Fri 19 Mar, 2021 - 2:26 PM ET
Fitch Ratings - New York - 19 Mar 2021: Fitch has assigned a 'AA+' rating on approximately $58 million of lottery revenue refunding bonds, series 2021A to be issued by the State of Florida on behalf of the State Board of Education. The bonds are expected to price via competitive sale as soon as the week of March 22 on 18 hours' notice. Proceeds will refund a portion of the outstanding lottery revenue refunding bonds, series 2010F and 2011A.
Concurrently, Fitch upgrades the rating on outstanding lottery revenue bonds to 'AA+' from 'AA'.
The Outlook is Stable.
The bonds have a first lien on lottery revenues deposited to the Education Enhancement Trust Fund (EETF). Gross lottery revenues are collected by the department of the lottery (a state agency) from lottery retailers on a weekly basis. The department transfers lottery revenues net of prizes, commissions and administrative expenses to the EETF on a monthly basis. The percentage of lottery revenues distributed as prizes and that portion which is transferred to the EETF is governed by statute.
The upgrade to 'AA+' rating reflects the demonstrated resilience of the lottery revenue stream aided by underlying population and economic gains and the state's active management of the lottery program. The bond structure is exceptionally resilient given high coverage of maximum annual debt service (MADS), a rapidly descending debt structure, and strong legal protections limiting risk to additional leverage.
Strong Resilience: Fiscal 2020 lottery revenues deposited in the EETF exceeded $1.9 billion or almost 11x MADS of $175 million. The state does not have plans for the issuance of additional new money debt, and annual debt service declines by roughly 40% through fiscal 2025. Protections against future new money issuance are strong with an additional bonds test (ABT) requiring 3.0x coverage of MADS.
Moderate Growth Prospects: Fitch expects more moderate lottery revenue growth, as solid long-term economic fundamentals are balanced against the discretionary nature of lottery expenditures and high risks to competition.
Factors that could, individually or collectively, lead to positive rating action/upgrade:
--The high level of competition for discretionary income and proclivity for lottery revenue volatility weigh on Fitch's view of long-term revenue performance and precludes consideration of an upgrade to 'AAA' in the foreseeable future.
Factors that could, individually or collectively, lead to negative rating action/downgrade:
--Although not expected, a material shift in the performance of lottery revenue associated with economic, competitive or other pressures, and a weakening of the coverage cushion from amounts transfers to the EETF.
International scale credit ratings of Sovereigns, Public Finance and Infrastructure issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of three notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit [https://www.fitchratings.com/site/re/10111579].
Lottery Rating Capped by State IDR
The rating on the lottery revenue bonds is capped at the State of Florida's Issuer Default Rating (IDR) of 'AAA' Stable, as Fitch does not view these revenues as clearly segregated from state operations and general state functions. The percentage of lottery revenues distributed as prizes and transferred to the EETF for educational purposes is variable and governed by state statute. The statutorily required distribution of lottery proceeds is designed to maximize the amount of funds deposited in the EETF, and is indicative of state support and its control of the bond programs. A non-impairment clause requires at least 2.0x coverage of MADS in conjunction with any change in the percentage of net lottery revenues allocated to the EETF.
Resilient Lottery Revenue Growth
Growth in Florida's population and economy combined with the state's active management of the lottery program, which includes marketing, retailer recruitment and new product development, have supported a resilient pace of growth in lottery revenue. Gross lottery sales increased nearly 5% in fiscal 2020 to $7.5 billion (or a 6.8% CAGR over the prior 10-year period) as Florida's lottery games ranked second in total sales and tenth in per capita sales among the 45 U.S. lottery jurisdictions during the year.
Florida's December 2020 Revenue Estimating Conference (REC) forecasts gross lottery sales rising to $8.16 billion in fiscal 2021, reflecting strong growth in scratch-off sales during the pandemic period. The REC forecasts gross lottery sales to fluctuate modestly thereafter tracking close to pre-pandemic estimates through fiscal 2025. The state expects the gross lottery forecast to improve with the release of the March REC held this week in support of the 2021 legislative session.
Transfers to the EETF declined 0.7% to $1.91 billion in fiscal 2020. EETF transfers do not always align with gross lottery sales as the state adjusts prize payouts to bolster the revenue performance of the lottery program and minimize volatility associated with fluctuations in the economy and personal income, and competition from internet gaming and regional venues. The December REC estimates EETF transfers to reach $1.97 billion in fiscal 2025.
The state has taken a more conservative view of lottery revenues going forward, which Fitch views as prudent, incorporating economic uncertainties associated with the pandemic, the mature nature of the Florida lottery program, the discretionary nature of the lottery expenditures, and risks to competition. However, lottery revenue volatility has been fairly manageable in relation to other statewide, economically sensitive, revenue sources, including the state sales tax and documentary stamp tax. Gross lottery revenues posted consecutive years of growth from fiscal years 1999-2008 followed by relatively modest declines of 5.7% in fiscal 2009 and 0.9% in fiscal 2010. Prior to fiscal 2009, lottery revenues had only declined in three years since inception, none consecutively.
Robust Coverage Cushion
Lottery revenues deposited into the EETF provide substantial coverage of debt service on the lottery revenue bonds. Fiscal 2020 pledged revenues of $1.91 billion are equivalent to 10.9x coverage of MADS of $175.5 million which occurs in fiscal 2021. Annual debt service is scheduled to decline steadily thereafter reaching $105 million by fiscal 2025 and less than $7 million by fiscal 2030. Final maturity of all outstanding lottery revenue bonds occurs in fiscal 2032. The state does not plan to issue additional new money lottery revenue bonds in the foreseeable future.
The coverage protection inherent in the structure (a 91% revenue cushion to 1.0x MADS) is considerable relative to the largest consecutive decline in EETF transfers, a 7.5% decline over fiscal 2010-2011. The Fitch Analytical Stress Test (FAST) yields a 2.4% decline in the moderate recession scenario or a 10.3% decline in the downside scenario. Pledged revenues would continue to provide an ample coverage cushion for the current rating assuming an increase in MADS to the 3.0x ABT coverage requirement.
Fitch's dedicated tax analysis also considers the 2.0x MADS coverage requirement, as the state has a covenant that no reduction in the contribution rate to the EETF will be made unless a consultant certifies that the resultant coverage would not be less than 2.0x MADS. The coverage cushion from fiscal 2020 pledged revenues based on a 2.0x MADS coverage level would not pressure the rating under Fitch's dedicated tax analysis.
No criteria variations
In addition to the sources of information identified in Fitch's applicable criteria specified below, this action was informed by information from Lumesis.
The principal sources of information used in the analysis are described in the Applicable Criteria.
Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg
| ENTITY/DEBT | RATING | PRIOR | |||
|---|---|---|---|---|---|
| Florida, State of (FL) [General Government] | |||||
|
LT | AA+ | Upgrade | AA | |
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Additional information is available on www.fitchratings.com
Numbers in parentheses accompanying applicable model(s) contain hyperlinks to criteria providing description of model(s).
| Florida, State of (FL) | EU Endorsed, UK Endorsed |