Fitch Rts Kentucky Asset/Liability Comm $200MM Proj. Notes 'AA-/F1+'.

NEW YORK -- The Kentucky Asset/Liability Commission's approximately $200 million project notes, 2005 general fund second series, are rated 'AA-/F1+' by Fitch. The notes are expected to be sold Nov. 1 through negotiation by JPMorgan and UBS Financial Services, Inc.

The short-term

'F1+' rating is based on the liquidity support provided by Dexia Credit Local (Dexia), acting through its New York Branch, in the form of two separate $100 million standby note purchase agreements (SPAs) supporting series A-1 and A-2, respectively. The SPAs provide for payment of the purchase price of tendered bonds, and are sized to cover the principal amount of the notes, plus 195 days of interest at the maximum interest rate of 12% based on a year of 365 days. The SPAs will expire on Nov. 1, 2008, or upon the occurrence of other events of termination, according to their terms. Fitch's 'F1+' short-term rating on the notes will expire upon any expiration or termination of each of the respective SPAs. A total of $750 million of notes has been authorized; a liquidity agreement is a precondition for issuance of notes in an amount greater that the $200 million covered by the Dexia SPAs.

All of the Commonwealth of Kentucky's debt is in the form of lease rental bonds, requiring appropriation. The 'AA-' rating is based on well-established mechanisms of lease financing, including automatically renewable leases, and the state's general credit characteristics. These include a long history of prompt executive actions to address potential financial imbalances, a moderate, but rising, debt burden, and a manufacturing-focused economy that is recovering from its losses of 2000-2003. Future maintenance of Kentucky's 'AA-' bond rating will depend on continued positive revenue results, economic performance, and actions to close a worrisome financial imbalance. The expansive state budget for the 2004-2006 biennium, passed several months late, includes income tax cuts, a broadening of business taxes, and significant increases in tobacco taxes. Projected to be essentially revenue neutral, the tax reform underlies a budget with a moderate structural imbalance and a huge $2.1 billion bond authorization. The series 2005 notes continue the financing of various capital projects. Based on the issuance of $200 million covered by the liquidity agreement, total net tax supported debt is $4.6 billion, equal to 4% of personal income. Assuming the full issuance of the $750 million of notes and other capital needs, net tax-support debt would rise in the next few years to about 5% of personal income; a moderate, but above-average level similar to those of a decade ago.

Despite the increased revenues, hard fiscal choices are expected to be necessary over the next few years, particularly in the development of the 2006-2008 budget next year. These choices would be in addition to those already executed in Medicaid and other areas to address fiscal pressures of the last two biennia. Challenges now include the rising debt service, Medicaid and health insurance pressures, school funding needs, road and bridge infrastructure, and large increases in prison population. On Oct. 11, 2005, the state's consensus forecasting group increased fiscal 2006 general fund revenue estimates $359.1 million, to $8.2 billion, up 7.1% from fiscal 2005. Revenues for the first quarter of fiscal 2006 rose 12%. Tax collections were strong for sales and use tax as well as coal severance tax receipts.

Kentucky's economy is improving slowly, contributing to increasing state revenues. Between 2000-2003, employment in the state declined 2.3%, which was more than the national rate of job loss. Manufacturing, now 14.7% of jobs, declined 15% during that period, although the state's important transportation sector, principally automotive and parts manufacturing, declined by only half the national rate. In 2004 the economy began to recover. Employment increased by a modest 0.8%, with some acceleration into 2005. Between August 2004 and August 2005, employment in the state grew 1.1%, versus 1.7% for the U.S. Personal income gains lag the nation with second-quarter 2004-05 personal income rising 5.7%, and was below the 6.5% national rate of gain. The state ranks 44th among the states by measure of personal income per capita.

Kentucky has long used special agencies for its financings, which for capital purposes depend on biennial legislative appropriations for security, and has well-established policies and procedures that recognize such obligations as debt. Although payment is subject to future legislative biennial budget appropriations, the securing financing agreement is automatically renewable. The state has appropriated note interest and fees through the biennium ending June 30, 2006. The series 2005 notes are issued under an authorization not to exceed $750 million in three series of notes, in each case not to exceed $363 million series 2005 A-1 and $22 million taxable series 2005 C-1 notes to be sold by JPMorgan; and $365 million series 2005 A-2 notes to be sold by UBS Financial Services. Dexia Credit Local will provide the liquidity agreement for up to $100 million each for series A-2 1 and A-2. Taxable series C-1 notes are not being issued at this time. JPMorgan and UBS Financial Services, Inc. are the remarketing agents. The notes mature Nov. 1, 2025. The notes may bear interest in four interest rate modes including commercial paper daily, weekly, or fixed rate, and are subject to optional and mandatory purchase prior to maturity.

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