Maryland Economic Development Corporation -- Moody's changes the outlook to negative on Maryland Economic Development Corporation's A2 rated Utility Infrastructure Revenue Bonds (University of...

New York, November 07, 2012 -- Moody's Investors Service has changed the outlook to negative and affirmed the A2 rating on the Maryland Economic Development Corporation's (MEDCO) Utility Infrastructure Refunding Revenue Bonds (University of Maryland College Park Project), 2011 Series with about $37.9 million of debt outstanding.

Rating Rationale:

The change in the outlook to negative from stable reflects the potential increased operating risks resulting from the elimination of the current Long Term Service Agreement (LTSA) with General Electric (GE, rated Aa3 stable) when it expires in September 2013. While the Operator has experience with the asset and is expected to enter into a major maintenance and parts agreement with GE in lieu of renewing the LTSA, the asset is a tri-generation facility whose complex technology requires specialized and experienced major maintenance and the Management and Operating Agreement (MOMA) has numerous and demanding performance standards the Operator must achieve. In addition, past issues with the GE turbines indicates a need to maintain some GE related protections as the Project has not achieved its 95% availability requirement for many years. The University off taker is well aware of the increased risk in removing the LTSA and is expected to support the Project if needed, but as the asset ages the off taker may be less inclined to do so, especially given that new campus facilities have not been connected to the MEDCO system for electricity.

The affirmation of the A2 rating reflects the strong credit quality of the Project off taker - the University of Maryland, College Park - the largest college of the Aa1 rated state university system; the essential nature of the Project that provides the College Park campus with 100% of its steam, 50% of its electricity, and 20% of its chilled water needs; the Project's solid five year operating and financial performance record; the strong cost-recovery mechanism for operating and capital costs that achieves full cost recovery while maintaining 1.2 times debt service coverage and the monthly billing procedures that ensure a steady cash flow; the satisfactory liquidity support, collectively providing 14 months worth of debt service in cash funded reserves; and the performance guarantee by the operator's two parent companies.

The rating also considers the operating risks associated with the trigeneration facility, which utilizes proven technology. However, the Project requires specialized operating skills and ongoing maintenance and capital investment to maintain the strong performance necessary to comply with numerous performance standards related to the quantity, quality, pressure, and availability of the steam, electric, and chilled water components of the Project, as well as its efficient use of fuel.

Key to the rating is the lack of a termination payment to bond holders if the University terminates the Project agreements for either a sustained instance of force majure or the inability of MEDCO to maintain performance standards. However, in such a case, the Ground Lease requires the University to pay a Transmitting Fee for use of any portion of the Project, and this fee must be sized to cover the costs of maintaining that portion of the system. This fee may or may not include all, none, or a portion of the full debt service payments on these bonds used to finance the development of the Project. We note that the Ground Lease has not been litigated and does not specifically define the Transmitting Fee to include all debt outstanding.

Outlook:

The negative outlook is based on the potential increased operating risk to the Project if the LTSA with GE is not renewed or not replaced with comparable protections upon its expiration in September 2013.

What Could Change the Rating-UP:

The rating is unlikely to move up. The outlook could be changed to stable if, in Moody's view, the replacement major maintenance and parts agreement with GE, which is expected to replace the GE LTSA, supports the Project's operating performance at a level on par with our expectations at the time the original rating was assigned. The outlook could also be changed to stable if the Project takes other actions to mitigate the incremental Project risk due the expected elimination of the GE LTSA.

What Could Change the Rating-DOWN:

The rating could be downgraded if the LTSA is not renewed and not replaced with an agreement that provides similar asset protections; if the University demonstrates an unwillingness to support the Project; if the operator is replaced by an operator of weaker credit quality or with a parent guaranty of weaker credit strength; and/or if the Project notably underperforms, breaches any financial covenants, or loses its strong liquidity position.

