CIWMB Agenda Item September

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CIWMB Agenda Item September Powered By Docstoc
					        California Integrated Waste Management Board
                                      Board Meeting
                                 September 16-17, 2003
                                    AGENDA ITEM 4
ITEM
Consideration Of The Feasibility Of A Loan Guarantee Leveraging Strategy And A Contract
Concept To Implement Such A Strategy Using Funds From The Recycling Market Development
Zone (RMDZ) Revolving Loan Program
I.    ISSUE/PROBLEM STATEMENT
      The RMDZ Revolving Loan Program is not sustainable as it is currently structured, and
      employed. The amount of money in the RMDZ Revolving Loan Program Subaccount is
      projected to decline significantly over the next several years, from $8.5 million in FY
      2002-2003 to $544,110 in FY 2005-2006 (Attachment 1). The Board’s goal, however,
      is to make at least $10 million available annually to businesses that use recycled material
      in the manufacture of new products.

      In order to find ways to maintain its support for recycling-based businesses, the Board
      commissioned the Milken Institute to conduct the “Recycling Market Development Loan
      Leveraging Study.” This study suggested a loan guarantee strategy as one of several
      potential options for using the Board’s increasingly scarce funds to achieve its annual
      lending goal. By guaranteeing loans, rather than making direct loans, the Board could
      encourage private bank lending to recycling-based businesses. For example, the Board
      would only need to invest $2.25 million in RMDZ loan funds to “leverage” or cause $10
      million in bank lending to recycling-based businesses. In order to evaluate such a
      strategy, the Board raised the question at its September 2002 Board meeting, “Is it legal
      and feasible for the Board to use RMDZ loan funds to guarantee private loans to
      recycling-based businesses?”

II.   ITEM HISTORY
       May 1996: The Board approved the sale of seventeen (17) RMDZ loans to the
         Community Reinvestment Fund in order to generate more money to lend to recycling-
         based businesses.
       July 1997: The Board approved a contract concept to enter into an Interagency
         Agreement with the Pollution Control Financing Authority for participation in the
         California Capital Access Program (CalCAP). The CalCAP program encourages
         banks to make loans to small businesses by providing insurance against loan defaults.
         The Board contributed $500,000 toward CalCAP’s loan default insurance fund.
       September 2000: The Board discussed a financial projection showing that the amount
         of funds for new loans would significantly decline during the next several years. It
         discussed using RMDZ loan funds to leverage outside sources of funding for
         recycling-based businesses and directed staff to form a workgroup to identify
         alternative sources of funding that would further leverage RMDZ loan funds.
       February 2001: The Board directed staff to identify and develop strategies for
         leveraging the Board’s funds, including a bulk loan sale.
       September 2001: The Board awarded a loan leveraging study contract to the Milken
         Institute.

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            August 2002: The Board heard and discussed the Milken Institute’s “Recycling
             Market Development Loan Leveraging Study.”
            September 2002: The Board directed staff to evaluate the legality and feasibility of a
             loan guarantee leveraging strategy.

III.    OPTIONS FOR THE BOARD
        1. Adopt staff’s recommendation.
        2. Modify staff’s recommendation.
        3. Take no action and provide staff with further direction.

IV.     STAFF RECOMMENDATION
        Staff recommends the Board approve Resolution Number 2003-454 that directs staff to:
        A. Initiate the development of regulations interpreting Public Resources Code Sections
            42023.6 and 42024:
                1) to clarify the Board’s authority to utilize RMDZ Subaccount funds for
                    leveraging; and if necessary,
                2) to allow the Board’s participation in the Small Business Loan Guarantee
                    Program (SBLGP)
        B. Approve a contract concept in the amount of $2.35 million and authorize the
            development of a scope of work for contracting with one or more of the State’s
            fourteen Financial Development Corporations.

V.      ANALYSIS
        A. Key Issues and Findings
           This item addresses two issues:
           1. Is it legal for the Board to use funds in the RMDZ Revolving Loan Subaccount
              (Subaccount) for purposes other than direct loans, where such purposes
              “leverage” or stimulate more private lending to recycling-based businesses?
           2. Would it be it feasible to use some funds in the RMDZ Revolving Loan
              Subaccount to guarantee private bank loans to recycling-based businesses?

