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Providence Financial









MONTHLY NEWSLETTER:  SEPTEMBER 2004 ISSUE

DON’T PAY FOR A DEAD HORSE
BY BRENT VAN ALFEN, PROVIDENCE FINANCIAL CO, INC.



This is the first issue of our free monthly newsletter “Charter School Business”! As the name implies, we are going to address issues that affect the financing, legal, and business aspects of running a charter school. We have invited some experts in these fields to be contributors and would welcome any volunteers or suggestions for additional contributors.

This newsletter is intended to be a resource for those who manage charter schools, so please feel free to suggest topics of interest. We are in the process of building a website,

www.charterschoolbusiness.com


where we will archive past issues and receive requests for articles. The newsletter will be distributed by fax or e-mail. We are also considering a bulletin board or chat room that may be used to exchange ideas, questions, and information among charter school managers.



Most of us have had the experience of buying a car and being quoted a sticker price. After we finish negotiating with the salesman and are quite proud of ourselves for cutting a great deal, we are given the contract showing the total price. After adding taxes and extras, the car costs more than we originally thought we were going to pay, but this total is the true price of the car. Interestingly, whenever asked what they paid for their new car, people almost always just tell you the “great deal” price.

Securing financing for charter school facilities is somewhat similar to buying a car in the sense that the interest rate is not the total cost of the funds. There are always numerous other fees, reserves, and additional costs to be paid before you can close on your loan. When someone is asked what he or she paid for their new facilities loan, they usually respond by stating the interest rate only. Do these other charges have a material effect on the overall cost of a large loan? Let’s have a look.

Underwriting a bond issue is a popular method of raising funds for charter school facilities. As with any approach to financing, there is a broad range of bond offerings available, some being better than others. I saw an underwriting prospectus a few months ago that disclosed the costs of this issue as follows. I won’t put in the dollar amounts. I’ll confine it to percentages to keep it as simple as possible.

Total amount of the bond issue 100%

(This is the amount borrowed and subject to the interest calculation)

Uses of the funds

   Credit Reserve Fund   8%
   Liquid Reserve Fund   7.5%
   Capitalized Interest Fund   2.2%
   Original Issue Discount   1.7%
   Underwriter’s Discount   3.1%
   Project Uses   77.5%

(This is the amount you receive to spend on your project)

That is not all. Most of the bonds were sold at a discount from par (the face amount of the bond). This has the effect of enhancing the yield to the investor and increasing the cost to the borrower. In this case, most of the bonds were sold at 97.5% of par (meaning 97.5 cents on the dollar). That means that of every dollar borrowed the schools received 97.5 cents from which the above costs were then deducted. In reality the schools in this pool received about 75 cents of every dollar they borrowed, but they are still paying interest on the full dollar.


Brent Van Alfen, President
Providence Financial Co., Inc. 801-299-8555