Slaying the Bond Ratings Dragon

December 12, 2016

 

“Downgrade Follows Thumbs-Up on Texas School Bonds” reads the headline from a recent story in The Bond Buyer, a trade publication for those involved in the municipal bond industry. The stor​​y is about Anna ISD, a small, but rapidly growing Independent School District about 40 miles north of Dallas, Texas. 


The District held an election to authorize $155 million in future debt. The election was overwhelmingly approved by the voters in its May 7th election. On May 12th, Moody’s announced that it had downgraded Anna ISD from an A1 to an A3 - a rare two-notch downgrade for its bond rating. While the connection between the bond election and the ratings downgrade is not clear, Moody’s is clearly indicating that the underlying financials and debt management practices of Anna ISD are not well suited to absorb additional debt.


Bond ratings can be viewed two ways: from a passive or an active perspective.  The passive perspective is the one that most issuers take - that is, passive-perspective issuers see the rating agencies as a necessary evil in the debt issuance process and the bond rating happens “to" them. Bond ratings are a kind of mythical dragon for those with passive perspectives, and facing that dragon normally comes with a fair amount of anxiety during the rating process.  Passive perspective issuers are often surprised by ratings decisions, they tend to view the ratings agencies as not understanding their unique situation.

  
The relatively few that take an active perspective to bond ratings understand that the ratings make a real difference. In fact, on an average $20 million issuance, a single rating level difference accounts for about a $350,000 in either interest savings or additional interest expense. Bond ratings, like operations or investment strategies can and should be actively managed. Rather than the bond ratings being a dragon to be feared, you can create a strategy to positively impact your bond rating in the short and long term. For the organizations that take an active perspective, bond ratings don’t happen “to” the organization, they happen “because" the organization has made informed decisions. Issuers can model and predict what impact any variety of fiscal and financial decisions will have on bond ratings. With this knowledge they speak with certainty to the ratings agencies by showing the analysts that they understand and appreciate the risk assessments and that they are doing something about it.  Active-perspective issuers slay the mythical dragon with active, informed and strategic management.

 

Our Bond Rating Optimization process is targeted towards giving these active-perspective issuers the background, knowledge, data and understanding they need to strategically manage their bond rating. We help them see just what impact certain decisions will have on their rating. We identify yellow and red flags that they can pro-actively address with the rating agencies to show that they are fully aware of the credit risk nature of the decisions that are being made. In our experience the underlying financials are important, but not quite as important as the analysts getting the sense that the issuer truly understands the credit risk implications of their decisions. In fact, according to Anna ISD’s CFO, the District’s financial metrics have actually improved since Moody’s rated the district A1 - and yet, a double downgrade. If that is going to happen, I’d argue that you had better understand why and make an active and informed decision as to fiscal path that you are taking.

 

To find out more about our Bond Rating Optimization for your community, visit us at jdgraygroup.com, call us at 972-885-6472 or email us at jason@jdgraygroup.com.​

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