4. Competitive Bidding, Negotiated Bid, and Other Manner of Issuing Debt Securities
Competitive bidding in the financial markets refers to a process whereby an issuer (a utility) solicits bids from a pre-selected group of underwriters13 for a proposed securities offering. The terms of the financing, such as denomination, maturity, transaction size, timing, and other provisions of the competitively bid solicitation, are all dictated in advance by the issuer. At an appointed time, each bidder submits a bid to the issuer with a committed price or interest rate at which it will purchase the securities. The bidder providing the lowest cost of funds is awarded the transaction, underwrites the entire issue, and is obligated to underwrite (purchase) the entire offering, whether or not it is able to ultimately sell the securities to investors. Thus, the bidder in a competitive bid takes all the sales risk. To compensate for this risk, the bidders normally include a risk premium in their bids.
When debt securities are issued via a negotiated bid, the issuer selects one or more underwriters in advance of the financing and works with those firms to design, structure, size and otherwise determine the optimal financing terms. The underwriters provide advice on market conditions and potential investor demand based on prices, interest rates, credit risk levels, timing of the issue, expertise and market knowledge of the issuer's existing securities and other recent offerings. Based on these discussions, the issuer is able to determine the terms of the issuance and market the issuance based on current market conditions. Communication between the underwriters and investors helps the issuer determine if changes need to be made to the issuance. The underwriters then develop an "order book" of the investor demand. The greater the investor demand (a large order book), the lower the cost to the issuer.
The Private Placement of debt securities occurs when a utility issues debt securities directly to a lender. This lender could be an individual investor, a bank, an insurance company, a government entity, or other entity with which the utility has a direct relationship. Private placement of debt normally occurs when the issuance amount is smaller than those normally put out for bid or access to the competitive market by the issuer is limited.
Loans received through government entities, such as Safe Drinking Water Act loans and pollution control bonds, and Rural Utilities Service loans, are governed by their own sets of rules and regulations, and therefore do not lend themselves to either competitive or negotiated bids. These types of loans may be issued by local, state, or federal agencies to the various types of utilities.
13 Entity that administers the issuance and distribution of debt securities from a utility. An underwriter buys the debt securities from the issuer and sells them to investors via the underwriter's group of potential investors.
