Fitch Rates Polk County, FL Utility Sys Revs 'AA-'; Outlook Stable

NEW YORK--()--Fitch Ratings assigns an 'AA-' to the following Polk County, Florida (the county) revenue bonds:

--$15.2 million utility system (the system) revenue refunding bonds, series 2014A;

--$5.9 million utility system revenue refunding bonds, series 2014B (federally taxable).

The bonds are expected to sell via negotiation the week of Feb. 10. Proceeds will be used to partially refund the series 2004A and 2004B bonds for savings, and pay issuance costs.

In addition, Fitch affirms the 'AA-' rating for the following outstanding debt:

--Approximately $148 million in outstanding utility system revenue bonds.

The Rating Outlook is Stable.

SECURITY

The bonds are secured by a senior lien pledge of the net revenues of the county's water and sewer system, including available system connection charges. The series 2014 bonds will not carry a debt service reserve.

KEY RATING DRIVERS

STRONG FINANCIAL METRICS: Debt service coverage (DSC) and liquidity remain near or exceed rating category medians despite a drop in each metric in fiscal 2012. Strong cash flow trends will continue with rate increases approved through fiscal 2015. Fitch expects liquidity will decline but remain solid as increased pay-go capital funding trends continue.

AVERAGE DEBT BURDEN: System leverage is manageable and expected to rise minimally over the five-year capital planning horizon, resulting mainly from lower future borrowing plans than previously anticipated.

STABLE OPERATIONS: The utility is comprised of six separate and self-contained service areas. The overall operating profile is stable. However, the large and somewhat isolated geographic make-up has led to a dispersed asset base with dozens of small treatment facilities with higher delivery costs and limited system redundancy.

MANAGEABLE CAPITAL PLAN: The capital improvement plan (CIP) includes a comprehensive renewal and replacement program as well as addresses some water system consolidation efforts in the northeast regional service area.

HIGH RATES REDUCE FLEXIBILITY: The average residential bill for combined service is a high 2.9% of median household income (MHI) and above average relative to neighboring utilities. The county has raised rates incrementally, although Fitch is concerned future increases may become more difficult to implement due to affordability concerns.

STABLE BUT LIMITED ECONOMY: Historically known for its citrus and phosphate mining industries, the county's economy has diversified into healthcare, light manufacturing and distribution. The unemployment rate has declined, but income levels remain below average.

RATING SENSITIVITIES

STRONG FINANCIAL PERFORMANCE, MANAGEABLE LEVERAGE: The county's decision to increase pay-go capital funding will keep the system's debt burden manageable while lowering pressures on pro forma finances and rates. If the system's debt profile remains average and financial performance strong, upward rating movement is possible.

CREDIT PROFILE

CENTRAL LOCATION WITH ACCESS TO INTERSTATE

Polk County (implied GO rating of 'AA' by Fitch) is located in central Florida along the Interstate-4 corridor, 25 miles east of Tampa and 35 miles southwest of Orlando. The county covers a large geographic area and has a total estimated population of 607,000. The economy is somewhat limited but diversifying, and proximity to the interstate provides some residents with access to the larger Orlando and Tampa employment centers. A decline in the county's unemployment rate to 7.6% in October 2013 from 9.2% the prior year and 11.2% in October 2011 results from a slight rise in employment coupled with a slight decline in the labor force. Nevertheless, the trend is mildly positive.

SYSTEM COVERS A LARGE SERVICE AREA

The system provides utility services to a predominantly residential customer base of roughly 59,200 water and 42,400 sewer customers (not including about 4,400 reclaimed water customers) throughout Polk County's roughly 2,000 square mile service area. Given its large geographic area, the utility is divided into separate regional service areas, some of which are very rural in nature. Each of the regional service areas is self-contained, with its own supply resources and treatment facilities. Given the size of the service area and distance between the regions, interconnection is not feasible. Customer growth has been relatively strong historically. However, a much more tempered growth rate is expected going forward.

