http://www.standardandpoors.com 327completion and lease-up at specified debt service cov-
erage by the specified completion date. Please see,
“Public Finance Criteria: LOC-Backed Municipal
Debt” for a full description of Standard & Poor’s cri-
teria relating to letters of credit.
Freddie Mac, Fannie Mae,
GNMA guarantees/FHA insurance
Please see, “Public Finance Criteria: Ginnie Mae,
Fannie Mae And Freddie Mac Multifamily
Securities,” and “Public Finance Criteria: FHA
Insured Mortgages” for a full description of rating
criteria. Construction risk is typically fully mitigated
by the insurance and guarantees; however, transaction
documents must accurately reflect the mechanics of
the program, cash flow considerations and capitalized
interest calculations must be incorporated into the
analysis, and Standard & Poor’s assumes a “worst
case” receipt of guarantee and insurance proceeds.Turnkey Contracts As Credit Enhancements
Sponsors often use “turnkey” (“soup-to-nuts”) con-
tracts on major projects as a means of shifting con-struction risk away from equity and lenders. In a
turnkey contract, the builder promises to deliver the
project complete on a certain day, and takes all
responsibility for design, engineering, procurement,
construction, and testing. All the project owner has
to do is pay the contract costs, and “get the keys”
to a fully functioning project at the end of the
process. In appropriate circumstances, turnkey con-
tracts can shift risk to the extent that they may be
viewed as an indirect type of credit enhancement by
providing for timely and full completion on pain of
damage or penalty payments, on which the project
might be able to rely for debt service. Nevertheless,
prompt payment of liquidated damages is more a
desideratum than a reality.
Turnkey or other construction contracts cannot
eliminate all risk. Some risk generally remains, such
as force majeure and change-of-law events, which
by definition, cannot be controlled by the vendor
and contractor.■Pension Fund Credit Enhancement And Related Guarantee Programs ............................
S
tandard & Poor’s Ratings Services, upon request,
will assign ratings to issues secured by public
pension fund credit enhancement programs.
Even though some enhancement programs are
relatively short-term in nature, or signify a fraction
of a pension fund’s accumulated assets, Standard &
Poor’s analytical approach for public pension fund
credit enhancement program issue ratings focuses
on the long-term credit quality of the fund’s spon-
sor, along with the pension fund’s independence,
management, and operating performance. In other
words, a pension fund’s credit enhancement pro-
gram is not viewed in a vacuum: extraordinary
asset and cash flow coverage of credit enhancement
program obligations does not automatically trans-
late into superior credit quality. Nonetheless, credit
enhancement programs remain an important credit
consideration and will be analyzed in the context of
how the program fits within the pension fund’s
overall management and operating profile.Pension Fund Guarantees
Credit enhancement programs and related guaran-
tees pertain to the extension of a pension fund’s
creditworthiness to debt instruments of other enti-ties through letters of credit (LOCs), guarantee
agreements, liquidity agreements for commercial
paper (CP) or other short-term instruments, or liq-
uidity agreements to honor optional “put” provi-
sions on variable-rate debt.
In one respect, the extension of pension fund
guarantees is similar to the investment risk under-
taken by a pension fund in its normal course of
business, in that pension fund assets are placed at
a level of risk in return for current or future com-
pensation for undertaking the risk of lending or
promising to advance assets. However, it is impor-
tant to note that the extension of pension guaran-
tees leverages existing assets, in addition to the
normal investment risk associated with the direct
ownership of financial securities.
In the extreme case of a securities market
price decline, losses on owned investments by a
pension fund could be aggravated by require-
ments to honor guarantees or other financial
commitments extended by the pension fund,
increasing the potential for losses of fund assets
and reducing the ability of the pension fund to
honor its standing obligations for benefit pay-
ments to retirees.