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Rating Action:

Moody's downgrades Barclays Center's PILOT Revenue Bonds to Ba1 from Baa3; outlook changed to stable from negative

23 Oct 2019

Approximately $524 million of debt securities outstanding

New York, October 23, 2019 -- Moody's Investors Service has downgraded to Ba1 from Baa3 approximately $524.0 million of PILOT Revenue Bonds (PILOT Bonds) issued by the Brooklyn Arena Local Development Corporation (Barclays Center Project), which serves as the issuer. At the same time, Moody's changed the outlook to stable from negative.

RATINGS RATIONALE

The downgrade principally reflects the loss of the benefit derived from the reserve account established in May 2018 with a portion of the proceeds from the minority sale (49.9%) of the Brooklyn Nets (the Nets or Team), the anchor tenant at Barclays Center (Barclays Center or Arena), to Joseph Tsai. The supplemental revenues from the $328 million reserve account were expected to be used to help mitigate the cash flow volatility and financial underperformance from the Arena's operations that has occurred and is expected to continue for at least the next few years. The structural enhancements and support from the reserve account was expected to balance the risk of cash flow volatility inherent in a sports and entertainment venue that faces demand and competition related risks. In addition, we viewed the reserve as a way to synthetically reduce debt and de-lever the capital structure because the proceeds from the reserve could not be used to directly prepay the PILOT Bonds due to the structure of those bonds. Without the reserve, Barclays Center is now reliant entirely on the revenue and cash flow derived from the Arena's underlying operations to cover operating expenses and to meet debt service requirements, which have consistently underperformed expectations from the 2016 refinancing.

On September 18, 2019, Mr. Tsai purchased the remaining 51% stake in the Nets from Mikhail Prokhorov as well as the full 100% ownership in the Arena. Upon the completion of this latest sale, the Nets License Agreement, which had been amended during the 2018 minority sale to Mr. Tsai in a way that reallocated a portion of the revenues historically received by the Arena to the Team (with the reserve account being set up in exchange), was amended again to return to the original revenue split between the Team and the Arena. However, in connection with this final sale, the securities that had been placed in the reserve account were liquidated, the reserve account was closed, and the proceeds were paid to the Team in consideration for the amendment and restatement of the Nets License Agreement.

The debt service coverage ratio (DSCR) for the fiscal year ended June 30, 2019 was 1.55x, and management is budgeting the DSCR for the fiscal year ended June 30, 2020 to be 1.48x, a stark improvement over the DSCR recorded in fiscal year 2018 and 2017 of 1.03x and 1.23x, respectively. However, the DSCRs for 2019 and partially for 2020 benefit from the supplemental revenue from the reserve, which has been eliminated. If one adjusts the DSCR calculations to reflect underlying Arena operations on a run-rate basis by removing the supplemental revenue from the reserve; by eliminating the revenues and expenses associated with the Islanders hockey team, which are leaving the Arena; and by adjusting for the additional revenue sharing coming to the Arena from the Nets under the newly amended license agreement for the entire period, the DSCR for FY 2019 would have been 1.16x and 1.20x for FY 2020. This financial performance is well below our initial expectations, particularly given the volatility that now accompanies the Project with the elimination of the reserve. We also note that Barclays Center has historically underperformed financially owing to the volatility of team performance with the Nets, related variability in sponsorship and premium seating sales and the less predictable revenues and cash flow from event sales.

Some of this could be reversed because of better performance by the Nets during the 2018-19 season, in which the Team made the playoffs and the anticipated better performance owing to the addition of several high profile players, which may result in higher attendance and associated sponsorship and luxury suites revenue in the upcoming season. In addition, we also understand that the new owner, Mr. Tsai, will likely want to make strategic changes to the Arena's revenue mix going forward in order to improve financial performance now that he has full control. However, while these initiatives are credit supportive, we believe these changes will take time to implement, and in the interim, the Arena is more than likely to record DSCR's closer to the Arena's 2020 expected performance of 1.20x, a level that is not consistent with an investment grade rating. Longer-term, the Arena's financial performance will need to show notable improvement in order to maintain or improve annual DSCRs on a sustained basis as the Project has a rising debt service schedule that begins to escalate in 2026.

On a positive note, the credit profile benefits from the security afforded by the PILOT bond structure; the strength of New York City as a media, sports and entertainment market; the non-relocation agreement with the Nets; and the owner's operating support agreements with both the Arena and the Nets. Specifically, Joseph Tsai 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, Mr. Tsai has signed an operating support agreement with the NBA whereby he is obligated to provide the Nets with all amounts necessary for the team to meet 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 debt service reserve that is equal to 12 months of average annual debt service and a cash-funded strike/liquidity reserve equal to 50% of average annual debt service.

OUTLOOK

The stable rating outlook incorporates our belief that the new owner and management team will be able to stabilize and even improve financial performance going forward with the addition of profitable events to the calendar. In addition, the stable outlook reflects our expectations that management will present a credible long-term plan to grow revenues on a sustainable basis that will meet rising debt service levels over time.

WHAT COULD MAKE THE RATING GO UP

Given the downgrade, the rating is unlikely to go up in the near term. The rating could come under upward pressure if management successfully books additional events such that actual financial performance exceeds original expectations and annual DSCRs exceed 1.50x on a sustained basis to include the periods of time when the annual debt service schedule increases.

WHAT COULD MAKE THE RATING GO DOWN

The rating could come under downward pressure if the DSCRs were to fall below 1.20x on a sustained basis because the cash flow from business operations at the Arena are lower than the latest expectations owing to higher than anticipated expenses or lower than anticipated margins from new events.

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 (ESD) 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 ground lessor, the ESD, which has agreed to remit the PILOT payments to the PILOT Trustee, under the PILOT Assignment. Also, under the PILOT Assignment, the PILOT Trustee then 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, category/class of debt or security this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series, category/class of debt, security 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
Infrastructure 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
Infrastructure 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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