Fitch Affirms Virginia Small Business Financing Auth's PABs at 'BBB-'

CHICAGO--()--Fitch Ratings has affirmed the 'BBB-' rating on $663.75 million in private activity bonds (PABs) issued by the Virginia Small Business Financing Authority on behalf of Elizabeth River Crossings Opco, LLC (ERC). In addition, Fitch has affirmed the 'BBB-' rating on the $422 million TIFIA loan to ERC.

The Rating Outlook for both the PABs and TIFIA loan is Stable.

The rating reflects continued progress on a complex project which remains on schedule, with the new Midtown Tunnel expected to be completed in December 2016 and the overall project, including the refurbishment of the existing tunnels, to be finished in 2018. In Fitch's view, completion risk does not currently constrain the rating as the combined leverage and demand risks to cash-flow attributes have higher influence at this rating level. Fitch notes, however, a de-risking of the project revenue through a Virginia Department of Transportation (VDOT) compensation mechanism in accordance with the project agreements. The rating further reflects standard project finance covenants and high leverage; however, this financing risk is mitigated by sufficient coverage levels, in Fitch's rating case, as well as an ample tail.

KEY RATING DRIVERS

Completion Risk: Midrange

Complex Construction: Complicated, immersed underwater construction of the new Midtown Tunnel is partially mitigated by the experienced design build team comprised of: Skanska AB; Kiewit Infrastructure Group; and Weeks Marine. The security package is considered adequate with a letter of credit (LOC) equal to 6% of the contract price and 45% liability cap supported by joint and several parent guarantees from Skanska and Kiewit. Toll risk during the construction period has been partially mitigated by VDOT compensation related to the delay of toll implementation and subsequent reduction in toll rates. Contingent equity, backed by an LOC, remains available to cover a drop in revenue equivalent to a 40% reduction in traffic from existing levels.

Revenue Risk - Volume: Midrange

Established Traffic Base, Uncertain Price Elasticity: Revenue will be generated from a well-established transportation corridor serving primarily commuter traffic with above-average wealth levels, in to and out of Norfolk and Portsmouth, VA. The level of diversion following the implementation of full tolls is uncertain but is partially mitigated by the distance to free alternatives which are operating at capacity. The recent agreements with VDOT provide compensation sized to maintain financial metrics within the project.

Revenue Risk - Price: Midrange

Tolling Framework Provides Financial Flexibility: The comprehensive agreement (CA) enables ERC to raise tolls at the greater of 3.5% or CPI annually following substantial completion of new project assets. The initial peak passenger vehicle toll for the tunnels will be set at $1.95, if using a transponder, which Fitch views as reasonable compared to other tolled bridges in the area and nationwide. VDOT, in accordance with amendment 3 to the CA, has reduced the tolls on the existing Midtown Tunnel and existing Downtown Tunnel until January 2017. Under this amendment VDOT is responsible for lost revenues, thereby increasing its contribution to the project by $82.5 million.

Infrastructure Development & Renewal: Stronger

Detailed Capex Plans in Place: Upon completion, the project will have one new and three fully refurbished tunnels. Detailed capex plans are in place to meet performance and hand-back requirements under the concession agreement.

Debt Structure: Midrange

Fixed-Rate Debt, Tail Mitigates Financing Risk: Fixed-rate PAB and TIFIA financing fully amortize over their respective tenors and, furthermore, a tail of 23 years provides cushion to refinance if needed. TIFIA is structured to require minimum interest payments in the event revenues are insufficient to make scheduled debt service payment amounts. Cash lock-up provisions and additional bonds are tied to meeting a 1.3x coverage test of senior debt service and scheduled TIFIA debt service.

Financial Metrics

High Leverage, Sufficient Coverage: Leverage is elevated but comparable to urban center peers at approximately $107 million per lane-mile. Net debt-to-cash flow available for debt service (CFADS) is considered high at 15x during the first full year of operations of the new asset in 2017, before evolving down to approximately 13x in 2022. Under Fitch's rating case scenario, average coverage on the senior bonds is 1.94x while average total coverage (including TIFIA Scheduled Interest) during the life of the senior bonds is 1.5x. Minimum total coverage (including TIFIA Scheduled Interest) is 1x in this scenario, occurring in the early years of the project and representing some interest deferral under the TIFIA loan.

Peer Group: ERC's peers include Chesapeake Transportation System (Chesapeake Expressway, Virginia, CTS, rated 'BBB'/Outlook Stable) and Richmond (VA) Metropolitan Transportation Authority (RMA, rated 'A'/Outlook Stable). Both ERC and CTS are under construction while RMA has been operational for years. CTS' leverage is anticipated to be 11x on the senior lien during the first operating year before evolving down to 8x post-ramp-up, while ERC's toll rates are much lower than CTS. Fitch rating case total average coverage is varied between the three, reflecting their respective rating differences.

RATING SENSITIVITIES

Negative - Construction: Unanticipated construction issues that may cause significant delay in completion of the project beyond the long-stop date would stress the rating.

