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Muni Week Review / Preview 9/12/2017

Tuesday, Sep 12, 2017


Illinois Steps Up To Relieve Credit Pressures on State Schools... Ratings Risk Recedes For Chicago Public Schools... Credit Profile Boost Sought From New Chicago Sales Tax Bonds… Illinois To Borrow $6 Billion Before Year End To Pay Bills…

A new funding law and recent developments usher in a feeling of optimism towards Chicago Public Schools and other lower rated Illinois schools and home rule local governments. More state and local revenues for public schools from a new education funding law and higher access to liquidity from a new borrowing program for home rule communities are encouraging for Chicago Brd of Ed and Illinois’ bond investors. 

A new law on state education funding brings significant financial support for Chicago Public Schools (CPS). Budget uncertainty for CPS and many lower rated school districts has receded as the state provided more than anticipated funds. This has led rating agencies to take a favorable view of Chicago Public Schools. The risk of ratings downgrades has receded. Recent developments have led to significant price gains for Chicago Brd of Ed bonds and many bonds issued by many lower rated Illinois schools and cities.

The new law “SB1947” provides some clear wins for Chicago Public Schools. Although most of the added revenue was already assumed in CPS adopted fiscal 2018 budget, S&P and Moody’s both noted that the new revenue is $150 million more than CPS anticipated in its recently approved fiscal 2018 budget. Successful enactment of the new education funding law brings $450 million in new revenue which comes from; (i) $76 million from the evidence-based funding model, plus an additional $28 million in various other state revenues, (ii) $221 million in additional state revenue for pensions through the pension code and, (iii) $125 million in new taxing authority to raise additional local revenue for pensions. Additionally, as laid out in Illinois fiscal 2018 budget, CPS has access to $269 million in new local resources (to be identified) from the City of Chicago and $71 million in additional property taxes through existing authority. The new state funding is a significant step forward in CPS efforts to address its budget gap. 

With the new state and local revenues, CPS should be able to balance its operational fiscal 2018 budget although its reliance on cash flow borrowing will continue. Its financial condition will likely not materially worsen in the coming year. However, without further budgetary adjustments, CPS is likely to face budget gaps in future years. CPS will require continued market access for cash flow borrowing as its liquidity remains low. Chicago Teachers Union has raised queries on a minor aspect of the new education funding law that pertains to a $75 million tax credit program which include donations to private schools. Moody’s assigned a “stable outlook” to Chicago Board of Ed’s $5.3 billion general obligation unlimited tax bonds paid by pledged state aid reflecting recent increases in operating revenue through additional state aid and enhanced property tax levy authority.

CPS has some linkages with the City of Chicago, the nation’s third most populous city anchoring a substantial tax base which has grown 14% and 8% respectively in the last two years. CPS’s pension liabilities and contributions are likely to be problematic for many years. CPS has $7.8 billion outstanding debt which includes $5.3 billion general obligation alternate revenue debt paid from pledged state aid and additionally secured by an unlimited tax levy which is abated only after sufficient revenues have been deposited with the bond trustee into a debt service fund. 

The education funding law allows state aid to begin flowing again after the state missed two payments during the political gridlock. The missed payments to municipalities did not result in any bond defaults. Due to the successful enactment of the new education funding law, the state will process the two missed payments this week and resume all scheduled payments. Lower rated IL school districts benefit the most from the education funding law. The timeliness of state aid payments is critical for many IL school districts with thin liquidity that rely heavily on state revenue. 

On August 31, Governor Bruce Rauner signed legislation that provided additional $350 million of formula based state funding. The higher funding is based on Illinois 2018 budget that made distributions contingent upon the state’s adoption of an “evidence-based” funding model. On August 1, Governor Rauner vetoed this aspect of the budget unless it was amended. After close to a month of gridlock, lawmakers came to a compromise on August 24 that led to successful enactment of the new education funding bill, termed a victory by Governor Rauner.

Compromise from lawmakers on budget issues after a multi-year stalemate has removed uncertainty and eased financial pressures on many of Illinois’ bond issuers. Chicago Public Schools and other Illinois schools, which faced the threat of mid-year budget cuts, now open school with a degree of optimism.

Credit Profile Boost Sought From New Chicago Sales Tax Bonds… Yield starved investors anxiously await a new borrowing program for home rule units of local governments that dedicates a specific revenue source to pay bondholders (akin to PR’s COFINA bond structure). The new program will be a shot in the arm for Illinois’ lower rated home rule local governments. For more financial breathing room, Chicago will begin tapping a new sales tax secured borrowing program as early as October. The new borrowing program created for home rule units of local government as part of a $36 billion state budget package is expected to achieve higher credit ratings and reduce debt service costs. Chicago will dedicate a portion of its share of state sales tax revenue to new bonds akin to PR’s COFINA bond structure. The city plans to refund $2.8 billion sales tax and general obligation bonds. The city stated “This refinancing is expected to save the city millions of dollars per year in debt service costs and help alleviate the city’s general obligation debt burden. Over the long term, it is expected to result in ratings upgrades for the city’s general obligation debt.” 

Illinois Debt is Beating All Other States Ahead of $6 Billion Borrowing… Illinois, the worst rated state, Baa3 Moody’s, BBB- S&P, has the best returns of all 50 states in the nation, and the timing couldn’t be better as yield starved investors seek opportunities. Debt from the Land of Lincoln has returned 7.33% year-to-date, the highest among all U.S. states. Illinois’s performance comes as the Land of Lincoln plans to bring $6 billion of bonds to market before the end of the year to begin to pay down $14.9 billion of unpaid bills. 10-year Illinois general obligation bonds yield about 1.8 percentage points more than AAA bonds, the most of all 20 states tracked by Bloomberg. Illinois state and local governments have issued $7.7 billion long and short term debt year-to-date, a decline of about 30% from the same period last year.

If you have any questions or desire updated information contact your GMS Account Executive.

Information obtained from sources deemed reliable; GMS does not purport Review/Preview contains all available information.