Fitch Rates Purple Line Transit Partners' Sr PABs & Sub TIFIA Loan 'BBB+(EXP)'; Outlook Stable

CHICAGO--()--Fitch Ratings has assigned an expected rating of 'BBB+(EXP)' to approximately $323 million of senior Maryland Economic Development Corporation private activity bonds (PABs), series 2016A-D issued on behalf of Purple Line Transit Partners LLC (limited liability company) (PLTP) for the Purple Line light rail transit (LRT) project (the project).

Fitch has also assigned an expected rating of 'BBB+(EXP)' to the approximately $873 million subordinate Transportation Infrastructure Finance and Innovation Act (TIFIA) loan to PLTP for the project. The Rating Outlook for all instruments is Stable.

The final ratings are contingent upon the receipt by Fitch of final documents and legal opinions conforming to information already received and reviewed as well as the final pricing of the bonds. The PABs are expected to price on or about June 13, 2016 and the proceeds will be loaned to PLTP to pay a portion of the project's costs. The TIFIA loan is expected to close on or about June 14, 2016.

In addition, Fitch has assigned a PPP Grantor Counterparty rating of 'AA-' with a Stable Outlook to the Maryland Department of Transportation's (MDOT) Purple Line project payment obligations. The obligations consist of progress, milestone and availability payments payable to PLTP from the resources of Maryland's Transportation Trust Fund (TTF), subject to annual appropriation. The project is the state's first major PPP transaction under broad authorization enacted in 2013 creating a process for financings of this nature. Review, authorization and monitoring of projects are integrated into the state's strong management of capital and debt, including approval by the Board of Public Works (BPW), which oversees all debt.

RATING RATIONALE

The rating is primarily driven by the design build (DB), operation and maintenance (O&M), and light rail vehicle (LRV) parent company guarantees from Fluor Corporation (Fluor; rated 'BBB+'/Stable Outlook). It is further driven by additional features that include a highly capable team of contractors that have experience with similar large-scale capital projects; a strong revenue-paying grantor; and well-defined payment mechanism and operating standards. Looking past the Fluor guarantees, the completion risk and financial metrics are still commensurate with a 'BBB'-category rating.

KEY RATING DRIVERS

EXPERIENCED CONTRACTORS; ADEQUATE SECURITY [Completion Risk: Midrange]

The project will be constructed by a highly experienced DB contractor, a LLC comprised of Fluor Enterprises, Inc., The Lane Construction Corporation (Lane), and Traylor Bros., Inc. (Traylor). DB requirements are fully passed down to the DB contractor on a back-to-back basis. The DB contractor will further sub-contract the rolling stock and specialized aspects of systems integration to skilled technical experts. A letter of credit sized to 50% (with step-up provisions to 100%) of liquidated damages, in addition to a 55% payment bond and a 55% performance bond, together with cashflow headroom provide sufficient protection to weather even the worst construction cash-flow stress scenario due to contractor replacement, per an analysis by the technical advisor (TA). Parent company guarantees (up to a 35% aggregate liability cap) on a joint-and-several basis, add strong support to the contracting unit.

CONTRACTED OPERATIONS; ADEQUATE LIFECYCLE PLAN [Cost Risk: Midrange]

Project operations and LRV maintenance are contracted through an operations and maintenance (O&M) contractor, a LLC comprised of Fluor Enterprises, Inc., Alternative Concepts, Inc. (ACI), and CAF USA, Inc. which has extensive experience fulfilling O&M obligations on comparable light rail projects worldwide. In addition, CAF USA is the LRV supplier, with the obligations wrapped through the DB contract by Fluor, providing continuity and strong parent support. The TA opined that the project company's approach and budget is adequately detailed for annual maintenance and lifecycle costs. The O&M contractor will perform regular condition and performance monitoring inspections that will allow it to better assess the remaining life of the asset, and will be required to fund a renewal reserve account should a rehabilitation cash flow deficit be identified. Additional support within the O&M contract includes: parent company guarantees (75% annual liability cap, 150% rolling three-year aggregate liability cap) and liquid security in the form of a 50% annual payment letter of credit. This security helps cushion some cost and lifecycle forecast uncertainty over the 30-year operations period.

PAYMENTS FROM STRONG COUNTERPARTY [Revenue Risk: Stronger]

Progress payments during construction, a revenue service availability (RSA) payment at service commencement, a final completion payment, and availability payments (AP), including special lifecycle (SL) payments, during operation of the project are made by the State of Maryland, acting by and through MDOT and Maryland Transit Administration (MTA), with a PPP grantor payment obligation rating of 'AA-'/Outlook Stable. The availability payment is divided between a fixed capital payment which covers debt service and equity distributions, and escalating payments, which cover O&M and rehabilitation obligations, based on a basket of available indices. The tailored payment mechanism is considered moderately better than peers, and further includes flexible standards or cure periods to ensure minimal deductions are incurred.

