AUSTIN, Texas--(BUSINESS WIRE)--Fitch Ratings has affirmed the 'AAA' rating on the following Michigan Finance Authority (MFA) state revolving fund (SRF) bonds:
--Approximately $1.16 billion in outstanding clean water and drinking water revolving fund (senior lien) revenue bonds.
--Approximately $385 million in outstanding clean water and drinking water revolving fund subordinate revenue bonds.
The Rating Outlook is Stable.
Bonds are secured primarily by pledged loan repayments and, for certain series of bonds, dedicated debt service reserve funds. All bonds benefit from annual surplus debt service coverage and reserve releases after any requirements are met within each program type.
KEY RATING DRIVERS
SOUND FINANCIAL STRUCTURE: Fitch's cash flow modeling demonstrates that the program can continue to pay bond debt service even with hypothetical loan defaults in excess of Fitch's 'AAA' liability rating stress hurdle, as produced using Fitch's Portfolio Stress Calculator (PSC).
QUALITY BORROWER POOL: On a combined-program basis, approximately 58% of MFA's clean water state revolving fund (CWSRF) and drinking water state revolving fund (DWSRF) have investment-grade ratings. Most loans are secured by borrowers' general obligation and/or utility revenue pledges.
AVERAGE POOL DIVERSITY: MFA's SRF programs demonstrate average borrower diversity, with the top 10 borrowers representing approximately 47% of the loan pool. Second-lien loans to the Detroit Water and Sewerage Department (DWSD; parity bonds rated 'BB+', Outlook Stable by Fitch) is the largest borrower at 18% of the pool.
CROSS-COLLATERALIZATION STRENGTHENS PROGRAM: MFA's separate DWSRF and CWSRF programs are cross-collateralized with one another, which further enhances bondholder security by allowing for shortfalls in one program to be covered by surpluses in the other.
REDUCTION IN MODELED STRESS CUSHION: Significant deterioration in aggregate borrower credit quality, increased pool concentration, or increased leveraging resulting in the program's inability to pass Fitch's 'AAA' liability default hurdle would put downward pressure on the rating. The Stable Rating Outlook reflects Fitch's view that these events are not likely to occur.
MFA provides low-cost financing to governmental entities within the state for eligible clean water and drinking water projects.
FINANCIAL STRUCTURE EXHIBITS SOUND DEFAULT TOLERANCE
Fitch's cash flow modeling demonstrates that the program can continue to pay bond debt service even with hypothetical loan defaults of 100% over the first, middle and last four years of the program's life (as per Fitch criteria, a 90% recovery is also applied in its cash flow model when determining default tolerance). This is in excess of Fitch's 'AAA' liability rating stress hurdle of 46% as produced by the PSC. The rating stress hurdle is calculated based on overall pool credit quality as measured by the rating of underlying borrowers, size, loan term, and concentration.
Fitch measures financial strength of SRFs by calculating each program's asset strength ratio (PASR). MFA's PASR calculation includes total scheduled loan repayments, reserve balances and account earnings divided by total scheduled bond debt service. The resulting PASR is sound at approximately 2.0x, which aligns well with Fitch's 2014 'AAA' median PASR of 1.8x.
HIGH-QUALITY LOAN POOL WITH AVERAGE CONCENTRATION
The combined program consists of 284 borrowers, the top 10 of which comprise approximately 47% of outstanding loan obligations. After DWSD, the city of Dearborn (not rated by Fitch but assessed to be of strong credit quality) is the next largest borrower, representing 5.6% of outstanding pool loan principal. The remaining top 10 borrowers range in size from 1.9%-4.6% of the pool. Single-borrower and top 10 concentration measures are mostly in-line with Fitch's 'AAA' medians.
Fitch estimates that approximately 58% of program participants exhibit investment-grade credit quality. In aggregate, pool credit quality is slightly lower than similar municipal pools as reflected by the 'AAA' liability rating stress hurdle of 46% (lower liability stresses correlate to stronger credit quality), which is higher than Fitch's 'AAA' median of 30%. The somewhat higher-than-average rating stress hurdle is attributable largely to the size and rating of DWSD. The increase in the hurdle since Fitch's last review of MFA is due in part to Fitch's downgrade of DWSD to below investment grade in February 2014. Fitch has since upgraded DWSD's senior and second-lien water and sewer revenue bonds to 'BBB-' and 'BB+', respectively.
Pool loan security is solid with approximately 43% secured by utility revenue pledges, 30% secured by GO and utility revenues (double-barrel) and the remaining 27% secured by UTGO or LTGOs. The pool composition has remained mostly consistent since its inception.
LOSS PROTECTION PROVIDED BY OVERCOLLATERALIZATION AND RESERVES
Loss protection for bondholders is provided by overcollateralization, or surplus loan repayments remaining after paying debt service on the bonds, and, for certain series of bonds, dedicated reserve funds. As the loans/bonds amortize, these reserves are released from each series' dedicated reserve account to the extent that remaining reserves for each series equal their required minimum. Combined reserves total $623.3 million, or 40% of bonds outstanding. Reserves are currently scheduled to provide significant loss protection to bonds through 2029 at which point overcollateralization and surplus revenue balances will begin providing more protection.
A surplus revenue account has also been established for each series of bonds. The combined revenue balance is $264.5 million or 17.2% of bonds outstanding.
CROSS-COLLATERALIZATION PROVIDES TERTIARY PROTECTION
The CWSRF and DWSRF are cross-collateralized, meaning surplus amounts released from each SRF program are available to cure deficiencies in the other. This feature increases the diversity of the loan pool and lessens the risk of any one borrower's default eroding reserve balances and threatening bondholder payments.
EFFECTIVE PROGRAM MANAGEMENT AND UNDERWRITING
MFA uses conservative underwriting guidelines and sound investment policies. Borrowers that do not have public investment-grade ratings are required to exhibit investment-grade characteristics through state credit support or private credit assessments or must otherwise provide an alternative security pledge or pledges. In addition, borrowers must demonstrate, among other things, rates and charges sufficient to cover all operational expenses of the project including the ability to pay loan principal and interest. Strength in underwriting is demonstrated by the fact that neither pool has ever experienced a default or delinquency.
Additional information is available at 'www.fitchratings.com'.
Revenue-Supported Rating Criteria (pub. 16 Jun 2014)
State Revolving Fund and Leveraged Municipal Loan Pool Criteria (pub. 22
Dodd-Frank Rating Information Disclosure Form