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11.437 Financing Community Economic Development

M.I.T. Department of Urban Studies and Planning 11.437 Financing Community Economic Development Fall, 1998 Course Information and Syllabus Class Time: Tuesday, Thursday, 11:00 A.M. to 12:30 P.M. Meeting Place: Room 5-134 Instructor: Karl Seidman Office: 9-521 Phone Number: 253-3964 Office Hours: Tuesday, Thursday, 9 A.M. to 11:00 AM or by appointment. Course Description and Objective Financing Community Economic Development focuses on the tools and programs available to the economic development practitioner to addresses capital needs for businesses and economic development projects. The course begins with an overview of the institutional structure and operations of private capital markets to provide an understanding of capital market imperfections and the financing gaps resulting from these imperfections. In the second section, we will review the different types of business financing needs and how to analyze a firm and it's financial statements to understand its capital needs and ability to support financing. Next, the course will survey the program and institutional models that exist to address capital gaps and stimulate private investment in community based development, including federal funding resources. Program management is the focus of the fourth part of the course where issues of program design, operations and capitalization will be reviewed. Finally, students will be introduced to public finance tools and their application to economic development. The course objective is to provide students with the following knowledge base and skills: 1. An understanding of the operation of private financial markets and their limitations and imperfections in serving economic development finance needs. 2. Familiarity with the program models and institutions that can be used to address community and business finance gaps. 3. Knowledge of federal economic development programs. 4. An understanding of operational needs and best practices in managing economic development finance programs. 5. An introduction to public finance tools and their economic development uses. 6. An ability to match feasible program approaches and models to address specific development financing gaps and business capital needs. 7. The capacity to identify institutional and program resources that can be used to meet economic development financing objectives 8. The ability to define the organizational/capacity needs to operate economic development finance programs. 9. An understanding of different business capital needs and the appropriate financial instruments and institutions used to address these needs. 10. An introduction to interpreting and analyzing business financial statements. Reading Materials and Assignments Reading assignments are specified for each class in the course syllabus. Optional readings are also listed and students are encouraged to read or skim these materials as well. Reading assignments are from the following course textbook and a photocopied packet of reading materials ("The Reading Packet"). Many classes include case study readings used as a focus for class discussion. Careful reading of the case study to determine critical facts and circumstances of the case, to identify the critical issues raised by the case, and to be prepared to participate in class discussions is required. Required Course Textbook: 1. Julia Ann Parzen and Michael Hall Kieschnick, Credit Where It's Due: Development Banking for Communities (Temple University Press, Philadelphia, PA, 1992) 2. R. Taub, Community Capitalism, (Harvard Business School Press, Boston, MA, 1988) Textbooks are on sale at the MIT Coop at Kendall. The Reading Packet is available from Graphic Arts in the basement of building 11. The photocopied reading packet is also on reserve at Rotch Library. Course Requirements In addition to the completion of all reading assignments and participation in class discussion, students are required to complete the following assignments: 1. Several short case studies analyses. 2. A term project report. Each of these requirements is discussed below. Case Study Analyses Five case study write-ups are described in the syllabus. These case study write-ups include financial analysis and a brief (typically 2-3 pages) write-up that addresses specific questions posed in the assignment. The written discussion should incorporate the results of the financial analysis required in the assignment and include the financial analysis or projections as an appendix. The five case study assignments are: September 29: Working Capital Loan Request Analysis (Crystal Clear Window Company) October 8: Employee Buyout Loan Request Analysis (Phoenix Forge) November 3 : Community Reinvestment Act Campaign Design (Wilmington Delaware) November 10: Financing Plan for an Inner City Supermarket December 1 : Lending Agency Recapitalization (Development Finance Agency) Term Project The term project entails a team of three or four students working on a finance project for a client during the semester. A list and brief description of projects and clients is included in a separated attachment handed out with the syllabus. Only one team may work on a project. A list of the team members and