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Rating Action:

Moody's affirms the Baa3 rating on Barclays Center's PILOT Revenue Bonds; outlook remains negative

14 May 2018

Approximately $525 million of debt securities outstanding

New York, May 14, 2018 -- Moody's Investors Service has affirmed the Baa3 rating on approximately $526.8 million of PILOT Revenue Bonds (Barclays Center Project) issued by the Brooklyn Arena Local Development Corporation (PILOT Bonds), which serves as the issuer. At the same time, Moody's maintains the negative rating outlook.

Today's rating affirmation reflects the benefits to the Barclay Center Project from supplemental revenues derived from a reserve account established with a large portion of the proceeds from a minority sale of the Brooklyn Nets (the Nets), the anchor tenant at Barclays Center (Barclays Center or Arena). These supplemental revenues help to mitigate the cash flow volatility and financial underperformance from Arena operations that has occurred and is expected to continue for at least the next several years. While cash flow volatility is expected to continue, the structural enhancements and support from the new reserve fund balances this risk adequately under current forecast assumptions enabling the Barclays Center Project to maintain its investment grade rating.

The underperformance stems from a number of factors, including a drop in revenues and cash flow caused by the attendance and related ticket sales decline at the New York Islanders (the Islanders) home games held at the Barclays Center. The weaker financial performance also reflects the Barclays Center's obligation to make fixed annual payments to the Islanders for a tenant guarantee fee. These payment obligations, which are part of a license agreement, coupled with lower revenues stemming from attendance related underperformance for the Islanders has resulted in a net loss from the Islanders' related business activities for the Barclays Center. In addition, there has been a several year decline in attendance at the Nets' home basketball games (although this may have stabilized), a reallocation of a portion of the game revenues from the Barclays Center to the Nets in connection with a partial sale of the team, and a decline in other revenues, including lower corresponding sponsorship, premium seating and concession revenue items. We expect this decline trend to continue for several years. However, the cash flow predictability and stability derived from cash flow received from the reserve account helps to offset this weakened financial performance, providing support for the Baa3 rating.

On April 11, 2018, Mikhail Prokhorov, the 100% owner of the Barclays Center and heretofore the 100% owner of the Nets, closed on the sale of a 49% interest in the Nets to Joseph Tsai, co-founder of Alibaba Group, for approximately $1 billion. The sale has been approved by the National Basketball Association (NBA). As part of the sale, the NBA required the Barclays Center and the Nets amend the Nets License Agreement in a way that reallocates a portion of the revenue historically received by the Arena to the team, resulting in the Arena receiving lower levels of Nets-related revenues and cash flow from which to pay PILOTs.

To offset this amendment to the Nets License Agreement, the Nets' ownership utilized a portion of the proceeds from the minority team sale to fund a reserve account required by the NBA. Specifically, the reserve account has been funded with $345 million into a trustee-administered restricted account that will earn interest and release scheduled funds over time as supplemental revenue to the Barclays Center, which as a revenue stream, will be available to pay the Arena's obligations, including PILOT payments and Arena expenses. Any free cash flow generated at the bottom of the waterfall that would otherwise be distributed to the owner will be trapped and used to fund supplemental top off to the reserve account over time. Free cash flow will continue to be trapped each year funding this supplemental top off to the reserve until such time that the Barclays Center can demonstrate a minimum debt service coverage ratio (DSCR) of 1.38x each year over the remaining life of the transaction. The reserve account is required to be invested in fixed income securities that have a minimum rating requirement of at least A3 from Moody's and A- from Standard and Poor's. Cash flow received from the supplemental revenue account combined with other Arena revenues are expected to be sufficient to pay all obligations, including PILOT payments and operations and maintenance expenses.

In addition to the amendment to the Nets License Agreement, which reduced revenues to the Arena, the Barclays Center also renegotiated the license agreement with the Islanders. The original license agreement, signed for 25 years, included terms for rent and other revenue streams that go to the Arena. In exchange, the Arena agreed to make guaranteed annual payments to the Islanders for an anchor tenant fee. However, the deal with the Islanders did not work out as originally planned as ticket sales and other revenues have never met original expectations due to the Islanders' team performance and the Islanders ownership's inability to add to the existing fan base and build their brand in Brooklyn, which has impacted home game attendance and ticket sales. The weaker than expected financial performance coupled with the high guaranteed tenant fee that the Arena had to pay to the Islanders resulted in reoccurring losses for the Arena from the Islanders franchise.

