Budget Round 5: Economic Development

Last Monday night, the Ann Arbor city council held its fifth and possibly final meeting devoted exclusively to the city’s financial planning, before it adopts the city’s FY 2011 budget on May 17, 2010. The budget will be formally presented to the city council by city administrator Roger Fraser at its Monday, April 19 meeting.

At the April 12 budget meeting, the council heard presentations on two related entities: the Local Development Finance Authority (LDFA) and Ann Arbor SPARK. The LDFA contracts with Ann Arbor SPARK for various business development services.

The two key themes that emerged from the LDFA presentation were consistent with the overall topic of the city’s budget: (i) Where does the LDFA get its money? and (ii) What does the LDFA spend its money on?

Part of the LDFA’s revenue goes towards economic development activities – a business accelerator – for which it contracts with Ann Arbor SPARK. The presentation to the council from SPARK’s CEO, Michael Finney, was followed by testimonials of companies who said they had benefited from SPARK’s efforts.

Development activities are just one kind of investment that the LDFA could make under its TIF (tax-increment financing) plan. It could also make investments in physical infrastructure. During question time, Sandi Smith (Ward 1) drew out from Stephen Rapundalo (Ward 2) the possibility that the LDFA could contemplate an investment in a fiber-optic network. Rapundalo, who serves on the LDFA board, indicated that such an LDFA investment might be possible, even if Google does not select Ann Arbor as a test community for its current fiber-optic initiative.

The council also heard from the economic development community about how the name “Ann Arbor” is perceived in the rest of the world.

The part of the council’s meeting dedicated to deliberations on its own budget was comparatively brief. Councilmembers were keen to portray in a positive light a couple of different issues, among them a potential increase in the city’s debt load resulting from a failure to complete a $3 million sale of property at First & Washington, as well as proposed increases in water rates.

Local Development Finance Authority (LDFA)

The presentation to councilmembers on the LDFA was made by their colleague, Stephen Rapundalo (Ward 2), who sits on the LDFA board in the slot designated for a city councilmember, and currently chairs the body.

A point of emphasis for Rapundalo – to counter what he characterized as “misinformation” – was to make clear that there are some taxes not captured by the LDFA.

The two kinds of taxes identified by Rapundalo and displayed on the slide in his presentation as not captured by the LDFA are Ann Arbor Public Schools debt service and the enhancement millage. Ann Arbor’s public schools “remain whole,” Rapundalo said, due to the way property taxes are redistributed by the state.

LDFA: Where the Money Comes From – Capture

By way of more detailed background, it’s worth considering what’s meant by “capturing taxes.”

The LDFA is funded through tax-increment financing (TIF) in a manner similar to the way the Ann Arbor Downtown Development Authority is supported. A TIF district allows authorities like the LDFA and the DDA to “capture” some of the property taxes that are levied by other municipal entities in the district.

There’s a contrast, then, between property taxes that are “levied” by a municipal entity that has the right to collect (i.e., levy) them, and taxes that are “captured” by an authority like the LDFA or the DDA.

The notion of “capture” conveys at least two ideas. First, a TIF authority does not itself levy taxes – the legal right for the collection of taxes stems from some other municipal entity, like the city of Ann Arbor, or Washtenaw County or the Ann Arbor Public Schools (AAPS). This is sometimes one of their selling points: Creation of a TIF district does not contemplate creation of new taxes or raising taxes.

Second, if a particular TIF authority did not exist, the taxes it captures would be collected anyway, and those monies would have some other “destiny.” In most cases, that destiny would be direct use by the municipal entity that levied the tax. By way of a concrete example, one of the kinds of taxes captured by the DDA is the city of Ann Arbor’s general operating millage. If the DDA did not exist, then the portion of city of Ann Arbor taxes currently captured by the DDA would go to the city’s general fund.