CONSERVATIVE STRUCTURE; FLAT COVERAGE [Debt Structure: Midrange]

The debt structure is fixed rate and fully amortizing, and is further supported by a six-month debt service reserve fund (DSRF) and 1.20x equity lockup trigger. Funds trapped in the distribution lock-up account for more than 30 months will be applied to prepay TIFIA obligations, which Fitch views favorably in terms of deleveraging. The debt service coverage ratio (DSCR) profile is relatively flat, following a few initial years of slightly higher coverage. The subordinate TIFIA loan has the ability to spring to parity with the senior debt in a bankruptcy related event.

ADEQUATE COVERAGE; LOW ROC IMPACT

The sponsor case, adopted as the Fitch base case and rating case, demonstrates average DSCR of 1.31x and minimum DSCR of 1.26x. Fitch developed an additional stress case scenario using a realistic outside cost (ROC) of 6%, as identified by the TA that shows average DSCR of 1.27x, with minimum coverage of 1.19x. Fitch views the all cost break-even of 25.9% producing a 4.3x breakeven expressed as a multiple of the ROC as consistent with a 'BBB' category rating.

PEER GROUP

The nearest comparable Fitch-rated availability-based project is Denver Transit Partners (DTP; rated 'BBB+'/Outlook Stable). Both projects include the construction of light rail projects in major metropolitan areas and benefit from similar DB, O&M, and LRV parent guarantees from Fluor. As a result of these guarantees, the ratings of both projects are directly linked to the Fluor rating. PLTP's underlying financial metrics are stronger than DTP's, thus should the Fluor guarantee terminate or be downgraded the resulting rating pressure on the underlying project is likely to be less severe for PLTP than DTP, assuming other rating factors remain unchanged.

RATING SENSITIVITIES

Negative/Positive:

--Linked to Parent Guaranty: A downgrade of Fluor or a removal of its parent company guaranty could result in negative rating action; however, this may be partially mitigated by the remaining security package and financial metrics. An upgrade to Fluor could result in positive rating action. However, upward rating migration is limited given the nature of the asset.

Negative:

--Counterparty Risk: Though unlikely, a material credit deterioration of MDOT as revenue offtaker could pressure the rating;

--Construction Delay: Material delay beyond scheduled RSA that leads to financial pressure could affect the rating;

--Financial Performance: Material cost increases during operation that reduce coverage levels (absent the Fluor guarantee) for a sustained period could pressure the rating.

TRANSACTION SUMMARY

The debt will be issued to fund the development of an east-west, LRT system extending from Bethesda, Maryland to New Carrollton, Maryland, located inside of the Washington, D.C. I-495/Capital Beltway area. The project, consisting of 16.2 miles of light rail line and 21 stations, will serve as a link to pre-existing transit systems within the D.C. metropolitan area with additional connections to four branches of the WMATA Metrorail system (two red, one green and one orange), three Maryland Area Regional Commuter (MARC) rail lines (linking Washington, Baltimore and Frederick), Amtrak's Northeast Corridor and various local bus routes.

The State of Maryland, acting by and through the MDOT and the MTA (collectively, the Owner), entered into a public-private partnership (P3) to design, build, finance, operate, and maintain the project for an approximately 36-year term. MDOT will compensate PLTP through an availability payment mechanism. Construction is estimated at approximately $2.0 billion with a construction period of approximately 70 months, followed by a 30-year operating period, commencing on the RSA Date. MDOT will contribute progress payments during construction, two milestone payments of $100 million and $30 million, respectively, at RSA and final completion, as well as eight special lifecycle payments paid semi-annually over the first four years of operations totalling $28 million. Fitch has rated MDOT's P3 grantor counterparty payment obligation 'AA-'/Outlook Stable.

The project's financial sponsors are Meridiam Infrastructure Purple Line, LLC (70% equity), Fluor Enterprises, Inc. (15%) and Star America Purple Line, LLC (15%). In Fitch's opinion, the concessionaire is comprised of members with vast experience in the development of major P3 infrastructure projects in North America, particularly in the U.S. The consortium members' track record of successfully working together on a number of projects further strengthens its overall management expertise. Furthermore, the equity team has experience utilizing multiple financing structures in the U.S. including PABs and TIFIA. Total equity is estimated at approximately $140 million and will be supported by acceptable letters of credit at financial close. The Owner adds considerable strength as combined project grantor, and provides comfort that the obligations per the project agreement will be met.

