Minnesota charter schools (use of junk bonds)

This story came to the light because of the hard work and diligence of Tony Kennedy, an investigative reporter for the Star Tribune. Watch him talk about his investigations in this 2009 video interview.

TONY KENNEDY: “Well the story deals with charter schools that have built new schools, or have bought new schools, essentially with state funds and not getting voter approval to do it. They use junk bonds essentially…Well it means that they get a facility that they can control, which they like, and it’s usually a fixed rent for 30 years, which is also good for the schools. But it’s a costly way to finance these schools because there’s lots of fees involved, there’s lots of money raised that doesn’t go to the schools project it goes to the underwriters, the lawyers and consultants that do the deal.”

NOTE: Minnesota was the first state to pass a charter law (1991).

ALSO SEE: Minnesota charter schools (authorizers getting out of business)

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MINNESOTA LAWMAKERS TARGET CHARTER SCHOOL RULES: A STATE LAW FORBIDDING SUCH SCHOOLS FROM OWNING PROPERTY HAS LED TO ABUSE, ITS CRITICS SAY. December 1, 2009; Star Tribune (MN)

Minnesota lawmakers will begin probing the use of state lease aid money that charter schools have used to fuel a building spree paid for with high-cost junk bonds.

To curtail "abuse" of the fast-growing program, lawmakers will begin a series of hearings next week aimed at tightening controls and reducing costs for charter school projects, Sen. Kathy Saltzman, D-Woodbury, announced Tuesday.

A recent Star Tribune investigation revealed that some school insiders have benefited from questionable fees, and showed how charter school projects moved forward with little of the vetting that typically accompanies other public works. One school project was being led by a convicted sex offender until last month, when the newspaper exposed his past.

"These reported incidents are very disturbing to the public and are examples of how laws loosely drawn and a lack of oversight lead to financial abuse within the system,'' said Saltzman, chair of the Senate Subcommittee on Charter Schools.

The notion of revising Minnesota's lease aid program is supported by the state's leading charter school trade group, whose leader appeared with Saltzman at a news conference on Tuesday.

"We want to ensure that Minnesota citizens get the best value for their investment in public education,'' said Eugene Piccolo, executive director of the Minnesota Association of Charter Schools.

There are about 150 charter schools in Minnesota, and annual lease aid payments have climbed from $1.1 million to $42.4 million over the last decade, making the program one of the fastest growing expenses in the state.

Saltzman and Piccolo said one of the key issues that needs to be addressed is the law that bans charter schools from owning property. Charter school proponents have skirted that ban by using affiliated nonprofit building companies to buy or build new schools by issuing high-interest bonds that are later repaid with lease aid dollars.

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CHARTER SCHOOL FAILS AND BONDHOLDERS GET BAILOUT; November 29, 2009; Star Tribune (MN)

While junk-bond promoters claim taxpayers will never be forced to cover the costs of a failed charter school built with state lease-aid funds, that's exactly what happened in St. Paul.

The deal dates to 2000, when American Express purchased $8.3 million in bonds used to convert the old Science Museum of Minnesota into a charter school called the Minnesota Business Academy. The project also received $1 million in community development funds from the city of St. Paul. Former Lt. Gov. Joanne Benson, who headed the school, helped put the deal together.

In exchange for a hefty 8 percent interest rate, American Express accepted the risk of default and nonpayment.

In less than a year, the school was faltering. There were cost overruns and fundraising shortfalls, and the school was forced to borrow another $1.6 million.

To pay off its debts, the school needed 440 students, with each student representing more than $1,000 in annual lease-aid payments. But the plan backfired, and total enrollment crashed to 292 in 2004.

In 2005, city officials approved another bond offering that allowed the school to reorganize its finances. American Express got $6 million, while the city recovered a total of $451,352. The unsecured creditors were paid 10 cents on the dollar.

"The corporate folks got their dough,'' said St. Paul City Council Member Lee Helgen, who voted against the bond issue.

The restructuring lowered the school's long-term debt from $10.7 million to $6.6 million. But less than 12 months later, the school went broke and closed. The new bondholders had downtown land, an improved building and equipment valued at $7.4 million. The building was sold two years later for $3.5 million to the Church of Scientology.

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STATE CHARTER SCHOOLS PROGRAM IS 'OUT OF CONTROL': JUNK BONDS FUEL A BUILDING SPREE, BUT SCHOOLS ARE MORE CROWDED, INSIDERS ARE TAKING FEES, AND STATE REGULATORS CAN'T DO MUCH ABOUT IT. November 29, 2009; Star Tribune (MN)

Minnesota's charter school movement, which sparked a national rethinking of public schooling nearly two decades ago, has been infected by an out-of-control financing system fueled by junk bonds, insider fees and lax oversight.