the project selected by the team is due by September 29. A brief (2-3 page) project work plan is due on October 15. The final written project is due December 15, the last day of class. Grading Grading will be based on each students' demonstration of their knowledge of the course material and capacity to apply this knowledge to projects, programs and development finance needs. All course work will be considered in determining grades, with class participation accounting for 1/3 of the grade, case study write-ups for 1/3 and the term project for 1/3. CLASSES AND READING ASSIGNMENTS PART I: COURSE INTRODUCTION Class #\Date 1. Sept. 10 Role of Finance in Economic Development. Review of financial terms and calculations 1. Parzen & Kieschnick, Chapter 1 This class provides an overview of the course content and objectives and discusses the role of financing in economic development strategies. It also will review basic finance terms and calculations. THERE WILL BE NO CLASS ON TUESDAY, SEPTEMBER 15. INSTEAD, THE COURSE WILL MEET AN ADDITIONAL DAY AT THE END OF THE SEMESTER PART II: BUSINESS FINANCING 2. Sept. 17 Topics Business Finance Needs and Financing Instruments 1. Judith Richards, Fundamentals of Development Finance, chapters 2, 3 and pp. 40-45. 2. Brealey & Myers, Principles of Corporate Finance, Chapter 14, 24 We will look at the variety of securities and instruments used in business finance to understand what differentiates debt from equity financing, the different forms of debt financing, and the advantages and disadvantages associated with different financing instruments. This information will be applied to gauging the appropriateness of different financing instruments for various stages of businesses development and businesses' capital needs. 3. September 22 Topics Analyzing Finance Needs I: Introduction to Accounting and Financial Statements Readings 1. Anthony and Reese, Accounting: Text and Cases, Chapters 2,3 In this session, we will briefly review the principles of accounting, how to interpret financial statements, including the balance sheet and income statement, and how to relate financial statements to cash flow analysis of businesses. 4. September 24 Topics Analyzing Finance Needs II: Assessing a firm's business, financial structure and capital needs Readings 1. Anthony and Reese, Accounting: Text and Cases, Chapter 13 2. Judith Richards, Fundamentals of Development Finance, chapter 10 This class will expand upon the understanding of financial statements to develop analytical tools that can be used to evaluate the financial needs of companies and the most appropriate financial instruments to meet these needs. Among the tools discussed will be business competitive analysis, ratio analysis, cash flow analysis and forecasting cash needs and debt service capacity. A framework will presented for the analysis of a firm that seeks financing which incorporates, community impacts, market and business considerations and financial feasibility. 5. September 29 Topics Working Capital Finance Readings 1. Brealey & Myers, Chapter 29 2. Crystal Clear Window Company Case Study This class will look in depth at working capital financing needs. We will discuss what working capital is and why it is important to a business. We will also look at the difference between "cyclical" working capital needs and " long term" working capital needs and discuss financial instruments and institutional sources for working capital. Finally, we will discuss the issues involved in evaluating a firm's need for working capital borrowing and extending working capital financing. Case assignment: Review the Crystal Clear case study, calculate Crystal Clear Window Company's net working capital position for the prior year (1969) and for 1970 based on the projections provided for 1970. What do these calculations suggest about the company's ability to repay the $75,000 loan? Write a brief (one to two page) recommendation with supporting analysis on the loan request and attach your calculations to it. TERM PROJECT TEAMS AND SELECTIONS ARE DUE 6. October 1 Topics Fixed Asset Financing Readings 1. The Arthur T. Young Guide to Financing For Growth, Chapters 5 and 6 2. Cambridge Biotech Case Study Fixed asset financing is essential for the growth and expansion of businesses. The greater uncertainty and longer repayment terms make it more difficult to secure such financing for young and small firms. We will look at the different financial instruments and institutional sources for fixed asset financing, the unique issues in financing longer term capital needs, and the role of fixed asset financing in business growth, and evaluation of a firm to extend fixed asset financing. For class, review the Cambridge Biotech Case Study and prepare a net cash flow statement using the income statement and balance sheet to determine the company's available cash flow to support debt for the year ended 1993. What do think is the company's financial capacity to support the proposed financing for the new plant? What recommendations would you make about the Land Bank financing Cambridge Biotech Corporation's new plant? 