Fitch rates Vermont Muni Bond Bank's $74.5 million bonds 'AAA,' outlook Stable

Fitch Ratings assigns an 'AAA' rating to the following 2010 Vermont Municipal Bond Bank bonds, issued under the 1988 General Resolution:
-- $22,970,000 series 1 bonds;
-- $9,680,000 series 2 bonds (federally taxable recovery zone economic development bonds);
-- $1,365,000 series 3 bonds (federally taxable qualified school construction bonds);
-- $40,570,000 series 4 refunding bonds.
The bonds are expected to sell via negotiation during the week of June 28, 2010.
In addition, Fitch affirms $504,130,000 in outstanding General Resolution bonds at 'AAA'.
The Rating Outlook is Stable.
RATING RATIONALE:
-- The program, which consists of 295 borrowers, is diverse with low single-borrower concentration.
-- The program's loan security is strong, with approximately 98% of all loans backed by a general obligation pledge. There is additional protection from borrower defaults through a state-aid intercept mechanism. As a result, approximately 56% of loans primarily for school districts, which receive significant amounts of revenue from state sources, are estimated to exhibit 'AA' quality characteristics. Fitch does not express an opinion as to the credit quality of the remaining underlying loans.
-- While the program passes Fitch's 'AAA' Stress Test in the middle and last four years, the stressed cash flows fail the test in 2013 by $261,000(0.4% of debt service), assuming no scheduled federal debt service subsidies are received. Despite the shortfall, Fitch maintains its 'AAA' rating because it believes the amount of the shortfall is de minimus and the assumption regarding debt service subsidies is conservative.
KEY RATING DRIVERS:
-- The program's ability to balance future leveraging with available program resources that will enable the cash flows to meet Fitch's 'AAA' stress test in any four-year period is imperative to maintaining the rating.
-- Credit quality of the bonds is linked to repayment performance on the program's loan portfolio.
SECURITY:
Program bonds are secured by borrower loan repayments and debt service reserve funds. A state moral obligation on the reserve fund and a state-aid intercept provision for borrowers provide additional credit enhancement.
CREDIT SUMMARY:
Established in 1970, The Vermont Municipal Bond Bank is a quasi-state agency. It is administered by a five-member board consisting of four gubernatorial appointees and the state treasurer. The bond bank issues bonds and uses the proceeds to make loans to local government borrowers throughout the state. Virtually all of Vermont's eligible municipalities use the bond bank as their primary borrowing vehicle because it offers local government borrowers the lowest cost of capital.
The debt service reserve fund, which is sized at the least of maximum annual debt service, 125% average annual debt service, or 10% of bond proceeds, is funded with bond proceeds and invested in U.S. treasury and agency securities. Pledged reserves currently total $48.8 million, or 9.5% of bonds outstanding. In addition, the bank currently maintains approximately $10.9 million in unrestricted general fund reserves, which are not pledged to bondholders but may be used if a deficiency occurs.
The loan pool consists of 295 borrowers from cities, towns, counties, school districts and other local governments throughout the state. Approximately 98% of all loans are backed by a general obligation pledge; the remaining are backed by utility pledges from four borrowers. About 53% of the loans are to school districts, which are further backed by an intercept mechanism that includes any state funds payable to borrowers. State aid is reportedly over 90% of school district debt service.
The bonds are also supported by a state moral obligation to replenish the debt service reserve fund if it falls below its minimum specified level. Neither the intercept nor the moral obligation has ever been utilized, because no borrower has defaulted on a loan repayment since the bond bank began operations in 1970.
The loan portfolio's largest borrower, Springfield School District, comprises only 5% of the portfolio. The top 10 borrowers account for 33% of the total outstanding loan balance.
Loan payments are due 15 days before the bond payment dates. Under Vermont's state intercept provision, if a borrower fails to make its scheduled loan repayment, the bond bank will certify the failure of that payment with the state treasurer. The state treasurer would then pay the defaulted loan amount to the bank's trustee from amounts appropriated and payable by the state to the defaulted borrower, if available. If sufficient state aid is unavailable, it will be paid from subsequent interceptable state aid payments, with bond bank reserves covering the temporary shortfall. To date this mechanism has not been tested as there have not been any loan defaults in the history of the program.
Fitch analyzed the default tolerance of the VMBB loan pool using a stress test it also applies to state revolving funds and other municipal loan pools. The stress test considers loan quality, single risk concentration, reserve fund size, and debt service requirements. A small shortfall in the stressed cash flows in one year assumes that subsidy payments on federal tax subsidy bonds (2% of total bonds outstanding with this issuance) are not remitted at all. Per its report 'Build America Bonds Broaden Municipal Market -- Credit Considerations' dated April 27, 2010, Fitch assesses the ability of the issuer to pay full interest on the BABs, regardless of the subsidy. While Fitch believes there could be offsets to some annual subsidy payments, it believes that VMBB management would take action to address the reasons for the offset and avoid multiple years with no subsidy.
However, given the already tight margin on the program's stressed cash flows, Fitch will continue to closely monitor the bank's ability to balance the leveraging of tax-exempt and federal subsidy bonds and the program's pledged and available resources to meet the 'AAA' Stress Test in any four-year period; this will be imperative to maintaining the outstanding rating.
Applicable criteria on Fitch's website at 'www.fitchratings.com' include:
-- 'Revenue-Supported Rating Criteria' (Dec. 29, 2009);
-- 'State Revolving Fund and Municipal Loan Pool Rating Guidelines' (April 28, 2008).
Additional information is available at 'www.fitchratings.com'.
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Source: Fitch. 6.29.2010 CHICAGO--(BUSINESS WIRE)--