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

Lottery Revenue BondsLottery ManagementStandard & Poor’s Ratings Services appraisal ofmanagement focuses primarily on industry expertise,experience, and quality. Attention is placed onthe historical effectiveness in developing and promotinghands-on, innovative approaches to keepthe state’s lottery games competitive. A well-seasonedteam that is well informed of developingindustry innovations in marketing and vendingtechnology, foresees potential challenges, and canadapt to a rapidly changing environment, is a positiverating factor. Also important is the autonomyof the management body.Typically, management and control of a state lotteryis the responsibility of an administrative team appointedby the governor and confirmed by the state legislativebody. The team directs the adoption of rules,oversees the operation of the lottery, and is responsiblefor the honest and fair operation of the games.Financial OperationsTo assess a state lottery’s financial position,Standard & Poor’s analyzes trends in historical revenuegrowth with particular attention paid to cyclicalfluctuations, overall volatility, and length of history.Historical pledged revenues that provide higher coverageoffer some protection from cyclical factors.Based on the relative inexpensiveness of lotterygames as an entertainment item and the attractionof potential winnings, state lottery games haveremained popular and have been somewhat insulatedfrom recessionary cycles.Lottery revenue projections depend on a numberof underlying demographic and economic factors,including state population, state income, statewideemployment, and job growth trends. AlthoughStandard & Poor’s considers future projections oflottery revenue growth, it does not use projectionsas a major basis for determining a rating.Legal ProvisionsLottery-backed debt typically is secured by a pledgeof net revenues after collections, payment of prizemoney, and administrative expenses, as well as certainallocations to the state general fund. Variabilityin the distribution procedure can be mitigated bystatutorily controlling expenses and by establishingallocation formulas or caps.Lottery-secured debt typically has an open flowof funds, whereby net revenues not needed to payDocumentation Requirements■ Official statement■ Trust indenture■ State authorizing legislation■ Audited historical revenues for 10 years, if availabledebt service will revert to the state general revenuefund for other purposes so that the pledge of newor additional lottery revenues will not hamperfunding of other state programs.The lien position of pledged revenues is veryimportant. If there is no formal cap or dedicationof revenues, Standard & Poor’s will analyze thestate’s historical financial position and how revenueshortfalls, if any, were met in order to gauge thepotential that a state may be compelled in thefuture to redirect a greater share of lottery revenuesfor general fund purposes.The additional bonds test is important, as itensures a minimum level of debt service coverage offuture maximum annual debt service before additionaldebt can be incurred. Additional bonds testsshould be historical in nature, specifying that revenuesmust cover future maximum annual debtservice on historical and proposed debt by a fixedpercentage before new bonds can be issued. Allother things being equal, a higher additional bondstest and coverage level usually lead to a higher rating,unless the issuer’s lack of adequate revenue collectionhistory or revenue volatility becomes alimiting factor. If an additional bonds test allowsfor the issuance of variable rate debt or a bulletmaturity that will need refinancing, the additionalbonds test coverage multiple ideally would be sufficientto protect against possible future swings ininterest rates. If the additional bonds test coveragemultiple is low, the use of prevailing short-terminterest rates when calculating future debt servicefor purposes of the additional bonds test would notbe as favorable as using some extra factor anticipatinga rise in rates. A good alternative might be touse instead prevailing long-term rates, or prevailinglong-term rates plus an extra adjustment factor,allowing a coverage margin for a potential rise ininterest rates.Given the discretionary nature and quality of thepledged revenue stream, a debt service reserve fullyfunded from bond proceeds is a rating factor. ■www.standardandpoors.com77