             Legal Issues: There are two sections in the Public Resources Code that address the
             concept of leveraging, Sections 42023.6 and 42024. PRC Section 42023.6(a) provides
             that the Board may participate in the Capital Access Loan Program, a leveraging
             program similar to that proposed by staff in this item. PRC Section 42023.6(b) goes
             on to say that, “for purposes of participating in the Capital Access Loan Program…or
             in any program that leverages subaccount funds, the Board may operate both inside
             and outside the recycling market development zones.” This language implies that the
             Legislature anticipated that the Board would be participating in various leveraging
             programs, not just the Capital Access Loan Program.

             In PRC Section 42024, the Legislature directs the Board and other state agencies to
             “coordinate activities that will leverage financing for market development projects.”
             Although it does not expressly state that the Board may use Subaccount funds for
             leveraging, it is reasonable to interpret this section to mean the Legislature intended
             to authorize the Board to use Subaccount funds for leveraging purposes. By directing
             state agencies to “coordinate activities,” it is reasonable to understand that the
             Legislature intended, for example, that the Board coordinate with the Technology,
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             Trade and Commerce Agency and that Board funds available for direct loans could
             also be used to leverage private funds through the State’s Small Business Loan
             Guarantee Program managed by the Agency. (The Business, Transportation and
             Housing Agency is to take over this program in January 2004.) Such a program
             would utilize Subaccount funds to leverage private bank monies to increase the
             number and size of loans to recycling-based businesses.

             While these are reasonable interpretations of Sections 42023.6 and 42024, the
             Legislature did not provide in those statutes a clear direction to the Board showing
             how a leveraging program should be carried out. The Legal Office recommends that
             the Board adopt regulations to interpret Sections 42023.6 and 42024 to enable it to
             carry out a leveraging program or programs. The regulations would specify how the
             Board would utilize Subaccount funds to carry out a leveraging program or programs
             to implement the two statutes.

             Administrative & Financial Issues: The Milken Institute study suggested that it
             would be possible to generate $10 million annually in private loans to recycling-based
             businesses by participating in the State’s Small Business Loan Guarantee Program
             (SBLGP). The questions are how would the Board go about doing this, and what
             would it mean for the RMDZ loan program? In order to answer these questions, it is
             necessary to understand how the Small Business Loan Guarantee Program works.

             How the Small Business Loan Guarantee Program works: The purpose of the
             SBLGP is to encourage the development of promising small businesses, which create
             a majority of the jobs in California. The SBLGP guarantees bank loans to small
             businesses that would not otherwise be able to qualify for commercial financing.
             Since 1999, the SBLGP has successfully used this leveraging strategy to create or
             retain almost 52,000 jobs. The five-year loan default rate, at the end of fiscal year
             2001, was only 1.55 percent. In addition, the program generates two (2) dollars in
             California tax revenue for every one (1) dollar in program costs.

             The SBLGP is now administered by the Office of Small Business at the Technology,
             Trade and Commerce Agency. As of January 1, 2004, the SBLGP will be
             administered by the Business, Transportation and Housing Agency (BTHA). The
             program is implemented at the local level by fourteen private, non-profit “public
             benefit” corporations called Financial Development Corporations (FDCs). FDCs are
             located in Fresno, two (2) in Los Angeles, Ontario, Pleasanton, Sacramento, Salinas,
             San Diego, San Fernando Valley, Santa Ana, and Santa Rosa, and do business in
             much of the State. The Salinas FDC has three branch offices in Monterey, Santa
             Barbara, and Santa Maria. These FDCs contract annually with the Technology, Trade
             and Commerce Agency to market the SBLGP; to provide general management
             assistance, business education, and other resources to small businesses; to coordinate
             the packaging of loan guarantee applications between small businesses and private
             banks; and to issue loan guarantees.

