Presentation from 2013 NACUBO in Indianapolis with a focus on risk management. Co-presented with Thomas Richards (University of Missouri System) and Sherry Mondou (University of Puget Sound). My slides are pp3-12.

1. Active Management of the
Debt Portfolio
Remy Hathaway, Prager & Co., LLC
Sherry Mondou, University of Puget Sound
Thomas Richards, University of Missouri System

2. Prager & Co. LLC, Financial Advisor to two Very Different
Institutions
University of Missouri University of Puget Sound

3. Policy, Strategy and Implementation
 Comprehensive policy covering debt, derivatives and
liquidity
 Short—so people will read it
 Establishes risk framework, then optimizes cost
 Ongoing communication strategy at enterprise level
 Financing strategy driven by (in order)
 1. Mission
 2. Existing portfolio and institutional risk
 3. Transactional economics
 Evaluation of outcomes—including extreme ones

4. Strategy – Risk-First Framework
 Most debt policies use phrase “risk-adjusted cost of capital” or
“risk tolerance” but do not quantify it
 Starting with risk—especially tail events—allows the
institution to elect where and how much risk is acceptable
 Taking into account other institutional risks (e.g. market
rate risk and tax risk)
 Compensation for risk must be considered. Is it worth it,
and where else might we be better compensated for risk?

5. “Essentially, all models are wrong, but
some are useful.”
-George E.P. Box

6. Risk Assessment - Categorization
 Debt Service Risk: “How much different could debt service be
from what’s in the budget?”
 Market Rate Risk
 Credit Risk
 Tax Risk (and Basis Risk)
 Liquidity Repricing Risk
 Counterparty
Performance Risk
 Liquidity Risk: “How much of the balance sheet is exposed to
the debt portfolio?
 Reissuance/Remarketing Risk
 Liquidity Facility Renewal/Failure Risk
 Swap Collateralization Risk
 Swap Termination Risk

7. One More Risk – Brain Damage Risk
 How much management and staff time is dedicated to
managing the debt portfolio?
 Issuance/refundings
 Renegotiation of liquidity facilities
 Managing puts/liquidity events
 How much board/regent/trustee time is spent?
 Is there an appropriate return on invested time? On future
expected demands on time?

8. Debt Service Risk – From Complex to Basic
Max
Rate Ratio Change Impact % of O.E.
Market Rate Risk
195 Tax-Exempt Variable-Rate 0.11% 2.9% 5.6
75 Taxable Variable-Rate 0.40% 4.6% 3.4
-165 LIBOR Fixed Payer Receipt 0.15% 67% 3.1% -5.1
LIBOR Fixed Receiver Payment
SIFMA Fixed Payer Receipt
SIFMA Fixed Receiver Payment
Basis Swap Payment
Basis Swap Receipt
4.0 0.6%
Tax Risk
195 Tax-Exempt Variable-Rate 1.7% 3.3
SIFMA Fixed Payer Receipt
SIFMA Fixed Receiver Payment
Basis Swap Payment
Basis Swap Receipt
BABs Subsidy
3.3 0.5%
Credit Risk
195 Tax-Exempt Variable Rate 0.11% 4.0% 7.8
75 Taxable Variable Rate 0.40% 7.0% 5.3
13.1 2.1% $ Millions % of O.E.
Liquidity Repricing Risk Maximum One-Year Risk: 15.1 2.4%
100 Liquidity Facility 2.0% 2.0 0.3% 50% of Maximum 11.2 1.8%
25% of Maximum 5.6 0.9%
Counterparty Performance Risk
-165 Swap Notional 0.0 0.0%
0%
1%
2%
3%
Market Rate
Risk
Tax Risk
Credit Risk
Liquidity
Repricing Risk
Counterparty
Performance
Risk
Max Debt Service Risk Components
(as percentage of 1 Year Operating Expenses)

