How to manage long-term debt;

              How t o manage
long-term debt
by IRWIN T. DAVID / Partner, National Services Director
for State and Local Government
The municipal bond market is "big
business." Municipal debt is being
issued both to provide capital assets
and to counteract the impact of
inflation. It is being issued at a rate of
over $60 billion and 8,000 issues per
year. As of 1976, there was $240.1
billion of municipal debt in the
marketplace.
Yet, very little attention is being
given to proper debt management-even
after recent fiscal crises
brought about by the inappropriate
use of debt. What needs to be
recognized is that debt management
is a sophisticated process that can
save a community many dollars in
tax money (e.g., lower interest rates,
better acceptance in the financial
marketplace). Conversely, poor debt
management costs money. Given
the size of this market, the increased
use of debt, and the implications of
a Proposition 13 "tax revolt," it surely
follows that debt must be issued at
the lowest possible cost.
What then, is effective debt man­agement?
This article will examine:
— Long range capital planning.
Which capital projects should a
governmental unit undertake?
— Capital budgeting and appropria­tions.
How much money should
be available for capital projects in
a year, and from what fund
sources?
— Debt authorization. How much
debt can a government unit issue?
. .!
— Debt use guidelines. What is the
proper use of debt, and what is
the debt capacity of a government
unit?
— The rating agencies. What is the
key role that "ratings" play in the
cost of debt, and how can govern­ments
influence their ratings?
— Identification of debt. What com­prises
long-term debt?
— Bond issuance. How should bonds
be issued to assure the lowest
overall cost of debt?
— Disclosure. What information is
required by the rating agencies
and potential investors?
— Payment of debt. What is "refund­ing,"
and what are its objectives?
— Monitoring, control, and manage­ment
of debt. How do the admin­istration
and the legislative body
of an issuing government control
debt use?
Municipal debt can be classified in
two ways: the maturity of the debt
(short-term versus long-term) and
the security for the debt (general
obligation versus revenue debt).
Short-term debt, which is issued and
repaid within a year or less, forms a
major portion of the municipal bond
market. Long-term debt, which is
issued to finance construction or
purchase of capital (long-lived) as­sets,
is the focus of this article.
It will perhaps be helpful to define
further terms that will be used. Debt
may be classified as "general obliga­tion"
or "revenue" debt. General
obligation means that the bond­holder
is assured that payment of
principal and interest has priority
over any other expenditure from the
local government's tax base, and
that, if required, taxes will be in­creased
to meet such payment.
Revenue debt is repaid from the
revenues derived from a particular
project, such as a health care institu­tion
(where revenues are patient
fees) or a tollway (where the
revenues are tolls paid by users).
Less secure than general obligation
bonds, revenue bonds bear a higher
interest rate.
A new form of debt security is the
so-called "moral obligation" debt.
Such bonds are revenue debt unless
there is a danger of default. In that
case, the issuing body may be
morally obligated to pay the debt.
In recent years, there have been
two major, well reported cases of
misuse of municipal debt, the Urban
Development Corporation (e.g., mis­use
of moral obligation debt) and
New York City (e.g., misuse, by
continued "rollovers," of short term
debt). There has been some misuse
of debt on a smaller scale, but given
the large amount of municipal debt
issued and outstanding, the cases of
misuse (accidental or deliberate)
have been miniscule. The impact on
the municipal bond market, how-
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