             The loan guarantees are backed by the Small Business Expansion Fund (SBEF),
             which is currently managed by Bank of the West for TT&CA. The SBEF backs the
             loan guarantees made by individual FDCs and pays for some of their administrative
             and program costs. The SBEF contains a separate “corporate” sub-fund for each of


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             the fourteen FDCs. Each of these corporate sub-funds contains a loan guarantee
             account and a loan loss reserve account.

             FDCs are generally limited by statute from issuing guarantees to no more than four
             times the amount in their loan guarantee accounts. They are also limited to
             guaranteeing no more than 90 percent of a loan. For example, if an FDC has $1
             million in its loan guarantee account, it may guarantee up to $4 million worth of bank
             loans. This means that banks would be lending a total of $4.44 million to small
             businesses (90% of $4.44 million in loans = $4 million in guarantees).

             In order to be eligible for a loan guarantee, a business must meet the definition of
             “small business” as defined by the regulations governing the U.S. Small Business
             Administration 7(A) Loan Guarantee Program (e.g., a business must be
             independently-owned and operated, must not be dominant in its field, and cannot
             employ more than 500 people, if a manufacturer). The loan proceeds can be used for
             any standard business purpose, including acquiring real property and purchasing
             machinery. FDCs may generally guarantee up to 90 percent of a loan, or a maximum
             of $500,000, including principal and interest, for up to seven years.

             FDCs may charge a fee to small business borrowers or banks to defray their operating
             expenses. This fee can be up to 2 percent of the loan amounts guaranteed. FDCs can
             also charge a $250 documentation fee. FDCs are also eligible to receive $3,500 for
             each new term loan guaranteed. Banks may also charge a fee to be reimbursed for
             their expenses.

             Potential borrowers may be identified and directed to the SBLGP by the FDCs or by
             banks. Loan guarantees are generally processed in the following way. FDC staff first
             analyzes a loan guarantee application and then make their recommendation to an
             independent Loan Committee of experienced commercial lenders. The Loan
             Committee will then review the application and submit its recommendation to the
             FDC’s Board of Directors. The Board of Directors typically has final approval of the
             loan guarantee application.

             How could the Board participate in the Small Business Loan Guarantee Program,
             and what would it mean for the RMDZ loan program:

             The Board has two reasonable options for participating in the Small Business Loan
             Guarantee Program. The Board might contract with the Business, Transportation and
             Housing Agency (BT&HA), after January 1, 2004, to administer a new RMDZ loan
             guarantee program for the Board, as specified in regulations to be developed. In the
             alternative, the Board might also contract directly with some or all of the fourteen
             Financial Development Corporations.

             Option #1--Contract with the Business, Transportation and Housing Agency (BT&HA):
             In the first case, the Board would contribute RMDZ loan funds to the State’s Small
             Business Expansion Fund (SBEF) to be located at BT&HA after January 1, 2004. A
             separate, dedicated sub-fund could be established within the SBEF for the Board,
             similar to the corporate funds used by the FDCs. This separate sub-fund would include
             a loan guarantee account and a loan loss reserve account. It is unclear at this time if the
             BT&HA would require reimbursement for all or any of its costs.
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             TT&CA, the current administrator of the Small Business Loan Guarantee Program and
             the Small Business Expansion Fund, would want to be reimbursed for any staff costs
             related to administering such a sub-fund for the Board. TT&CA also charges each of
             the FDCs a 20 percent administrative fee. In addition, with this case, the Board would
             lose some control over which recycling-related businesses receive assistance.

             Option #2--Contract with FDCs: In the second case, the Board would contract
             directly with some or all of the FDCs. It is likely that the Board could sign one
             agreement with all participating FDCs, or with The Association of Regional
             Corporations for all FDCs. This approach would require the establishment of a new
             Small Business Expansion Fund, separate and distinct from the existing SBEF. This
             fund could be set up at the Controller’s Office, where the RMDZ Subaccount is kept.
             The FDCs are currently reimbursed through loan fees and the State General Fund, but
             would want the interest earned on any money deposited into such a fund, based on
             discussions with The Regional Association of Corporations. This interest would be
             used to help cover their costs of administering loan guarantees for recycling-based
             businesses. In addition, this approach could help FDCs by eliminating the 20 percent
             administrative fee currently charged by TT&CA.