In the case of the LDFA, the story of an alternative destiny for some of its captured taxes has an extra wrinkle. That’s a wrinkle involving capture on the increment for the AAPS general operating millage. If the LDFA did not exist, then the taxes collected on behalf of the AAPS for its general operating millage would not be used directly by AAPS, but rather would go to the state’s School Aid Fund, for redistribution among school districts statewide based on a per-pupil formula as determined on a specified “count day.” This is what underlies Rapundalo’s explanation that local schools would “remain whole.” [Previous Chronicle coverage with a primer on how public schools are funding in Michigan: "Does It Take a Millage?"]

The TIF plan for the LDFA discusses the potential impact to local school funding as follows:

Based on current state law, this Plan shall have no direct impact upon the local school districts, as it has no direct impact upon the per pupil reimbursement from the State to the public schools. The impact to the State School Aid Fund will be approximately $24,000,000 over the 15 years of the LDFA plan. This translates to approximately $1,600,000 annually, or $0.79/student statewide.

The state of Michigan’s School Aid Fund is administered in a way such that some districts get back more from the state than their millages contribute to the fund, while others get back less. Those that get back less – like AAPS – are known as “donor districts.”

The Ann Arbor school district’s status as a donor to the School Aid Fund is sometimes heard in defense of any possible negative impact on statewide school funding potentially caused by the LDFA’s tax capture. That is, the LDFA can be seen as a mechanism by which the Ann Arbor area recoups millage dollars that are lost to other areas of the state due to its “donor” status in the School Aid Fund. This recouping, of course, does not recover millage dollars for the direct benefit of the public schools.

The specific taxes that are captured by a TIF authority are spelled out as part of the set of formative documents for such an authority. For the Ann Arbor DDA, the relevant taxes that are captured are spelled out as follows [emphasis added]:

Per Public Act 197 (1975), as amended, the Ann Arbor Downtown Development Authority collects the tax revenues levied by the City of Ann Arbor, Washtenaw County, the Ann Arbor Transportation Authority (AATA), Washtenaw Community College, and the Ann Arbor District Library on the initial taxable value of all new real and personal property within the DDA District.

Prior to 1994, the DDA also captured Ann Arbor Public Schools taxes and the Washtenaw Intermediate School District taxes.

For the LDFA, the taxes to be captured are spelled out as follows [emphasis added]:

Under this Plan, tax increment revenues subject to capture by the LDFA shall include, to the maximum extent permitted by Act 281 of 1986, as amended, the following: Ann Arbor portion of the district – 50% of operating millage of local school districts and 50% of the State Education Tax levied upon the Captured Property. Ypsilanti: no revenue shall be captured at the present time. The LDFA shall not capture tax revenues attributable to the levies of any other taxing jurisdiction.

The specific geography of the LDFA district mentioned here – the union of the geographic areas specified in the respective DDAs of Ann Arbor and Ypsilanti – is one of two ways that the amount of taxes to be captured by a TIF authority is limited: geography and increment.

LDFA: How Much Gets Captured – Putting the “I” in TIF

If a TIF authority captured all of the property taxes levied by a municipal entity everywhere those taxes are collected, then there would be no tax revenue to the municipal entity. That is not how TIF authorities are set up. The first limitation is geographical – the specific area in which the Ann Arbor DDA can capture taxes, for example, corresponds to an area generally described as downtown Ann Arbor.

The second limitation is how much of the tax levy is captured in a defined TIF district. The “increment” in “tax increment financing” is the difference between some baseline of taxable value for properties in the district, compared to increases in the taxable value.

In the case of the DDA, the increment is defined to be the difference between the value of new construction and the previous value of the property. Any subsequent increases in the taxable value of the property as a result of market forces is not included in the increment on which the DDA captures taxes. This is sometimes called a “one-time increment.”

For the LDFA, the increment is defined as follows:

Beginning in 2003, the LDFA will capture ad valorem and specific tax levies on all new and incremental growth from the initial assessed value of Captured Property determined on the basis of assessments as of December 31, 2001. The initial taxable value of the LDFA District is $261,776,313. The LDFA will capture tax dollars for fifteen (15) years, commencing with levies imposed in 2003 through the levies imposed in 2018.

