Restructuring deal for Louisville arena returns debt to investment grade

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BRADENTON, Fla. – The Louisville Arena Authority plans to refund bonds that originally financed the KFC Yum! Center, debt now rated at junk levels.

The LAA prices $388.7 million of refunding bonds on Dec. 5, with the Kentucky Economic Development Finance Authority as the conduit issuer for bonds that will carry investment-grade ratings.

The deal is designed to avoid a default under the existing bond structure, which a top state official says would be unacceptable.

The new bond issue earned dual, multi-notch rating upgrades. Both new ratings are investment grade, reflecting new agreements with the state and city governments and the arena's primary tenant. Taxpayers will subsidize the arena for longer, and the final maturity of the debt was extended five years.

The refunding will be issued as $209.3 million of Series A fixed-rate revenue bonds, and $179.4 million of Series B taxable bonds. Proceeds will refinance the entire 2008 arena deal, including advance refunding the tax-exempt portion of the debt, which has a 10-year call date of June 1, 2018. Such advance refunding deals may become impossible after Jan. 1 under terms of tax bills moving through Congress.

The original deal financed the 720,000-square-foot arena in downtown Louisville with current and capital appreciation bonds.

The refunding structure is backed by stronger funding agreements from the state of Kentucky, the Louisville & Jefferson County Metropolitan Government, and the University of Louisville Athletic Association. The UL men’s and women’s Cardinals basketball teams play at the arena.

“We were very grateful that all three of our partners were willing to restructure the agreements with us,” said LAA Chairman Scott C. Cox. “The credit has been dramatically strengthened.”

With the improved funding and certain indenture amendments, S&P Global Ratings gave the refunding bonds an underlying A-minus rating, five notches better than its junk BB rating on the current arena bonds. Moody's Investors Service assigned a Baa3, three notches above the current Ba3 rating.

The bonds also will be wrapped by Assured Guaranty, adding insured ratings of AA from S&P and A2 from Moody’s to the issue. Assured wrapped the initial 2008 arena debt.

“It was our goal when I became chairman to refund these bonds and get an investment-grade rating,” said Cox, who was appointed to the position in July 2016. While it’s not clear how the split ratings will affect pricing, he said, officials are gratified for them. Cox also said he was his goal to get the state, city and university to amend agreements to match maturities of the debt. The previous agreements did not match the life of the bonds.

“When everybody pulls together in the same direction, which is what you have here, you can have a success story,” Scott Brinkman, secretary of Gov. Matt Bevin’s executive cabinet, said of the deal.

Brinkman, a former public finance attorney, said the governor stomped for the restructuring in the General Assembly, obtaining approval from lawmakers to terminate a 20-year expiration date on the tax increment finance district created by the state for the project and the removal of a cap on the amount of sales and property taxes that pay a portion of the debt.

Bevin, he said, also urged Louisville Mayor Greg Fischer and university athletic officials to increase their contributions to the deal.

“He felt very strongly that if the state were to increase its contribution through the TIF, it was only fair that the other players participate in the agreement,” Brinkman said of the governor. “He is adamant that you take care of your financial house, that you honor your financial obligations.

“Default is simply not acceptable.”

Brinkman said Bevin feels the same way about Kentucky’s outsized pension liabilities. Bevin plans to call a special session before the end of the year to deal with that issue.

On its current trajectory the arena’s back-loaded debt will exceed available revenues when debt service spikes in 2020, which LAA’s financial advisor Hilliard Lyons “saw several years out,” according to Brinkman. The new agreements and new bonds will change that, he said.

“I’m convinced we’re going to put this to bed and never have to deal with this at the state level again,” Brinkman said.

Under the new funding agreement, the Legislature extended the life of the TIF up to 35 additional years, until 2054, and eliminated the cap on the amount of TIF revenue available for debt service.

The city of Louisville agreed to pay $10.8 million annually until 2054 or until the bonds are repaid, whichever comes first. Previously, the city’s payment ranged between $6.8 million and $9.8 million.

