AUSTIN, Texas--(BUSINESS WIRE)--Fitch Ratings has assigned a 'AAA' rating to the following bonds issued by the California Infrastructure and Economic Development Bank (IBank) under its 2014 Master Indenture (MI):
--Approximately $138.9 million Infrastructure State Revolving Fund (ISRF) revenue bonds, series 2016A.
The bonds are expected to price via negotiation the week of June 13. Bond proceeds will be used to finance or refinance loans to eligible borrowers for infrastructure and economic expansion projects and to pay costs of issuance.
Additionally, Fitch has affirmed its 'AAA' rating on the following outstanding bonds:
--Approximately $177.4 million ISRF revenue bonds.
The Rating Outlook is Stable.
The bonds are secured by pledged loan repayments, reserves, and account interest earnings.
KEY RATING DRIVERS
SUFFICIENT FINANCIAL STRUCTURE: Fitch's cash flow modeling demonstrates that the ISRF program (the program) can continue to pay bond debt service even with loan defaults in excess of Fitch's 'AAA' liability rating stress hurdle, as produced using Fitch's Portfolio Stress Calculator (PSC).
FAVORABLE POOL DIVERSITY: The largest currently pledged borrower, the city of San Diego, represents a manageable 6.7% of the pool. The largest 10 borrowers represent approximately 41% of the total pool. These measures compare favorably to Fitch's medians of 18% and 55% for single-borrower and top-10 concentration, respectively.
ADEQUATE POOL CREDIT QUALITY: Approximately 52% of the loan portfolio is determined to be investment grade or better, including two of the pool's largest unrated obligors, which have been assigned credit opinions by Fitch. This is lower than Fitch's median of 70% and attributable to the lack of a public rating for many of the pool obligors.
SOUND PROGRAM MANAGEMENT: Program management adheres to a formal underwriting policy which includes, among other things, minimum coverage requirements for most borrowers. To date, there have been no pledged loan payment defaults in the ISRF program.
REDUCTION IN MODELED STRESS CUSHION: Significant deterioration in the California Infrastructure State Revolving Fund's aggregate borrower credit quality, increased pool concentration, or increased bond leveraging resulting in the program's inability to pass Fitch's 'AAA' liability rating stress hurdle would put downward pressure on the rating. Fitch views these events as unlikely to occur over the coming review cycle.
The IBank created the ISRF program in 1999 to provide low-cost loans for various categories of public infrastructure projects throughout the state. The series 2016A bonds are the third to be issued under the 2014 MI. The 2014 MI is considered 'open' in the sense that all assets are pledged to all bonds rather than certain assets pledged only to certain series of bonds (i.e. a 'closed' indenture).
Since its inception, the loan pool securing the 2014 MI bonds (including the 2016A bonds) continues to diversify. However, due to the somewhat small albeit increasing pool size, both credit quality and concentration are somewhat volatile. Similarly, the program's financial structure displays a manageable level of volatility due to the relative youth of the program.
FINANCIAL STRUCTURE EXHIBITS SUFFICIENT DEFAULT TOLERANCE
Fitch measures financial strength of municipal loan pools by calculating the program asset strength ratio (PASR). The PASR includes total scheduled pledged loan repayments and reserves divided by total scheduled bond debt service. The ISRF's PASR is 1.4x, which is lower than Fitch's 2015 'AAA' rating category median of 1.9x and therefore indicative of a somewhat below-average yet sufficient financial structure.
Due to the sufficiency of the financial structure, cash flow modeling demonstrates that the program can continue to pay bond debt service even with hypothetical loan defaults of 100% over any four-year period (as per Fitch criteria, a 90% recovery is also applied in its cash flow model when determining default tolerance). This level is in excess of Fitch's 'AAA' liability rating stress hurdle of 48%, 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.
LOSS PROTECTION PROVIDED BY OVERCOLLATERALIZATION AND RESERVES
The ISRF program bondholders are protected from losses by pledged loans made in excess of bond debt service (overcollateralization) and separately secured reserves funded by equity. At about 1.3x, minimum annual loan-to-bond debt service coverage aligns with Fitch's 'AAA' median and is therefore considered to be sound. The 2014 MI's 'common' reserve requirement is equal to the least of (a) 10% of the initial bonds, (b) 1.0x maximum annual debt service, or (c) 1.25x average annual debt service. Including reserves funded with the series 2016A bond issue, aggregate common reserves will total $22.7 million or about 7% of outstanding bonds.
In addition to the common reserves, the supplemental revenue fund requires 1.2x annual debt service coverage (equal to the additional bonds test) before surplus amounts can be released to the program's unpledged assets account. These amounts currently total approximately $37 million, or 11% of outstanding bonds.
FAVORABLE POOL DIVERSITY AND ADEQUATE POOL QUALITY
The current ISRF loan pool is composed of 85 obligors (post the 2016A bond issue). In aggregate, the top-10 obligors represent approximately 41% of the total, besting Fitch's 'AAA' median level of 55%. At 6.7%, the largest expected obligor is the city of San Diego (general obligation bonds rated 'AA-' by Fitch). The next two largest obligors are the city of Santa Cruz and the city of San Bernardino (both secured by water system revenue pledges and represent 6.6% and 5% of the pool, respectively).
In accordance with its criteria, which stipulate that unrated borrowers representing more than 5% of the aggregate pool principal receive a rating assessment, Fitch has assigned an internal credit opinion to the implied water-system revenue pledge from the city of San Bernardino (assessed to be of investment-grade credit quality). The remaining unrated portion of the pool was conservatively estimated to be of speculative-grade credit quality ('BB') in Fitch's analysis (also in accordance with criteria).
Given the large portion of unrated pool obligors, the resulting 'AAA' liability rating stress hurdle is elevated at 48% versus an 'AAA' median of 31% (higher stress hurdles correlate to lower credit quality). The majority of the pool (approximately 86%) is backed by water/sewer revenue, lease or tax revenue, or a combination of tax and utility revenue, all of which are considered to be among the strongest pledge types by Fitch.
SOUND PROGRAM MANAGEMENT AND UNDERWRITING
The ISRF program is separate from the state's other state revolving fund (SRF) programs, including the Clean Water and Drinking Water SRFs. Pursuant to loan agreements, underwriting criteria generally include covenants requiring each borrower to collect tax revenues or charge sufficient enterprise rates to meet all debt service requirements. Rate charges may also include a minimum coverage requirement. Additionally, some borrowers may be required to hold local reserves.
To date, there have been no loan payment defaults from ISRF program borrowers. However, two credits in the ISRF program have declared bankruptcy, including the city of San Bernardino in August 2012 and the Los Osos Community Service District in August 2006. While there is currently program exposure to San Bernardino, Fitch does not expect it to negatively affect the program's performance.
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. 29 Oct 2015)
Dodd-Frank Rating Information Disclosure Form