TEXT-Fitch affirms Ariz. Water Infrastructure Finance bonds at 'AAA'
Nov 6 - Fitch Ratings has affirmed its 'AAA' rating on the following bonds issued by the Water Infrastructure Finance Authority of Arizona (WIFA, or the authority): ---$863.9 million in outstanding water quality revenue bonds. The Rating Outlook is Stable. SECURITY The bonds are secured by certain loan repayments payable primarily from governmental entities, pledged account funds and investment earnings on such accounts. KEY RATING DRIVERS STRONG FINANCIAL STRUCTURE: Fitch's cash flow modeling demonstrates that the state revolving fund (SRF) program can continue to pay bond debt service even with loan defaults in excess of Fitch's 'AAA' liability default hurdle, as produced using Fitch's Portfolio Stress Calculator (PSC). Liability default hurdles derived by the PSC are calculated based on overall pool credit quality as measured by the rating of underlying borrowers, size, loan term, and concentration. SOLID PORTFOLIO CREDIT QUALITY: At least 58% of WIFA's loan portfolio is estimated to be investment grade. Loan provisions are strong with the majority of loan principal secured by water and/or wastewater revenue pledges or general obligation pledges. MODERATE-TO-HIGH CONCENTRATION: The combined pledged loan pool is concentrated with 70 individual obligors, the top 10 of which represent approximately 63% of the pool. Fitch views this concentration risk as mitigated given the strong loan security and excess cushion after application of Fitch's stress test. CREDIT PROFILE FINANCIAL STRUCTURE EXHIBITS STRONG DEFAULT TOLERANCE Annual cash flow coverage from repayments of pledged loans combined with scheduled reserve de-allocations remains strong. 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. This is in excess of Fitch's 'AAA' liability stress hurdle (45%), which is derived based on the aggregate credit quality of the program's pledged loan pool. BORROWER POOL EXHIBITS MODERATE-TO-HIGH CONCENTRATION The combined pledged SRF loan pool is composed of approximately 70 obligors. The largest borrower, Lake Havasu City (senior lien revenue bonds rated 'A' and general obligation junior lien bonds rated 'AA-', both with Stable Outlook by Fitch), represents about 22% of the portfolio on a combined basis. In addition, the pool's 10 largest borrowers comprise approximately 63% of the portfolio. Fitch views the concentration as moderate-to-high for a municipal bond pool. However, underlying loan provisions are strong, with approximately 83% of the loan portfolio's principal secured by revenue pledges with the remainder backed by either GO or other tax-backed pledges. Also, previous feedback from WIFA suggests that Lake Havasu's concentration has peaked due to the completion of most capital expenditure projects, and is expected to decrease moving forward. EFFECTIVE PROGRAM MANAGEMENT AND UNDERWRITING WIFA's loan underwriting guidelines, evidenced by extensive formalized policies and procedures, are a key credit strength. Prior to loan origination, WIFA staff performs a due diligence review and a financial capability review. The due diligence review includes determination of legal, managerial, technical, and financial capability. The financial capability review focuses on a borrower's historical performance over the previous three-year period, with results used to analyze trends and project future performance. WIFA annually reviews its portfolio to assess annual loan performance and to confirm loan category (qualified or not qualified). To date, WIFA has not experienced any borrower defaults. WIFA has identified a few borrowers whose debt service coverage has slipped below their 1.2x rate covenant. WIFA is working with each of these borrowers to implement strategies for improvement, including rate adjustments. STRUCTURAL CHARACTERISTICS ARE SOLID WIFA provides loans to local entities for wastewater and drinking system improvements through its clean water and drinking water SRF programs (CWSRF and DWSRF). WIFA's SRF programs benefit from credit enhancement provided both by pledged revenues in excess of debt service due (over-collateralization) plus amounts and earnings held in pledged accounts. On a quarterly basis, over-collateralization is projected to be over 1.3x for the leveraged bonds after taking into account amounts due to state match bonds. AVAILABLE RESERVES ADD ADDITIONAL STRUCTURAL ENHANCEMENT In addition to over-collateralization, WIFA's SRF programs are supported by certain pledged account funds and interest earnings on such funds including the financial assistance account and reserve account. The program indenture requires that the reserve account be maintained at a minimum of: (i) 10% of the original balance of all outstanding bond principal, (ii) 1.0x maximum annual debt service, or (iii) 1.25x of the average annual debt service remaining. As of October 2012, the reserve fund stood at approximately $88 million, or 9.7% of bonds outstanding. Additional parity bonds can be issued provided that after such issuance debt service coverage relating to leveraged bonds is at least 1.2x. In calculating coverage, only principal and interest from qualified, pledged loans are considered. CROSS-COLLATERLIZATION STRENGTHENS PROGRAM Excess amounts in the CWSRF can be transferred to make up any deficiencies in the DWSRF and vice-versa, resulting in cross-collateralization of the two funds. This increases the diversity of the aggregate loan pool and lessens the risk of any one borrower's default eroding reserve balances and threatening bondholder payments. Additional information is available at 'www.fitchratings.com'. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings. Applicable Criteria and Related Research: --Revenue-Supported Rating Criteria (June 12, 2012) --State Revolving Fund and Leveraged Municipal Loan Pool Criteria (May 21, 2012) --Rating Guidelines for State Credit Enhancement Programs (June 19, 2012) --Counterparty Criteria for Structured Finance Transactions (May 30, 2012) Applicable Criteria and Related Research: Revenue-Supported Rating Criteria State Revolving Fund and Leveraged Municipal Loan Pool Criteria Rating Guidelines for State Credit Enhancement Programs Counterparty Criteria for Structured Finance Transactions
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