Negative - Political Decisions: Future political actions on the tolling structures and policies may not be credit neutral if either compensation levels are inadequate or if such actions impair toll revenue generation;

Negative - Financial Performance and Metrics: Post completion, the rating could be pressured if financial metrics are below Fitch's rating case expectations due to: changes in economic conditions, that lower overall corridor demand; the result of operating and maintenance expenditures that are above forecast levels; or, future leverage that materially affects coverage ratios.

Positive: Post completion, the rating may benefit from sustained traffic and revenue performance that results in better-than-anticipated financial metrics.

CREDIT UPDATE

The updated schedule included in the lender's technical advisor's (AECOM) most recent report indicates the project is progressing well, with all four phases of the project (new Midtown tunnel, MLK Extension, Existing Downtown Tunnels, and Existing Midtown Tunnel) on schedule to be completed in advance of their respective contractual completion dates. The new Midtown Tunnel is expected to be completed by the end of December 2016 with the overall project achieving substantial completion in May 2018.

After considerable delay, related to litigation challenging the validity of the CA and the ability to toll the project, tolling began on Feb. 1, 2014 with the lower-than-anticipated toll rates being offset by compensation from VDOT.

Following additional public opposition, another agreement was reached July 10, 2015, with additional compensation from VDOT, which ensures no tolls will be collected on the MLK Freeway extension segment of the project. The state will transfer $78 million that was set aside for Route 460 improvements in southeast Virginia to buy out the tolls on the MLK extension project. The agreement also includes provisions to ease the tolling burden related to projects on the Midtown and Downtown tunnels for residents who are most severely impacted due to financial, medical or other circumstances. ERC has agreed to pay $500,000 a year for 10 years to help offset the cost of tolls to those toll users who are the most financially stressed. The cost for toll violations will be capped. The highest amount that ERC can charge for violations in a first proceeding in general court regarding unpaid tolls, fees and court costs cannot exceed $2,200.

In Fitch's opinion, the amendments and agreements subsequent to financial close should not have a material effect on the project's metrics as the compensation arrangements were sized to maintain all economics and metrics within the transaction. Pursuant to indenture covenants, the compensation from the toll buy-out agreement will be used toward an extraordinary redemption of a portion of the project's indebtedness.

Although early in the project, initial 17 months of performance results (February 2014 to May 2015) indicate performance 13% above revised projections, with total transactions of 49.6 million compared to 43.9 million. Toll revenue during fiscal 2014, including leakage and bad debts, came in nearly on budget at $87.2 million, compared to $86.7 million. Given the commuter nature of the traffic base, it is unclear what level of ramp-up will take place in the months ahead. In 2014, vehicle transactions greater than 2-axles were 2.99% of total transactions.

The Downtown Tunnel/Midtown Tunnel/MLK Extension Project includes the construction of a new two-lane, immersed-tub tunnel adjacent to the existing Midtown Tunnel beneath the Elizabeth River in Virginia, modifications to the interchange at Brambleton Avenue/Hampton Boulevard in Norfolk, the construction of an extension to the Martin Luther King Freeway and the refurbishment of the existing Midtown Tunnel and Downtown Tunnel facilities. ERC will design, build, finance, operate, maintain and toll the project over the 58-year concession term. ERC is a special purpose vehicle, owned by Skanska ID and Macquarie (50:50 ownership) and has been established specifically for the project. Total capital was funded by committed equity and public funds of approximately 33%, debt of 55% and revenue generated during construction of 12%.

SECURITY

The PABs are secured by a first priority lien on project net revenue and the TIFIA loan is secured by a second priority lien on project net revenue. The priority of the TIFIA loan would spring to parity with the senior secured obligations and any other permitted senior secured indebtedness upon the occurrence of a bankruptcy related event.

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

Applicable Criteria

Rating Criteria for Infrastructure and Project Finance (pub. 12 Jul 2012)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=682867

Rating Criteria for Toll Roads, Bridges and Tunnels (pub. 20 Aug 2014)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=758708

Additional Disclosures

Dodd-Frank Rating Information Disclosure Form

https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=989213

Solicitation Status

https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=989213

Endorsement Policy

https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31

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Contacts

Fitch Ratings
Primary Analyst
Casey Cathcart
Associate Director
+1-312-368-3214
Fitch Ratings, Inc.
70 West Madison Street
Chicago, IL 60602
or
Secondary Analyst
Scott Zuchorski
Senior Director
+1-212-908-0659
or
Committee Chairperson
Seth Lehman
Senior Director
+1-212-908-0755
or
Media Relations
Sandro Scenga, +1 212-908-0278
sandro.scenga@fitchratings.com

Contacts

Fitch Ratings
Primary Analyst
Casey Cathcart
Associate Director
+1-312-368-3214
Fitch Ratings, Inc.
70 West Madison Street
Chicago, IL 60602
or
Secondary Analyst
Scott Zuchorski
Senior Director
+1-212-908-0659
or
Committee Chairperson
Seth Lehman
Senior Director
+1-212-908-0755
or
Media Relations
Sandro Scenga, +1 212-908-0278
sandro.scenga@fitchratings.com