As reflected in the section of the LDFA TIF plan previously cited, it is not the entire amount of the increment that is used to define tax capture for the LDFA, but only 50% of it.

LDFA: How Much Is That in Dollars?

In his presentation, Rapundalo presented the actual dollars captured to date by the Ann Arbor LDFA:

2004  $   68,578
2005     199,699
2006     333,524
2007     526,624
2008     727,999
2009   1,101,408
2010   1,234,626

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Based on projections presented by Rapundalo, the captured taxes will steadily increase to around $1.8 million in 2018, when the life of the LDFA currently ends. Summing over the entire 15-year life of the district from Rapundalo’s slide, current projections suggest that the district would capture about $16 million total. That is less than what was originally forecast – before the economic downturn of 2008 – in the formative documents for the district, which estimated that $24 million would be captured over the course of 15 years.

The total amount of taxes captured over the life of the district plays a role if the amount proves to be higher than what was originally estimated. From the LDFA TIF plan [emphasis added]:

Tax Increment Revenues in excess of the estimates set forth in this Plan, or in excess of the actual costs of this Amended Plan to be paid from Tax Increment Revenues will be considered surplus under Act 281. Unless retained to further implementation of the Development Plan set forth in Section III pursuant to a resolution of the Authority, surplus tax increment revenues must revert proportionately to the respective taxing jurisdictions from which collected.

LDFA: How the Money Is Spent: Activities, Infrastructure

The kinds of activities supported under the LDFA’s contract with Ann Arbor SPARK, Rapundalo explained, are centered around the business acceleration, incubator services, entrepreneurial education, and networking among businesses and entrepreneurs.

A business accelerator provides resources to help nascent start-up companies clear the hurdles to becoming a mature company with a saleable product, which in turn could lead to the creation of jobs and increased employment in the area.

The business acceleration services are conceived in terms of phases: Phase I, Phase II, Phase III.  In Phase I, initial contact is made with people who have a business/technology proposition and the idea is screened for programmatic fit, reviewed by advisers and consultants, and vetted for advancement to Phase II. That’s a step that entails an in-depth evaluation of a prospective client to determine capability of business for consulting help in Phase III.

That final phase reflects substantial involvement on the part of SPARK to get a company past start-up phase to a point where the company can attract venture capital investment. In Phase III, strategic issues are addressed, including the development of a business plan, schedule and budget.

Among the questions posed by councilmembers was one from Margie Teall (Ward 4), which focused on the notion of “virtual tenants” for SPARK’s incubator facility. Rapundalo deferred the question to Skip Simms, who is SPARK’s managing director for entrepreneurial business development. Simms explained that virtual tenants had access to internet service, a physical address where they could take a mail drop, and use of conference rooms.

Teall asked if a company needed an Ann Arbor address to become a virtual tenant of the incubator. Simms clarified that a company’s status as virtual tenant was a mechanism by which a company could claim an Ann Arbor address – that of the incubator on East Liberty Street. The question of a company’s address is important, because an Ann Arbor address is required for eligibility for LDFA services.

LDFA: Measurement of Success – Activities vs. Outcomes

In Rapundalo’s presentation, he noted the challenge inherent in evaluating success of the LDFA’s activities. During question time, Sandi Smith (Ward 1) asked Rapundalo about effectiveness. He noted that one kind of comparative metric they looked to was other LDFAs created under Michigan’s SmartZone legislation – what are best practices among other similar such districts? One of the priorities that came out of the board’s 2009 retreat, said Rapundalo, was a focus on an analysis of effectiveness. [Chronicle coverage of that retreat: "Expanded LDFA Board Reflects on Purpose"]

One of the statistics that’s tracked is activity related to the various business acceleration services, measured by the number of companies that used various services: Phase I services (218);  Phase II services (91); Phase III services (61); entrepreneurial boot camp (28); and incubator (34). Those activities were, in aggregate, associated with 106 new jobs, according to Rapundalo’s slide. Balanced against that were five companies that left the LDFA service area, resulting in 11 jobs lost.