7. October 6 Topics Real Estate Financing Readings 1. William B. Blueffeman and Jeffrey D. Fisher, Real Estate Finance and Investment, chapter 17, pages 553-589 This class will provide an overview of financing for real estate development projects including the components of a development budget and sources of financing, the components of a property's operating revenue and costs, and financing issues and needs for economic development oriented real estate projects. 8. October 8 Topics Analyzing Business Financing Needs III Readings 1. Phoenix Forge Case Study To strengthen our understanding of business financing and analytical skills in evaluating a firm's financial needs and capacity to support financing, we devote this class to an analysis of the Phoenix Forge case example through an role play enactment of a Community Loan Fund Board meeting to consider the Phoenix Forge loan request. Written case assignment. Prepare a 3 page analysis and recommendation for the Community Loan Fund on the financing request for Phoenix Forge. The analysis should address four issues: (1) the community benefits of the project; (2) the company's business plan, (3) an analysis of the financial projections; and (4) the proposed financial structure for the new employee buyout. Include calculations of key financial ratios, projected cash flow available for debt service, and debt service coverage provided by cash flow before debt payments. PART III: DEVELOPMENT FINANCE PROGRAM MODELS AND FEDERAL RESOURCES NO CLASS OCTOBER 13 DUE TO COLUMBUS DAY HOLIDAY 9. Oct. 15 Topics Introduction to Capital Markets, Capital Market Imperfections & Financing Gaps Readings 1. Parzen & Kieschnick, Chapter 2 2. Litvak & Daniels, Innovations inDevelopment Finance, Chapters 1, and pp. 36-52 In this session, we will focus on the institutional structure and operations of private capital markets, including the direct "public" markets and the "private" markets of financial intermediaries. Discussion of these markets will emphasize what economic development role they play, which institutions are most important for community based economic development and the capital market failures and imperfections that occur in private capital markets. These market failures define the financing gaps that economic development finance programs and institutions are designed to address. TERM PROJECT WORK PLAN DUE 10. October 20 Topics Program Models I: Revolving Loans Funds Guarantees and Credit Enhancement Readings 1. D. Hansen, Banking and Small Busines, pp. 86-96 2. Bingham et. al., chapter 11 3. Levere, Gillen and Marcoux, "Counting on Local Capital," Economic Development Commentary, Vol. 21, No.4, pp. 20-26 Revolving loan funds (RLFs) and loan guarantee programs are the most common business finance programs while having the longest history and track record. This class will review some of the key models and strategies employed by RLFs and guarantee programs and discuss important principles, issues and best practices. 11. October 22 Topics Program Models II: Equity Funds Royalty Investment Funds Readings 1. Bygave & Timmons, Venture Capital at the Crossroads, chapter 1, pp. 1-30 2. Community Development Finance Corporation Case Study 3. Mass Product Development Corporation materials Venture capital and equity-like investments are a more recent and growing model of economic development financing, especially to support technology based business and commercial development of new technologies and products. Our discussion will include the unique nature of these financing sources, what instruments they use, how such financing can be secured and what are the issues involved in evaluating firms for early stage equity. We will also look at the experience of the Massachusetts Community Development Finance Corporation and the Massachusetts Product Development Corporation to consider strategy and management issues for these institutions and the relative merits of royalty based financing, direct equity investment and convertible debt. 12. October 27 Topics Program Models III: Bank CDCs Bank Holding Company Readings 1. NCUED, CDCs: Instruments for Community Reinvestment, pp. 1-15 (balance of book is optional) 2. R. Taub, Community Capitalism, chapters 1 and 8 3. Parzen & Kieschnick, pp. 78-79, 101-102 and 107-108. 4. Mellon Bank profile in Small Business Financing for Economic Development Banks can be direct financing vehicles for many community economic development activities. This class will focus on two mechanisms: bank CDCs and bank holding companies. The relative merits of the commercial bank versus the savings bank models will be discussed. We will use the experience and approach of Shore Bank in Chicago as an example of using a bank holding company as a vehicle for community economic development. 