             With either option, it is anticipated that $100,000 would be required to initially
             market the program to FDCs, lenders, and economic and business development
             organizations throughout California. This would be a one-time only expense. Also,
             the Board would be required to annually or regularly renew an agreement. It is
             anticipated that Board staff would conduct the same kind of business and credit
             analysis for loan guarantees that they do for direct RMDZ loans. This would allow
             the Board to maintain the same degree of policy control over its RMDZ loan funds.

             Preferred Option: The second option is preferred because it is more cost-effective
             and gives the Board more control over the expenditure of RMDZ funds. The first step
             in establishing such a program is to promulgate regulations explicitly authorizing the
             use of RMDZ funds for leveraging, and the Board’s participation in a loan guarantee
             program. In the mean time, Board staff could begin developing and implementing a
             scope of work for a loan guarantee program. This would include negotiating with
             FDCs, and then developing and executing a contract or contracts with FDCs, or The
             Regional Association of Corporations. It is expected that all of this work, and the
             Board’s review and approval, could be accomplished by the time regulations are
             approved by the Office of Administrative Law, within four to six months. A contract
             concept (Attachment #3) to implement a loan guarantee program is attached.

             Once the authorizing regulatory framework is in place, contracts are signed, and a
             new Small Business Expansion Fund (SBEF) is established, the Board would transfer
             a portion of its RMDZ loan funds to the new SBEF. The Board should transfer $2.25
             million in order to facilitate its lending goal of $10 million annually. As indicated
             previously, FDCs are generally limited from issuing guarantees to no more than four
             times the amount in their loan guarantee accounts. They are also limited to
             guaranteeing no more than 90 percent of a loan. This would allow FDCs to guarantee
             $9 million of new bank loans ($2.25 million multiplied by 4). Therefore, banks could
             lend $10 million in total, with 90 percent of $10 million in loans or $9 million being
             guaranteed. This $2.25 million could fund as many as 20 loans per year.
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             With the Board contracting directly with FDCs, a loan guarantee program would
             work in the following manner. As an example, one of the fourteen local Financial
             Development Corporations (FDCs), or Board staff, would hear about and encourage a
             recycling-based business to apply for a loan with a local bank. The bank, normally,
             might not be willing to make loans to recycling-based businesses. In this case,
             because an FDC is willing to guarantee that a loan will be paid back, the local bank is
             willing to lend the money. The FDC can guarantee the loan because there is now
             $2.25 million in the new SBEF with which to create a “loan loss reserve.” The loan
             loss reserve would be used to repay banks should a recycling-based business default
             on a loan. If there is no default, the funds would remain available in the sub-fund to
             guarantee future loans. This reduces the risk to the bank, and the bank makes the loan
             to the business. See Attachment #2 for a comparison of the current RMDZ loan
             process and the proposed loan guarantee process.

             The following is a list of the pros and cons of using some RMDZ loan funds for a
             new Board-administered loan guarantee program:

             Pros
              One dollar of Board investment creates four dollars in bank loans
              FDCs have over 25 years of experience in making state loan guarantees
              The loan guarantee default and payout rate is less than 1.55 percent, because the
                banks and FDCs work with borrowers to restructure loans (same as RMDZ loan
                program)
              FDCs have the authority to leverage with outside partners and have done so with
                the BT&HA's Child Care Facility loan guarantee program
              Banks can fund construction projects
              Banks can take residential properties as collateral
              There are fourteen (14) FDCs, covering the entire state, to assist recycling-based
                businesses
              The Board will approve all loans, using the Board Project Eligibility Criteria
                (same as RMDZ loan program)
              The Board will have control and manage the Small Business Expansion Fund,
                domiciled at the Controllers Office
              FDCs are excited about marketing to recycling-based businesses