9. Measuring Risk in Context
$ Millions % of O.E.
Maximum One-Year Risk: 4.6 4.6%
50% of Maximum 2.3 2.3%
25% of Maximum 1.2 1.1%
0%
1%
2%
3%
4%
Market Rate Risk
Tax Risk
Credit Risk
Liquidity
Repricing Risk
Counterparty
Performance
Risk
Max Interest Rate Risk Components
(as percentage of 1 Year Operating Expenses)
$ Millions % of E.R.
75.2 49.5%
50.1 33.0%
37.5 24.7%25% of Maximum
Maximum Three-Year Risk:
50% of Maximum
0%
10%
20%
30%
40%
Reissuance Risk
Facility Renewal
Risk
Collateralization
Risk
Swap Termination
Risk
Max Liquidity Risk Components
(as percentage of Expendable Resources)

10. Example: Collateralization/Termination Exposure
 How useful are historical results?
(70%)
(60%)
(50%)
(40%)
(30%)
(20%)
(10%)
0%
10%
1963 1968 1973 1978 1983 1988 1993 1998 2003 2008 2013
Backward-Looking Maximum Percentage Declines in 10-Year Treasury
From One-Year Prior
From Three Years Prior
5/30/84-8/21/86:
51% decline within
three years
4/17/85-4/16/86:
38% decline within
one year
Source: Federal Reserve

11. Projecting Short-Term Rates using Fed Funds
(Fed Funds History + Projections = Potential Outcomes)
30Y Low:4.51%
Average: 5.21%
30Y High: 7.53%
0%
5%
10%
15%
20%
1954
1959
1964
1969
1974
1979
1984
1989
1994
1999
2004
2009
Source: Federal Reserve
0%
1%
2%
3%
4%
5%
6%
7%
12/31/2012
12/31/2013
12/31/2014
12/31/2015
12/31/2016
12/31/2017
12/31/2018
12/31/2019
12/31/2020
12/31/2021
12/31/2022
12/31/2023
12/31/2024
12/31/2025
12/31/2026
12/31/2027
Fed Funds Expected Rate Range
(6/19/2013 Release)
Most hawkish governor up
to highest 30-year average
Median governor up
to 60-year average
Most dovish governor
up to lowest long-term
target rate.

12. “It is better to be vaguely right than exactly
wrong.”
-Carveth Read

13. The Experience of Two Very Different Institutions,
one large…
 University of Missouri
System
 Public research university with 4
campuses + health system
 Enrollment 75,000
 Endowment $1 billion
 $2.7 billion operating expenses
 $1.3 billion debt outstanding
 Aa1 / AA+
 Treasurer and Interim VP
Finance

14. Policy / Governance – University of Missouri
 Recently adopted comprehensive policy for debt and
derivatives management
 Outlines authority, responsibilities and reporting
 Board approves any issuance of debt
 Board receives quarterly comprehensive reporting on portfolio
 Board receives annual evaluation of debt capacity, given anticipated
debt-financed projects within a five year timeframe
 Establishes framework for evaluating risks in debt
portfolio as well as any new issuance of debt
 Board receives annual debt portfolio risk assessment
 Policy does not define specific limits, giving maximum
flexibility to management team and Board.

15. Strategic Restructuring – University of Missouri
 Recently launched $350 million commercial paper program
capable of issuing either taxable or tax exempt paper.
 CP provides particular flexibility during construction phase of
capital projects, allowing for low cost “just-in-time” financing
with ability to convert to permanent financing at any time.
 CP program was structured in a manner that minimizes our
need to provide daily self-liquidity by establishing a $100
million cap on CP maturing within any seven day time period.
 Even with $350 million in CP outstanding, daily liquidity
requirement remains $100 million due to the cap.

