DBRS Morningstar Confirms Commercial Paper Rating of R-1 (middle), Stable Trend, to First Nations Finance Authority

DBRS Limited (DBRS Morningstar) confirmed the First Nations Finance Authority’s (FNFA or the Authority) Commercial Paper (CP) rating of R-1 (middle) with a Stable trend. FNFA is a not-for-profit, non-share capital corporation with a mandate to provide cost-effective financing, capital planning, and investment management services to First Nations communities in Canada. The rating is predicated on the strength of the legislative framework that provides FNFA with (1) the ability to intercept generally high-quality revenues provided as security through the establishment of secured revenue trust accounts (SRTA), (2) the ability to replenish debt reserves through a joint and several obligation of all borrowers, (3) the right to require third-party intervention in a borrowing member’s finances, and (4) credit characteristics of the underlying borrowers. Constraining the rating, however, are the FNFA’s untested nature of the intervention and debt reserve fund (DRF) replenishment mechanisms, as well as uncertainty regarding the future composition of the portfolio.

As of June 30, 2022, FNFA’s loan portfolio totalled approximately $1.66 billion, up from $1.53 billion from at the time of DBRS Morningstar’s last review. Loan sizes range between $0.5 million and $211.9 million, with an average loan size of approximately $20.8 million. Over the years, FNFA’s portfolio has increasingly diversified, with borrowing members located across nine Canadian provinces and one territory.

As provided for under the First Nations Fiscal Management Act, First Nations can borrow against two types of revenues: (1) property tax revenues or (2) revenues that can come from a variety of eligible sources, including royalty payments, leases on reserve lands, contract revenues, band businesses, provincial or municipal transfers, and interest income (herein referred to as other revenues).

DBRS Morningstar notes that the majority of approved borrowers currently exhibit credit characteristics consistent with BB- to BBB-range ratings. In addition, sound underwriting practices are intended to ensure that the quality of the borrowing pool is not materially diluted over time. For each loan financed by the Authority to a First Nation, 5% of the gross loan value is withheld in a DRF, subject to replenishment. The replenishment comes from the additional revenues that flow through the SRTA. This replenishment mechanism creates a joint and several obligation among borrowing members.

The credit profile also benefits from a $53.2 million credit enhancement fund provided by the federal government to supply immediate, temporary liquidity to DRFs. FNFA has a $400 million CP program that is used to fund the bridge financing program prior to loans being financed by long-term fixed-rate debentures. The CP program complies with the “DBRS Morningstar Criteria: Commercial Paper Liquidity Support for Nonbank Issuers.”

DBRS Morningstar notes that the number of First Nation borrowers and the size of the associated loan portfolio are expected to grow steadily over time, providing the pool with greater fiscal capacity to support the joint and several obligation to replenish the DRFs. However, there exists the risk that new borrowing members may only meet the minimum established underwriting criteria, which could potentially lead to a gradual dilution in the quality of the pool over time. FNFA has acknowledged this concern and gives consideration to the preservation of its credit rating when reviewing and approving new loans.

RATING DRIVERS
A negative rating action could arise from (1) a material deterioration in the quality of the underlying loan portfolio; (2) a material reduction in funds available for credit enhancement relative to the overall portfolio size; and/or (3) evidence that structural features, such as the DRF replenishment mechanisms, oversight, and intervention of borrowers, do not work as intended. A positive rating action is highly unlikely as FNFA lacks broad revenue-raising ability and access to exemplary liquidity typically available to higher-rated government entities.

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS
There were no Environmental/Social/Governance factor(s) that had a significant or relevant effect on the credit analysis.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/396929 (May 17, 2022).

Notes:
All figures are in Canadian dollars unless otherwise noted.

The principal methodologies are General Corporate Methodology – Appendix 4 – Canadian Government Pooled Lending Vehicles (https://www.dbrsmorningstar.com/research/394214; March 25, 2022), and DBRS Morningstar Criteria: Commercial Paper Liquidity Support for Nonbank Issuers (https://www.dbrsmorningstar.com/research/393065; March 1, 2022), which can be found on dbrsmorningstar.com under Methodologies & Criteria.

A description of how DBRS Morningstar analyzes corporate finance transactions and how the methodologies are collectively applied can be found at: https://www.dbrsmorningstar.com/research/397223.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link under Related Documents or by contacting us at [email protected].

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. DBRS Morningstar trends and ratings are under regular surveillance.

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at [email protected].

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