On February 24, 2021 (CR21-21), Council authorized Buffalo Pound Water Treatment Corporation (Buffalo Pound) to initiate a process to negotiate financing to address the financing requirements of Buffalo Pound’s plant renewal project. As well, City Council instructed Administration to bring forward a future report to Council providing the details of the financing and any applicable bylaws for approval once the financing had been negotiated.
The procurement of the financing was led by Buffalo Pound with support from the Cities of Regina and Moose Jaw, as well as Buffalo Pound’s legal counsel. Toronto-Dominion Bank (TD) submitted the lowest-cost option and has been selected as the successful proponent to provide the financing.
Buffalo Pound’s formal request to borrow and related background information supporting its request is attached in Appendix A.
If Council authorizes Buffalo Pound to borrow up to $60.0 million, a portion of the amount will be applied against the City’s debt limit of $450.0 million. The City’s 74 per cent proportionate share of the debt, which is $44.4 million, will increase the amount of the City’s debt utilized to $353.5 million.
If Council does not authorize the borrowing, Buffalo Pound would not be eligible for funding for the plant renewal under the Investing in Canada Infrastructure Program (ICIP). The $60.0 million Buffalo Pound is proposing to borrow represents the municipal/local contribution required under the ICIP to leverage $163.4 million in provincial and federal funding for the project.
Engineering assessments related to the age and reliability of the Buffalo Pound Water Treatment Plant have identified the need to renew or replace the existing plant to ensure the ongoing provision of safe and reliable treated water to the cities of Regina and Moose Jaw and other regional customers. Without plant renewal, the plant will continue to experience supply issues that can impact its ability to meet the needs of the cities. Further, the plant will not meet environmental regulatory requirements until a plant renewal is completed. Failure to meet environmental regulatory requirements can result in a Ministerial Order from the Water Security Agency forcing the plant into compliance and potential fines. Without renewing the plant, operating and maintenance costs will continue to rise and major events, such as loss of water supply may occur. The project would address the growing risks associated with sustaining the ongoing operation of the plant, as well as ensuring the plant can meet future capacity requirements when needed.
It is also important to note that Buffalo Pound has stated that moving forward with the recommendations in this report will not cause an increase to the capital water rates that the City pays to Buffalo Pound. Any costs associated with this debt have been considered in Buffalo Pound’s 2021 Budget.
The Unanimous Membership Agreement (UMA) requires the two Cities to agree on the method by which any additional funding required by Buffalo Pound will be provided. If the two Cities cannot agree on the method, the default position is that each respective City’s share of the funding required will be provided through a membership loan.
The February 24, 2020 report to City Council on this matter considered other options; reserve funding and the City borrowing the funds instead of Buffalo Pound. City Council approved the recommended course of action, that Buffalo Pound initiate and secure financing to support the ICIP municipal/local contribution up to a maximum of $60 million. Moose Jaw’s City Council also approved this approach.
Pursuant to sections 101 and 102 of The Cities Act and The Public Notice Bylaw, Bylaw 2020-28, public notice was issued on February 6, 2021 of the intent to authorize Buffalo Pound to enter negotiations with lenders for the purpose of funding the Buffalo Pound Plant Renewal Project.
Public notice was also issued on June 5, 2021 of the intent to enter into a loan agreement as described in this report.
Background
The Plant Renewal Project (PRP) is designed to ensure the long-term viability of Buffalo Pound and to ensure the plant will be able to meet its mandate into the future.
It has been nearly 30 years since the last rehabilitation or upgrade to the main facility. Major components in the facility are at, or near, end of life. The existing facility is not meeting environmental regulatory requirements with respect to process waste discharge, chlorine storage and hatch covers. Buffalo Pound is working with the Water Security Agency on their plan to address these requirements through the Plant Renewal Project. In the event progress is not made on these regulatory issues, the Water Security Agency can issue a Ministerial Order, forcing the plant into compliance and potentially levying fines. Further, the facility is limited in its flexibility to meet potential future regulatory requirements, such as corrosion control or pH adjustment. Due to the inconsistent nature of the water supply, the facility is having more difficulties with treating the growing range of raw water conditions that are occurring in the lake.