State law prohibits charter schools from owning property, but consultants have found a legal loophole, allowing proponents to use millions of dollars in public money to build schools even though the properties remain in the hands of private nonprofit corporations.

The key to making it all work is the state's lease aid program, which was created 11 years ago to help spur competition in public education by offering rental assistance to groups promoting alternatives to district schools. In the beginning, many charters were located in dumpy strip malls and received no real-estate grants.

But the once-obscure program has snowballed into one of the fastest growing expenses in the state, with building projects receiving little of the vetting that typically accompanies other public works. One school project was being led by a convicted sex offender until this month, when the Star Tribune exposed his past.

In the past decade, 18 charter schools have been built with $178 million in junk bonds, with financing costs on some projects chewing up nearly a quarter of the funds raised. Twelve more charter schools have taken steps to buy or build facilities, and the state projects annual spending on lease aid to reach $54 million in 2013, up from just $1.1 million in 1998…

…"When district schools are closing, should we allow charter schools to build new buildings?" said Rep. Jim Abeler, R-Anoka, who was cleared in 2001 of legislative ethics charges for voting to boost lease aid even though he personally received the funds from a charter school he helped start. "These are being built with 100 percent state moneys, but who is minding the store on using that money well?"…

For major construction projects at district schools, elected school board members must win approval from voters for the money, but self-appointed charter school officials have been able to plan projects in relative privacy. Until recently, the state had virtually no veto power…

…Unlike 26 other states that have imposed caps on charter school expansion, Minnesota has no limits on the size of its program or on state support. There's nothing in the new law that would return the facilities to the state once they are paid for -- even if the school were to fail. In fact, school backers can continue to obtain lease aid even after construction bonds are paid off. And while the state's top education official must now sign off on new projects, few schools are ever halted because of state interference.

Taxpayer approval also remains unnecessary. A charter school simply needs to find a municipality willing to lend its name to a deal, even if that community is far removed from the school…

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WANT JUNK BONDS FOR CHARTER SCHOOL PROJECT? MEET JOHN CAIRNS; November 29, 2009; Star Tribune (MN)

In the specialized world of lease-aid deals, John Cairns is not merely a defender of the faith. He may be the supreme authority.

A former lobbyist, Cairns said he helped draft parts of the 1991 legislation that produced the nation's first charter schools as well as the subsequent law that established the rental assistance program known as lease aid. He has been profiting from those programs ever since, often pairing with broker Dick Ward and financial consultant Mark Beltz to arrange junk-bond financing for charter school projects.

Of the 18 charter schools built through lease-aid bond money, the Minneapolis lawyer played a key role in 15 of those deals.

"I think there are very few people in the last 20 years who have not only created a brand new area of law, which I have, but have been able to take their interest and commitment to the community and put it into a profession,'' said Cairns, an ex-president of the Minneapolis City Council who became interested in alternative education in the late 1960s. "I advise more clients on this issue than anyone else."

The money is good.

Records show Dougherty & Co. received at least $3.6 million in fees on nine charter projects, or enough to build a small school. Company executive Dick Ward said the underwriting fees for handling the bond deals are justified by the complexity of the transactions.

Cairns, who split from Briggs & Morgan to form his own law firm in 2007, said he has typically earned fees from the low $40,000s to the mid $50,000s per school, or about $600,000 over the past decade.

Les Hittner, director of Bluffview Montessori School in Winona, said Cairns and Ward dominate the business of charter school financing. Bluffview used the team's services twice to build and expand the charter school, even though Hittner said their fees were "rather costly."

"They have the experience,'' Hittner said.

When charter school officials meet anywhere in Minnesota to debate their real estate options, Cairns is likely to be there.

He extols the benefits of ownership over renting, reminding charter school officials they can't control a rented site over the long term, and that rents often include tax-related charges other schools don't pay. He explains how charter schools can legally get around a state prohibition on owning property by forming nonprofit building companies. And he claims Minnesota taxpayers will never feel the sting of a failed charter school project because any bond default would be eaten by investors, though that wasn't the case in 2005 when a charter school failed in St. Paul.

While public officials cringe at the costs of financing school construction through junk bonds, Cairns maintains the approach will pay off in the long run. Charter schools, he said, don't have to use some of the premium building codes that must be followed in the construction of regular public schools, allowing them to design more efficiently and create less space per student.

Public school districts create "monuments," he said, while charter advocates build "schools."