NEW YORK--(BUSINESS WIRE)--Fitch Ratings takes the following rating action on Richmond, VA (the city) as part of its continuous surveillance effort:
--$546 million public utility revenue bonds affirmed at 'AA'.
The Rating Outlook is Stable.
RATING RATIONALE:
--The city's role as a regional water, wastewater and gas supplier to a broad and diverse service area is supported by a very stable retail customer base and long-term service contracts with highly secure wholesale customers.
--Long-term capital planning has proven to be a credit strength, as evidenced by the system's proactive efforts to successfully address and complete costly combined sewer overflow (CSO) requirements.
--Management's ability to adjust and pass through purchased gas costs to customers in a timely manner is meaningful.
--Debt levels are slightly above average for the rating category, and given additional debt plans coupled with a slow pay-out rate, should remain elevated over the long-term.
--On a combined basis, water and sewer charges are high relative to the city's income levels.
--Legal provisions are below average.
KEY RATING DRIVERS:
--Continued growth in system leveraging beyond what is included in the current capital program would pressure the current rating.
--Willingness to raise rates when needed despite the already high user charges will be critical to maintaining operating margins.
SECURITY:
The bonds are secured by the combined net operating revenues of the gas, water and wastewater utilities.
CREDIT SUMMARY:
As the capital of the commonwealth of Virginia, Richmond is the hub of a growing metropolitan area and serves as a regional center for employment and economic activity. State and federal employment provide stability to the city's economy, and several large employers, including Capital One Financial Corp., HCA Inc., Bon Secours and SunTrust Banks, provide significant employment opportunities. Nevertheless, the city's unemployment rate, measured at 9.3% in February 2010, ranks higher than regional, state and national figures. Income levels are also comparatively weaker, although collection rates remain strong. The city provides gas, water and sewer service on a retail basis to customers in the city and water and sewer service on a wholesale basis via long-term contracts to the surrounding counties. Wholesale utility customers include Henrico, Hanover and Chesterfield Counties, all of whom have a Fitch 'AAA' rating on their outstanding general obligation (GO) bonds. In fiscal 2010, wholesale revenues accounted for approximately 10% of total revenue of the combined utilities.
The system owns and operates a water treatment plant and wastewater treatment plant, both of which maintain ample treatment capacity. An abundant water supply is drawn from the James River, which is expected to provide adequate capacity for at least the next 30 years. Average daily demand from retail and wholesale customers combined averaged about 63 million gallons daily (mgd) over the last five years, comfortably below treatment capacity of 132 mgd. The wastewater utility maintains treatment capacity of 75 mgd during wet weather conditions and discharges treated effluent into the James River. The gas utility, which is the eighth largest municipally owned gas utility in the U.S., purchases its supply on a wholesale basis and is able to adjust and pass on the cost to customers on a dollar-for-dollar basis.
On a combined basis, the city's gas, water and sewer systems continue to exhibit solid operating margins, strong senior lien debt service coverage and healthy cash balances. Despite continued growth in annual debt service (ADS) obligations and recent declines in demand for water, ADS coverage remained at a strong level in fiscal 2010, equal to 2.3 times (x). Including subordinated debt service on state loans and general obligation bonds issued to fund past utility projects, all-in ADS coverage improved slightly to 1.4x. Unrestricted cash increased in fiscal 2010 to nearly $120 million, equal to about 200 days of cash on hand. Because purchased gas costs, which typically accounts for almost 40% of combined operating expenditures, are passed on automatically and in full to rate payers, Fitch considers the amount of available liquidity to be strong relative to the overall operating profile. While financial projections for the current year and beyond were not made available to Fitch, management indicated that fiscal 2011 would end with similar all-in ADS coverage of 1.4x.
Fitch believes rate flexibility has diminished over the years following sizeable water and sewer rate hikes implemented in the early-to-mid part of the prior decade to fund costly regulatory requirements. Despite more moderate increases that ranged from 2%-6% in fiscals 2008-2011, the average water and sewer bill for residential payers remains slightly above Fitch's affordability threshold of 2% of median household income (MHI). Nevertheless, management noted that user charges will likely rise by an additional 5-6% annually over the next few years. Given the slow pay-out rate of debt obligations coupled with future borrowing plans, Fitch believes that management's ability and willingness to manage its rate structure will be important to maintaining its solid operating margins.
Favorably, projected capital spending is significantly lower than in prior years as the city recently completed the third and final phase of a costly combined sewer overflow (CSO) program. With system upgrades to meet more stringent nutrient reduction requirements having also been recently completed, capital needs going forward are expected to shift away from burdensome regulatory requirements towards more routine maintenance and repair of system assets. For fiscal years 2011-2015, projected capital spending totals a manageable $408 million, which is significantly less than in prior years. Capital funding is expected to come almost entirely from both state loans and additional revenue bonds. As a result, Fitch expects system leveraging, which is already above average, to remain at an elevated level for the foreseeable future.
Additional information is available at 'www.fitchratings.com'.
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