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CPS will continue to rely on borrowing as it prepares to release 2017 budgets

Months after Chicago Public Schools officials said a dire budget outlook had all but barred the district from the capital markets, the school system is re-engaging lenders to finance construction projects and bolster cash flow.

The district plans to unveil its 2017 operating and capital budgets this week. CPS has said it will balance its operating budget with help from state measures that include the authority to generate $250 million in new property tax revenue.

The district, which has a debt load of nearly $7 billion, also will continue to rely heavily on borrowing. In addition to $150 million in bonds the district sold on the private market last week to fund construction projects and other expenses, CPS also plans to leverage $45 million from a recently enacted property tax levy to borrow hundreds of millions of dollars for additional school construction projects.

Chicago Board of Education President Frank Clark briefed investors on CPS finances Wednesday behind closed doors at the Symphony Center as the district attempts to stabilize its standing with credit rating agencies.

After the state passed a school funding measure in June, CPS said it still had to cover a $300 million budget shortfall. There also is continuing uncertainty over a teachers’ contract that is still being negotiated.

In addition to the money from the property tax approved by the state, CPS expects to get about $131 million more in state funding. Another $215 million in state assistance is dependent on consensus on pension reforms by the legislature and Gov. Bruce Rauner.

Beyond long-term borrowing, the district also says it needs a short-term loan for cash to finance its operations for the year.

Analysts have expressed concerns about CPS’ continued reliance on borrowing and questioned how the measures passed by the state ease the district’s fiscal pressures to the point where it can take on substantial new debt.

“There’s still no long-term solution,” said Matt Fabian, a partner at Concord, Mass.-based Municipal Market Analytics who has analyzed the city and school district’s debt. “Relying on the capital markets is a poor strategy in the short term and unsustainable in the long term. Chicago and the school district, as well as the state, they need to actually make meaningful financial reforms and not just talk about it.”

To sell $150 million in bonds last week, the school board turned directly to J.P. Morgan instead of issuing the debt publicly. CPS said it has gone to private markets for debt in 2008 and 2013.

CPS said the money would be used mostly to pay for construction projects that have already begun, though roughly a quarter of the amount borrowed would prop up district cash flow this year. About $39 million of the bond money will reimburse the system for expenses already paid from its operations fund, CPS said.

District spokeswoman Emily Bittner said CPS turned directly to J.P. Morgan for a private bond deal in order to “maximize capital project financing at a lower cost than our last bond offering.” The district issued $725 million in bonds on the open market at higher rates earlier this year.

Fabian said the deal reflects the growing role of banks serving as bondholders for municipal governments. Though fronting money to CPS has its risks, Fabian said those downsides are related more to negative publicity that dogs the district than actual risk of default.

“This is not the kind of loan that Main Street Savings & Loan would write,” Fabian said. “But J.P. Morgan? Yes. This is not a typical lender. It’s already a major player in the 312 area code, so it’s not a stretch for them to loan a bit more money.

“For a lender like J.P. Morgan, which understands municipal bonds about as well as they could be understood, it’s just not a bad investment,” Fabian said.

The district has not provided an official statement on the latest bond sale, a document that clarifies vital details about such deals and updates the district’s financial picture. CPS, citing an agreement with J.P. Morgan, said more public information would arrive by September.

The district declined to comment on its agreement with the bank. A copy of that agreement was obtained by the Tribune.

The bonds mature in 2045 and bear interest at an annual rate of 6.5 percent, according to disclosure filings.

Should Standard & Poor’s or the Fitch ratings service drop the district’s credit rating deeper into junk territory by Sept. 2, CPS’ annual interest rate could increase by a half-percentage point up to a “maximum rate” the district would not identify.

CPS sold the bonds last week at initial yields of 7.25 percent, an improvement from the $725 million debt sold in February at initial yields of 8.5 percent, but still far more expensive than typical government borrowing deals.

“There’s been some improvement, but seven and a quarter, that’s an extraordinary, exceptional rate in the bond market right now,” said Richard Ciccarone, president and CEO of the Merritt Research Services bond analysis firm.

“The pricing reflects the risk that’s inherent in current conditions,” said Ciccarone, who was at the Chicago Investors Conference this week where Clark and Mayor Rahm Emanuel made presentations.

“But there’s also a reflection that there are some improvements in the political talk about (allowing CPS to declare) bankruptcy, and there’s some support that’s been indicated as coming from the state — even though some of that support is conditional.

“What they’re doing is muddling along and improving the situation for the Board of Education, but there’s not a lot of room for back-stepping here,” Ciccarone said.

Earlier this summer, Standard & Poor’s said the district’s assumptions about state funding in its upcoming budget “presents risks” because the money is contingent on a pension reform deal from lawmakers who have for two years failed to adopt a full budget.

S&P, which downgraded the Board of Education’s debt by two notches in January, said much of the state funding amounts to “one-time revenue.” The agency said it will maintain a negative outlook on the district’s credit at least until it sees the new budget.

Ciccarone was doubtful a severe downgrade of the district’s credit is likely. Even if a substantial downgrade triggered a higher base interest rate on the bonds, he said, the additional pressure wouldn’t be too severe on a $150 million loan.

“We still have cash flow issues, we still have parts of that stopgap budget that are based on conditions,” Ciccarone said.

“So if that doesn’t happen, now we’re still back to the drawing board to get some more cash flow. And the school district having depleted a lot of reserves, they’re very dependent on third parties for their money. So they have to be at the mercy of the markets.”

jjperez@tribpub.com

Twitter @PerezJr