16. Strategic Restructuring – University of Missouri
 Prior to CP Program
 $100 million weekly reset VRDBs
 $120 million daily reset VRDBs
 $220 million daily self-liquidity requirement
 Post CP Program Launch
 $100 million weekly reset VRDBs remain outstanding
 $120 million daily reset VRDBs converted to CP
 $60 million new CP issued
 $200 million daily self-liquidity requirement
 Total variable rate debt increased from $220 million to $280
million, yet daily self-liquidity requirement decreased from
$220 million to $200 million

17. Strategic Restructuring – University of Missouri
 By reducing our daily self-liquidity requirement and
essentially capping it at $200 million, we can better optimize
the investment of our working capital to generate additional
return.
 Opportunity cost of holding daily self-liquidity could easily be
100-300bps when compared to other alternatives.
 Our General Pool (essentially working capital) averages $1.7
billion throughout the year. Optimization of risk-adjusted
returns is a top priority as investment income helps fund
operations.

18. The Experience of Two Very Different Institutions,
one small…
 University of Puget
Sound, Tacoma, WA
 National residential liberal
arts college
 Enrollment 2650
 Operating budget $120
million
 Endowment $275 million
 $75 million debt outstanding
 A1/A+ rating
 VP Finance & Administration
with broad portfolio

19. Policy / Governance – University of Puget Sound
 First adopted debt policy in 2005; now refined annually
 Provides general framework
 Based in mission and strategic goals, with the long term in mind
 Debt is a valuable and scarce resource
 Consider affordability, risks, financial structure
 Monitor capital markets, refunding and other opportunities
 No specific limits, allows flexibility
 Clarifies responsibilities
 Board approves issuance of debt, committee approves terms
 Management, with expert counsel, monitors market and risk, makes
recommendations, negotiates terms, interfaces with external parties
 Board receives annual review of debt portfolio risk

20. Goals of 2012 Transaction – University of Puget Sound
 Improve student success
through strong residential
programming
 Policy change, programs,
bed capacity
 Manage debt portfolio risks
 Within context of broad
institutional risks
 Decrease debt portfolio
risk
 Retain debt capacity at
A1/A+ rating

21. Risk Assessment and Strategic Restructuring –
University of Puget Sound
 Comprehensive assessment of risk profile
 A year in advance of anticipated debt financing
 Changing market conditions
 Changes in board’s risk tolerance or risk allocation?
 Strategic residential objective, upcoming debt financing
 Prager & Co. as financial advisor served as an extension of
university staff
 Assessment of financial condition, risks, credit and debt capacity, peer
analysis, structures, etc
 Quantitative analysis of options

22. Risk Assessment and Strategic Restructuring –
University of Puget Sound
 The portfolio before the transaction:
 $60 million VRDNs, all synthetically fixed, structured in
different rate environment, still low cost of capital,
performed well to date
 $10 mil, 3.6% all-in, self-liquidity, Soc-Gen long-term swap
 $50 mil ($20 + $30), 4.3% all-in, bank LOC, BoNY long-term swap
 Board not as comfortable with debt risks as they once
were
 Swap counterparty performance
 Mismatch between 67% LIBOR and SIFMA
 Failed remarketing, deterioration of LOC provider credit
 Liquidity (LOC) renewal/repricing risk in 2012

23. Risk Assessment and Strategic Restructuring –
University of Puget Sound
 Should we issue traditional fixed rate on new money for
residence hall?
 Should we convert all or some of VRDNs to fixed rate?
 How would we handle outstanding swaps?
 What would be the budget impact?
 Should we consider a direct bank purchase vs. new LOC
provider for all or some of our variable rate debt?

24. Comparison of Financing Scenarios
Scenario 1: 4.58%
Scenario 2a: 4.79%Scenario 2b: 5.15%
Scenario 3a: 5.14%Scenario 3b: 6.32%
Scenario 4: 6.82%
0.0%
1.0%
2.0%
3.0%
4.0%
5.0%
0% 10% 20% 30% 40% 50% 60%
InterestRateRisk
(as%ofFY2010Op.Exp.)
Liquidity Risk (as % of FY2010 Expendable Resources)
Debt Portfolio Risk Assessment (with Projected WACC)
Scenario 1: 4.58% WACC Scenario 2a: 4.79%
Scenario 2b: 5.15%
Scenario 3a: 5.14%
Scenario 3b: 6.32%
Scenario 4: 6.82%
3.0%
4.0%
5.0%
6.0%
7.0%
8.0%
0 5 10 15 20 25
WeightedAverageCostofCapital
(WACC-in%)
Principal Duration (in Yrs)
Expected WACC vs. Principal Duration