One of the difficulties, Rapundalo acknowledged, was that they were dealing with very young companies and that there was a certain volatility associated with that.

Sabra Briere (Ward 1), looking at the 106 new jobs, noted that some would say it’s not enough, but some would say it’s really good. “What is the measure of success?” Briere wanted to know. Rapundalo allowed that this was exactly the crux of the matter.

The LDFA TIF plan does make an estimate of the number of jobs that could be created through the LDFA investment over the 15-year life of the district: 700. From the TIF plan:

The estimation of jobs in the high technology sector and under the program outlined by this Plan is a speculative venture contingent upon many factors outside the control of the LDFA. However, the writers of this plan estimate that 700 jobs may be created as a direct and indirect result of these activities. This estimate is based upon the following assumptions: A survey conducted in 1998 by the Washtenaw Development Council and the Ann Arbor Software Council determined that the average technology company in the area employed 57 individuals after approximately 10 years of operation. Based on the establishment and/or location of two new businesses each year within either the Ann Arbor or Ypsilanti portions of the SmartZone, this would result in the creation of just over 700 jobs during the 15-year life of the LDFA.

Following Rapundalo’s remarks, the city’s CEO, Tom Crawford – who sits on the LDFA board as an ex officio member – added that “we’re creating the environment that nurtures the growth.” The idea, said Crawford, is that one of these companies will “take off.” Pressed by Briere for any examples of a company that has “taken off,” the example of Xoran Technologies was offered.

Rapundalo echoed Crawford’s sentiments, saying that the business acceleration was about “hand holding” and helping companies learn how to walk. There’s high risk of failure, he allowed, but this was balanced against the potential for high return.

The LDFA, said Rapundalo, as an oversight body, needed to make sure that tax dollars were translated into “something meaningful.”

LDFA: Infrastructure Investments – Fiber Optics

In the course of his remarks, Rapundalo mentioned that the LDFA had offered $250,000 in support of Ann Arbor’s response to the Google Fiber initiative: The firm’s request for information (RFI) from communities interested in having Google install a fiber-to-the-home network. Sandi Smith (Ward 1) asked Rapundalo if the LDFA would consider making an investment in a fiber-optic network, even if Google did not choose Ann Arbor as a test community. Rapundalo did not rule out such a possibility, saying that the LDFA had talked a bit about the topic in a broader sense.

Smith was in some sense echoing sentiments the city council had heard before on the need for a fiber-optic network, even if Google did not fund one for Ann Arbor. During the public hearing on the city’s Google Fiber initiative, held on March 15, 2010, Wes Vivian urged the city council to think about how they would achieve a fiber-optic network, if Google did not choose Ann Arbor. [From Chronicle coverage: "Mixed Bag: Phones, Fiber, Fire"]:

Wes Vivian introduced himself as a decades-long telecommunications consultant, and told the council that for the last 15-20 years it’s been clear that either the telephone companies will migrate to fiber-optic networks or face domination by cable television companies. That process has begun, he said – AT&T has installed fiber in many communities.

If Google “coughs up the money” that’s great, Vivian said, but we need to find a way to implement this anyway – even if Google decides not select Ann Arbor as a test site. Fiber, he said, was part of the necessary infrastructure of a city – like a street. It wasn’t necessary to provide a system, he said, but just a hole in the ground or a hole in the air.

The idea of using LDFA funds as infrastructure investments – specifically the kind of high-speed telecommunications infrastructure represented by fiber-optic networks – is made explicit in the LDFA’s formative documents. From the TIF plan [emphasis added]:

The LDFA District is fully developed with roads, sidewalks, lighting and subsurface utilities. The infrastructure is publicly financed and maintained. The Development Plan does not anticipate large-scale improvements to or expansions of this infrastructure. In the event sufficient revenues become available through this plan, investment may be made to facilitate the expansion of high-speed telecommunications infrastructure throughout the District. Alternatively, the LDFA may become a grant recipient for financing designed to encourage this investment.

