The State College Area School Board of Directors took action on Monday night to settle the district's lawsuit with the Royal Bank of Canada (RBC) over the enforceability of an interest rate swap agreement.
Below is the full statement released by the board on Monday.
At its Jan. 14 meeting, the Board of School Directors of the State College Area School District took action to settle the District’s lawsuit with the Royal Bank of Canada (RBC) over the enforceability of an interest rate swap agreement. This settlement will cost the SCASD $9 million dollars over the next 5 years. Since the parties entered the agreement more than six years ago, most of the Board membership has changed, senior District administrators have moved on, and the economic climate has changed dramatically. We believe it is important to summarize the circumstances leading to our decision.
In 2004, the District received authorization from the Pennsylvania Department of Community and Economic Development to issue $58 million in variable rate bonds as part of the plan to fund renovations to its high school buildings. In April 2006, the Board unanimously approved a financial derivative contract with RBC to link these bonds to a "forward looking interest rate swap." The agreement obligated the District to make semi-annual payments to RBC at a "synthetic fixed interest rate" of 3.884 percent based on a "notional amount" of $58 million for 20 years. In exchange, RBC would make monthly variable payments to the District based on a percentage of the London Interbank Offered Rate, or LIBOR. The exchange of payments was set to begin in December 2007.
The agreement tried to simulate a more favorable interest rate by converting variable rate bond payments into fixed payments. In reality, the net cost would depend on the movement of global interest rates. Rising or stable rates would place the District in a more favorable financial position to continue or terminate the swap. If rates fell, the difference between the payments would increase in RBC’s favor. In a declining or low global interest environment, like today’s market, the District would owe RBC a final payment to terminate the swap.
After bids for the proposed high school came in $17 million over budget in May 2007, the Board canceled the project, and the $58 million in bonds were never issued. At that time, the cost to terminate the swap agreement would have been several hundred thousand dollars.
In the fall of 2007, plummeting interest rates continued to erode the District’s financial position in the swap. Facing $3 million in termination fees and a future, albeit undetermined, high school project, the Board voted in November 2007 to extend the start date of the swap for another three years.
