Tom Glaser ABA Capital Markets Forum
ABA Capital Markets Forum
Capital Markets Update Panel
Monday, February 25, 2002
10:15 a.m. - 11:30 a.m.
One of the big issues for GFOA President, Tim Grewe, is the concept of sustainability. It is a concept for addressing common problems that, if left unresolved, pose grave risks to future generations by striving for a sustainable economy, a healthy environment and social equity. President Grewe has asked each standing committee to identify sustainability within their committee structures, and develop a list of topics to be included in a possible recommended practice. For the Debt Committee, these topics might include developing a detailed list of underwriters, credit enhancers, rating agencies and trustee contact names and phone numbers in the event of another market interruption. This type of information is especially important for variable rate demand bond issues. Other topics might be requiring the attachment of a fiscal impact statement to accompany federal and state legislation in order to identify and quantify unfunded mandates on state and local governments; making sure that there are back-up/offsite systems in place to minimize disruptions in financial operations that may arise from business interruption, and ensuring continued federal and state grant funding to address brownfields, escalating public safety costs and adequate funding of education. The Committees will be working on these issues and bringing them forward in Denver for further discussion.
GFOA membership made significant investments in information systems in preparation of Y2K. There is a general recognition that as governments are being asked to do more with fewer resources, that we need to automate as many processes and procedures as possible to improve operating efficiencies. Technology has also been a big focus for the GFOA Executive Board which now has established a standing Technology Resource Group that advises our members as to how advances in technology can be used to improve efficiency as well as communication with our constituents, business partnerships, credit enhancers and bondholders.
I currently serve as the chair of the Debt Committee's Recommended Practices subcommittee, and we have posted all of our Recommended Practices on the GFOA web site, including our most recent recommended practice approved by the GFOA Executive Board two weeks ago on "Using a Web Site for Disclosure." This policy recognizes the importance of the Internet as a means of communicating with municipal market participants and urges our members - particularly small and medium sized issuers that do not have web sites - to develop them - and all of our members to use their web sites to publish financial and other bond-related information to market participants. Over the next six to 12 months, we will be working to develop a prototype web site for disclosure of bond-related information, and will also be publishing an article in Government Finance Review to more fully describe the recommended practice to our members. We hope that the template will assist our members in identifying the type of information to be posted and to provide a framework to publish it in a cost-effective manner.
We have established several working groups to review some of the Recommended Practices that have been published for a while to see if they require updating or need revision based on changes in the market since they were first published. The practices that we will be reviewing for consideration at our June meeting are Analyzing Debt Capacity and Establishing Debt Limits (1995), Development of a Debt Policy (1995) Investment of Bond Proceeds (1996) and Maintaining an Investor Relations Program (1996).
Record retention is another important issue for GFOA. There is currently some confusion about how long certain documents need to be retained, in what format to they need to be kept - original source document versus a digitized image - and there is often conflicts with local record keeping laws. I'm not certain, for example, that it is practical to keep trade confirmations on bond proceeds or detailed project budgets as to how those proceeds were spent for 30 years. As this group well knows, there is a significant administrative and warehousing cost associated with keeping these types of records.
We are also going to be working with the NFMA on a TIF project that we would hope leads to a recommended practice for our members on use of this financing vehicle as an economic development tool.
I think that it is fair to say that this proposal generated a lot of discussion among members of the Committee. There are parts of the proposal that our members support and other aspects that are of concern for our members. There are those, for example, that say that issuers are already covenanting to protect the tax-exempt status of the bonds, and that issuers have an ongoing need to access the tax-exempt market, so what does the proposal really accomplish? Others suggest that the IRS enforcement program should be focused on the parties most responsible for the violation. So in abusive transactions, the enforcement and associated penalties should be focused on someone other than the issuer, including bond counsel, financial advisors and underwriters. There is concern that shifting the burden of tax law violations solely to issuers and taking bondholders and others out of the resolution process, gives the IRS significantly more leverage over issuers when audits arise.
One real desire, however, on the part of Committee members is to have IRS penalties be more reflective of the specific tax law violation - the penalty should fit the crime. Inadvertent, unintentional or minor violations should not result in the retroactive taxability of the bond issue. We also believe that issuers should have the right to appeal any determination of taxability, and that right of appeal should not be to another branch of the IRS, but to the courts or some other independent third party. We plan to work with NABL between now and our June meeting to gather more information and we'll see then where our membership is at.