13. October 29 Topics Program Models IV: Mobilizing Private Capital: Community Reinvestment Act Readings 1. Mayer, Sampanes, & Carras, Local Officials Guide to the Community Reinvestment Act, pp. 7-25, 49-55 2. Banker's Quick Reference Guide to CRA 3. John T. Metzger, "The Community Reinvestment Act and Neighborhood Revitalization in Pittsburgh" 4. Wilmington, Delaware Case Study As the primary source of business credit, private commercial banks and thrift institutions are the key community institution in making capital available to small businesses and economic development projects. Under the federal Community Reinvestment Act, banks are required to demonstrate that they are meeting the full range of credit needs of the communities they serve. Since its enactment in 1977, there have been extensive efforts and programs either initiated directly by banking institutions and under pressure from community organizations to expand credit for community development. While much of this activity has focused on affordable housing, there is growing emphasis on small business finance. In this sessions, we review the bank regulatory structure and the Community Reinvestment Act. Pittsburgh's experience will serve as a case study on strategies to leverage community development financing commitments from banks. Written Case Analysis: Prepare a brief (2-3 page) plan on how the black community in Wilmington should undertake a CRA campaign to expand lending and banking services for their community. Discuss the best practices from Pittsburgh's experience that might be applied to Wilmington's situation. Due November 3 14. November 3 Topics Program Models V: Community Based Financial Institutions Community Credit Unions Community Loan Funds Readings 1. Michael Swack, "Community Finance Finance Institutions," in Beyond the Market and The State, Bruyn & Meehan, ed. 2. Parzen & Kieschnick, chapter 5 3. Community Self-Help Credit Union profile from Small Business Lending for Economic Development Community based and controlled financial institutions have been a small but rapidly growing source of development finance. These institutions are privately funded through local deposits or philanthropic support or both. We will review the two major institutional models: credit unions and loan funds, look at the particular benefits, issues and constraints inherent in these models. 15. November 5 Topics Program Models VI: Micro-loan and microenterprise financing Readings 1. Eggcomb et. al. The Practice of Microenterprise in the U.S., pp. 1-5, and pp. 11-30 2. Cathy Mahon, Building An Enclave Economy: The Experience of Micro- lending in Lawrence, Massachusetts, pp. 32-74 3. Diane Myerhoff, "Federal Funding Opportunities for Microenterprise Programs" The capital and technical assistance needs of very small businesses pose special challenges. Over the past decade, numerous programs have been developed to support the creation and financing of "micro-businesses" as strategies to alleviate poverty, assist the unemployed and stimulate local job and income generation. In this class, we will examine the two primary micro-business development and lending program models as well as review key operating issues and principals. The Lawrence. Massachusetts experience will serve as a case study for considering impacts, success factors and best practices. 16. November 10 Topics Federal Programs: EDA Programs, SBA Programs, HUD 108 Programp, Office of Community Services Readings 1. EDA Program Summary 2. SBA Brochure 3. HUD Fact Sheet on CDBG Program 4. Jane Hawkers, HUD Section 108 Financing 5. Inner City Supermarket Case Study This session will provide an overview of federal economic development programs including programs administered by the Economic Development Administration, the Small Business Administration, HUD's community development block grant program--the largest source of federal community development funding, and the smaller programs under the Office of Community Services in the Department of Health and Human Services which are oriented to community based organizations and anti-poverty efforts. Case Study Analysis: Prepare a financing plan for developing the inner city supermarket. Determine the amount of senior debt that can be supported and the amount of additional "gap" funding needed. Where should the CDC plan to secure the debt financing and what federal funding sources do you recommend to provide the gap funds? 17. November 12 Topics Building a Portfolio of Programs: Three Examples Readings 1. SEED Corporation Case Study 2. R. Taub, Community Capitalism, chapters 2,5,6, and 7 3. Southern Dallas Development Corporation Profile from Small Business Lending for Economic Development To effectively meet community economic development financing needs, local governments or non-profit organizations often must establish multiple programs targeted at different financing needs and utilizing different sources of capitalization. Through the experiences of several organizations, we will look at how a portfolio of programs can be designed, funded and managed as well as the challenges of developing new programs and adapting to a changed environment. PART IV: PROGRAM MANAGEMENT 18. November 17 Topics Issues in Program Management: Program Planning and Design Readings 1. Parzen & Kieschnick, chapters 3,4 2. Mt. Auburn Associates, Design and Management of State and Local RLFs, Chapter 3 3. Emerging Technology Fund Case Study The first step in developing successful economic development finance programs is defining clear goals for the program and designing it to effectively achieve these goals on a sustainable basis. For our consideration of program planning and design, we will look at how finance programs relate to an organization's mission and strategy, the role of local capital market analysis in program design and how operational, institutional and financial factors influence program design. We will use the Emerging Technology Fund Case Study as a focus for discussing issues faced in designing economic development financing programs. 