CREDIT STRENGTHS

- Project off taker is the flagship campus of a highly rated Aa1 public state university system

- Project provides essential steam to the University with no competition and cost prohibitive alternatives

- Strong structural enhancements include a cash funded debt service reserve fund and two additional cash funded reserve funds, performance guaranties from the Operator's investment grade rated parent companies and liquidated damages sized at a level greater than debt service

- Proven adherence to most contracted performance standards since operations commenced, with the largest post commercial disruption occurring in 2006, for which liquidated damages were paid

- Strong oversight of the Operator with monthly performance reviews and bi-annual operational meetings that include third party engineers, the Operator, MEDCO, and the University

- General Electric (GE, rated Aa3/stable) provides ongoing maintenance, parts, and assistance for the project's two turbines via a Long-Term Service Agreement (LTSA) through September 2013, guaranteeing a 98% availability rate, higher than the Project's 95% requirement under the MOMA with the University

- Monthly pass through of operating and capital expenses as well as strong mechanisms to recover unexpected large capital costs

- The University is responsible for providing all fuel and water for the Project, eliminating price risk at the Project company level, and the payments to the Operator include an incentive to maximize the efficient conversion of these inputs to steam, chilled water, and electricity

- 95% of MEDCO systems were replaced during the upgrade completed in October 2005

- Strong Project level liquidity with indenture required operating reserves

CREDIT CHALLENGES

- Lack of a Long Term Services Agreement (LTSA) after the current one with GE expires in September 2013 if the Project decides not to enter into an equivalent substitute agreement

- Trigeneration system requires specialized skills to operate effectively and efficiently in compliance with performance standards

- The Operator must comply with numerous performance standards that may prove more difficult to meet as the Project assets age, especially in the absence of a supportive LTSA

- Future capital requirements and equipment replacement schedules are uncertain, excluding the GE turbines, presenting an operating risk if the amount of annual capital investment is insufficient to ensure continued strong operating performance

- The Energy Services Agreement allows the University to make its monthly payments, including the portion for debt service, 30 days after receipt of its bill on the 15th of each month; yet, the Indenture requires the trustee to segregate funds for debt service on the 10th of the month, creating a timing conflict. However, University payments have historically arrived within two weeks and the Project has sufficient reserves to mitigate a payment delay.

- If the University terminates the Energy Services Agreement for MEDCO's nonperformance or an Uncontrollable Circumstance, a payment default would likely occur with minimal prospects for recovery given the location of the asset on the University's property. However, if the University uses any portion of the Project, the Ground Lease requires a Transmitting Fee to be paid. This fee is intended to be sized to include outstanding debt service payments, yet this is not explicitly included in the definition of the fee and the lease has not been litigated so the ultimate outcome remains uncertain.

- If the Operator becomes insolvent and must be replaced, a new operator may be of weaker credit quality, have less experience, have no parent guaranty of its operating performance, and could negotiate higher payments, which would raise costs to the University and weaken the competitive position of the Project

RATING METHODOLOGY

The principal methodology used in this rating was Generic Project Finance Methodology published in December 2010. Please see the Credit Policy page on www.moodys.com for a copy of this methodology.

REGULATORY DISCLOSURES

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John MedinaAsst Vice President - Analyst Public Finance Group Moody'sInvestors Service, Inc.250 Greenwich StreetNew York, NY 10007 U.S.A. JOURNALISTS: 212-553-0376 SUBSCRIBERS: 212-553-1653Chee Mee Hu MD - Project Finance Public Finance Group JOURNALISTS: 212-553-0376 SUBSCRIBERS: 212-553-1653 Releasing Office: Moody's Investors Service, Inc.250 Greenwich StreetNew York, NY 10007 U.S.A. JOURNALISTS: 212-553-0376 SUBSCRIBERS: 212-553-1653(C) 2012 Moody's Investors Service, Inc. and/or its licensors and affiliates (collectively, "MOODY'S"). All rights reserved.

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