The University of Louisville Athletic Association agreed to pay an additional $2.42 million annually on its lease agreement, and extended the term to 2054 or until the bonds are paid off. The association will also continue to make a payment based on a formula that typically ranges between $1.6 million and $1.7 million.

As part of the deal under the indenture, excess revenues will be used to redeem bonds early.

Moody’s said its Baa3 rating reflects the “high degree of cash flow predictability and improved overall resiliency” due to a reduction in annual debt service costs after the refinancing.

The rating also supports expected accelerated deleveraging due to the addition of an excess cash sweep to redeem debt early.

“The project's ability to achieve this resiliency fully depends on the future growth in the more volatile sales tax-based TIF revenues collected within the 2-square mile downtown TIF district, as they account for about 90% of TIF revenues,” said Moody’s analyst John Medina. “However, if this does occur this would notably improve the cash flow predictability of the revenues pledged to pay the bonds.”

S&P said its five-notch higher rating for the new debt reflects structural enhancements, including a cash-flow retention mechanism and the new revenue agreements approved by the parties.

“Because of changes in the level of payments received from different private and government entities we expect total revenues at the stadium to increase,” said S&P analyst David Lum.

The 22,000-seat, multi-purpose arena in downtown Louisville opened in 2010, and is managed by AEG. It has 72 suites, restaurants, conference rooms, and a 760-space parking garage.

The nonprofit Louisville Arena Authority oversees the facility. Its $360 million of insured bonds were issued in 2008 to construct the arena. At the time, Moody’s assigned a Baa3 rating to the deal, and S&P rated it BBB-minus.

In the subsequent years, the ratings slipped below investment grade with analysts citing lower-than-expected TIF revenues, narrowing debt service coverage, and higher-than-anticipated operating expenses. Brinkman attributed the TIF district’s problems to the recession.

The LAA hired AEG to manage the arena, pulling in more concerts and events. Its main tenants remain the University of Louisville's men's and women's Cardinals basketball teams.

Moody’s placed the University of Louisville and its foundation under a review for possible downgrade Oct. 3 partly because of the developing federal investigation into men's basketball recruiting violations.

Authorities have not indicated what, if any, penalties the team could face as a result of at least one UL basketball coach being included in a criminal complaint involving fraud and corruption schemes investigated by the FBI and the U.S. Attorney's Office for the Southern District of New York.

The investigation led the university’s athletics board to oust basketball coach Rick Pitino, who said he had no knowledge of the alleged activities.

In its report on the Dec. 5 refunding, Moody’s said its Baa3 rating considers the strong liquidity profile that will result from the refinancing, which will help mitigate the uncertainty related to a potential loss of revenues due to the FBI investigation and potential sanctions by the National Collegiate Athletic Association.

“Lower demand for premium seating, sponsorships, naming rights, and general ticket sales would result in lower revenues to the LAA, though this is not expected to be material given the strong underlying support for the team and our view that the NCAA is unlikely to levy severe sanctions like not allowing the team to play regular season games,” Medina said.

Cox said he met in Chicago and Boston this week with prospective investors, presenting a roadshow that was well received. He’s also doing teleconferences from Louisville.

“We received unanimous praise over how the credit was strengthened, which was gratifying,” he said.

The deal is co-managed by Bank of America Merrill Lynch, the book-runner, and Siebert Cisneros Shank & Co. The syndicate includes Cabrera Capital Markets LLC, Citi, Drexel Hamilton LLC, Goldman Sachs & Co., Morgan Stanley & Co., PNC Capital Markets LLC, Raymond James, RBC Capital Markets, Stifel, and Wells Fargo Securities.

Stoll Keenon Ogdon PLLC is bond counsel and Dinsmore & Shohl LLP is counsel to the underwriters.

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Ratings Revenue bonds Tax increment financing district Primary bond market Tax-exempt bonds Taxable bonds Kentucky Economic Development Finance Authority Kentucky