Big Island experiments with auction to set borrowing costs for bond issue
Some studies say bidding can save taxpayer money
Hawaii County plans to take bids from investment banks on $50 million of bonds, the state's first public borrower in almost a decade to seek lower debt costs through an auction.
The county's decision bucks the trend in the $2 trillion municipal bond market, where most of the time borrowers select Wall Street bankers to arrange bond sales. While such sellers argue that they benefit from bankers' expertise, some academic studies have concluded that taking bids in an auction is a less expensive way to borrow for projects such as schools and roads.
"There's no reason in the world not to do a competitive sale," said Gary Kitahata, the financial adviser on the Hawaii transaction. "It's a clean, straightforward process."
The last time a seller of tax-exempt bonds in Hawaii allowed its borrowing costs to be set in an auction was in 1997. Hawaii County hasn't sold bonds competitively since 1996, choosing instead to hire a bank ahead of time to arrange the sale and negotiate fees and terms.
The state and its local governments have gone the longest of any U.S. state without selling bonds by competitive bid. Hawaii County, which includes the Big Island and has 163,000 residents, has set the auction for Feb. 8.
"We wanted just to try it out," said Hawaii County Treasurer Mike Okumoto.
U.S. state and local governments seldom require that underwriters compete for bond sales at a public auction, though they routinely take bids from vendors vying to provide services and equipment in an effort to get the best price.
Data compiled by Bloomberg on Hawaii bond sales for an Aug. 31, 2005, article was in line with academic findings that favor auctions. That data found that in four out of six instances last year when Hawaii governments sold bonds at about the same time a similar issuer in another state took bids on debt, the publicly bid bonds were priced at lower rates.
So-called negotiated sales, in which banks arrange the sale, are the dominant method of selling tax-exempt debt, accounting for 81 percent of the record $407 billion in municipal bonds sold last year, according to Thomson Financial.
Negotiated sales are useful for borrowers with low credit ratings, who may have trouble finding buyers on their own, or those engaging in complex transactions, such as those involving interest-rate swaps, said Jon Teall, a spokesman for the Bond Market Association, which represents Wall Street bond firms as the industry's main trade group.
"There is a place for both competitive and so-called negotiated deals," Teall said.
The question of how to arrange bond sales to reap the lowest cost has been raised by public officials across the country. In California, the state Assembly this month passed a bill that would require school districts to discuss how bonds are being sold at a public hearing, including how much they anticipate paying in fees to banks, lawyers and financial advisers.
In Missouri, state auditor and U.S. Senate candidate Claire McCaskill has encouraged lawmakers to force more competitive sales of bonds in that state and issued a report this month saying that taxpayers could have saved $11 million over a one-year period had bids been taken on the debt.
Kitahata said Hawaii County may benefit by forcing banks to bid for the bonds.
The county is selling general obligation bonds, or debt backed by the full faith and credit of the island government. The bonds are rated A1 by Moody's Investors Service, the fifth-highest of its 10 investment grades, and A+ by Standard & Poor's, also the fifth-highest, said county treasurer Okumoto. About half the proceeds will be used for projects by the county's water department, he said, while the remainder will go to various public works.
The county has sold $170 million of bonds since its last competitive deal 10 years ago, and Okumoto said the county's decision to sell bonds via auction this time doesn't mean it won't go back to using negotiated sales in the future. Because next month's bond will be a standard general obligation issue, it was a fitting issue to experiment with, he said.
"We thought this would be the most appropriate time," he said.