This one is gonna’ hurt.
For the second time in one month, an international debt rating agency has downgraded the $340 million in KFC Yum! Center bonds to “junk” status, indicating an increasing chance of default compared to more stable investment-grade debt.
This morning, Standard & Poor’s downgraded the KFC Yum! Center bonds to BB, its highest non-investment or “speculative” grade rating, from BBB-, the New York City-based firms’s lowest rating for investment grade debt.
In the S & P rating system, an issuer rated BB is considered more stable in the short term compared to other low-rated borrowers. However, this low-rated issuer “faces major ongoing uncertainties and exposure to adverse business, financial, or economic conditions, which could lead to the obligor’s inadequate capacity to meet its financial commitments,” according to the S & P website.
S & P maintained its “stable” outlook for the arena bonds from their report last July, an indication of how likely it is the Louisville Arena Authority can meet its $22 million-plus annual obligation to pay back bondholders, an amount that increases substantially each year.
However, S & P raters clearly see the obligation depending on Louisville Metro Government paying its full $9.8 million annual obligation.
From the report:
The stable outlook reflects our view that stable to modest growth in arena revenue and the guaranteed metro payments from Louisville-Jefferson County Metro Government (Metro) provide some downside protection to the LAA, and should insure that the debt service coverage ratio will not drop meaningfully below our projections, which remain weak for the next five years.
In this latest report dated Dec. 26, S & P raters emphasized they will have to see more revenue from the TIF district as well as additional events revenue beyond the $1 million annual guarantee from AEG Facilities, the Los Angeles-based firm that manages KFC Yum! Center, before they’ll upgrade their rating.
The Louisville Arena Authority has been paying Louisville-based financial firm Hilliard Lyons $10,000 per month to lobby the rating agencies for an upgrade, but to no avail.
This is the second negative S & P report in one year, and once again, the rater pointed to uncertainty as to whether the tax increment financing district created to fund the KFC Yum! Center can produce sufficient revenue to service the debt.
The S & P downgrade is likely to have major ramifications including ending all chances of refinancing the debt at lower rates, as well as leading to greater scrutiny of arena operations by state and local officials.
Last week, state Rep. Jim Wayne, who represents the 35th District in the general assembly, and state Sen. Chris McDaniel, who represents Northern Kentucky, told Insider Louisville they’re monitoring the KFC Yum! Center financials in anticipation of the Louisville Arena Authority asking the state for supplemental funding to avoid default.
Wayne and McDaniel added they want to see greater transparency from LAA about the true state of arena finances and its legal obligations to repay the Kentucky Fair Board about $5 million for lost business at the Kentucky State Fair and Exposition Center.
Wayne and McDaniel’s comments came after Moody’s Investor Services downgraded the KFC Yum! Center debt last month to Ba3 from Ba2, deeper into the firm’s rating for “junk,” or speculative debt.
That’s one step down in credit worthiness using Moody’s system of triple-A assigned to the safest investments, and C the riskiest.
More detail from the current S & P report:
“Since operations began in 2010, the LAA has faced a number of challenges that we view will take several years to manage through and have led to weak debt service coverage,” said Standard & Poor’s credit analyst Jayne Ross.
The stable outlook reflects our view that stable to modest growth in arena revenue and the guaranteed Metro payments provide some downside protection to the LAA, and should insure that the DSCR will not drop meaningfully below our DSCR projections, which remain weak for the next five years.
We would raise the rating if TIF revenues stabilize under the two-mile TIF district, such that we have greater visibility into long-term revenue from this source, along with other revenues, to support a DSCR that is sustained above 1.25x. We also estimate that the arena would need to sustain net category B revenues above the AEG minimum guarantee and continue to reduce operating expenses to achieve these coverages, which in our view are not expected in the near term. We could lower the rating if TIF revenue growth is below our forecast or if category B revenues after operating costs do not exceed the AEG annual guarantee.