At the March 2010 meeting of the Ann Arbor Downtown Development Authority board – on which Smith also sits, in addition to serving on the city council – Smith had drawn out the fact that when underground work on streets is undertaken by the DDA, conduit is installed to accept potential installation of various telecommunications.

Ann Arbor SPARK

Ann Arbor SPARK CEO Michael Finney gave a presentation that addressed some of the same issues that Stephen Rapundalo had touched on.

SPARK: Metrics for Success, Job Retention, ProQuest

Among the issues covered by Finney was the challenge in evaluating success – not only in choosing appropriate metrics, but in taking the measurements in a reasonable way. He noted that in calculating the number of “jobs retained,” the idea was to count only those jobs that were actually at risk of leaving. In the city of Ann Arbor for 2009, for example, Finney indicated that 450 jobs had been retained through the activities of SPARK.

SPARK’s activities related to job retention include talent recruitment for companies that are looking to expand. Finney gave ForeSee Results as an example of a company that recently indicated they were looking to hire 10 additional staff. If a company that is looking to grow cannot recruit the staff in the Ann Arbor area that it needs for that growth, there’s a risk that the company could try to achieve that growth in a different region of the county.

Finney had invited representatives of a few companies to speak on behalf of the positive effect of SPARK’s efforts. Among them was Elliott Forsyth, senior vice president of human resources and business services for ProQuest. He explained that in 2006 ProQuest had been financially stressed and that Cambridge Information Group had acquired the company, expressing some interest in moving operations elsewhere.

Forsyth credited SPARK’s efforts at coordinating support from the Michigan Economic Development Corp. and the city of Ann Arbor to encourage ProQuest to stay. The support from the city of Ann Arbor to which Forsyth alluded came in the form of a tax abatement approved at the city council’s March 3, 2008 meeting:

Resolution to Approve Industrial Facilities Exemption Certificate Between the City of Ann Arbor and Proquest LLC. A motion was made by Councilmember Rapundalo, seconded by Councilmember Greden, that the Resolution be approved. On a voice vote, the Mayor declared the motion carried unanimously. Enactment No: R-08-094

In a Dec. 18, 2007 Ann Arbor News article on the $10 million Michigan Economic Growth Authority tax credits awarded to ProQuest, the value of the tax abatement granted by the city of Ann Arbor was put at around $1.2 million.

A search of online Ann Arbor News archives [registration required but free, available through the Ann Arbor District Library] shows that through the early to mid-2000s, a possible tax abatement for ProQuest had been discussed, but rejected until the 2008 approval.

One issue raised by Tony Derezinski (Ward 2) was the question of whether arrangements made to retain companies could be enforced. Finney indicated that agreements are typically contingent on jobs.

In the case of ProQuest’s tax abatement, the deal comes with the following conditions:

6. By December, 31  2009, ProQuest will add not less than Fifty (50) jobs at the facility named on the Application as compared to its number of employees as of the effective date of the Certificate. If ProQuest adds less than Fifty (50) additional Jobs by December 31, 2009, ProQuest shall have materially breached the terms of this Agreement and the City shall have the right to recommend revocation of the Certificate subject to provision 11 of this agreement to the State Tax Commission or taking other appropriate legal action in connection with the default.

7. ProQuest shall comply with all of the requirements of the City’s Living Wage Ordinance.

8. This abatement is being granted by the City in part to allow ProQuest to qualify for application of incentive tax credits by the State of Michigan. This agreement is contingent upon ProQuest receiving approval of State tax incentives within 120 days from the date the Michigan State Tax Commission issues the herein referenced abatement certificates. Failure to obtain approval of State tax incentives during this time will automatically revoke this agreement and the City shall have no further obligations to ProQuest under this Agreement.

9. ProQuest shall maintain operations within the City of Ann Arbor during the period of time for which the State tax incentives are in effect. If ProQuest relocates, whether within or outside of the State of Michigan, ProQuest shall pay to the affected taxing units an amount equal to those taxes it would have paid during the abatement term had the abatement not been in effect.

