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Illinois Doubles Underwriters, Uses Lottery to Decide Rotation

Illinois, which shares with California the lowest bond rating among U.S. states, plans to issue debt through a negotiated sale in January in the first use of its new underwriter-rotation system.

The state doubled the number of firms qualified to serve as senior managers in its bond sales to 20, from 10 in the previous pool, according to its procurement bulletin website. It also implemented a rotation to determine who will manage each sale.

The rotation order was decided by a Sept. 21 public drawing in Chicago by Linda Kollmeyer, who selects winning numbers on television for the Illinois Lottery. Samuel A. Ramirez & Co./US Bancorp is first in line, according to a state notice. Of the 48 bidders for the top role, 41 are eligible to work for Illinois in some capacity. Twelve qualified for the co-senior manager pool and nine for co-manager.

“The state pays a significant amount of money to the banking industry,” John Sinsheimer, Illinois’s capital-markets director, said in a telephone interview. “We feel that those payments should be made available to a wide variety of banks, not just a few.”

Illinois plans to issue bonds “as it needs the money,” Sinsheimer said. The smaller, more frequent bond sales will “better match up against the cash-flow needs of our capital program,” he said. Details of the January general-obligation bond offering aren’t set, he said.

Skipping Possible

Still, the ability to underwrite a $400 million deal was a requirement to qualify for senior manager, Sinsheimer said. The state may skip underwriters if a sale is too large for the firm next in line, or if it requires special knowledge or expertise, he said.

“I had never heard of a lottery before it was used in Illinois,” said Frank Hoadley, Wisconsin’s capital-finance director and a member of the Chicago-based Government Finance Officers Association. “Bonds are practically flying off the shelves right now, but that’s assuming you don’t have underlying issues. Illinois might have felt it would be better served with more firms selling its debt.”

Large underwriters like Citigroup Inc., Bank of America Corp. and Morgan Stanley are “probably not that excited about the expansion” because it will generate less income for them, Sinsheimer said. The companies are 12th, 13th and 14th in the rotation, respectively. Combined, the three have a market capitalization of more than $172 billion, Bloomberg data show.

Pool Shrank

Between Sept. 9 and Sept. 23, Illinois asked for five volunteers to move down to the co-senior level, Sinsheimer said. The companies that willingly reclassified were Piper Jaffray & Co., PNC Bank, William Blair & Co., Cabrera Capital Markets LLC, and Oppenheimer & Co.

A list of 25 senior managers was “too long,” based on the number of deals during the last two years, Sinsheimer said. The top managers make the most money in a deal.

If banks know in advance when they’ll be underwriters, Illinois may not get the best rates possible, said David Vehaun, the city manager of Rock Hill, South Carolina. He also said he never heard of rotating among underwriters.

“They have to have some rules in place to make sure they get the best deal as they work their way down the line,” said Vehaun, who is also a member of the government finance-officers group.

While the state boosted its underwriters and set up a rotation, it opted to cut its bond counsel to one firm and stop alternating companies. The Chicago law firm of Mayer Brown LLP earned the highest rating among the 18 competitors, according to the procurement bulletin website.

One Counsel

New regulations from agencies such as the U.S. Securities and Exchange Commission and the Municipal Securities Rulemaking Board, along with the effect of the Dodd-Frank Wall Street Reform and Consumer Protection Act, prompted the state to seek a single bond counsel, Sinsheimer said.

The state will offer general-obligation bonds through competitive bidding in December, thus ignoring the underwriter rotation, Sinsheimer said.

Goldman Sachs Group Inc., JPMorgan Chase & Co. and Barclays Plc are three of the last four underwriters on the rotation list. The banks have a combined market cap of about $200 billion, Bloomberg data show.

“Which banks we use, and the number of banks on the list have no impact on the financial health of the state,” Sinsheimer said. “We expect that all the banks that qualified for senior bank roles will do a superb job of pricing our debt.”

Illinois lawmakers in January increased personal-income taxes by 67 percent and the corporate rate by 46 percent to eliminate half of a projected $13 billion deficit. Illinois lawmakers ended their spring session June 1 without paying an estimated $6.2 billion in overdue bills to vendors.

Illinois’s general-obligation debt is tied with that of California as the lowest rated in the estimation of Moody’s Investors Service, at A1. Standard & Poor’s has it at A+, two levels above California. Illinois has 12.8 million residents, fifth-most in the country behind California, Texas, New York and Florida, according to Census Bureau data.

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