related expense) to estimated annual debt service. The City should strive to maintain a coverage ratio of 125% using historical and/or projected net revenues to cover annual debt service for bonds. The City may require a rate increase to cover both operations and debt service costs, and create debt service reserve funds to maintain the required coverage ratios. 3. Special Districts Financing - The City's Special Districts primarily consist of Community Facilities Districts (CFDs) and 1913/1915 Act Assessment Districts (Assessment Districts). The City will consider requests for Special District 8 F-6 formation and debt issuance when such requests address a public need or provide a public benefit. Each application will be considered on a case by case basis, and the Finance Department may not recommend a financing if it is determined that the financing could be detrimental to the debt position or the best interests of the City. 4. Conduit Debt - Conduit financing provides for the issuance of securities by a government agency to finance a project of a third party, such as a non-profit organization or other private entity. The City may sponsor conduit financings for those activities that have a general public purpose and are consistent with the City's overall service and policy objectives. Unless a compelling public policy rationale exists, such conduit financings will not in any way pledge the City's faith and credit. J. STRUCTURE OF DEBT 1. Term of Debt - Debt will be structured with the goal of distributing the payments for the asset over its useful life so that benefits more closely match costs for both current and future residents. Borrowings by the City should be of a duration that does not exceed the useful life of the improvement that it finances. The standard term of long-term borrowing is typically 15-30 years. 2. Rapidity of Debt Payment - Accelerated repayment schedules reduce debt burden faster and reduce total borrowing costs. The Finance Department will amortize debt through the most financially advantageous debt structure and to the extent possible, match the City's projected cash flow to the anticipated debt service payments. "Backloading" of debt service will be considered only when one or more of the following occur: a) Natural disasters or extraordinary or unanticipated external factors make payments on the debt in early years prohibitive. b) The benefits derived from the debt issuance can clearly be demonstrated to be greater in the future than in the present. c) Such structuring is beneficial to the City's aggregate overall debt payment schedule or achieves measurable interest savings. d) Such structuring will allow debt service to more closely match project revenues during the early years of the project's operation. I F-6 3. Level Payment - To the extent practical, bonds will be amortized on a level repayment basis, and revenue bonds will be amortized on a level repayment basis considering the forecasted available pledged revenues to achieve the lowest rates possible. Bond repayments should not increase on an annual basis in excess of 2% without a dedicated and supporting revenue funding stream. 4. Serial Bonds, Term Bonds, and Capital Appreciation Bonds - For each issuance, the City will select serial bonds or term bonds, or both. On the occasions where circumstances warrant, Capital Appreciation Bonds (CABs) may be used. The decision to use term, serial, or CAB bonds is driven based on market conditions. 5. Reserve Funds - The City shall strive to maintain fund balance in the Facilities Replacement Plan Reserve at a level equal to or greater than the maximum annual debt service of existing obligations. Adopted - May 14, 2013 10