The license agreement was accompanied with a side letter giving the parties the right to "opt-out" of the agreement after the end of the 2018-19 National Hockey League (NHL) season. This "opt-out" option was exercised causing the Arena's guaranteed payment to the Islanders to expire at the conclusion of the NHL season next year (2018-19), a credit positive. The Islanders have announced their intention to move to a new arena to be built on Long Island near the Belmont race track. However, until the new Belmont arena is completed (not expected until after the 2020-2021 NHL season at the earliest), the Islanders will split games between the Barclays Center and their former home arena, the Nassau Coliseum. The Barclays Center intends to replace some of the game dates with concerts and other events, which are expected to be more profitable.

In addition, the affirmation acknowledges existing and new structural features that enhance the project's credit profile. Specifically, Mikhail Prokhorov has signed an operating support agreement whereby he unconditionally and irrevocably agrees to provide the Arena with all amounts necessary for the Arena to meet its expenses and payment obligations, including PILOTs, if necessary. In addition, Mikhail Prokhorov and Joseph Tsai have signed an operating support agreement with the NBA whereby they are jointly and severally obligated to provide the Nets with all amounts necessary for the team to meets its expenses and payment obligations, including debt service. We also note the existence of strong liquidity in terms of restricted reserves, including a cash-funded 12-month debt service reserve.

We further acknowledge the $1 billion valuation ascribed to 49% of the team as tangible evidence of the long-term value of the Nets to the Arena and relative to the outstanding Arena debt. The sizeable established reserve sourced by net proceeds from the Nets sale provides a reliable source of contracted obligation income (COI) enhancing credit quality over the remaining life of the PILOT bonds. Because of the PILOT bond structure, Barclays Center is unable to use the net proceeds to take out the PILOT bonds and reduce debt service. Instead, the Barclays Center is using the above outlined reserve structure to release funds as a highly predictable COI over time, which supplements debt repayment. As such, debt reduction related to the sale of the Nets will occur over time as opposed to upfront as one would traditionally expect from an equity infusion of this size. We also recognize the demonstrated support by the Nets owners and by the Arena owner through their execution of new operating support agreements, which underpin the long-term value of the asset, a credit consideration. In the end, owner support for this valued asset coupled with structural features enhance cash flow certainty and provide bondholder protections, which offset the weakness in the financial and operating performance and expected credit metrics, thereby buttressing the maintenance of an investment grade rating at this juncture.

OUTLOOK

The negative rating outlook reflects our belief that the reallocation of revenues from the Arena to the Nets, as part of the amended license agreement, will reduce financial performance and lower DSCRs from Arena alone operations. The negative outlook also incorporates a degree of transition risk as the Arena seeks to replace Islander games with events in a competitive marketplace and also reflects some uncertainty that the reserve top off together with the supplemental revenue from reserves will be adequate to meet the minimum 1.38x DSCR.

WHAT COULD MAKE THE RATING GO UP

Given the negative outlook, the rating is unlikely to go up in the near term. The outlook could move to stable if Barclays Center demonstrates on a sustained basis that the new reserve structure works as expected, that financial performance can stabilize with a DSCR in the 1.38-1.45x range, and that management can successfully secure transition revenues.

WHAT COULD MAKE THE RATING GO DOWN

The rating could come under downward pressure if the DSCRs were to fall below 1.38x on a sustained basis either because the cash flow from business operations at the Arena are even lower than the latest expectations or because the supplemental revenue from the reserves do not work as intended.

OBLIGOR PROFILE

Brooklyn Events Center, LLC (ArenaCo) is a special purpose entity created to manage the construction, operations and maintenance of the Barclays Center (the Arena). Empire State Development Corporation, NY (ESDC) owns the Arena and the land, which it leases to the Brooklyn Arena Local Development Corporation (BALDCo), the issuer of the PILOT bonds. BALDCo subleases the Arena to ArenaCo, and ArenaCo is obligated to make Payments in Lieu of Taxes (PILOTs) to the ultimate owner, the ESD, which has agreed to remit the PILOT payments to the PILOT Trustee that directs the payments to bondholders via the PILOT Bond Trustee.

The Barclays Center (the Arena) is a venue for sports and entertainment events serving as the home court for the NBA's Brooklyn Nets and the home ice for the NHL's New York Islanders. The Arena opened in September 2012 and has a capacity of approximately 17,732 spectators for basketball games and 15,795 for hockey games.

The principal methodology used in these ratings was Generic Project Finance published in April 2018. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

REGULATORY DISCLOSURES

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Richard E. Donner
VP - Senior Credit Officer
Project Finance Group
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

A.J. Sabatelle
Associate Managing Director
Project Finance Group
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

Releasing Office:
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

No Related Data.
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