SPARK: What’s Your Elevator Speech for Ann Arbor?

Michael Finney indicated during his presentation that the name “Michigan” or “Detroit” did not generate a positive response from people he met from other regions of the country. The name “Ann Arbor,” however, had a positive association.

Sandi Smith (Ward 1) asked Finney what his “elevator speech” was for Ann Arbor. [An elevator speech is the short, condensed pitch given to someone in the time it would take to ride an elevator with that person before going separate ways.] Smith said that she’d spoken to Ken Nisbet, director the University of Michigan’s technology transfer office, and that Nisbet had given Ann Arbor’s “quality of life” as his response to the elevator speech question.

Finney’s response focused on the idea of Ann Arbor’s robust entrepreneurial ecosystem. He noted that SPARK itself is a start-up organization. Having the right ecosystem, Finney said, is the key to success. Referring to the possibility of a Google fiber network, Finney said, “we’re drooling about something like that happening.”

However, Tony Derezinski (Ward 2) focused on the idea that it’s not the city boundaries, but rather its regions that are important for the Midwest. He cited a book by Richard Longworth, “Caught in the Middle: America’s Heartland in the Age of Globalism,” as articulating that idea. Finney concurred with Derezinski that southeast Michigan is a relevant region in that sense, and that Ann Arbor could be the focus of that region, expanding outward from Washtenaw County.

City Budget

City administrator Roger Fraser kicked of the short discussion of the budget by noting that the budget would be presented formally at the council’s April 19 meeting, although the budget book has been available for a couple of weeks.

Councilmembers had a few clarificational questions on various aspects of the budget.

City Budget: Debt

Sandi Smith (Ward 1) was puzzled by a line in the budget summary that reads “Loan payment for First and Washington – $150,000,” noting that she did not think the city owed any money on the property.

Fraser allowed that Smith was correct – the city does not owe money on the property. However, the city is expecting $3 million from the sale of the property in connection with Village Green’s City Apartments project, which has site plan approval from the city, but has not moved forward yet due to lack of financing.

Fraser described the $150,000 as a contingency of sorts, borrowing some money to “tide us over” if the $3 million from the sale of that First & Washington property does not come through sometime soon. The site approval option to purchase agreement has been extended once by city council through December 2009, with a provision that the city administrator can authorize two 3-month extensions, which he has done. When the second extension runs out at the end of June 2010, the council will need to act if there is to be an additional extension.

At the council’s Monday budget meeting, the city’s CFO, Tom Crawford, indicated that he’d had recent conversations with Village Green and that they were feeling positive.

Mayor John Hieftje asked Crawford to confirm that the city was within its legal limit for debt load – the city cannot have debt in excess of 10% of the total state equalized value of property. Crawford indicated that the city was at 2.6%, and he thus felt comfortable with the city’s debt level. Crawford also cited other cities’ debt load – Grand Rapids, Lansing and Kalamazoo – as comparable. Ann Arbor’s bond rating, said Crawford, was in the top 20 in the state.

City Budget: Rates and Fees

Sabra Briere (Ward 1) requested that for the various fee changes that were included, a two-year frame of reference be provided – she was concerned that fee increases proposed this year might be coming on top of fee increases already made last year.

Mayor John Hieftje asked Sue McCormick, the city’s public services area administrator, to confirm that the city’s water rates are low compared to other communities in the state. She provided that confirmation, saying that the city’s water and sewer rates were second-lowest in the state. She allowed that the city had a separate stormwater system, whereas some municipalities had their stormwater system integrated with their sanitary sewer, which would cause Ann Arbor’s rates to appear artificially lower.

However, after factoring in stormwater charges, McCormick said, Ann Arbor’s rates were still fifth-lowest in the state – roughly $1.40 for every 1,000 gallons of water. Tecumseh, she said, was an example of a muncipality that had lower rates – $1.25.