             Cons
              The uncertainty about the future of the state loan guarantee program because it is
                being transfered from the Technology, Trade and Commerce Agency to the
                Business, Transportation & Housing Agency
              Bank loan interest rates float on a daily basis (not fixed for 10 or 15 year term of
                the loan)
              Bank loan interest rates currently average 7% or the Prime Rate plus 2 to 4% (vs
                RMDZ loan interest rate which will be the prime rate as of November 1, 2003)
              Working capital lines of credit have a term of one year (vs RMDZ loan program
                term of 10 years)
              Equipment loans have a 3 to 5 year term (vs RMDZ loan program term of 10 years)
              Collateral advance rates average between 50% for working capital and 65% for
                equipment (vs RMDZ loan program 80% advance rates)
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                 The Board will not earn interest on its Small Business Expansion Fund; FDCs
                  will earn the interest and may use it for their operating costs
                 SBLGP guarantees loans only to small businesses; whereas RMDZ Loan Program
                  has no size limits
                 FDCs may not be able, in theory, to make any loans to recycling-based businesses
                  and the $2.25 million would remain unused in the SBEF.

        B. Environmental Issues
           Based on available information, staff is not aware of any environmental issues related
           to this item.

        C. Program/Long Term Impacts
           It is projected that the Board’s RMDZ funding for recycling-based businesses will
           continue to decline unless new programs are implemented (Attachment 1). A loan
           guarantee program would allow the Board to use its increasingly scarce RMDZ funds
           to at least maintain the amount of money that is made available to recycling-based
           businesses. A loan guarantee program allows the Board to continue making $10
           million available to recycling-based businesses, over the next several years, but only
           requires the expenditure of $2.25 million per year.

        D. Stakeholder Impacts
           Stakeholders include:
               The Association of Regional Corporations and its fourteen member Financial
                  Development Corporations, which administer the state loan guarantee program.
                  This stakeholder group supports the Board’s strategy because it would provide
                  them with additional interest income. They believe contracting with them
                  directly would be the least costly, most feasible option for the Board.
               The Technology, Trade and Commerce Agency that oversees the state loan
                  guarantee program until December 31, 2003, per Assembly Bill 1757. The
                  TT&CA is in transition. It is therefore difficult to determine from its staff
                  whether TT&CA supports or opposes this strategy.
               The Business, Transportation and Housing Agency that will oversee the state
                  loan guarantee program beginning January 1, 2004, per Assembly Bill 1757.
                  The BT&HA has no official position at this time because they do not yet
                  manage the state loan guarantee program.
               The California Association of Recycling Market Development Zone
                  (CARMDZ) Administrators and the underlying 40 Zone Administrators
                  (ZAs). This stakeholder group may support the concept of a loan guarantee
                  program. They may be concerned, however, that the program will charge
                  recycling-based businesses market interest rates, rather than below-market
                  rates as does the RMDZ loan program. The ZAs may also be concerned that
                  money will be redirected from making direct loans to recycling-based
                  businesses to guaranteeing loans.

        E. Fiscal Impacts
                The authority to fund this item is stated in PRC Section 42023.1, which
                   describes the RMDZ Subaccount and Section 42023.6 that broadly describes
                   leveraging.
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                       The amount of funds proposed to fund this item is $2,250,000 in FY 2003/04.
                        Plus a one-time up front cost of $100,000 for the FDC’s to implement the
                        strategy. See below section VI. Funding Information. If banks successfully
                        lend $10,000,000 to eligible recycling-based businesses, then an additional
                        $2,250,000 will be proposed in each of FY’s 2004/05 and in 2005/06, from
                        the RMDZ Subaccount C&P Services line item.
                       This loan guarantee strategy leverages Board funds by a factor of 1:4,
                        meaning that for every $1 of Board funds, private banks can make $4 in loans
                        to recycling-based businesses. An investment of $2,250,000 would provide
                        for at least $10,000,000 in bank loans to recycling businesses.
                       The funds would be returned to the Board’s Subaccount as each guaranteed
                        loan is paid off. The bank loans would typically have a term of five to seven
                        years. Loans longer than seven years may not be guaranteed.

        F. Legal Issues
               The Legal Office has determined that new Regulations are needed to
                  supplement PRC Sections 42023.6 and 42024, which provide authority to
                  leverage the Board’s RMDZ funds.
               The Administration and Finance Division’s Contract Office is working to
                  identify what type of agreement would be most suitable for this leveraging
                  strategy.

