Cash Flow Analysis
Standard & Poor’s analysis of cash flow projections
for FHA-insured financings addresses two issues:
cash flow sufficiency and consistency of document-
ed representations with those made in the cash flow
projections. The cash flow runs demonstrate that
the mortgage revenues and interest earnings gener-
ated by the transaction are sufficient to meet sched-
uled debt service payments on the bonds and fees.
Cash flow analysis should include information on
the expected revenue stream and the anticipated
bond structure. This information comes from sever-
al statements and schedules, as follows:
Assumptions statement
The assumptions statement should include the dates
for the initial FHA endorsement, commencement of
mortgage note amortization, and the first principal
and interest payments on the bonds. It also should
include relevant interest rates for the bonds (includ-
ing the true interest cost), investments, the mort-
gage note, and the applicable FHA debenture rate
for the property. The amount of one month’s princi-
pal and interest on the mortgage note and whether
the cash flows are lagged.
The last piece of information on the assumptions
statement should be a table of sources and uses of
funds as of the closing date. All sources of funds,
including bond proceeds, accrued interest, premi-
ums, and cash contributions, should be itemized.
This table also should outline the amounts deposit-
ed to the construction fund, the debt service reserve
fund, the mortgage reserve fund, and the revenue
fund at bond closing.
Cash flow schedules
After reviewing all of the input assumptions,
Standard & Poor’s analyzes the “base case” cash
flow run, which assumes the mortgages and bonds
reach scheduled maturity without any prepayments.
The bond debt service schedule should clearly
define maximum annual debt service, consisting of
the total of the highest two consecutive semiannual
periods, so that Standard & Poor’s can compute
debt service reserve fund sufficiency.
A mortgage amortization schedule should be includ-
ed, which demonstrates the monthly payment schedule
from commencement of amortization to maturity.
The revenue schedule is a compilation of infor-
mation previously generated in other schedules.
Total revenues add up mortgage revenues, construc-
tion fund earnings, investment earnings on all
funds, and other contributions.
The cash flow summary and the asset-to-liability
parity schedule also consist of information generat-
ed in prior schedules. The cash flow summary is
total revenues minus total fees and expenses minusdebt service payments for each semiannual period.
If documents provide for fees set at a fixed dollar
amount, which are not proportionately reduced for
prepayments, Standard & Poor’s will request a
stress run. The run must demonstrate that if a pre-
payment of 90% of the mortgage note occurred,
debt service on the bonds and the full set dollar
amount of the fees are paid in full from remaining
revenues. In evaluating the cash flow simulations,
Standard & Poor’s ensures full coverage of debt
service and fees. If a positive balance exists at the
end of each period, then there is sufficient cash
flow coverage. Some issues provide for release of
excess monies at the end of each payment period.
In such an open flow of funds, these monies must
be shown in the cash flow summary as leaving the
issue or not carried forward and counted as rev-
enues in the subsequent period. Extraordinary
trustee fees must be provided for as described earli-
er. In addition, a carry forward balance of $5,000-
$10,000 should be provided.
The asset-to-liability parity schedule divides total
assets (the outstanding mortgage balance, reserve
funds, plus all excess fund balances) by total liabili-
ties (the dollar value of all outstanding bonds).
Unless the 1% assignment fee is covered separately,
the issue always should be at 101% or greater pari-
ty, if 100% of the outstanding mortgage balance is
used in this calculation. If 99% of the mortgage
balance is used, 100% or greater parity is accept-
able. Assets used to cover other shortfalls, such as
the one-month’s interest not covered by the FHA in
a default situation and extraordinary trustee’s fees,
should not be included as assets.
Cash flow simulations
In new construction or substantial rehabilitation
transactions, cash flow simulations should simulate
a worst-case draw scenario, in other words, the
least favorable time for drawing on the construc-
tion fund to originate the mortgage. The interest
rate earned on the construction fund is compared
with the mortgage rate during construction. If the
construction fund rate is less than the mortgage rate
during this period, cash flows should show the
mortgage being funded at the latest possible date.
This is referred to as a slow draw. The drawdown
date under a slow draw is one month before the
commencement of note amortization. A slow-draw
scenario allows Standard & Poor’s to verify that,
should construction delays occur, the trustee has
sufficient monies to pay regularly scheduled bond
payments and to redeem all bonds in the event of a
nonorigination of the mortgage note.
If the relationship between the rates were
reversed, with the construction fund rate being
greater than the mortgage rate during construction,Housing256 Standard & Poor’s Public Finance Criteria 2007