STABLE OPERATING PROFILE, SOLID INFRASTRUCTURE AND WATER SUPPLY

The water system consists of groundwater supply from the Floridan Aquifer, numerous small water treatment facilities and distribution assets. Water supply is generally good, requiring minimal treatment. Groundwater wells are permitted through the South West Florida Water Management District (SWFWMD) with permitted supply (and treatment capacity) of approximately 33 million gallons per day (mgd; average annual), which is comfortably in excess of 2012 average demand (14.8 mgd). Water demand trends have been stable, and with limited customer growth projected over the next several years, water supply should continue to meet the system's needs for the intermediate term.

For the long term, the county is leading efforts to develop an additional supply source known as the Southeast Well Field to be shared with other municipal utilities in central Florida. The county is applying for a long-term water use permit seeking roughly 37 mgd of additional raw water from the more brackish Lower Floridan Aquifer. The availability of matching grants from the water management district totaling as much as $160 million, likely to be distributed over the approximately 20-year time horizon for this project, would be critical to project funding. The county is currently projecting its share of the capital costs for this project to be about $40 million, with potential for other municipalities to share in the capital and operating costs through the creation of a new regional water supply authority. This project is currently outside of the current five-year CIP.

The sewer system also serves customers through the six regional service areas. There are a total of eight sewer treatment plants, each of which has sufficient uncommitted capacity as measured by the average flow for each plant versus the designed treatment capacity. Three of the plants provide highly treated reclaimed water, which is provided for public access reuse or sold to reclaimed water customers. Any remaining or excess reclaimed water is discharged into rapid infiltration basins. All sewer treatment plants are operating under current discharge permits issued by the state department of environmental protection.

SOLID FINANCIAL METRICS, STRONG RESULTS TO CONTINUE

Financial performance has been solid historically with a combination of steady rate increases and customer growth leading to increased operating revenues and the collection of substantial system connection charges. Although connection fees began to drop in fiscal 2009, the system still generated strong DSC in that year and in subsequent years of more than 2.0x including connection fees and no less than 1.8x when these fees were excluded.

A rise in operating costs outpaced revenue growth in fiscal 2012, leading to DSC of approximately 2.1x from all revenues and 1.8x excluding connection fees, which is still considered high for the rating. The system makes scheduled annual payments in lieu of taxes (PILOTs) to the county's general fund (GF), which totaled about $1.4 million in fiscal 2012. PILOTs are based on a formula that uses the value of system assets applied to the ad valorem tax rate, and are therefore relatively predictable. When including the PILOT payment, total coverage was still strong at about 2.1x from all revenues in fiscal 2012. Estimated results for fiscal 2013 show an increase in DSC to 2.8x from all revenues (and 2.3x excluding connection fees) due to continued solid revenue performance, an increase in connection charges and a slight decline in annual debt service for the year.

Pro forma financial results provided by the county's utility rate consultant show the trend in strong DSC continuing through fiscal 2016 before a rise in debt service in fiscal 2017 drops coverage to about 1.8x from all revenues, and 1.6x excluding connection fees. The projections appear reasonable and include conservative assumptions such as the approved rate increases for 2014 and 2015 but no further increases, annual increases in labor costs and indirect cost allocations to the GF, and a rise in debt service from a proposed 2016 issuance.

Liquidity remains very strong despite a decline in cash from fiscal 2010 to fiscal 2012. As of fiscal 2012, the system had over $33 million in unrestricted cash and investments, which is equivalent to an above-average 364 days of operations. When including the renewal and replacement fund balances (over $12 million), liquidity improves to 500 days cash on hand. Estimates for fiscal 2013 show an $8 million increase in cash.

Cash is projected to decline with the county's decision to pay more of the CIP from internal sources. However, the county projects to continue to maintain significant free cash flow (which has been over 100% of depreciation over the past five years) of more than $12 million annually throughout the financial forecast, which factors significantly into the ability to maintain cash balances.

