Fitch Rates Maryland's $700MM Consolidated Transportation Bonds 'AA+'

NEW YORK--()--Fitch Ratings has assigned a 'AA+' rating to the following Maryland Department of Transportation (MDOT) consolidated transportation bonds:

--$450 million consolidated transportation bonds, series 2016;
--$250 million consolidated transportation bonds, refunding series 2016.

The bonds are expected to be offered by competitive sale on Oct. 26, 2016.

In addition, Fitch takes the following actions on outstanding ratings of MDOT-related bonds:

--$2.1 billion in outstanding MDOT consolidated transportation bonds affirmed at 'AA+';
--$37.3 million in outstanding MDOT county transportation bonds affirmed at 'AA+';
--$39 million in outstanding MDOT certificates of participation (COPs) upgraded to 'AA+' from 'AA'.

The upgrade of outstanding COPs to 'AA+', one notch below the state's 'AAA' Issuer Default Rating (IDR), reflects application of Fitch's revised criteria for U.S. state and local government credits, dated on April 18, 2016. The COPs carry the state's covenant to seek appropriation for payments sufficient to cover debt service and otherwise do not carry the additional risk features that Fitch identifies for rating more than one notch below the state's IDR under the revised criteria.

The Rating Outlook is Stable.

SECURITY

Consolidated transportation bonds are secured by specific pledged tax revenues after certain allocations, and prior to being available for other uses by MDOT. If the pledged taxes become insufficient to meet debt service requirements, other receipts of the department are available for that purpose.

KEY RATING DRIVERS

BROAD REVENUE PLEDGE: Growth prospects for pledged revenues are solid, driven by a broad pledge of transportation-related and certain general fund receipts. Pledged motor fuels taxes are indexed to inflation under recent legislative changes, improving growth prospects over time. Pledged taxes and other available revenues are affected by statutory changes to rates and distributions.

AMPLE CUSHION FOR DEBT SERVICE: Debt service coverage is solid, driven by the 2x additional bonds test by both pledged receipts and departmental net revenues, and MDOT's more stringent 2.5x internal target by both measures. Based on recent performance, pledged revenues are economically sensitive but provide ample cushion for debt service under both Fitch scenario revenue declines and the largest consecutive historical declines.

STRONG MDOT CONTROL: MDOT has broad authority over state transportation, including the ability to adjust capital projects as necessary based on projected available resources. Consolidated bond debt issuance is carefully controlled and integrated within the state's overall debt management framework.

RATING SENSITIVITIES

CONTINUED SOLID COVERAGE AND CAREFUL MANAGEMENT: The rating is sensitive to ongoing maintenance of solid coverage by pledged revenues and the state's continued careful management of debt.

CREDIT PROFILE

Security for MDOT's consolidated transportation bonds is broad-based, consisting of a pledge of portions of motor fuel, motor vehicle titling, corporate income, and sales taxes on vehicle rentals, after statutory allocations to other state funds and to local governments. Pledged taxes have consistently provided ample coverage despite their economic sensitivity and the impact of statutory changes, and Fitch views growth prospects for the pledged taxes to be solid. Other MDOT revenues, primarily transportation-related fees and operating receipts, are available if pledged taxes are insufficient.

Debt service coverage remains well above the bonds' two parity bond issuance tests, which require 2x coverage of maximum annual debt service (MADS) by prior-year pledged taxes and by prior-year department net receipts. MDOT's internal practice requires more stringent 2.5x coverage by both tests. Including the new bonds, coverage of MADS (in fiscal 2018) is 6x by fiscal 2016 pledged taxes, and is 3.7x by fiscal 2016 net revenues, well over the policy thresholds for both measures.

The legislature periodically changes tax rates and the distribution of tax receipts among state funds and local governments, including extensive changes enacted in early 2013 that materially expanded pledged revenues available to bondholders as new rates were phased in through 2016. Rate changes included the addition of an incremental fuel excise tax that adjusts annually based on inflation and a separate sales tax equivalent fuel rate based on average gasoline prices that is pledged to the bonds.

SOLID COVERAGE DESPITE ECONOMIC SENSITIVITY

Fitch views the drivers and growth prospects for dedicated tax revenues to be solid, reflecting in part the state's diverse, wealthy economic framework. Pledged tax receipts are primarily, although not exclusively, linked to transportation activity, with motor fuel taxes comprising 48% of fiscal 2016 pledged revenues and titling taxes another 42% of pledged revenues. A share of statewide corporate income tax comprises another 9% of pledged tax receipts and provides exposure to economic trends beyond transportation activity.