The project agreement was executed in June 2020 with the Graham-Aecon Joint Venture team appointed for the design portion of the project.
The total project cost estimate is $252.8 million including contingency and PST and includes $6.6 million for advisory services, $23.4 million for design and $222.8 million in construction costs.
Buffalo Pound has sufficient resources for the design and advisory costs. With respect to the construction costs, Council approved Buffalo Pound’s application to the Investing in Canada Infrastructure Program (ICIP) in CR19-23. The application was successful, and ICIP federal and provincial funding of approximately $163.4 million has been approved under the ICIP. The remaining approximately $60.0 million in required funding, represents the municipal/local portion of funding required under ICIP. Funding is estimated to be required by July 30, 2021.
Buffalo Pound is a municipal corporation or “controlled corporation” with the City of Regina and City of Moose Jaw as its sole voting members. Under the Unanimous Membership Agreement (UMA), the City of Regina owns 74 per cent of the voting shares of Buffalo Pound. As such, the City of Regina would be required to guarantee $44.4 million of the borrowing. This debt amount would appear on the City’s consolidated financial statements and would be applied to the City’s debt limit. The City’s approved debt limit, as set by the Saskatchewan Municipal Board, is $450.0 million. Pursuant to subsection 133(3) of The Cities Act a city cannot guarantee a loan by one of its controlled corporations if it would cause it to exceed its debt limit. If Council approves this borrowing, the City will have utilized $353.5 million of its $450.0 million debt limit, or 79 per cent of the City’s debt limit.
Section 153 of The Cities Act requires that where the City guarantees a loan between a lender and one of its controlled corporations that it be authorized by City Council by bylaw. The Bylaw is required to contain information regarding the amount to be borrowed and guaranteed, the purpose of the loan, the rate of interest or how the rate is calculated, the term and terms of repayment as well as the sources of money to be used to repay the loan if the City were required to do so under the guarantee. All of this information is contained in this Report and will be contained in the authorizing bylaw.
In addition to the approvals required under The Cities Act, Buffalo Pound is also required by the UMA, to obtain the approval of both cities (Moose Jaw and Regina) for the borrowing of funds to proceed with the Plant Renewal Project. Clauses 5.2 (f) and section 5.3 of the UMA state:
5.2 Matters for City Approval. The Corporation shall not take any of the following actions without the prior approval of each of the Cities:
(f) the borrowing of money or the issuing any debt obligation or amending, varying or altering the terms of any existing debt obligation.
5.3 Decisions of City. Where approval of the Cities is required pursuant to section 5.2 of this Agreement, the chairperson of the Board of Directors shall make a written request to each of the Regina Council and Moose Jaw Council which includes all information necessary for the Cities to make an informed decision. All requests pursuant to this section 5.3 shall include all supporting information and shall be provided to the City Manager, or delegate of each of the Cities, who shall bring the matter forward to Regina Council and Moose Jaw Council, respectively, for consideration.
In accordance with sections 5.2 and 5.3 of the UMA, the Buffalo Pound Board of Directors have submitted the attached request in Appendix A which requests approval to secure the $60.0 million loan and associated City guarantee.
Proposed Debt Structure
The borrowing contemplated by Buffalo Pound includes credit facilities in the principal sum of $60.0 million. Buffalo Pound approached four financial institutions with respect to the borrowing. The process to invite proposals from a selection of lending institutions followed by Buffalo Pound is consistent with the process used in the past by the City of Regina.
TD offered the most attractive borrowing with the best interest rates. The amount, repayment sources, interest rate and term for each aspect of the loan is summarized below:
· Non-Revolving Term Loan: the principal sum of $60.0 million: Buffalo Pound has requested the bank respondents to provide quotes on a floating rate loan. In terms of interest rates, Buffalo Pound will be using Banker’s Acceptance Rate (BA) plus 0.80% credit spread. As at May 17, 2021, the 30 day BA based rate was 1.21% (.41% BA rate plus 0.80% credit spread) but these rates change on a daily basis. This loan will be repaid from Buffalo Pound’s revenue that it receives from water rates charged to each of the respective Cities. Payments on both the principal and interest will be made monthly and will be calculated based on a 20-year repayment schedule.
