CHICAGO — Fitch Ratings assigned a BBB-plus rating to the upcoming Detroit streetlight borrowing, saying it believes that utility tax revenues pledged to the bonds are not at risk in the city's bankruptcy.
Fitch commissioned an independent outside legal opinion to help with its analysis, a fairly unusual step for tax-supported debt ratings.
The Detroit Public Lighting Authority, a separate entity from the bankrupt city, is expected to sell $185.7 million of bonds on June 25. The Michigan Finance Authority will issue the bonds on behalf of the authority. Standard & Poor's released its A-minus rating on the deal last week.
Fitch analysts said the debt's structure offers several "solid bondholder protections," including a perfected first lien on the pledged revenues, a non-impairment covenant, and a fully cash-funded debt service reserve that totals maximum annual debt service.
Bankruptcy Judge Steven Rhodes, who oversees Detroit's Chapter 9 case, issued an opinion last December that said the pledged debt-service revenues belong to the authority, not the city, and therefore would not be at risk in the city's bankruptcy case. Bond counsel on the transaction, Miller Canfield, gave the same opinion.
In a slightly uncommon move, Fitch sought its own legal opinion on the issue.
"The credit presented some particular questions as to ownership of the revenues and we wanted to make sure we were comfortable with the legal structure before assigning an investment-grade rating," Fitch analyst Arlene Bohner said in an email to The Bond Buyer.
That opinion supported bond counsel's opinion.
The bonds are backed by a 5% utility users tax that the city adds to all residents' utility bills. It's a volatile revenue source that has suffered declines of more than 26% over the last decade, Fitch warned.
Annual tax collections are expected to provide roughly three times coverage. But the revenue declined at a compound annual rate of 2.9% over the last 10 years, and, if it continued to fall at that rate, coverage would fall to 1.2 times by 2042, according to analysts.
"Fitch believes the revenue stream is at risk of further declines given the underlying price volatility of the utility services being provided," Bohner wrote in the ratings report.
Meanwhile, the authority released the preliminary bond documents on web site munios.com on Thursday. The document features lengthy "risk factors" and "legal considerations" sections. The possibility that the tax revenue may become insufficient to cover debt service is one of five risk factors, in which case the city would need the Michigan legislature to authorize an increase of the tax rate to higher than 5%.
The six-page legal considerations section offers bond counsel opinion on various scenarios, such as the bankruptcy of an investor-owned electric utility serving Detroit customers.
In that case, it's expected that the tax would continue to be considered the property of the lighting authority, not the utility, though it may result in a delay in payments on the bonds, bond counsel said.
Miller Canfield also opined that if Detroit ends up filing for Chapter 9 protection again, it's likely that the pledged tax revenue would remain separate from the city.
An appeal of Rhodes' ruling by bond insurer Syncora Guarantee Inc. is another factor investors should consider, according to bond documents.
The $185.7 million deal will include $91.9 million of serial bonds maturing from 2015 through 2034 and $93.8 million of term bonds, of which $40.9 million will mature in 2039 and $52.8 million will mature in 2044.
Citi is the senior manager, and BMO Capital Markets and Loop Capital Markets are also on the deal. Robert W. Baird & Co. is financial advisor.
