S&P - Public Finance Criteria (2007). - The Global Clearinghouse

Other Criteria■ Duration of capitalized interest;■ Insurance coverage during construction, includingwhether coverage is sufficient to cover fullredemption of bonds in the event of damage ordestruction; and■ Full permitting and site approvals.The level of construction risk the project entailswill then be evaluated, and if determined to be minimal,a rating will be assigned, based on the obligor’screditworthiness. If the level of construction risksexceeds the normal threshold of most municipalprojects, further analysis will be undertaken, whichwould reflect the criteria used within Standard &Poor’s project finance group, and could include theuse of an outside construction consultant.Where no municipal entity agrees to pay debtservice upon completion, and where the projectmust be completed in order for debt service to bepaid, the project ratings will involve a full analysisof the risks of construction. These risks arethree-fold:■ Timely completion;■ Project performance—whether the project will bebuilt as anticipated or perform as expected; and■ Project cost.Each layer of risk can affect whether the projectwill produce the cash flow necessary to pay debtservice, generate sufficient demand as built, andwhether unanticipated costs will result in inabilityto pay debt service. These projects are likely toinclude many federal leases, public-private partnerships,affordable multifamily housing and nonrecourseprojects.Standard & Poor’s has used this approach forconstruction risk analysis for many years and hasdeveloped levels of construction risk based on comparableprojects. If construction risk is determinedto be appropriately low, a rating based on the obligor’screditworthiness may, all other things beingequal, be assigned. If the level of construction risk isexcessive, further analysis will be undertaken alongthe lines of the complex project criteria and couldinclude the use of a outside construction consultant.Even where a complex project analysis may notultimately be appropriate for certain projects,Standard & Poor’s may retain a construction consultantto advise on particular issues. The scope ofthe consultancy encompasses the following principleareas of inquiry:■ Review of plans and construction documents;■ Evaluation of the likelihood that the contractorwill perform based on historical performance onsimilar projects;■ Hard cost budget and construction schedule evaluation—whethercosts allocated for the projectseem reasonable, whether there is adequate contingency,and whether the construction timeframe is aggressive;■ Project location, special situations (wetlands,weather);■ Construction schedule;■ Whether construction is set in a union/nonunionenvironment;■ Names of borrower, architect, general contractor,or construction manager; and■ Review of drawings or plans for the proposedbuilding.A complex project’s rating rests, in part, on thedependability of its design, construction, and operation.Should the project fail to achieve timely completionor perform as designed, it will not be able tomake its scheduled payments. Standard & Poor’s criteriamay require the report of an “independent engineer”as an aid to identifying and summarizing constructionand other project risks, and certifying thatnotwithstanding those risks, the project will neverthelessbe able to operate in the manner designed,and to generate sufficient cash flow to enable it tomake its scheduled debt service payments.For complex projects, construction risk may bedivided into its preconstruction and postconstructionfacets. The former consists of:■ Engineering and design;■ Site plans and permits;■ Construction; and■ Testing and commissioning.Though a project’s design may attempt to limitconstruction difficulties, its construction programmay nevertheless adversely affect the project.Limited contractor and vendor experience with thetechnology can put a project at risk, as can a weaksecurity and warranty package. A constructionmanagement plan that fails to adequately controlconstruction fund disbursement can result in cashleakage. Designs requiring complicated sequencingof construction activities may also present delayand cost risks. Construction relying on commerciallyproven technology and experienced contractorscan mitigate much of the construction risk attributedto design.Construction And Vendor ExperienceFor complex projects, Standard & Poor’s reviewsthe performance record of equipment vendors andgeneral contractors in building comparable predecessorprojects. Higher-rated projects tend to featurevendors and contractors having broad experiencebuilding comparable projects and demonstratedrecords of meeting schedules. In addition, thebetter contractors will have demonstrated a patternof meeting budgets and avoiding liquidated damagepayments or other penalties. If project sponsors324 Standard & Poor’s Public Finance Criteria 2007