Despite their sensitivity to economic cycles, pledged taxes provide ample cushion for bond coverage. Motor fuel tax collections declined modestly in fiscal years 2009 and 2010 with recessionary weakness. Growth has been stronger since then given both revived consumption and the impact of the tax rate changes noted above. Although Fitch generally views growth prospects for motor fuel taxes to be flat to declining based on long-term consumption and fuel efficiency trends, the tax changes are likely to support modest growth going forward.

Titling tax collections are prone to sharper changes reflecting motor vehicle purchase trends. Titling taxes declined sharply during the downturn and then rose quickly reflecting pent-up demand. Fitch expects the pace of growth to fall to lower, more sustained levels through the forecast period, although future sharper cyclicality is possible.

To evaluate the sensitivity of the dedicated revenues to cyclical decline, Fitch considers both revenue sensitivity results (using a 1% decline in national GDP scenario) and the largest consecutive historical decline in revenues over the period covered by the analysis. Based on a 15-year pledged revenue history, Fitch's analytical sensitivity tool (FAST) generates a 2.9% scenario decline in pledged revenues. The largest consecutive historical decline was 6.8%, during the fiscal 2006-2008 period. Under both scenarios, dedicated revenue remains ample to ensure coverage of MADS.

MDOT updates its revenue forecast twice annually, most recently in July 2016. Through fiscal 2022, the end of MDOT's current capital planning period, pledged taxes are projected to rise an average of 2.8% annually, and net revenues are projected to rise 2.1% annually. Including projected future issuances during the capital plan period, debt service is forecast to reach $535 million in fiscal 2022. At this level, prior-year pledged tax coverage of MADS would be 4.1x in fiscal 2022, while coverage by prior-year net departmental revenue would be 2.5x.

REDUCED ABILITY TO DIVERT TRANSPORTATION FUNDS

Fitch views the bonds as not being distinct from Maryland's overall credit quality, reflected in the state's strong 'AAA' IDR. The state legislature retains some ability to divert transportation fund resources for general fund purposes, although this ability has been narrowed considerably under a 2014 constitutional amendment that makes any such transfer subject to an emergency declaration by the governor and a three-fifths vote of both legislative houses. By statute, any such reallocation must be repaid in five years.

The state periodically made rate and distribution changes in the past affecting pledged taxes and other departmental revenues, both to expand resources available to transportation and conversely to relieve state general fund stress.

CAREFUL MANAGEMENT OF DEBT AND CAPITAL NEEDS

Consolidated transportation bonds are integrated into the state's strong debt management framework. The legislature's ceiling on total bonds that may be outstanding is $4.5 billion. A separate annual cap on outstanding bonds as of June 30, the state's fiscal year end, is set at nearly $2.8 billion for fiscal 2017. Prior to the current sale there are about $2.1 billion in consolidated bonds outstanding, with new issuance requiring Board of Public Works approval. The state constitution mandates that consolidated bonds mature within 15 years.

MDOT has the discretion to delay capital plan spending to reflect available resources. The fiscal 2017-2022 capital plan totals $14.4 billion. MDOT continues to have the discretion to reduce capital outlays in light of revenue underperformance, one of the means by which it responded to revenue weakness during the last downturn.

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

Applicable Criteria
Rating Public-Sector Counterparty Obligations in PPP Transactions (pub. 12 Jul 2016)
https://www.fitchratings.com/site/re/883969
U.S. Tax-Supported Rating Criteria (pub. 18 Apr 2016)
https://www.fitchratings.com/site/re/879478

Additional Disclosures
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https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1012843
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https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31

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Fitch Ratings
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Douglas Offerman
Senior Director
+1-212-908-0889
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Secondary Analyst
Eric Kim
Director
+1-212-908-0241
or
Committee Chairperson
Karen Krop
Senior Director
+1-212-908-0661
or
Media Relations
Elizabeth Fogerty, New York, +1 212-908-0526
elizabeth.fogerty@fitchratings.com

Contacts

Fitch Ratings
Primary Analyst
Douglas Offerman
Senior Director
+1-212-908-0889
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Secondary Analyst
Eric Kim
Director
+1-212-908-0241
or
Committee Chairperson
Karen Krop
Senior Director
+1-212-908-0661
or
Media Relations
Elizabeth Fogerty, New York, +1 212-908-0526
elizabeth.fogerty@fitchratings.com