The problem, according to the SEC, is that the state’s municipal bond offering documents failed to disclose that the state’s pension system was significantly underfunded and the unfunded pension liability created a repayment risk for investors in those bonds. These findings resulted in a cease-and-desist order instituted against Kansas by the SEC.
The SEC’s complaint says a series of bond offerings were issued through the Kansas Development Finance Authority (KDFA) on behalf of the state and its agencies. However, one study at the time found that the Kansas Public Employees Retirement System (KPERS) was the second-most underfunded statewide public pension system in the nation.
The offering documents for the bonds did not disclose the existence of the significant unfunded liability in KPERS or describe the effect of this unfunded liability on the risk of non-appropriation of debt service payments by the Kansas state legislature. The SEC found that the failure to disclose this information resulted from insufficient procedures and poor communications between the KDFA and the Kansas Department of Administration, which provided the KDFA with the information to include in the offering materials.
“Kansas failed to adequately disclose its multi-billion-dollar pension liability in bond offering documents, leaving investors with an incomplete picture of the state’s finances and its ability to repay the bonds amid competing strains on the state budget,” says LeeAnn Ghazil Gaunt, chief of the SEC Enforcement Division’s Municipal Securities and Public Pensions Unit. “In determining the settlement, the SEC considered Kansas’s significant remedial actions to mitigate these issues, as well as the cooperation of state officials with SEC staff during the investigation.”
Kansas has since adopted new policies and procedures to help ensure that appropriate disclosures about pension liabilities are being made in its offering documents. The state has designated responsible parties in state agencies critical to the disclosure process, mandated closer communication and cooperation among those agencies, established a disclosure committee, and now requires annual training of key personnel.
Without admitting or denying the findings, Kansas consented to the SEC’s order to cease and desist from committing or causing any violations and any future violations of Sections 17(a)(2) and 17(a)(3) of the Securities Act of 1933.
In a nationwide review of municipal bond disclosures, the SEC brought its first-ever enforcement action against a state when it sanctioned New Jersey in 2009 for failing to disclose to investors that it was underfunding the state’s two largest pension plans (see “Running the Fund: Jersey Sure?”).
Around the same time, the SEC began questioning the disclosures surrounding eight bond offerings through which Kansas raised $273 million in 2009 and 2010. As the SEC began its inquiry, Kansas began adopting new policies and procedures to improve disclosures about its pension liabilities.
The SEC also charged the state of Illinois in 2013 for its misleading pension disclosures, and the state similarly implemented a number of remedial actions (see “Illinois Charged with Fraud Regarding Pension Disclosures”).
“We’re pleased that our actions have resulted in improved disclosure of pension liabilities in states that were not making investors aware of a significant repayment risk,” says Andrew Ceresney, director of the SEC Enforcement Division, based in Washington, D.C. “Investors must be given adequate information to evaluate the impact of pension fund liability on a state’s overall financial condition.”