The GFOA Debt and Fiscal Policy Committee has spent a lot of committee time on how best to address disclosure concerns raised by NABL, NFMA and the SEC. In fact, all three are regular invitees to our winter legislative and annual meetings. This ongoing dialogue helps us better advise our membership on how to provide sufficient quality and timely information to not only meet continuing disclosure obligations, but also to foster better relationships with underwriters, credit analysts, and investors. I was glad to hear Peter's comments on the "one size does not fit all" in terms of disclosure, as the amount and type of information provided should vary by type of issuer and operation.
Now having said that, I get a little dismayed when I see headlines saying that issuers need to take action, that the disclosure system is not working and that dealers are the reluctant middlemen in the disclosure process. I am not certain that the secondary market disclosure system is either dysfunctional or broken based on a sample size of 30 bond issues. We want to make certain that, since there is no complete or accurate index of continuing disclosure documents filed with the NRMSIRs, the information filed by issuers is being correctly filed. Right now we are not sure if there is a problem with issuer compliance or a filing problem.
To start the process, several Committee members have volunteered to work with S&P on a pilot project to ensure that issuers have accurate CUSIP numbers so they can attach them to their NRMSIR filings.
In light of the Enron and Global Crossing bankruptcies, investors, regulators and rating agencies are looking for more disclosure. In the corporate environment, with quarterly 10-Q filings, the annual 10-K report, audited financial statements, investor relations programs - including regular analyst meetings - sophisticated web sites and, what I would term higher visibility for senior management in the media, like on CEO Exchange, none of these prevented investors for being harmed by those bankruptcies. In fact, some analysts still listed Enron as a strong buy even when the company was imploding, which has now brought Congressional scrutiny onto Wall Street.
In all of this talk about disclosure, we must remember that the municipal market is fundamentally different than the corporate market. This was very well detailed in the municipal default study published by Fitch several years ago. It's also clear that in the wake of September 11th , Enron and a deteriorating economy, there has been a "flight to quality" as significant money has flowed into the municipal market. Clearly investors already see this market as a safe haven.
At a minimum - due to political concerns, there is generally less risk taking in the municipal market. While many muni issuers use swaps and options as a means to manage their balance sheets, I don't know of too many off-balance sheet partnerships to hide liabilities that municipal issuers might be involved in. So while reasonable people can disagree on specific accounting treatments, the transactions underlying most municipal financial statements are pretty straightforward. While in the corporate market, risk taking, especially if you are correct, can lead to significant increases in stock price and large personal compensation packages.
Secondly, many municipal issues are secured by a municipal bond insurance policy, a line of credit, a direct pay letter of credit or a standby bond purchase agreement. In 2001, 47% of new tax-exempt issues were insured and, if you include other forms of credit enhancement, more than 60% of the principal and interest payments on tax-exempt issues in 2001 were secured by a third party. So not only do you have the underlying municipal credit to support debt service, you also have third party security of principal and interest payments.
I bring this up to say that more disclosure or more regulation, in and of itself, on municipal issuers will not necessarily lead to any different buy or sell decisions, or any reduced risk of default. Yet, a likely fallout of these well publicized cases will be changes in governmental accounting practices and rules, the role of GASB - and we are still digesting GASB Statement 34 - and more administrative burdens that, even in the best of economic times, increases our cost of doing business.
Before the "corporate" disclosure model is imposed on municipal issuers, we need to make sure that (i) that system is reviewed to make sure that it is working as it should and (ii) that weaknesses in the system need to be addressed. While you can never legislate away fraud, things like making corporate disclosure documents more easily understood by shareholders, including details on executive compensation, multi-faceted relationships among directors and the businesses they represent and the scope of work done by auditors and their consulting arms, as well as the amount of audit fees these corporations represent of the accounting firms total revenues need to be examined.
Let me conclude by saying that GFOA wants to work with market participants to improve the quality, quantity and timeliness of information provided to market participants. I think that initiatives like TBMA putting trade data for municipal bonds online and the MSRB concept of defining a sophisticated municipal market professional to spur development of electronic markets for municipal securities to improve market liquidity and price transparency are as important in protecting investors, than whether or not I've filed my continuing disclosure documents within six months of the end of my fiscal year. We must all work together to see that the tax-exempt market functions as efficiently as possible - for regulators, investors and issuers, and GFOA pledges its support in that process.