        G. Environmental Justice
           Based on available information, staff is not aware of any environmental justice issues
           related to this item.
        H. 2001 Strategic Plan
           This Agenda Item supports the 2001 Strategic Plan by:

                       Goal 2, Objective 2, Strategy B: “Process low interest loans for companies
                        that either convert non-hazardous solid waste into a recycled raw material or
                        use a recycled raw material to ultimately produce a recycled-content product.”

                       Goal 2, Objective 2, Strategy F: “Process low-interest loans for businesses
                        that use conversion technology.”

                       Goal 7, Objective 2, Strategy C: “The RMDZ Loan Program completed work
                        with an outside contractor on October 9, 2002, to identify strategies to
                        leverage the amount of funds available to lend to recycling businesses. If
                        successful, this would make the program more self-sustaining and supply the
                        funds needed to meet demand from recycling businesses.

VI.     FUNDING INFORMATION
        It is proposed that the Board invest $2,250,000 into a new Small Business Expansion
        Fund to support $10,000,000 in bank loans to recycling-based businesses by issuing state
        loan guarantees. This will also require a one-time, initial investment of $100,000 to
        market the program to FDCs and banks.


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        Funding Option #1 proposes to utilize available funds from both the RMDZ Subaccount
        Direct Loan and C&P Services Line Item.

        Funding Option #2 includes using funds as proposed in Option #1, plus redirecting RMDZ
        funds previously encumbered in an IAA with the Treasurer’s Office for Board participation
        in the California Capital Access Program. See above section “E. Fiscal Impacts.”

        Funding Option #1
                                    2. Amount          3. Amount to          4. Amount           5. Line
             1. Fund Source
                                      Available           Fund Item            Remaining            Item

         RMDZ Subaccount              $4,342,445           $1,850,000            $2,492,445    Direct Loans

                                                                                                  C&P
         RMDZ Subaccount                $513,000               $500,000             $13,000
                                                                                                 Services

                TOTAL                 $4,855,445           $2,350,000            $2,505,445
        6.       Redirection – (disregard if not applicable)

                                          Line Item                       Line Item              Amount
              Fund Source
                                             From                            To                 Redirected

         RMDZ Subaccount                 Direct Loans                C&P Services               $1,850,000

        Funding Option #2
                              2. Amount          3. Amount to      4. Amount              5. Line Item
        1. Fund Source
                                 Available          Fund Item         Remaining

               RMDZ
                                 $4,342,445         $1,325,000             $3,017,445         Direct Loans
             SubAcount

               RMDZ
                                   $513,000           $500,000                  $13,000       C&P Services
             Subaccount

               RMDZ                                                                           IAA CalCAP
                                   $525,000           $525,000                     $-0-
             Subaccount                                                                         Program

              TOTAL              $5,380,445         $2,350,000             $3,030,445

        6.       Redirection – (disregard if not applicable)

                                          Line Item                  Line Item                  Amount
              Fund Source
                                             From                          To                  Redirected

         RMDZ Subaccount                 Direct Loans              C&P Services                $1,325,000




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VII.    ATTACHMENTS
        1. RMDZ Subaccount Projections
        2. Flow Chart of Loan Processes
        3. Contract Concept
        4. Resolution Number 2003-454

VIII. STAFF RESPONSIBLE FOR ITEM PREPARATION
      A. Program Staff:       John Nuffer                              Phone:   (916) 341-6527
                             Jim La Tanner                             Phone:   (916) 341-6534
      B. Legal Staff:      Michael Bledsoe                             Phone:   (916) 341-6058
                           Marie Carter                                Phone:   (916) 341-6062
      C. Administration Staff: Tiffany Donohue                         Phone:   (916) 341-6120
                               Andrew Felsenstein                      Phone:   (916) 341-6095


IX.     WRITTEN SUPPORT AND/OR OPPOSITION
        A. Support
           Staff had not received any written support at the time this item was submitted for
           publication.
        B. Opposition
           Staff had not received any written opposition at the time this item was submitted for
           publication.




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