AVERAGE DEBT BURDEN, LIMITED ADDITIONAL BORROWING EXPECTED

The system's debt burden is manageable and most debt ratios track below the medians for 'AA' rated systems. As of fiscal 2012, outstanding debt totaled a reasonable 35% of net capital assets and $1,506 per customer. Debt carrying costs reached 20% of gross revenues in fiscal 2012, which is also manageable.

2014 bond proceeds will be used to refund nearly all of the outstanding series 2004A and 2004B bonds for net present value savings. Since the 2004B's are not currently eligible for advanced refunding the 2014B's will be issued as federally taxable bonds. To complete the refunding, the county plans to sell 2014C bonds in a direct purchase transaction with Citibank (with a par of approximately $20 million). The direct purchase bonds will be parity bonds issued pursuant to the master bond resolution with the same security terms and conditions as the publicly sold bonds. Interest savings resulting from the refunding of the 2004A and 2004B bonds will be taken annually and maturities will not be extended.

After this issuance, the system will have approximately $188 million in total bonds outstanding (all fixed-rate). Debt amortization is slow with just 20% of outstanding principal retired over the next 10 years. However, annual debt service is level and the county projects just $25 million in additional bonds will be issued over the next five years to fund the CIP. Debt per customer is projected to reach $1,829 in fiscal 2014, which is near the median for 'AA' rated systems. Fitch expects the debt burden to remain manageable for the foreseeable future due to the system's limited additional bonding needs.

The five-year $146 million capital program will focus on water system expansion projects and upgrades and improvements to existing water treatment, distribution and storage facilities. The county plans to construct a new water production facility in the Central Regional service area to consolidate several smaller water plants into one facility. Approximately $45 million is dedicated to sewer force main upgrades, increased sewer treatment capacity, improved effluent disposal and several renewal and replacement projects. The capital plan is not expected to significantly pressure the system over the near term.

RATES ARE HIGH

The average monthly residential customer bill for combined service is roughly $101 for 7,000 gallons of water use in fiscal 2014, which is above average relative to neighboring systems and a high 2.9% of MHI. The county's use of multi-year rate-setting is viewed positively. However, future rate-raising flexibility is a concern when rates are above 2% of MHI and the county does not yet have plans to raise rates beyond the already approved increases through fiscal 2015.

Fitch expects additional increases may be necessary to fund ongoing capital needs and new water supply projects over the intermediate and longer term. While the size and scope of future rate needs is still unknown the county's ability to pass future rate increases will be an important rating consideration.

Additional information is available at 'www.fitchratings.com'.

In addition to the sources of information identified in Fitch's 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 2013);

--'U.S. Water and Sewer Revenue Bond Rating Criteria' (July 2013);

--'2014 Water and Sewer Medians' (December 2013);

--'2014 Sector Outlook: Water and Sewer' (December 2013).

Applicable Criteria and Related Research:

Revenue-Supported Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=709499

U.S. Water and Sewer Revenue Bond Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=715275

2014 Water and Sewer Medians

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=724358

2014 Outlook: Water and Sewer Sector

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=724357

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=820035

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Contacts

Fitch Ratings
Primary Analyst
Andrew DeStefano, +1-212-908-0284
Director
Fitch Ratings, Inc.
One State Street Plaza,
New York, NY 10004
or
Secondary Analyst
Eva D. Rippeteau, +1-212-908-9105
Associate Director
or
Committee Chairperson
Steve Murray, +1-512-215-3729
Senior Director
or
Media Relations
Elizabeth Fogerty, +1 212-908-0526
elizabeth.fogerty@fitchratings.com

Sharing

Contacts

Fitch Ratings
Primary Analyst
Andrew DeStefano, +1-212-908-0284
Director
Fitch Ratings, Inc.
One State Street Plaza,
New York, NY 10004
or
Secondary Analyst
Eva D. Rippeteau, +1-212-908-9105
Associate Director
or
Committee Chairperson
Steve Murray, +1-512-215-3729
Senior Director
or
Media Relations
Elizabeth Fogerty, +1 212-908-0526
elizabeth.fogerty@fitchratings.com