· Interest Rate Swap: Buffalo Pound intends to enter into an interest rate swap agreement for a 20-year term that would cover the interest rates for the $60.0 million non-revolving term loan. In this case, Buffalo Pound is receiving a variable interest rate under the loan agreement with TD, but it can swap this interest rate with a fixed rate by entering into a swap agreement. The reason for entering into a swap agreement is to manage variableness of the BA rate and thus achieve a fixed rate over the 20-year amortization. This provides cost certainty and protects against potential interest rate increases. The formula is the 20-year swap rate plus 0.80% credit spread. As at May 17, 2021 the 20-year swap rate is 2.46%, resulting in a total rate of 3.26% (2.46% plus 0.80% credit spread). The result is Buffalo Pound will pay a fixed rate of 3.26% over the 20-year term. This rate is subject to change until the final legal documents and forward start agreement are signed.
If the Cities were required under the guarantee to repay the principal and interest owing under the loan as well as any early termination or unwind fees for terminating the swap agreement, the City of Regina would make the payments from any one or more of the following sources: municipal property taxes, the General Fund Reserve, or the Utility Fund Reserve.
Advantages and Risks of Debt Structure
Advantages:
· Allows Buffalo Pound to achieve a fixed rate, which as of May 17, 2021 is 3.26 per cent over the 20-year term. The alternative is to not enter into a swap and be subject to interest rate changes, or to swap only part of the 20-year loan and renegotiate at a later date.
Risks:
· Swapping the entire duration of the loan might increase the interest rate paid by a small amount. In previous loans, shorter swap terms have been selected that lower the interest rate paid, but for a shorter duration. This requires the borrower to renegotiate the loan which introduces the risk of increases in the credit spread at the time of renegotiation.
· The risk accepted in this approach is the risk that Buffalo Pound could pay a small amount more for the loan, but the benefit is no risk of interest rate changes for the entire duration of the loan.
· Under the guarantee, if Buffalo Pound defaulted on the loan, the Cities would be required to repay their proportionate shares of the loan as well as any potential early termination costs or unwind fees due to the interest rate swap agreement being terminated based on their respective ownership shares in Buffalo Pound, which are 74 per cent for Regina and 26 per cent for Moose Jaw.
City’s Debt Limit and Current Debts Outstanding for the City and Buffalo Pound
The City of Regina has been conservative with respect to its borrowing and regularly monitors debt to ensure it maintains a sound financial position and that credit quality (rating) is protected. The current credit rating of AAA received by S&P Global is the highest rating awarded to a borrower. Remaining in good standing enables the City to have access to capital markets and favourable interest rates for the debt it assumes.
The City’s current debt limit is $450.0 million with $293.0 million outstanding as of
December 31, 2020. The outstanding debt for the City is projected to reach approximately
$309.1 million by December 31, 2021 (including outstanding guarantees). Buffalo Pound currently has outstanding debt of $30.7 million related to their Electrical Upgrade Project undertaken in 2017. If the proposed debt of $60.0 million by Buffalo Pound is taken into consideration, it will increase the City’s projected debt to $353.5 million (including outstanding guarantees) based on the City being responsible for its proportionate share (74 per cent) of the principal value of the debt or $44.4 million. The increase will leave approximately $96 million in debt available to the City and it reduces the availability of debt financing to support other high priorities that may arise and could potentially impact the City’s credit rating if not repaid when due. To mitigate the risk of the additional debt on the current credit rating, the City will continue to work within the parameters established in the Debt Management Policy. This Policy specifies that the City of Regina maintain a debt service ratio of 5 per cent, which is the percentage of the City’s revenue used for annual debt interest and principal payments. It also specifies that the percentage of the City’s debt to revenues should remain between 30 per cent and 60 per cent. Both debt ratios for the City are projected to remain within the specified targets for at least the next five years.