19. November 19 Topics Issues in Program Management: Underwriting & Structuring Investments, Servicing & Portfolio Management Readings 1. Mt. Auburn Associates, Design and Management of State and Local RLFs, Chapter 4, 2. Parzen & Kieschnick, 7 (chapter 8 optional) 3. Portland Development Commission Case Study in Factors Influencing the Performance of US EDA Revolving Loan Funds The core competency in operating loan funds is making good decisions on which loans or investments to make and effective oversight of these deals to help keep them on track and resolve problems. This class will focus on these activities, including the options for organizing and managing these functions and best practices in the field. Effective program management with limited resources--typical of public sector and community organizations-- is prominent concern along with linking financing programs to other economic development resources. We will use the case study of the Portland Development Commission's Revolving Loan Fund as a case example to identify best practices and to discuss ways to improve the loan fund's strategy and operations. 20. November 24 Topics Issues in Program Management: Capital Management and Recapitalization Readings 1. Parzen & Kieschnick, chapter 6, 9 2. Tucker Anthony, Asset Securitization 3. Frank Altman, "Tapping Capital Markets for Community Development", Commentary, Spring, 1993 4. DFA Loan Securitization Case Study With limited resources and capital needs that far exceed available funds, economic development finance programs are constantly challenged to manage financial assets to maximize capital for new investments and to expand their capitalization. We will analyze tools to enhance the use of assets and expand capital and discuss how to manage assets and liabilities for maximum effectiveness. Financial modeling of development finance institutions will also be reviewed. Due Decemb they use. Based on the projected cash flow and assumptions in the case study, what amount of capital could they raise from a securitization transaction? What might DFA do to reduce investor risk and improve the credit strength of the financing? 21. December 1 Topics Term Project Presentations None This class will be used to review and discuss term projects. Each team will make a 10 - 15 minute presentation on their term project, analysis and preliminary recommendations. The presentation will be followed by class discussion. 22. December 3 Topics Term Project Presentations Readings None This class will be used to review and discuss term projects. Each team will make a 10 - 15 minute presentation on their term project, analysis and preliminary recommendations. The presentation will be followed by class discussion. PART V: MUNICIPAL FINANCING TOOLS 23. December 8 Topics Municipal Finance Tools I: General Obligation Bonds, Revenue Bonds, Tax Increment Financing 1. Kaufman, chapter. 13 in Aronson, ed., Management Policies in Local Government Finance 2. Litvak and Daniels, pp. 99-107 3. Bingham, et. al., Chapter 6 Multiple instruments are used to finance government capital expenditures, infrastructure improvements and projects. This class will provide an overview of how the municipal bond market operates and discuss the major types of municipal bond structures, their relative advantages and potential use for financing business and economic development projects. The use of tax increment financing for economic development will be discussed. 24. December 10 Topics Municipal Finance Tools II: Special District Financing and Assessment Financing 1. Lawrence O. Houston, Jr., "Business Improvement Districts" in Commentary, Spring, 1996 2. Porter and Peiser, Financing Infrastructure to Support Community Growth, pp. 8-31 3. Orlando TIF Case Study Assessment financing and special districts can be an effective way to finance projects or investments where the benefits are fairly localized and revenues to support these investments can be generated from new tax revenues from this local area. The primary focus of this class will be to introduce special district financing and explore their application to economic development projects. The application of this tool to business improvement districts will be reviewed. Orlando's experience using tax increment financing to improve its downtown will provide a case study to explore the issues faced in using this type of municipal finance method. 25. December 15 Topics Course Conclusion Readings 1. Parzen & Kieschnick, Chapter 13 We will also look back over the semester's work, including the term project experiences, to identify key themes and conclusions related to community economic development finance. Possible areas of discussion include the role of financing in achieving economic development objectives, are there "first" principles that should guide the economic development finance activities? What can we say about best practices in managing programs and institutions? Can development finance institutions survive as an alternative capital market? What are key challenges they face in the future? TERM PROJECT DUE

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