Moody’s affirms 38 Studios bond rating on R.I.’s moral obligation

MOODY'S INVESTOR Service affirmed the ‘A2’ rating on 38 Studios's bonds since the bonds’ ‘stable’ outlook is based on the state’s moral obligation pledge, which high ranking Rhode Island officials say they intend to honor.
Posted 5/24/12

NEW YORK – Moody’s Investors Service – a globally recognized rating company – affirmed the ‘A2’ rating on the bonds issued by the R.I. Economic Development Corporation on behalf of video game company 38 Studios LLC, since the bonds’ “stable” outlook is based on the state’s moral obligation pledge.

38 Studios, which was lured to Providence with a state $75 million loan guarantee, managed to make an overdue $1.125 million payment to the state on Friday.

The $1.125 million guarantee fee, which is 1.5 percent of the outstanding loan amount, was due May 1.

“The failure of 38 Studios to make the May 1 deadline for its required annual guarantee fee to the state does not immediately pose a risk to the debt outstanding,” said the Moody’s report, going on to call the 38 Studios deal a “controversial private venture.”

“The financial struggles of 38 Studios … underscore the risks pertaining to economic development project financing by state and local governments,” Moody’s senior analyst, Marcia Van Wagner, said in prepared remarks.

The mechanics and timing involved in replenishing the debt service reserve are important, according to Moody’s.

The first debt payment 38 Studios is responsible for is a May 1, 2013 interest payment of $2.6 million. The first principal payment by the video game company is not scheduled until Nov. 1, 2013.

“Timing and mechanics come into play,” said Van Wagner, “because the gap between the May 1 interest payment date and the state’s budget adoption calendar, which typically concludes in June, raises a risk that a special appropriation may not be timely to replenish the capital reserve fund if it has been depleted.”

Van Wagner added that Rhode Island has a history of living up to its moral obligation pledge, “and our expectation is that it will do so in this case.”

Gov. Lincoln D. Chafee, State Treasurer Gino M. Raimondo, Senate President Teresa Paiva-Weed and House Speak Gordon Fox told the rating company that they supported the moral obligation commitment based on the state’s credit.

A Moody’s representative said the high-ranking state officials expressed their support recently, but wouldn’t say when.

Moody’s original analysis and rating of the bond issues was in 2010 and was based on the rating agency’s moral obligation methodology.

The ‘A2’ bond rating for 38 Studios is three notches lower than Rhode Island’s ‘Aa2’ rating.

“The A2 rating on the bonds addressed the risk that the company would not make its required debt service payments, requiring the governor to request the legislature to appropriate funds to replenish the capital reserve account,” said Van Wagner.

“This raises the additional risk that, should the economic development project not deliver the expected results, political support for appropriations may weaken,” she added.

Total annual debt service on the bonds is about $12.75 million and, according to Moody’s, these amounts are manageable within the state’s $3 billion annual general fund budget.

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