Assessment of Buffalo Pound’s Current and Projected Financial Condition
As money borrowed by Buffalo Pound ultimately represents a debt obligation of the City of Regina and reduces the available debt to the City, it is important to evaluate Buffalo Pound’s current and projected financial condition to determine its ability to repay borrowed funds. In addition, it is necessary to evaluate the potential risks the City may face with respect to debt borrowed by Buffalo Pound.
To determine Buffalo Pound’s overall ability to meet its debt obligation, consideration was given to Buffalo Pound’s audited financial statements for 2019 and 2020, along with unaudited cash flow information provided by Buffalo Pound. Administration reviewed Buffalo Pound’s forecast cash flow raised through the collection of the Capital Water Rate and conclude that Buffalo Pound can service this proposed debt and their previous borrowings. By lending to Buffalo Pound, the TD has also concluded that Buffalo Pound can meet its debt obligations.
Impact of Buffalo Pound’s Debt on the City’s Debt Position
Debt Service Ratio
The debt service ratio measures the percentage of revenue required to cover debt servicing cost, including interest and principal payments. A high debt servicing ratio is an indication of financial risk as a substantial amount of operating revenues will be required to service debt obligations. The debt service ratio is the prime ratio used by S&P Global, the City’s credit rating agency, when assessing the debt burden of a municipality. The City Debt Management Policy sets an affordability target rate of less than 5 per cent. As presented in Figure 1, the debt service ratio for the City of Regina increases slightly when Buffalo Pound’s debt is included but is still within the benchmark as shown in the graph below.
Figure 1: City Debt Service Ratio’s – Before and After Plant Renewal Borrowing
Tax-and-Rate Supported Debt Ratio
The Tax-and-Rate Supported Debt Ratio is used to assess the amount of debt that is repaid with consolidated operating revenues that are not dedicated to a specific project or fund. This is a key relevant measure of the City’s debt affordability because typically debt service costs are funded out of the general operating budget and thus compete directly with other funding needs.
As a key indicator used by S&P, a ratio in the range of 30 to 60 per cent is considered moderate in the overall debt assessment of a municipality. Through the City’s debt management policy, a target of 60 per cent or less has been set and will be used for monitoring, reporting and future debt considerations. Once 60 per cent is reached there is an increased risk S&P may consider reducing the City’s current credit rating. As shown in Figure 2, if Buffalo Pound’s debt is borrowed this ratio will increase slightly from 39 per cent without the borrowing to 44 per cent in 2021. Therefore, it is still well below the benchmark of 60 per cent as show in the graph below.
Figure 2: Tax and Rate Supported Debt Ratio – Before & After Plant Renewal Loan
Financial Implications
With Buffalo Pound borrowing the principal sum of $60.0 million, this will reduce the debt room under the debt limit for the City. However, the City will still have approximately $95.5 million of debt room based on the City’s 74 per cent proportionate share of the principal sum of the debt, which is $44.4 million, plus any interest and other costs. Figure 3 shows the City’s projected debt based on projects in the capital plan, including Buffalo Pound’s borrowing.
Figure 3: Forecast City Debt Including Buffalo Pound Plant Renewal Debt
Administration have assessed the risks of increasing the City’s debt and Buffalo Pound’s ability to repay the debt and conclude that the City will remain within its internal policy limits and that there is a high likelihood that Buffalo Pound will be able to repay this loan.
It is also important to note that Buffalo Pound’s has stated that moving forward with the recommendations in this report will not cause an increase to the capital water rates that the Cities pay to Buffalo Pound. All costs associated with this debt is budgeted in Buffalo Pound’s 2021 Budget.
Council approved Buffalo Pound’s request to enter negotiations with lenders on February 24, 2021 (CR21-21).
Respectfully Submitted, Respectfully Submitted,
{Signature}
Prepared by: {ResUserUser1:First Last, Title}