NEW YORK--()--Fitch Ratings affirms the following capital fund bonds:
--$85 million Philadelphia Housing Authority capital fund program (CFP) revenue bonds, series 2002 A at 'AA-';
--$65 million Redevelopment Authority of the City of Philadelphia capital fund program revenue bonds, series 2002 B and series 2003 C & D at 'AA-'.
The Rating Outlook is Negative.
The bonds are secured by the public housing capital fund annual appropriations, as well as debt service reserve fund sureties to cover any timing delays in appropriations.
KEY RATING DRIVERS
DECLINING APPROPRIATION LEVELS: Philadelphia Housing Authority's appropriation amounts have drastically decreased in recent years, falling 24% and 15% in fiscal years (FY) 2011 and 2012, respectively.
DECREASED DEBT SERVICE COVERAGE: Due to the declining appropriation amounts, debt service coverage (DSC) levels have fallen in 2012 FY to 4.10(x) before Fitch's stressed scenarios are applied and 3.31(x) after Fitch's stressed scenarios are assumed.
BOND STRUCTURE: The structure allows payments to flow directly to the trustee to pay debt service on a first priority basis.
MANAGEMENT OVERSIGHT: Philadelphia Housing Authority's management has consistently submitted capital plans to HUD in a timely manner and has not had material decreases in housing units.
DECLINES IN FUTURE APPROPRIATIONS: Further declines in the annual capital fund public housing appropriations may reduce debt service coverage to levels that would negatively impact the current rating. Fitch estimates that if the 2013 appropriation were reduced from 2012 levels in an amount that is 10% or greater this would put debt service coverage on the cusp of the threshold ratio appropriate for its current 'AA-' rating.
Fitch's rating approach for housing bonds secured by annual appropriations involves: a quantitative analysis of annual appropriation amounts and the corresponding debt service coverage levels, review of the legal structure of the agreement, and a qualitative analysis of management oversight.
Fitch takes a conservative approach to analyzing appropriation amounts and debt service coverage levels by evaluating the appropriation risk. Fitch recognizes that bonds with longer maturities are exposed to a higher degree of appropriation risk. Therefore, Fitch recalculates the debt service coverage level to account for the potential volatility in annual appropriation amounts. Fitch accounts for this by considering the base appropriation level to be the lower of either the lowest amount received over the past five years or 95% of the previous year's funding. This base amount is then adjusted further depending on the remaining years to maturity, with a 10% decrease for bonds five years to maturity, a 15% decrease for 10 years to maturity, a 20% decrease for 15 years to maturity, and a 25% decrease for 20 years to maturity.
The final stressed appropriation amount is then used to calculate the adjusted debt service coverage level. A minimum stressed DSC of 4.0x is typical for an 'AA' rating, 3.0x is typical for an 'AA-' rating, 2.0x is typical for an 'A+' rating, and 1.5x is typical for an 'A' rating.
In addition to quantitative measures, Fitch also reviews the legal structure of the bonds. We review the annual contributions contract (ACC) between the PHA and HUD for any items that would help mitigate the risks associated with the PHA's ability to pay bondholders. Fitch specifically looks for the following items in an ACC: debt service payments going directly from HUD to the trustee on a predetermined schedule usually three days in advance of the debt service payment date and administrative sanctions not being able to delay payments of the debt service or recapture funds approved for debt service payments.
The final component Fitch reviews is management performance and their ability to meet HUD's deadlines and requirements to receive annual appropriations. Each year HUD requires public housing authorities to submit one-year and five-year capital fund plans and funds are only allocated after HUD's approval of the plans. Since the start of the capital fund program, agencies have been extremely successful in submitting plans in a timely manner since appropriations are predicated upon an agency's ability to submit plans on time. Fitch confirms with individual public housing authorities that plans were submitted to HUD. Fitch also discusses the current progress of modernization projects and the authority's ability to finish the work to completion. Fitch monitors the authority's current number of housing units since that factor into the capital fund appropriation formula because if the number of housing units decline the portion of funds appropriated to an agency could also decline.
According to the Office of Management and Budget's (OMB) most recent report, dated March 1, 2013, the potential aggregate reduction to the Public Housing Capital Fund is expected to be 5% from sequestration; however, the actual reduction in capital allocations to housing authorities may vary depending on how the reduction is applied. If the application of sequestration causes a reduction of 5% to Philadelphia's capital fund appropriation, Fitch does not believe that this 5% reduction, in and of itself, will have a negative impact on this rating. However, Fitch estimates that a 10% decrease in the 2013 appropriation amount from the 2012 amount would put debt service coverage levels on the cusp of the threshold ratio appropriate for its current 'AA-' rating. Therefore, Fitch will monitor the appropriation amounts as they become available and any reduction in Philadelphia Housing Authority's appropriation amount greater than 10% will prompt a new review by Fitch.
Given that the 2013 capital fund appropriation is not yet available, Fitch's review is restricted to prior appropriation amounts. The affirmation recommendation is based on the current debt service coverage level, which utilizes the 2012 appropriation amount. Credit concerns revolve around the volatility of appropriation amounts. In recent years, appropriation amounts have drastically decreased which has quickly eroded debt service coverage levels. Philadelphia Housing Authority has seen debt service coverage levels drop to 4.10x from 6.30x within the last two years, and under Fitch's stressed scenarios, Philadelphia Housing Authority's debt service coverage levels fall to 3.31x from 4.60x. The recent trend of declines in appropriations and the remaining 10 years to maturity on the bonds are the center of credit concerns and basis for the Negative Outlook on the bonds.
The appropriation amounts, under HUD's budget, are part of the U.S. government's general fund and are reliant upon the federal budget process. This could potentially lead to political, economic, or regulatory delays in the timing of the appropriations. All of these concerns are somewhat mitigated by the legal structure of the bonds, the fact that the federal government provided PHAs funds every year since 1937, and the debt service reserves. However, as the pressure mounts for the federal government to lower their deficit, HUD's budget is at risk and may continue to decline.
Fitch recognizes that Philadelphia Housing Authority is one of the moving to work (MTW) agencies, which allows them flexibility in spending. A MTW agency has the ability to combine capital, operating, and voucher funds and spend these funds interchangeably to suit the current needs of the agency. This could potentially add security to the capital fund bonds, as funds could be distributed from the combined funds to pay bondholders. Although the potential security is there, these funds are not pledged to the bondholders and therefore Fitch awards no credit to Philadelphia Housing Authority for being a MTW agency and subsequently does not include any funds other than the annual appropriations into the calculation of debt service coverage levels.
Additional information is available at 'www.fitchratings.com'. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings.
Applicable Criteria and Related Research:
--'Revenue-Supported Rating Criteria', June 12, 2012;
--'Tax-Supported Rating Criteria', Aug. 14, 2012;
--'U.S. Municipal Structured Finance Rating Criteria', Feb. 28, 2012.
Applicable Criteria and Related Research
Revenue-Supported Rating Criteria
Tax-Supported Rating Criteria
U.S. Local Government Tax-Supported Rating Criteria