DBRS Confirms Texas Transportation Commission – IH 35E Managed Lanes Project at BBB, Stable Trend

DBRS Limited (DBRS) has today confirmed the rating of BBB with a Stable trend on the 35.5-year $285 million revenue loan issued under the Transportation Infrastructure Finance and Innovation Act (TIFIA) program to fund part of the IH 35E Managed Lanes Project (the Project) of the Texas Department of Transportation (TxDOT).

The payment of principal and interest is dependent upon tolls collected from motorists using the managed lanes and the loan only has recourse to the accounts and cash flows of the Project. Furthermore, the Project is very different from a typical public-private partnership (PPP) as it does not have the rigid legal structure, strict risk transfer to a special-purpose vehicle or extensive performance requirements generally found in PPP transactions. Instead, the Project is closely linked to TxDOT which, in DBRS’s view, greatly limits TIFIA’s risk exposure related to completion delays and aggressive traffic projections.

The Project consists of the redevelopment and operating and maintenance (O&M) of a 30.1-mile segment of Interstate Highway (IH) 35E from IH 635 in Dallas County to U.S. Route 380 in Denton County, two of the fastest-growing counties in Texas. The construction phase has been directly contracted by TxDOT to a design-build joint venture of Archer Western Contractors, LLC (Archer Western); Granite Construction Inc. (Granite); and LANE Construction Company (LANE; collectively with Archer Western and Granite, the DBJV) under a fixed-price, date-certain Development Agreement. The work entailed the widening and rehabilitation of the general-purpose lanes, the rehabilitation of adjacent access roads and structures and the addition of two reversible toll lanes (the Managed Lanes) in the south and middle segments of the highway, which will be the sole source of cash flow to repay the TIFIA loan.
TxDOT and the DBJV entered into an amendment to the Development Agreement dated March 30, 2017. The amendment extended the Substantial Completion date of the Project by 90 days to August 16, 2017, from May 18, 2017, but maintained the deadline for the completion of the Managed Lanes System (managed lanes and exit/entrance ramps) so that the Managed Lanes System can be opened to traffic as originally scheduled. TxDOT has since inspected the Project and has deemed that the DBJV achieved completion of the Managed Lanes System as of the target date of May 18, 2017. DBRS understands that the Substantial Completion target date remains at August 16, 2017. The Managed Lanes System opened up to traffic on May 20, 2017, and the revised target Substantial Completion for the overall Project is not anticipated to have a negative impact on the financial performance of the Project since all project revenues to service the TIFIA loan will be collected from tolls received on the Managed Lanes. Traffic and revenue data is not expected to be available to DBRS until August 31, 2017. DBRS intends to update its rating report later this year when Substantial Completion of the balance of the Project has been achieved and traffic data becomes available.

All revenues from electronic tolls collected at gantries located along the highway and on access ramps will be deposited into a blocked account held with the trustee. TxDOT will formally assume responsibility for the management, O&M of the Project once completed with all costs related to the Managed Lanes recoverable from the revenues after mandatory debt servicing, if sufficient funds remain. The maintenance standards for the Managed Lanes are understood to be somewhat more stringent than for a standard highway, but overall obligations are viewed as low complexity, given the type and location of the asset.

Despite the limited scope of risks assumed by the Project, significant uncertainty prevails with respect to traffic levels in the early years of operation as the widening of the general-purpose lanes will provide considerable congestion relief in the corridor, dampening the convenience offered by the Managed Lanes. This currently constitutes the primary constraint to a higher rating. According to the traffic and toll revenue study produced by CDM Smith, traffic on the Managed Lanes is expected to ramp up to its full potential over a three-year period as users gradually get used to the toll and the convenience of the Managed Lanes. Because of reduced congestion on the general-purpose lanes, only 4% to 6% of total traffic, or an average of 36,000 weekday transactions, is projected on the Managed Lanes in the first year of operation in 2017; however, this share is expected to gradually rise to 10% of total traffic, or 90,300 weekday transactions, by 2035.

The financing terms proposed under the TIFIA loan agreement are generally typical of road projects, although a few features have been added to enhance the Project’s resilience, including capitalized interest during the first five years of operation followed by a five-year interest-only period. The most important features of the financing platform, however, are the cash flow waterfall mechanism prescribed in the TIFIA loan agreement and the right to defer a material portion of debt servicing during the first 25 years of operations if toll revenues prove to be insufficient. The relevant debt service coverage ratio (DSCR) for the transaction is defined as the ratio of revenue net of O&M expenses to mandatory and scheduled (deferrable) debt servicing (the TIFIA DSCR). While non-standard, the ratio is fairly conservative as it captures O&M expenses even though these costs are only reimbursed to TxDOT once mandatory debt payments have been made. Once the five-year period where interest is capitalized ends, the minimum TIFIA DSCR is projected to be 1.99 times (x). The minimum DSCR remains above 2.94x if only mandatory TIFIA principal and interest payments are considered. DBRS estimates that the Project could sustain a traffic reduction of up to 45% at any point in time during the operating phase and still maintain a total DSCR of at least 1.0x. For the BBB rating, this is viewed as an adequate cushion to mitigate the considerable uncertainty pertaining to the traffic forecasts.

DBRS would consider positive rating action in the event that financial metrics materially outperformed projections over a prolonged period. Conversely, DBRS would consider negative rating action in the event that traffic materially underperformed expectations, leading to a weakened DSCR over a prolonged period.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

The principal methodology is Rating Public-Private Partnerships, which can be found on dbrs.com under Methodologies.

The full report providing additional analytical detail is available by clicking on the link under Related Research at the right of the screen or by contacting us at info@dbrs.com.

For more information on this credit or on this industry, visit www.dbrs.com or contact us at info@dbrs.com.