25. Risk Assessment and Strategic Restructuring –
University of Puget Sound
The Transaction
 Issued new debt at fixed rate for residence hall
 Refunded 30% of VRDNs and converted to fixed rate, retained
orphan swap with intent to terminate when conditions are
favorable
 Refunded 50% of VRDNs through a 7-year direct purchase
transaction, retained swap
 Retained 20% of VRDNs with self-liquidity, retained swap,
may terminate swap in future

26. Risk Assessment and Strategic Restructuring –
University of Puget Sound
 End result
 47% traditional fixed
 40% variable rate direct bank purchase, synthetically fixed
 13% VRDN with self liquidity, synthetically fixed
 Reduced interest rate risk and liquidity risk
 Expected WACC of 4.79% and within Board’s risk comfort
 Level debt service affordable in budget, with new money
structured to accommodate temporary orphaned swap

27. Ongoing Monitoring and Reporting
 Puget Sound assesses debt portfolio review annually,
including risk trend

28. Additional Considerations (at Issuance and Beyond)
 Taxable vs Tax-Exempt
 Cost differential
 Reporting requirements
 Value/cost of par call for tax-exempt debt
 Term
 Direct purchase: renewal risk at put date
 Matched to project life
 Longer to allow recycling/internal bank structures
 Issuance Timing
 Interest rate outlook
 Negative arbitrage in refundings
 Hedging efficacy/outcomes

29. Conclusions
 Clear policy should drive debt portfolio decisions
 Portfolio risks and outcomes must be monitored on an
ongoing basis
 Quantitative frameworks should be established for budget
and balance sheet outcomes
 Current and pro forma debt portfolio

30. Resources
 University of Missouri System Debt Policy
 http://www.umsystem.edu/ums/fa/treasurer/debt_policy
 University of Missouri System Quarterly Debt Report
 http://www.umsystem.edu/ums/fa/treasurer/debt_snapshot_reports
 Federal Reserve Historical Data
 http://www.federalreserve.gov/releases/h15/data.htm
 Federal Reserve Interest Rate Projections
 http://www.federalreserve.gov/monetarypolicy/fomccalendars.htm
(Click on “PDF” under Projections Materials)

31. Appendix – Why Fed Funds?
 Quarterly average SIFMA rates (and LIBOR rates) correlate
very well with Fed Funds, but with more history.
y = 63.23%x + 0.37%
R² = 94.82%
0%
1%
2%
3%
4%
5%
6%
7%
8%
0% 1% 2% 3% 4% 5% 6% 7% 8% 9% 10%
SIFMA
Fed Funds (Effective, 3-Day Lag)
Least Squares Regression (Quarterly Average, n=88)
Source: Federal Reserve, SIFMA

32. Appendix – Why the 10-Year Treasury?
 Good correlation with LIBOR Swap Rates…not so much MMD,
but even MMD is generally reasonable, and there’s more
history.
y = 1.0505x + 0.0073
R² = 0.9632
y = 0.4935x + 0.0254
R² = 0.6619
2.0%
3.0%
4.0%
5.0%
6.0%
7.0%
8.0%
1.0% 2.0% 3.0% 4.0% 5.0% 6.0% 7.0%
10-Year Treasury Rate
Interest Rate Correlations with 10-Year Treasury (1998-Present)
100% of 30 Yr LIBOR Swap Curve
30 Yr Tax-Exempt Fixed Rate
Linear (100% of 30 Yr LIBOR Swap Curve)
Linear (30 Yr Tax-Exempt Fixed Rate)
Source: Federal Reserve, Thompson, Bloomberg