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If there’s one element of our recent investigation into donations to school bond campaigns that can be tricky to understand, it is the role of municipal bond underwriters.

Underwriters have been at the center of controversy over donations to California bond campaigns for years. There have been several legislative attempts to ban underwriters from donating to campaigns. None has succeeded.

But just what services these finance firms perform, and how they operate, can be hard to understand.

We’ve put together a list of seven questions and answers to detail what bond underwriters are, why they play such a vital role in financing school bond deals and why regulators are working on tightening the rules when it comes to these companies’ political donations.

1. What is an underwriter?

A school bond underwriter is a private entity, usually a large investment bank. The underwriter on a bond sale contracts to buy all the bonds being sold in that individual sale, known in the business as a “bond issue.”

Underwriters are essentially brokers. They buy bonds from districts and sell them to individual investors.

2. What is an underwriter’s role in the school bond process?

Bonds are essentially loans.

When a school district sells bonds, it is borrowing money from investors and promising to pay it back, with interest, over a certain period of time.

The investor on these deals, who lends the district money, walks away from the transaction with an investment — basically a piece of paper (a bond) that they can cash in at a later date for the money originally borrowed plus interest.

Bonds, then, are investments that can be bought and sold just like stocks and shares or baseball cards.

School districts aren’t in the business of selling investments very often. Most districts only sell bonds perhaps a few times a decade, if at all. Because districts need to find investors to buy all their bonds, they contract with a middleman — an underwriter.

The underwriter agrees to buy all the bonds directly from the district. That means the district only has to negotiate with one buyer instead of the dozens of investors who end up owning its bonds.

An underwriter is a little like a wholesaler. The underwriter buys all the investments, in bulk, at a discount. Then it sells those investments to individual investors.

3. How do underwriters make money from bond sales?

Underwriters make money two ways.

First, underwriters buy bonds from school districts at a “discount.” That’s essentially a fee that the underwriter gets paid for doing the deal. Fees vary, but in large municipal bond deals, underwriters often get paid hundreds of thousands of dollars in fees.

Second, underwriters can make money by selling the bonds that they have bought from the district. Once an underwriter has purchased a bond, it owns an asset that it can sell at a profit.

4. How do school districts select underwriters?

There is no legal requirement for a district to hold an open, competitive process to choose its underwriter. And districts seldom do. Rather, underwriters are often chosen after making an informal presentation to a school board. Or they’re simply chosen by district staff and approved by a school board.

Once an underwriter has worked for a district, the district often stays with the same firm. So, underwriters are often grandfathered in from one bond measure to the next.

5. What are negotiated and competitive bond sales?

When school districts sell bonds via a competitive sale, it means that several underwriters compete to see who can offer the lowest overall interest rate on the deal.

School bonds are rarely sold this way. They are usually sold in negotiated bond sales. That means a district negotiates a deal directly with one underwriter. The two parties agree on all the elements of the deal, from how much interest the district will pay, to how long the loan term will be.

6. Why is it controversial that underwriters give large amounts of money to school bond campaigns?

As our investigation detailed, underwriters are big donors to local school bond campaigns:

School bond underwriting across San Diego County has been dominated by six firms since 2006. In that time, those companies donated more than $280,000 to bond campaigns between them. Almost every time an underwriter donated more than $5,000, it won a lucrative contract to underwrite the district’s bonds.

In large bond deals, minute changes in interest rates can be worth hundreds of millions of dollars.

It’s therefore incumbent on school districts to make sure they get the best deal on each bond sale for taxpayers, who will foot the bill for repaying the loan.

California lawmakers have long been concerned about the fact that bond underwriters consistently make large donations to school bond campaigns and are then chosen by the district to negotiate their bond sales.

They’re worried that underwriters are buying access to lucrative deals, and that the donations might influence districts to choose underwriters that may not be giving taxpayers the best deal.

7. Who oversees underwriters and what are they doing to keep the system honest?

Nationwide, the municipal bond business is overseen by the Municipal Securities Rulemaking Board, a federal regulator that can establish rules that bond underwriters must abide by.

Over the years, the MSRB has tightened the rules on political donations from underwriters. In 2010, the Securities and Exchange Commission approved a new MSRB rule requiring municipal bond dealers and banks to publicly disclose any contributions to bond ballot initiatives.

The chairman of the MSRB board is Jay Goldstone, who is also the chief operating officer for the city of San Diego (his last day at the city is March 1).

Goldstone said the MSRB is aware of the negative publicity over political donations and is actively working to regulate the donation process.

“At the worst-case scenario, we’re dealing with a perception,” Goldstone said. “And if the perception is somebody bought the business then it clouds everything else.”

Will Carless is an investigative reporter at Voice of San Diego currently focused on local education. You can reach him at or 619.550.5670.

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Will Carless

Will Carless was formerly the head of investigations at Voice of San Diego.

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