Construction will be performed by a LLC comprised of Fluor (50%), Lane (30%), and Traylor (20%). The obligations are joint and several and the security package contains parent company guarantees (up to a 35% liability cap) featuring the Fluor Corporation ('BBB+'/Outlook Stable), 55% payment and performance bonds, and letter of credit sized to 50% (with step-up provisions to 100%) of liquidated damage obligations. The DB contract includes the rolling stock subcontract with CAF USA, such that it is also wrapped under the DB security package and parent company guarantees.

Fitch is comfortable with the contractors' substantial experience in transportation infrastructure which we consider appropriate for a complex transit project such as the Purple Line. The DB Contractor has significant resources and capabilities to meet the project requirements while Fluor, Lane and Traylor have the skills and resources to complete the project as standalone entities. Fitch incorporated the TA's expertise into its analysis and is of the opinion that the consortium's proposed cost structure is well developed, providing for adequate funds to successfully deliver the project.

Based on its review and dialogue with the TA, Fitch finds the schedule very well defined and structured, and that the construction activities matched the proposed construction methodology. Key pre-works have commenced, sub-contractors have been chosen, and the limited notice to proceed will afford additional flexibility into the schedule. Fitch believes that the relief events are reasonable for the scope and complexity of the project. Also supporting this assumption is the TA's opinion that standard industry techniques have been used to develop the working schedule and it has been developed to a sufficient level of detail.

To test the adequacy of the security package, Fitch reviewed the TA's replacement contractor analysis that evaluated the effect of DB contractor default on the project at various stages of completion. The replacement contractor analysis was based on the TA's experience with similar projects and taking into account the DB contractor's specific approach to the project. In a worst case scenario (occurring in March 2019, when there are 40% of costs left to complete) the total potential liability is 10.8% of the contract price. Fitch finds the third party support in the form of a letter of credit sized to $28.7 million in combination with payment and performance bonds of 55% of the contract price to be sufficient to cover the worst-case scenario.

CAF USA is an experienced manufacturer of LRVs; however, should they default under their obligation, the inclusion of the rolling stock subcontract in the DB contract would offer sufficient liquidity to support their replacement. A number of capable replacement manufacturers are available globally and the layers of protection and oversight in this transaction should limit procurement delay and consequently ensure RSA in advance of the longstop date. The LRV supplier replacement analysis done by the TA demonstrates a possible cost impact up to 52% of the LRV subcontract price. The scenario is highly conservative, envisioning a 50% premium on the remaining 50% costs to complete at the time of default as well as liquidated damages and other disruption costs. The LRV security package that the vehicle supplier subcontract is wrapped under, which includes both short-term liquidity and long-term bonding, is deemed sensible under this scenario.

In Fitch's view, based on its completion risk guidelines, the project's complexity, its large-scale contract size and lengthy construction duration, a limited availability of replacement contractors, a sufficient security package, and included contingency are all commensurate with a 'BBB' category rating level. The support of the parent company guaranty from a highly-rated developer, Fluor, helps the project achieve a 'BBB+' rating.

Project operations and LRV maintenance is contracted through an OM LLC comprised of Fluor, ACI, and CAF USA. The OM Contractor will perform regular condition and performance monitoring inspections that will allow it to better assess the remaining life of the asset, and will be required to fund a renewal reserve account should a rehabilitation cash flow deficit be identified. Additionally, the O&M contract includes parent company guarantees (up to a 75% annual liability cap and a 150% rolling three-year liability cap) and a 50% annual payment letter of credit.

The OM contractor prepared a detailed estimate of O&M costs, which included reasonable assumptions relating to operation of the transit system as well as its regular maintenance. Given differences in the transit systems analyzed in the TA's benchmarking process, Fitch deemed project expenses to be within the expected range, given the system's size and estimated operations requirements. Further, the TA undertook a sensitivity analysis for the proposed lifecycle and O&M pricing models verifying that per mile costs were well within the appropriate range based on its database of similar project costs.

Operating, maintenance and rehabilitation (OM&R) obligations, and their respective payment streams, are passed down to the OM contractors on a back-to-back basis, insulating PLTP from performance risk as the OM contractor would ultimately bear any deductions to the payment stream. Fitch further views the ability to match the available basket of indices to the various components of the availability payment as an appropriate risk mitigant against most cost escalation in addition to a 50% annual payment letter of credit.

