Fitch Downgrades Pacific Beacon LLC (CA) Military Housing (San Diego) 2006 Ser A; Watch Negative

NEW YORK--(BUSINESS WIRE)--Fitch Ratings downgrades the following classes of Pacific Beacon LLC, military housing taxable revenue bonds (Naval Base San Diego Unaccompanied Housing Project), 2006 Series A (the bonds):

--$187 million Class I bonds to 'AA' from 'AAA';

--$64 million Class II bonds to 'A' from 'AA';

--$56 million Class III bonds to 'BBB-' from 'A'.

The bonds were privately placed on Dec. 18, 2006.

The bonds are being placed on Rating Watch Negative due to the asset manager's projections of weakened debt service coverage levels projected for the July 2011 payment date.

RATING RATIONALE:

--The downgrade reflects a letter dated July 30, 2010 which includes a projection from the asset manager (AM), Clark Realty Capital, LLC., for the July 2011 debt service payment which demonstrates debt coverage of 1.02 times (x) for the class III bonds. This projected coverage ratio incorporates the AM deferring their AM fees and Fitch believes that this is reflective of the project showing signs of stress. The asset manager attributes the stress to three major factors:

--Amount of time needed to lease up units greater than anticipated;

--Higher operating expenses, particularly for utilities and marketing;

--Lower than anticipated occupancy, which is 91% as of June 2010.

The letter cites a projected debt service coverage ratio of 1.02x for the Class III debt which translates into estimated coverage of 1.70x for the class I bonds and 1.28x for the class II bonds. Actual debt service coverage (based on six months annualized unaudited operating data) as of June 30, 2010 demonstrates coverage of 1.59x on the class I bonds, 1.19x on the class II bonds and .95 on the class III bonds.

The project, which is located in one of the strongest real estate markets in the U.S., has a surety bond for the debt service reserve fund (DSRF) sized at maximum annual debt service from a provider that was rated 'AAA' at original issuance. In addition, there is an excess collateral agreement in place which acts as a line of credit from a provider that was rated "AA+" at the time of issuance. At this time the surety bond and excess collateral agreement, which were credit strengths at time of issuance, have become weaknesses as the providers involved have had their creditworthiness downgraded or withdrawn completely. As a result, Fitch no longer gives any credit in the analysis to those agreements.

Fitch is taking this rating action and placing the bonds on Rating Watch Negative pending the outcome of the review of the 2011 operating budget from the asset manager and the 2011 Basic Allowance for Housing (BAH) rates, which are both expected to be released in the coming months.

Additionally, the Department of Defense has the ability (but is not required) to distribute a higher percentage of the BAH to the service members who occupy this project. Fitch will continue to monitor lease-up efforts, BAH rates and operating performance for the property on a regular basis.

Revised projections for the property reflect:

--Higher than expected project operating expenses, particularly utilities;

--Lower than expected rental rates per room;

--Lower occupancy estimates based on the unanticipated difficulty in renting to the targeted E-5 grades and above.

KEY RATING DRIVERS:

--Improved occupancy levels prior to July 2011.

--Management's ability to realize lower than projected operating expenses.

--An increase in the percentage of BAH allowed as per the Department of Defense.

SECURITY:

The bonds are secured by pledged revenues from the operation of the unaccompanied housing project known as Pacific Beacon at the naval base in San Diego.

Additional information is available at 'www.fitchratings.com'.

In addition to the sources of information identified in the U.S. Municipal Revenue-Supported Rating Criteria, this action was additionally informed by information from Trimont Real Estate Advisors, Inc, and Property and Portfolio Research dated Aug. 24, 2010, Private Contractors.

Related Research:

'Rating Guidelines for Military Housing Bonds', dated Feb. 14, 2006.

Related Research:

Rating Guidelines for Military Housing Bonds

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=264808

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