Local community college district sues JPMorgan Chase

The Berkeley City College is one of the community colleges in the Peralta Community College District.
Tim Maloney/Staff
The Berkeley City College is one of the community colleges in the Peralta Community College District.

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Nearly six years after making a bond refunding agreement that could allow the Peralta Community College District to generate additional proceeds, the district is suing JPMorgan Chase & Co. because it believes the multinational banking corporation is exercising an option that potentially denies money to the taxpayers who support higher education institutions.

The terms of the original agreement gave the bank an option to require the district — which consists of four community colleges in the East Bay including Berkeley City College, College of Alameda, Laney College and Merritt College — to issue new bonds and sell them to the bank, thereby allowing the bank to take advantage of the benefits of lower interest rates, according to the complaint filed by the district with the Superior Court of California.

The district originally made the bond refunding agreement with Bear, Stearns & Co. Inc., which was bought by JPMorgan in March 2008 after the former’s near-collapse.

The contract between the district and the bank, dated Jan. 19, 2006, “put in place a bond refunding transaction that resembles, in important substantive respects, a type of refunding commonly referred to as a ‘cash-out refunding,’” according to the complaint.

A “cash-out refunding” is a refunding of previously issued bonds by which the district not only obtained proceeds sufficient to retire outstanding bonds, but was able to generate additional proceeds that could be applied to other purposes, according to the complaint.

The California Attorney General had written an opinion in January 2009 that said cash-out refunding contracts for school districts were unconstitutional, according to district spokesperson Jeffrey Heyman.

According to the opinion, this agreement “means the district ‘would be depriving its taxpayers of the full benefits of refinancing; instead, the taxpayers would be taxed, without voter approval, to support this new debt -— a result that is not permitted under either the constitutional debt limit or the constitutional cap on taxes.’”

The opinion was written following a member of the state senate asking the attorney general in 2007 to review the validity of the transactions between the district and the bank, according to the complaint.

“We’re simply asking JPMorgan to return taxpayer’s money,” Heyman said. “We feel that JPMorgan has a moral obligation to follow through with this.”

Heyman also said there was no real timeline yet for the lawsuit.

A spokeswoman for JPMorgan declined to comment for the story.

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  • Guest

    There are some missing details. The Community college district issued bond to obtain funds in 2006. Bear Stearns acted as the financial intermediary, the investment banker hired by the Community college district to issue and market the bonds, or perhaps purchased the bonds as an investment for Bear Stearns.
    The interest rate was higher in 2006 than in 2012.
    The present value of the Bonds is greater than the face value to equilibrate the interest earned by holding the bonds to the interest that would be earned on a new bond issued at the current interest.
    For example, a $100,000 bond that paid 6% interest in 2006, or $6,000 per year would be worth $200,000 in 2012 if the interest rate in 2012 was 3% and the 2012 Bond pays 3% interest. [Note we are not going to discuss amortization to keep things simple.]
    The typical risk is that there is a Call Provision that allows the borrower, in this case the Community College District, to call the previously issued high interest bonds and issue new bonds at a future lower interest rate.
    The lender, Bear Stearns or whoever purchased the bonds from Bear Stearns then loses its high yielding asset at whatever Call price is indicated in the Bond Agreement.
    It seems that the arrangement being referenced is some sort of reverse call provision. The issue is that yes, the interest rate is lower but the Community College district has to borrow more money to retire the previous debt. To retire 1 Billion of 6% 2006 Bonds to be able to issue 1 Billion of new Bonds that take advantage of the 3% 2012 Interest rate, the District would have to borrow an additional one billion dollars, since the current value of the 2006 Bonds is 2 Billion dollars, so the total debt increases from one Billion to two Billion. The “Cash out” is by the lender and the “additional proceeds the borrower has to borrow would not be applied to any “other purposes” except calling the 2006 Bonds.
    It is unclear why the Community College district agreed to this arrangement back in 2006. Did they not understand how Call provisions usually work.

    • newspaperfanof50yrs

      what are the names of the the individuals at JP Morgan and at the Community College district, that put this agreement together, what are their job titles and what were their motives?