The rehabilitation and handback requirements are considered typical for P3 projects seen elsewhere in the U.S. and North America, particularly the highly prescriptive asset management plan. PLTP's plan for monitoring is both well-developed and pro-active, and the philosophy of early intervention as part of the maintenance and rehabilitation should result in a prolonged asset life. Furthermore, annual third-party inspections and the inclusion of five-year handback plan further support the project's handback requirements, and provide additional comfort with the technically-complex nature of transit maintenance and rehabilitation.

Fitch has adopted the sponsor's case as its base case due to its view as to the reasonableness of the project's construction and OM&R cost assumptions following dialogue with the TA. Due to a highly-rated counterparty, Fluor, guaranteeing all of the O&M contractor's obligations, Fitch also assumed the base case as the rating case. The strength of the parent guaranty in supporting project obligations is viewed as sufficient to mitigate any likely downside impacts on costs. The Fitch base case, which assumes an AP CAGR of approximately 1.4% and average annual O&M and lifecycle costs (LC) of $60 million and $7.8 million, respectively, is sculpted to a 1.26x minimum and 1.31x average DSCR, with coverages reaching a high of 1.49x in 2026 before levelling out at 1.26x in 2030. The project life coverage ratio (PLCR) in the first operational year is 1.34x.

Fitch ran an additional case which applied the ROC (expressed as a percentage) identified by the TA for O&M, LC, SPV, deductions, and insurance expenses exceeding initial projections in a conservative cost over-run scenario. The ROC was applied to the base case to measure the project's financial flexibility to absorb reasonable cost increases, without the Fluor guarantee. Accordingly, a ROC stress of 6% was applied to O&M costs, 7% to LC, and 3% to SPV costs, based on analysis provided by the TA, to assess the impact that stresses would have on the profile. Given its review of the deduction scheme in the project documents as well as the TA's P90 montecarlo simulation of possible deduction outcomes and the likelihood that the OM contractor would operate at a very good or good level of performance, Fitch did not stress deductions in its ROC scenario. The results of this scenario resulted in average DSCR of 1.27x and minimum DSCR of 1.19x.

Fitch analyzed a number of coverage ratio breakeven scenarios related to the financial structure and considers the levels consistent with investment grade. When run on the adopted Fitch base case using only the debt service reserve as available liquidity, the model indicates the financial structure can withstand a 25.9% increase in total costs. Based on an overall ROC of 6%, the breakeven expressed as a multiple of the ROC is 4.3x.

Based on Fitch's criteria, these breakeven and coverage levels are consistent with a mid/low 'BBB'-category rating for a project deemed midrange from a cost risk perspective, but are further supported by the parent company guaranty from a highly-rated counterparty to reach the 'BBB+' project rating.

SECURITY

The senior indebtedness will be secured by a security interest in the borrower's rights, title and interest in the project. The private activity bonds will constitute senior obligations of the concessionaire and, along with any other senior obligations, will rank in priority to all unsecured obligations of the concessionaire. The TIFIA loan will constitute a subordinate obligation.

Additional information is available on www.fitchratings.com

Applicable Criteria

Rating Criteria for Availability-Based Projects (pub. 14 Oct 2015)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=871036

Rating Criteria for Infrastructure and Project Finance (pub. 28 Sep 2015)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=870967

Rating Public-Sector Counterparty Obligations in PPP Transactions (pub. 15 Jan 2016)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=876726

U.S. Tax-Supported Rating Criteria (pub. 18 Apr 2016)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=879478

Additional Disclosures

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https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1005364

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Contacts

Fitch Ratings
Primary Analyst:
Jeffrey Lack, +1-312-368-3171
Director
Fitch Ratings, Inc.
70 W. Madison St.
Chicago, IL 60602
or
Secondary Analyst:
Scott Zuchorski, +1-212-908-0659
Senior Director
or
Committee Chairperson:
Saavan Gatfield, +1-212-908-0542
Senior Director
or
Media Relations:
Elizabeth Fogerty, +1-212-908-0526
New York
elizabeth.fogerty@fitchratings.com

Contacts

Fitch Ratings
Primary Analyst:
Jeffrey Lack, +1-312-368-3171
Director
Fitch Ratings, Inc.
70 W. Madison St.
Chicago, IL 60602
or
Secondary Analyst:
Scott Zuchorski, +1-212-908-0659
Senior Director
or
Committee Chairperson:
Saavan Gatfield, +1-212-908-0542
Senior Director
or
Media Relations:
Elizabeth Fogerty, +1-212-908-0526
New York
elizabeth.fogerty@fitchratings.com