Brazos Stuck with $7 Billion Auction-Rate Debt

Brazos Group Inc., the fourth largest student-loan company in the U.S., is stuck with $7 billion of debt it can't refinance, restructure or buy back.

Brazos, the largest municipal borrower in the $330 billion auction-rate securities market, is getting squeezed because it pays about 5 percent on auction-rate bonds (compare that to 2 percent last year) and receives about 4 percent on the loans backing the securities. Debt costs for Brazos have climbed by $11 million a month.

Since the auction-rate market's collapse this February, Brazos and more than 100 student lenders stopped making government-backed loans when 98% of their auctions failed to find buyers. But Brazos isn't able to generate the cash needed to buy back the bonds or pay the costs to replace them.

Like other student loan agencies and nonprofits, Brazos began using auction-rate securities a decade ago because they incurred lower rates than other types of debt. The securities attracted Brazos when the difference between what it received in interest on loans and its borrowing costs fell to about 0.2 percentage point in the 1990s from 1.5 percentage point in the 1970s. It generated the cheapest funds.

Brazos borrows through the Brazos Higher Education Authority and Brazos Student Finance Corp. and used bonds to increase lending by almost 60 percent to $11.19 billion from 2005 through 2007. Currently, auction-rate securities make up about 60 percent of Brazos's $12 billion of debt.

In 2004, Brazos officials said they never questioned the auction process controlled by Wall Street banks. Now, Brazos wants banks like Citigroup and Bank of America to find a solution to their $7 billion problem. Other student-loan agencies are suffering too. At least 3,722 workers in the student loan industry lost their jobs in recent months as lenders cut bank on loans. Brazos fired half of its staff (163 employees) in February.

Brazos say it will begin lending again after the U.S. Department of Education begins buying some guaranteed student loans. However, that may allow Brazos to stay in business but it won't help Brazos refinance or restructure its auction-rate securities because any money it gets under the plan must go toward new loans. It probably won't be able to sell any of the loans that back its bonds so it doesn't help the auction-rate problem.