NEW YORK--(BUSINESS WIRE)--Fitch Ratings affirms the 'A+' rating on the following revenue bonds issued by the city of Brownsville, TX on behalf of Public Utilities Board (BPUB or the board):
--$303.1 million utilities system revenue bonds, series 2005A, 2005B, 2008, 2011, 2012 and 2013A.
Fitch also affirms the 'A+' rating on the following revenue bonds issued by the Southmost Regional Water Authority (SRWA):
--$22.6 million water supply contract revenue bonds, series 2006 and 2012.
The Rating Outlook on all the bonds is Negative.
The BPUB bonds are secured by a first lien on net revenues derived from BPUB's combined utility system. Outstanding junior lien bonds are secured by net revenues of the combined utility system after satisfying senior lien debt service.
The SRWA bonds are secured by contract payments made pursuant to water supply agreements with the authority's participants, including the BPUB. The contract payments are unconditional and senior to BPUB's debt service.
KEY RATING DRIVERS:
PROJECT UNCERTAINTY: The Negative Rating Outlook reflects BPUB's planned purchase of a 25% ownership interest in a new 800 mega-watt (MW) natural gas generating facility (the Brownsville Project). BPUB's participation, if completed, would more than double current leverage and diminish future financial metrics according to the board's latest financial projections. A final decision to proceed with the Brownsville Project is expected within the second quarter of calendar 2014.
HISTORICALLY SOUND FINANCIAL PERFORMANCE: Operating results have been strong historically with Fitch calculated debt service coverage (DSC) averaging 2.2x over the prior five years, and maintenance of available cash and reserves in excess of 230 days of operating expenses since fiscal 2009.
HIGH RATES WILL DIMINISH FLEXIBILITY: Electric rates on average exceed other regional utilities and will continue to rise in support of BPUB's large capital program. The employment of a monthly fuel and purchased power adjustment charge is viewed favorably, although water and wastewater rates remain similarly high relative to service area income levels.
DIVERSIFIED POWER SUPPLY: The board maintains a diverse power supply with an equal mix of coal, natural gas and purchased power. Owned generating assets are split between natural gas-fired (62%) and coal-fired (35%) facilities. The additional capacity derived from the proposed natural gas facility would result in significant excess generating capacity, but ensure a reliable power supply sufficient to meet projected needs through at least 2028.
WEAK SERVICE AREA DEMOGRAPHICS: The service area's weak income levels, chronically high unemployment and economic dependence on cross-border economic activity remain a concern and could ultimately lead to rate fatigue. Despite the challenging demographics, utility collections have remained strong with minimal annual write-offs.
SRWA's RATING LINKED TO BPUB's: The credit quality of SRWA is linked to that of BPUB given its 92.9% ownership share in SRWA and the unconditional take-or-pay contract provision with an unlimited step-up requirement in the event that other participants are unable to meet their respective obligations.
FINAL PROJECT COMMITMENT: Fitch will evaluate the final terms and conditions of the BPUB's participation in the Brownsville Project when available. However, BPUB's participation as currently proposed will likely lead to a rating downgrade, reflecting the anticipated weakening of BPUB's financial metrics and higher debt burden.
MATERIAL INCREASE IN CAPITAL PROGRAM
The announcement of BPUB's pending decision in 2013 to purchase a 200 MW ownership interest in the 800 MW Brownsville Project, a natural gas-fired combined cycle electric generating plant, represented a substantial and unexpected increase in the size and scope of BPUB's multi-year capital improvement program.
Planned spending for capital projects through fiscal 2017 was previously estimated in 2012 at slightly less than $200 million. However, the costs associated with the proposed generating facility would reportedly add an estimated $362 million to the overall size of the capital program and be funded entirely with long-term debt. Fitch believes the additional debt, if issued, would weaken financial and leverage ratios to a level no longer consistent with the current rating category.
Under the terms of the development and purchase agreement BPUB and Tenaska entered into in January 2013, Tenaska will construct the generating facility and BPUB will purchase a 25% undivided ownership interest in the plant. The agreement also requires BPUB to construct, own and operate a gas transmission pipeline and a water pipeline. While Fitch recognizes BPUB's proactive strategy to ensure an adequate power supply to meet projected load growth, the additional capacity will increase total available resources (550 MW) to well in excess of projected total requirements (459 MW). Fitch notes that the projected total requirements include a targeted planning reserve margin of 13.75% approved by the Electric Reliability Council of Texas' (ERCOT).
Construction of the plant, which is estimated to take approximately 24 months, will not commence until all required permits are received and additional off-takers for the remaining power supply are identified and contracted. Fitch will evaluate BPUB's potential inclusion in the project further once its commitment is finalized, and the remaining terms of the relevant contracts are known.
COMBINED UTILITY SYSTEM
BPUB is a component unit of the city of Brownsville, TX (GO bonds rated 'AA-' with a Stable Outlook by Fitch). The utility provides electric generation, transmission and distribution service to about 46,700 customers and water and wastewater treatment and distribution service to roughly 48,000 accounts. Electric sales typically account for about three-quarters of total utility revenue, with the balance split evenly between water and wastewater service.
STRONG FINANCIAL PROFILE
Financial metrics have been strong historically with little deviation. Debt service coverage (DSC) decreased modestly in fiscal 2013, but still outperformed projected results from the prior year. A manageable 3% decline in electric sales offset an increase in electric, water and wastewater base rates, prompting DSC to decline to a still healthy 2.1x compared to a projected 1.7x. Liquidity remained strong with available cash and reserves equal to about 240 days of operating expenses.
Year-to-date financial results through January 2014 include surplus operations after the payment of operating and maintenance expenses and debt service obligations. Financial metrics are forecast to weaken beginning in fiscal 2015 and beyond as a result of BPUB's potentially large capital program and considerable borrowing plans, despite the recent adoption of annual rate hikes.
GROWING SERVICE AREA WITH WEAK DEMOGRAPHICS
The city's role as the county seat and its geographic position as the only port of entry from Mexico with highway, air, rail, and shipping transportation modes provide the service area with sound economic underpinnings. Nevertheless, employment and wealth indicators continue to lag state and national figures. Unemployment has steadily improved over the past several years, but similar to most border economies, remains elevated at 10.2% as of December 2013.
The city's income per capita approximates just half that of the state and nation, and median household income is only slightly higher. In addition, the city's poverty rate stands at nearly 35%, more than twice the national rate. Fitch continues to view the weak income levels as a risk to BPUB's ability and willingness to raise rates as needed, although the city commission's recent approval of a series of annual rate hikes provides near-term comfort.
LARGEST PARTICIPANT IN SRWA
BPUB is one of six partners that formed the SRWA to provide for a regional approach to meeting the water needs of Southern Cameron County. BPUB maintains the largest ownership share (92.9%) of the authority's lone water treatment facility and its corresponding 8.25 million gallons of storage capacity. The plant uses a reverse osmosis process to convert brackish water drawn from an aquifer located west of Brownsville, and has operated at designed capacity, producing consistent, high-quality drinking water for the project's participants. The project currently supplies approximately 25% of BPUB's water supply.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'U.S. Public Power Peer Study -- June 2013' (June 13, 2013);
--'U.S. Public Power Peer Study Addendum -- June 2013' (June 13, 2013);
--'U.S. Public Power Rating Criteria' (Dec. 18, 2012).
Applicable Criteria and Related Research:
U.S. Public Power Peer Study -- June 2013
U.S. Public Power Peer Study Addendum -- June 2013
U.S. Public Power Rating Criteria