Fitch Affirms Battle Creek, Michigan Water and Wastewater Revs at 'AA-'; Outlook Stable

AUSTIN, Texas--()--Fitch Ratings affirms the ratings on the following revenue bonds of the City of Battle Creek (the city):

Approximately $8 million water and wastewater revenue refunding bonds, series 2003 at 'AA-'.

The Rating Outlook is Stable.

SECURITY

The bonds are secured by the pledge of the net revenues of the city's water and wastewater system (the system).

KEY RATING DRIVERS

STRONG COVERAGE, WEAK LIQUIDITY: Coverage on debt service is very good at over 3.0x and has trended up for the past two years. However, liquidity remains weak at just 66 days of cash on hand.

HIGH CUSTOMER CONCENTRATION: The system supports a large number of industrial customers which make up almost 30% of annual operating revenues, with one customer accounting for over 8% of revenues and 12% of consumption.

LOW DEBT BURDEN: Leverage ratios are very low and with minimum debt financing planned, levels should remain low. The city has a history of cash funding capital needs which has provided for a favorable debt profile, but made for a sub-par liquidity position.

ADEQUATE CAPACITY, AGING INFRASTRUCTURE: The system maintains sufficient capacity and ample water supply. However, system improvements are not keep up with the aging system as noted by the system's 19% water loss and average plant age of 22 years, both high compared to the 'AAA'-'A' rating category medians.

AFFORDABLE RATES: Rates remain affordable at $55 for combined water and sewer bill, or 1.7% of Median Household Income. The city has adopted another round of five year rate adjustments, that are needed to address both increasing recurring expenses and deferred maintenance needs.

AVERAGE ECONOMY: City unemployment rates have improved to below state and national averages after several years of above average unemployment levels. However, this improvement is largely driven but a reduction in the workforce, not new job creation.

CREDIT PROFILE

The city's water and wastewater system has a service area of approximately 50 square miles, serving a population of approximately 52,000 and includes all or portions of Emmett, Bedford, and Pennfield Townships, and the cities of Springfield and Battle Creek.

SIGNIFICANT CUSTOMER CONCENTRATION

City of Battle Creek residential accounts make up approximately 83% of system users but only 31% of system revenues. Further, there is high concentration among the top commercial customers with the top ten customers accounting for roughly 29% of revenues. Kellogg Company (rated 'BBB+'; Outlook Negative by Fitch), is the system's largest customer and accounts for 10% of revenues and approximately 13% of consumption. The city does not anticipate any significant growth in customers; in fact, the service area population has on average declined 0.5% a year over the past four years.

FINANCIAL METRICS MIXED

Combined debt service coverage on revenue bonds and general obligation bonds supported by system revenues, remained strong at over 3.0x for fiscal years 2011 and unaudited results for fiscal 2012 show similar coverage levels. Management provided forecasts, which appear reasonable, project a continued upward trend in coverage levels, growing to over 4.0x through 2016. System liquidity remains a credit concern with just 66 days of cash on hand (DOCH) for fiscal 2011, well under the 'A' rating category median of 195 DOCH.

AFFORDABLE RATES, FAVORABLE RATE STRUCTURE

Annual 5% adjustments on both water and sewer rates over the next five years are expected to help improve the system's liquidity position. The city has a history of implementing five year rate packages and the rate structure provides for 30% of the average residential bill in fixed charges, both of which Fitch notes are credit positives. Rates register at 1.9% of median household income (MHI) and fall just below Fitch's affordability threshold of 2.0% of MHI.

AMPLE WATER RESOURCES, TREATMENT CAPACITY

The city's wastewater system is aged and expansion of the system has been continuous. Wastewater is treated at a single plant which has capacity of 30 mgd. Average daily flow for the system is 9.9 mgd and maximum flow is 21.2 mgd, leaving ample capacity. The city presently burns sludge as a means for disposing of waste material, but is investigating alternatives to this method of sludge disposal.

The city owns and operates its own water supply, which consists of a wellfield with 60 mgd capacity, and permitted draws of up to 42 mgd. In fiscal 2011 the system experienced water loss of 19%, which is higher than the 10%-12% average of systems that regularly replace aging pipelines.

AGING INFRASTRUCTURE

The system 2011 rate study noted that the system is in need of continued maintenance and that water and sewer lines will be replaced as roadways are improved or replaced. Overall, system maintenance lags behind the depreciation as noted by the system's average age of plant at 22 years, considerably higher than the AAA'-'A' category median of 13 years. The high age of plant coupled with the high unaccounted for water loss suggests there will likely be large long-term capital maintenance and system rehabilitation needs in the future.

VERY LOW DEBT BURDEN

The city's 2013 - 2018 capital improvement plan is manageable at approximately $34 million, or $936 per customer, with roughly 70% anticipated being cash financed. Leverage ratios are favorable, with total outstanding long-term debt per customer at very low at just $407 in fiscal 2011 versus the category 'AA' rating median of $1,615. Debt amortization is rapid with 100% repaid by 2022. The city does not maintain a reserve fund or rate stabilization fund, instead relying on unrestricted cash accounts.

Battle Creek is located in south central Michigan along Interstate 94, which connects Detroit and Chicago. It is a regional transportation hub with access to five major highways and expressways; all of which connect to other highways in the national highway system. The community is mature with a declining population.

The city's unemployment rate increased to over 10% for the years 2009 - 2011 but recently has improved and declined to 7.1% in October 2012, below state (8.3%) and national (7.5%) levels. Much of the improvement appears to be due to labor force losses and modest employment additions. City wealth levels are below average with MHI levels at 87% of the state and 79% of the nation.

Additional information is available at 'www.fitchratings.com'. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings.

In addition to the sources of information identified in the U.S. Municipal Revenue-Supported Rating Criteria, this action was additionally informed by information from Creditscope.

Applicable Criteria and Related Research:

--'Revenue-Supported Rating Criteria' (June 12, 2012);

--'Water and Sewer Revenue Bond Rating Guidelines' (Aug. 3, 2012);

--'2013 Water and Sewer Medians' (Dec. 5, 2012);

--'2013 Outlook: Water and Sewer Sector' (Dec. 5, 2012).

Applicable Criteria and Related Research:

Revenue-Supported Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=681015

U.S. Water and Sewer Revenue Bond Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=684901

2013 Water and Sewer Medians

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=695756

2013 Outlook: Water and Sewer Sector

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=695755

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Contacts

Fitch Ratings
Primary Analyst
Teri Wenck, CPA, +1-512-215-3742
Associate Director
Fitch, Inc.
111 Congress Avenue, Suite 2010
Austin, TX 78701
or
Secondary Analyst
Andrew DeStefano, +1-212-908-0284
Director
or
Committee Chairperson
Karen Krop, +1-212-908-0661
Senior Director
or
Media Relations:
Elizabeth Fogerty, New York, +1 212-908-0526
Email: elizabeth.fogerty@fitchratings.com

Sharing

Contacts

Fitch Ratings
Primary Analyst
Teri Wenck, CPA, +1-512-215-3742
Associate Director
Fitch, Inc.
111 Congress Avenue, Suite 2010
Austin, TX 78701
or
Secondary Analyst
Andrew DeStefano, +1-212-908-0284
Director
or
Committee Chairperson
Karen Krop, +1-212-908-0661
Senior Director
or
Media Relations:
Elizabeth Fogerty, New York, +1 212-908-0526
Email: elizabeth.fogerty@fitchratings.com